Encore Capital Group, Inc. (NASDAQ:ECPG) Q4 2022 Earnings Call Transcript

Encore Capital Group, Inc. (NASDAQ:ECPG) Q4 2022 Earnings Call Transcript February 22, 2023

Operator: Good day and thank you for standing by. Welcome to the Encore Capital Group Q4 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Bruce Thomas, VP of Global Investor Relations. Please go ahead.

Bruce Thomas: Thank you, operator. Good afternoon and welcome to Encore Capital Group’s fourth quarter 2022 earnings call. Joining me on the call today are Ashish Masih, our President and Chief Executive Officer; Jonathan Clark, Executive Vice President and Chief Financial Officer; Ryan Bell, President of Midland Credit Management; and Craig Buick, CEO of Cabot Credit Management. Ashish and Jon will make prepared remarks today, and then we will be happy to take your questions. Unless otherwise noted, comparisons on this conference call will be made between the fourth quarter of 2022 and the fourth quarter of 2021 or the full year 2022 and the full year 2021. In addition, today’s discussion will include forward-looking statements subject to risks and uncertainties.

Actual future results could differ materially from these forward-looking statements. Please refer to our SEC filings for a detailed discussion of potential risks and uncertainties. During this call, we will use rounding and abbreviations for the sake of brevity. We will also be discussing non-GAAP financial measures. Reconciliations to the most directly comparable GAAP financial measures are included in our earnings presentation, which was filed on Form 8-K earlier today. As a reminder, this conference call will also be made available for replay on the Investors section of our website, where we will also post our prepared remarks following the conclusion of this call. With that, let me turn the call over to Ashish Masih, our President and Chief Executive Officer.

Ashish Masih: Thanks Bruce, and good afternoon, everyone. Thank you for joining us. On today’s call, I will start with a high level recap of 2022. Then I’ll review our strategy and financial priorities, as well as key measures that are important indicators of the state of our business. Then Jon will review our financial results, after which I’ll comment on our outlook for 2023. At the conclusion of today’s call, we will also post to our website our annual report. It includes, among other items, our 10-K and my letter to shareholders. We will begin with a look back at our performance over the past year. For the debt buying industry, 2022 was a year characterized by the normalization of the consumer credit environment in the U.S. and the steady, but slower recovery in the U.K. and Europe.

Consistent execution of our three-pillar strategy, which includes a disciplined, consistent approach to each aspect of our business, enabled us to deliver strong financial and operational results, while maintaining our long-term focus. In fact, earnings on a per share basis in 2022 were second only to the extraordinary performance we delivered in 2021, a year that was characterized by unusually strong financial health of the U.S. consumer resulting from macroeconomic effects of the pandemic. We delivered this strong earnings result for the year despite a number of items that negatively impacted our Q4 P&L, including small percentage reductions to our large total ERC forecast and certain one-time tax items. The quarterly volatility in our results supports our belief that Encore’s underlying performance is best understood using a long-term view of our financial metrics.

Jon will provide details about our full year and fourth quarter results later in our presentation. After more than two years of reduced market supply, increased lending by U.S. banks and rising delinquencies have led to the beginning of a transition in the U.S. credit cycle, in which opportunities to deploy capital at strong returns are now steadily rising. As a result, our largest business, MCM, increased U.S. portfolio purchasing in 2022 by 36%, which helped increase Encore’s global portfolio purchasing by 20% for the year. Our estimated remaining collections of $7.6 billion grew 2% in constant currency when compared to the prior year. Consistent with our capital allocation priorities, we returned $87 million of capital to Encore shareholders through share repurchases in 2022.

When added to our 2021 repurchases, the total amount of capital returned to shareholders over the last two years was $476 million for which we repurchased 27% of our outstanding shares. We embark on this important transition in the portfolio supply cycle with a strong balance sheet and ample capacity to capitalize on the opportunities that lie ahead. I believe it’s helpful to reiterate the critical role we play in the consumer credit ecosystem by assisting in the resolution of unpaid debts, which are an expected outcome of the lending business model. Our mission is to help create pathways to economic freedom for the consumers we serve by helping them resolve their past due debts. We do that by engaging consumers in honest, empathetic and respectful conversations.

We look to purchase portfolios of non-performing loans at attractive returns while minimizing funding costs. For each portfolio that we own, we strive to exceed our collection expectations, while both maintaining an efficient cost structure as well as ensuring the highest level of compliance and consumer focus. We achieve these objectives through our three-pillar strategy. This strategy enables us to consistently deliver outstanding financial performance and positions us well to capitalize on future opportunities. We believe this is instrumental in building long-term shareholder value. The first pillar of our strategy, market focus, concentrates our efforts on the markets where we can achieve the highest risk adjusted returns. Let’s now take a look at our two largest markets.

Changes to consumer behavior during the pandemic led to unusually low credit card balances and below average charge-offs, which in turn resulted in a reduced level of portfolio sales by banks. However, since early 2021, outstandings have been rising as banks continue to report strong growth in lending. In fact, revolving credit in the U.S. surpassed pre-pandemic levels of early 2022, and each month thereafter the U.S. Federal Reserve has reported a new record level of outstandings. At the same time in the U.K., credit card balances continue to steadily recover, though at a slower pace. While credit card outstandings have been growing for the past two years, it has now become clear that delinquency rates in the U.S. have also begun to climb noticeably.

This has historically been followed in lockstep by higher charge-offs and increased market supply of portfolios for debt buyers such as Encore. Turning now to our largest and most valuable market in the U.S. With lending by U.S. banks well above pre-pandemic levels and setting new records with each passing month and charge-off rates steadily rising, it’s clear that the market supply of portfolios is growing. We’ve now transitioned into the portion of the consumer credit cycle in the U.S. in which portfolio purchasing becomes more favorable both in terms of volumes and returns. MCM’s portfolio purchasing in Q4 was a healthy $169 million, bringing the total for the year to $556 million, an increase of 36% over last year. Against this backdrop of growing market supply in the U.S., we expect MCM’s portfolio purchases in Q1, 2023 to be at least $200 million at attractive returns, more than double Q1, 2022 purchases.

In addition, the purchasing pipeline for 2023 appears robust and seems to be improving with each passing month. MCM collections in 2022 were $1.35 billion, which was slightly above our peak level of annual collections before the pandemic began. MCM achieved this level of collections despite the headwinds from more than two years of significantly lower portfolio purchasing and ongoing normalization of consumer behavior in the U.S. This reflects well on the improvements we continue to implement in our collections operation. MCM remains very well-positioned for these future opportunities with sufficient capacity and resources to collect on the larger portfolio volumes at strong returns. Turning to our business in Europe. Cabot’s collections in 2022 declined 14% as reported, primarily due to the foreign currency effect of the weakening of the British pound and euro.

In constant currency, Cabot’s collections declined only 5%. Collections in the fourth quarter remained largely in-line with previous quarters. When compared to our collections performance in continental Europe, our U.K. collections were closer to target, and we are still not seeing the macroeconomic headwinds causing any material change in consumer behavior. Collections related to regular payers in our U.K. back book remained stable in Q4. Given the current macro outlook, we no longer believe that we will recover collections we missed during the last two years. As a result, we reduced Cabot’s ERC by 2% in Q4, which, due to the required accounting impacts of CECL, had a corresponding negative impact on revenues and earnings in the quarter. Portfolio purchases totaled $245 million in 2022, decreasing 4% compared to the prior year.

Importantly, we do not yet see the impact of higher funding costs from higher interest rates reflected in portfolio pricing. As a result, we’ve remained disciplined in our approach to portfolio purchasing and do not expect to increase portfolio purchases as originally planned. Ultimately, pricing will need to align with higher funding costs before we allocate capital toward growing deployments in Europe. The U.K. labor market started to show some early signs of easing toward the end of 2022, which has enabled us to restore collection agent staffing levels. At the same time, double-digit inflation in Europe is adding significant pressure on our cost base. Given these market dynamics and facing significant cost inflation, we are taking preemptive action to control the cost base of our Cabot business.

We expect these actions, including headcount reductions focused mainly in our support functions, will lead to an approximately $4 million one-time pretax charge in Q1. We believe by taking prudent action now, we enhance the ability of our Cabot business to deliver stronger returns when the market opportunity in the U.K. and Europe improves. Despite a decline resulting from lower portfolio purchasing in recent years and the normalization of consumer behavior, especially when compared to the extraordinary levels of 2021, we continue to generate significant cash flow. We expect this decline will begin to reverse as our purchase volumes steadily grow. In addition to cash generation, another important measure of our business is return on invested capital or ROIC, which considers both the performance of our collections operation as well as our ability to price risk appropriately when investing our capital.

Accordingly, one of our fundamental financial priorities is that our underlying business delivers strong, long-term returns. Despite the recent decline in our ROIC due to the same consumer credit normalization and lower collections headwinds that I referenced earlier, we believe we are still delivering returns that are among the highest when compared to those of our peer group in the debt buying industry. Executing on our three-pillar strategy ensures that the strength of our balance sheet is a constant priority. Our strong operating performance and focused capital deployment over many consecutive quarters drove higher levels of cash generation and contributed to a lower level of debt, which in turn has reduced our leverage significantly over time.

At the end of 2022, our leverage ratio was 2.4 times, which is below the midpoint of our target range and remains near the lowest in the industry. It is important to note that our reported increase in leverage from 2.1 times at the end of Q3 to 2.4 times at the end of Q4 was impacted by volatility in foreign currency exchange rates. The underlying rise in our leverage on a constant currency basis was much more gradual, was in-line with our expectations and resulted from a number of factors including lower collections and increased portfolio purchasing over the last few quarters. When compared to the pre-pandemic years, Encore has become a much stronger company when it comes to our balance sheet and capital availability. In addition to lower leverage, we now have a unified global funding structure that provides us with financial flexibility, including diversified sources of financing and extended maturities.

Through our strong balance sheet we remain well-positioned to fund the opportunities that lie ahead. I’d now like to hand over the call to Jon for a more detailed look at our financial results.

Jonathan Clark: Thank you, Ashish. When comparing 2022 results to those from a year ago, keep in mind that the elevated level of collections last year was extraordinary, and resulted in part from U.S. consumer behavior that has largely normalized since the beginning of 2022. I’d like to highlight a few items that I believe are noteworthy. As Ashish mentioned earlier, 2022 was a strong year for the company as we delivered the second highest annual earnings per share in Encore’s history. Portfolio purchasing accelerated in the second half of the year, especially in the U.S., as we entered a new phase of the credit cycle that favors purchasing, which for Encore grew 20% to $801 million. This growth in purchasing is also reflected in our estimated remaining collections, or ERC, which while declining 3% on a reported basis to $7.6 billion, grew 2% in constant currency.

Our tax rate for the year was higher than normal at 37.4%, and was largely the result of certain one-time tax items in the fourth quarter. Looking ahead, we expect the tax rate to be in a more typical range in 2023, with the full year effective tax rate expected to be in the mid-20s on a percentage basis. Turning now to our results for Q4. A number of items significantly impacted our Q4 P&L. Collections in Q4 were approximately 5% lower than expected and resulted in $22 million of recoveries below forecast, thus reducing Q4 EPS by $0.73. Changes in expected future recoveries totaling $64 million was the result of a small percentage reduction of our global ERC, 1.5%, which reduced Q4 EPS by $2.20. Our tax rate in Q4 and for the year was significantly impacted by $28 million of one-time tax items in the quarter related to our deferred tax asset in the U.K., which reduced Q4 EPS by $1.21.

Importantly, the same normalization of consumer behavior in the U.S. that has led to year-over-year declines in collections is now driving an increase in market supply. This is reflected in our Q4 portfolio purchases, which grew sharply compared to a year ago. As you can see, even though the large negative accounting items more than offset our underlying Q4 results and drove a loss for the quarter, we delivered strong results for the full year. I’d like to emphasize that CECL accounting can cause significant fluctuations in quarterly reported results, but they do converge with cash results over the long-term. In this case, much of the impact to our Q4 results stemmed from small percentage adjustments to our large total ERC. This is yet another reason that we believe it’s important to take the long view of our financial metrics.

This is consistent with the way we run the business and make decisions, employing a long-term perspective to building shareholder value. Now moving back to full year 2022. Collections were $1.9 billion in 2022, lower by 17% compared to the extraordinary collections of the prior year. Breaking that result down into our two major businesses, MCM’s collections in the U.S. in 2022 declined 17% compared to the prior year, primarily due to lower portfolio purchasing in recent years and the normalization of consumer behavior in the U.S. Cabot’s collections in 2022 declined 14% as reported, primarily due to the foreign currency effect of the weakening of the British pound and euro. In addition, lower portfolio purchases in recent years contributed to the decline.

For portfolios owned at the end of 2021, Encore’s global collections performance in 2022 was 103% of our portfolio ERC forecast for the year as of December 31, 2021. For MCM and for Cabot, 2022 collections by this same reported measure were 112% and 87%, respectively. With regard to collections in Europe, the weakening of the pound and euro in relation to the U.S. dollar created a separation between reported and constant currency results. In this case, Cabot’s collections performance in 2022 on a constant currency basis was 94% of our ERC forecast, while Encore’s global collections performance on a constant currency basis was 105% of our ERC forecast. These results provide further evidence that quarterly volatility often contradicts long-term performance.

In this case, even though we reported collections underperformance of $22 million in Q4, we delivered $29 million of collections overperformance for the full year. Revenues in 2022 were $1.4 billion and were lower by 13% compared to the prior year returning to a pre-pandemic level last seen in 2019. In the U.S., revenues in 2022 were lower by 11% to $1 billion, while revenues in Europe were lower by 17% as reported, but were down only 9% for the year in constant currency. The global macroeconomic environment has led to higher interest rates and challenging conditions in the bond market. Regardless, it is times like these that our global funding structure provides us the financial horsepower to approach the growing supply environment from a position of strength.

We believe our strong balance sheet provides us very competitive funding costs when compared to our peers and competitors. In this environment, we believe higher financing costs will eventually have a moderating effect on portfolio pricing as debt buyers adapt their bidding behaviors to their higher costs of capital. Having said that, we don’t believe current pricing reflects this moderating effect. Our interest expense in the fourth quarter was $42 million compared to $38 million in Q4 last year. Looking ahead to the first quarter, we expect our interest expense to be in the mid $40 million range, depending on rates and currency movements. With that, I’d like to turn it back over to Ashish.

Ashish Masih: Before I close, I’d like to remind everyone of our commitment to a consistent set of financial priorities that we established some time ago. We expect to benefit from our strong balance sheet as the highly anticipated growth in market supply has arrived in the U.S. and we are ready. We will continue to be good stewards of your capital and as always, will maintain our focus on returns in order to build long-term shareholder value. In the U.S., we believe the continued normalization of consumer behavior as well as the growth in portfolio supply are clear indicators that the next phase of the consumer credit cycle has arrived. As a result, more consumers than ever will need our support and we are ready to help them resolve their debts and restore their financial health, consistent with our mission and the essential role we play in the consumer credit ecosystem.

Beginning in August last year, we’ve spoken about facing pressure on collections, revenues and earnings for a few quarters due to lower purchasing in recent periods and the normalization of consumer behavior. Recent results reflect these expected pressures, although Q4 was also significantly impacted by one-time items and larger CECL adjustments. Now that our portfolio purchasing in the U.S. has turned the corner and returns are improving, we expect these pressures will subside over time. With the recovery of the U.S. market evolving as we expected, we remain confident in our view of the business and are right where we want to be. The recovery of our business in the U.K. and Europe is unfolding more slowly, but we remain confident that we are taking the right actions to best position our business for the opportunities that will come.

I am very optimistic that Encore’s strong position with sufficient operational capacity, continued solid cash generation and ample liquidity, will allow us to remain disciplined in our purchasing approach and capitalize on the growth in U.S. portfolio purchasing opportunities that lie ahead. 2022 was a strong year for Encore, and 2023 is already shaping up to be a strong year for portfolio purchasing, driven by growth in the U.S. It also bears repeating that this means more consumers who will need our support, and as always our dedicated colleagues around the world, driven by our mission, vision and values, will be there to do just that. Even as we plan for increased capital deployment this year, we will continue to carefully manage our strong balance sheet and expect our leverage at the end of 2023 to be near the mid-point of our target range.

Now, we’d be happy to answer any questions that you may have. Operator, please open up the lines for questions.

Q&A Session

Operator: Thank you. At this time, we will conduct a question-and-answer session. Our first question comes from Mike Grondahl with Northland Capital Markets. Mike, your line is open.

Mike Grondahl: Hey, guys. Thanks for taking the question. Ashish, on that August call we did about six months ago now, you had kind of talked about a few week quarters for normalizing collections for — the softer purchasing market you were seeing, where are we kind of vis-a-vis those comments?

Ashish Masih: Thanks for your question, Mike. You’re right. It was in August, that we started seeing those comments that we mentioned that we’d be facing pressure in collections and revenues and earnings. And there were two reasons for that. The first was lower purchasing for several quarters or several periods prior to that. And the second one was normalization of consumer behavior and particularly in U.S. where the collections high that we saw in 2021 in particular was normalizing. So, I’d say the recent quarter’s results do reflect these pressures coming through. However, the Q4 results in particular are significantly also impacted by this one-time tax adjustment items and larger CECL adjustment. I would say, given our purchasing is turning the corner actually has turned the corner in U.S. and we are growing purchasing and returns are improving.

We expect the pressures will subside over time. I’d like to again just reiterate the U.S. purchasing of — we expected it to be $200 million at least this quarter. That’s more than double what we had a year ago in the same quarter. And in U.K. and Europe, market is recovering more slowly and we are taking the right actions to position ourselves. So, I’m very confident on our view of the business as we stand today actually in so many ways we are exactly where we want to be today.

Mike Grondahl: Got it. Got it. And Jonathan, if I back out the tax hit and the — which was $1.21, then there was $0.73 for the 5% collection miss, and then I think I heard $2.20 on the ERC write down, about $1.13 sort of — I don’t know if I want to call that core, but maybe just adjusted EPS and $1.13 without those charges. Am I thinking about it, right?

Jonathan Clark: Yeah. You’re — I think you’re thinking about it right? I think you slipped a digit on your math. It’s actually more like $1.03 if you made those adjustments. But I — and this is speaking to Ashish’s earlier comment about pressure, right? The pressure on collections, earnings and revenue that we — you and I — that you and Ashish were just discussing that we started talking about back in August. So yes, I would say this is — it is a reflection of those very same pressures. And by the way, as Ashish also said, sorry, Ashish also said, as purchases were continued to grow, the pressure will clearly subside over time.

Mike Grondahl: Got it. Yeah. Yeah. For sure. They were refilling the bucket pretty quickly if you can hit $200 million in the U.S. And then Jonathan, one more for you. You guys have roughly — am I right about $1 billion of variable rate debt and about $1.7 billion of fixed rate debt at year-end. Is that directionally fair?

Jonathan Clark: Well, the way we look at it, Mike, is, I call fixed, I’ll put fixed in quotes. I call our fixed rate, 77% of our overall cap structure. I think you may be grabbing the part that’s fixed, which represents 48%, but we have another 29% that’s hedged, right? So, from my perspective, from a risk perspective, I view as roughly a little more than three quarters fixed.

Mike Grondahl: Got it. Got it. Three quarters fixed, so like 75%. Okay.

Jonathan Clark: 77%. If you want to be precise, 77% at the end of the year.

Mike Grondahl: Got it. Yeah, I do. Hey, thank you.

Jonathan Clark: Terrific.

Operator: Please hold for our next question. Our next question comes from Mark Hughes with Truist. Mark, your line is open.

Mark Hughes: Yeah. Thanks. Good afternoon.

Ashish Masih: Hi, Mark.

Mark Hughes: Jonathan, did you give us a number for the change in fourth quarter collections overall on a constant currency basis?

Jonathan Clark: Let me see. I think you gave some good detail on an annual basis down five. I don’t think I did Mark, but I could probably — I might be able to dig that up, but.

Mark Hughes: Okay. And then, Ashish, the European supply and pricing still kind of pessimistic on that front.

Ashish Masih: Mark, so European supply is kind of a two-part story or kind of evolving a bit slowly. So, in Europe, continental Europe supplies back up to pre-pandemic levels and lots of sales happening. In U.K. kind of same sellers. The banks are selling flows and spot deals and so forth, except that lending is still below the pre-pandemic levels. So, as we show in that graph, and then you combine that with the second driver, which is the delinquencies and charge-offs, those are still record low. So, the supply has not picked up in that way. And then you combine that with a bit more competitive environment in terms of number of players and the bidding behavior has not really been impacted by funding costs yet. It is more competitive.

So, we are being disciplined and prudent in how we deploy capital. We are, of course, deploying capital and maintaining our discipline, but that’s where we are not seeing the growth in the market and returns, and we are allocating more capital to the U.S. market, where we are seeing growth in supply as well as returns starting to improve as well.

Mark Hughes: Okay. And then Jonathan, on the

Jonathan Clark: Mark, Mark, while you’re turning over to me, I just — so I don’t forget, the constant currency Q4 collections drop is 13%.

Mark Hughes: 13%. Okay. With when we think about the potential for either underperformance on current period collections or change in expected recovery, do — your current set of assumptions fully incorporate the environment that’s normalized environment as you describe it, or is there something in the accounting that spreads that over multiple periods? Is it — I think we’ve talked about this a lot, but is essentially is it mark-to-market or if there’s not some sort of recovery in consumer behavior, there are other delayed impacts.

Ashish Masih: Mark, this is Ashish. I’ll take it and Jon can chime in. So at the end of every quarter, we have a best estimate of the forecast for each of the markets and the portfolios that we have, the back books, if you would. And it reflects kind of what the recent performance is and some qualitative judgment as well as outlook and macroeconomic view, right? So, it’s the best judgment and whenever that forecast changes, as you know very well, even by small amounts like 2%, it flows through the quarter in terms of the NPV of that change. So, every quarter make our best estimate and that’s what you see out there reflected. I would highlight given kind of perhaps where you’re coming from, yes, there is a large CECL adjustment in this quarter.

If you recall in Q1, 2022, we had a very large upward adjustment in MCM after we saw sustained over performance. And that had led to quarter of $6.40 in EPS. So, we do our best in estimating. And the recent past two to three years have been quite volatile and difficult to forecast as you will, but things are starting to normalize now and we put our best estimate forward every time.

Mark Hughes: And then on the cost front, I think you talked about some expense actions in the U.K. perhaps. Anything in the U.S. when we think about the costs, if collections are at least for the next the transition period here, if you’ve got declining collections, I think your overall expenses were up on an absolute basis, maybe a point something like that. Is the — our costs kind of locked in here? And this is a good level as we go through this transition period.

Ashish Masih: In terms of a cost for the U.S. business, I wouldn’t say that all costs are locked in. There is a level of fixed costs, right? And then there’s variable costs that impacted by collections. Now, lot of our collections, high collections in 2021, for example, that came through, did not come in with higher costs because they came in through inbound channels or digital or through the lowest marginal cost channels as consumers more interested in contacting us as opposed to, let’s say litigation, which is more expensive. So, on the flip side, cost didn’t move in the same — at the same rate down as collections did. Now that said, as we grow collections, there will be a fixed component that’s there. And we are being very prudent and it’s not just U.K. and Europe, we are being very cost prudent and careful on, because inflation is here in U.S. and the geographies that support U.S. and Costa Rica and India as well.

So, we are using automation, technology, all sorts of innovation to keep costs in control. But in Europe and U.K. in our Cabot business, we took a bit more proactive action in terms of certain headcount reductions on the support functions, fully protecting our operational capability and capacity there. So, not sure if I kind of address your cost question, but tough to say that at what level they will be. What we do expect collections to grow. And in some ways, over time, as certain other channels contribute to that collections growth, some of the expenses will grow over time, and they could be a bit front loaded as well as you start ramping up purchasing, which is what we are excited about doing right now.

Mark Hughes: And one more, Jonathan, refresh me on whether that currency impact, the fact that Cabot was at 87% of your expected collection on a currency adjust — well, I guess not a currency adjusted. Then it was 94% on constant currency. Did that impact the change in expected recovery?

Jonathan Clark: No. This metric is that you’re referring to, that I brought up in the script, is something a benchmark that we hold ourself to every year. We share with investors what our — how we perform against our initial ERC at the start of the year. And this was started a number of years ago. So, it just so happens. In the interim, we’ve started to face some FX headwinds and has been more volatility caused by CECL. But what it does, Mark, is it, it helps to — you have a starting point and then in quarter by quarter you perform relative to how you started the year. And so, all your actual collections in a given quarter, which is why you get the currency effect just to be clear, is in local currency. So, we start where we start, that stake is put in the ground and then — and which I think is good, healthy discipline.

And as you move through the year, you compare yourself to where you start. Because when you think about it, Mark, as Ashish accurately alluded to earlier in the call, every quarter we’re resetting curves based on our best guess. Well, what this does is it ties everybody back to where you started the year. It takes out that volatility and so you can compare over a longer period of time how you’ve performed. Does that make sense?

Mark Hughes: Yes, it does make sense. I guess my question is, if you do have a negative currency impacts, which changes your expected recoveries in the dollar terms, does that cause or contribute to a change in expected recovery calculation such as you had this quarter? It’s all in in local currency.

Jonathan Clark: Local currency, correct. It’s all local currency. And then when you think about operationally that way this works, everything is done in local currency and then after it’s done and dusted, then it’s converted to USD.

Mark Hughes: Yeah. Okay. Very good. Thank you.

Operator: One moment for our next question. Our next question comes from Robert Dodd with Raymond James. Robert, your line is open.

Robert Dodd: Hi, guys. A question that goes to the collections shortfall in the quarter $22 million below target have been stopped that much. But can you give us any color on what the driver was there? I mean, was it U.S. or Cabot? I mean, you mentioned that there wasn’t an increase in breakage of payment plans at Cabot, but was there — so was the shortfall payment plan breakage in the U.S. or was it just spot payments were lower? And have you got any quality — any kind of more color you can give on what the source of that shortfall since this is what your internal? Thanks.

Ashish Masih: Hey, Robert, let me take a stab at it and perhaps Ryan can jump in as well. So, the $22 million, as you correctly point out was largely U.S. And it was against a forecast that’s being built up every quarter. And as you remember, in Q1 we significantly increased the MCM forecast and a little bit in Q2 as well, sits against that higher forecast that MCM was short on. Nothing in particular worrying about it, just normalizing consumer behavior that we see but was largely U.S. Ryan, anything to add on that?

Ryan Bell: No, just to reemphasize yet, it’s against that curve that we raised the past — two times in the past three quarters. We missed that by the $20 million amount.

Robert Dodd: Got it. Got it. And then going back to kind of Mark’s question, on the curves, I mean, to your point, Ashish, I mean you factor in some best estimate each quarter and then kind of how do you think the world is going to evolve? Has to be a part of that? I mean, so for those curve adjustments this quarter, I mean, do you think the consumers stabilized and normalized here, or are you expecting the consumer to get — to have more and more problems as we go through the year and that’s now already built into the curves? Or do you think they’re kind of — they’re settled here and that’s what the curve is based on?

Ashish Masih: So, Robert, you’re asking kind of lots of variables here.

Robert Dodd: Yeah.

Ashish Masih: What goes in and we look at vintages, we look at how mature they are, and we look at the investment committee curves and issue for kind of the more younger vintages, if you would. And then there’s a kind of a macroeconomic overlay that we evaluate and apply as appropriate in U.K. and U.S., for example. And we get those from external sources that, that we apply. So, I can’t quite exactly say what my belief on the macro view is in terms of let’s say unemployment rate or anything like that. But there’s a macro curve that is heavily unemployment rate kind of driven, that we evaluate as part of the process. And sometimes it’s applied fully, sometimes it’s less, sometimes it’s not applied because it’s not making any material change.

So, a lot of science and art goes into that to prepare the best estimate for each geography that we are preparing these forecasts. So, sorry, I can’t give you any more precise answer because it is kind of a very complicated detailed process that’s applied to vintages by country, and also looking at recent performance as to what’s happening to that pool and vintage.

Robert Dodd: Got it. Got it. I understand that. Yeah, it’s a really unfair question to be fair. One more if I can, I mean — and arguably I should know the answer this rather than asking you. But — so on the point kind of in the U.K. or Europe, the interest rates haven’t really impacted pricing yet, but should eventually. Are you — with your 77% of your capital, your debt stack is quotes, fixed rate, does that substantially differ from the rest of the industry in terms of being much more fixed? Or is the rest of the industry heavily fixed as well, in which case interest rate impacts may take a while to come through on pricing.

Ashish Masih: I will take a stab at it and perhaps Jon or Craig could chime in as they — Craig looks at the competitors. Now just appears our competitors I would say in Europe, they have different debt stacks and all of them took advantage of the very good market in like 2020 and perhaps even 2021 to refinance. But many of them are starting to refinance, and when they’re refinancing, they’re refinancing at a very, very much higher rate, I would say. So — and some of them are actually publicly talking about the lack of impact of this higher funding cost not showing up in pricing yet. So, some of it takes time at times. And while people should make economic decisions based on kind of what the outlook is for the funding cost, it may not actually be doing — they may not be doing so as much. Craig, any color you have on what our competitors are doing or what you see on the ground when the bidding happens.

Craig Buick: Yeah. Robert, I think the key for me is when we’re deploying capital today, any incremental capital we deploy, I want to ensure that the return I’m getting reflects the cost of capital in the market today, what’s on our balance sheet is the historic position. Any incremental decisions I make today will reflect the cost of capital today. I can’t comment on what my competitors are doing and how they’re approaching it. All I can say is at the moment, look that pricing remains out of kilter with where I think the return should be. I go back to Mark’s question. He made the comment about whether we’re pessimistic on Europe, I actually would say we are disciplined is a better description. And one of the advantages I think we have as Encore with our global diversification and leading operations and the two biggest markets for unsecured consumer credit, being the U.S. and the U.K., you see one market being a little bit tight, but you see stronger returns in the other market.

We can seamlessly deploy capital using our global balance sheet to be able to allocate capital in the most appropriate manner in line with what she said. And so that’s the way we think about it when it comes to the capital allocation and the way we think about those returns, it should change at some point in Europe. We’re a long-term player, this is a cycle. I’m going to wait until those returns are appropriate, as Ashish mentioned in his prepared remark before we start increasing deployments in Europe.

Robert Dodd: Got it. Thank you for all that color.

Operator: Please hold for our next question. Our next question comes from Spencer James of William Blair & Company. Spencer, your line is open.

Spencer James: Hi, this is Spencer James on for Bob Napoli. Thanks for taking the question. I guess, a different way to ask question, I believe it was on Robert’s question about the economic overlay. Could you maybe just summarize the impact of various factors such as rising interest rates, unemployment and FX, and how those different impacts have drove the reduction in future — estimated future collection?

Ashish Masih: Hi, Spencer. This is Ashish. I don’t think I can do that. I actually — no, I cannot do that. The way to think about macro is, I mean, our consumers are not in an active loan, so they’re in a prepayment plan or we are looking to get new payers and there’s a whole range of things that go into type of asset class, whether they’re already paying or not. A whole range of factors go in and a level of macro overlay that we consider for different geographies. So, it would be close to impossible to say which part is FX or employment rate or interest rates. What we talked about earlier is interest rates are something that should factor in bidding behaviors of buyers as well of portfolios. And to the extent it should, it really hasn’t changed behavior yet, especially in Europe. So, we are waiting to see that impact. So that’s the best I can answer your question on kind of these various macroeconomic drivers impacting our ERC forecast.

Spencer James: Okay. That’s fair. I appreciate it. Thank you. And as a follow up, within the underlying ERC, I think you report 180 month timeframe number, has anything changed with regards to the timing of that ERC number over the estimated collection period, if that makes sense? The timing of expecting to total, I collect that total number over time.

Ashish Masih: Yeah. So, no, not really. So, I mean, again, our portfolio is very diversified between U.S., U.K. and Spain and France and so forth, right? And asset classes matter. Payment plans and ERC is longer in Europe, for example, especially U.K. compared to U.S. that collection curves are steeper. The change in expected future recoveries impact you see, or the CECL impact is an NPV of ERC change. And again, there’s timing factors that would weigh in into that NPV calculation. So, if it’s from far away, it’ll have less impact. If it’s from near-term, it’ll have more impact. The other driver is the EIR, the effective interest rate, kind of which pool and vintage it’s coming from and geography it’s coming from. So, all of that combined converts into the ERC change of about 2%, we said to the CECL impact that we saw in this quarter of $64 million. Jon, you want to chime in as well?

Jonathan Clark: Yeah. I think a couple things just if I could chime in. One, Spencer, what one of the things we do every quarter and we sit down, and this is getting to your time in question perhaps a bit, is try to decide whether the cash flows we are seeing or aren’t seeing are caused by a betterment or a difference in timing, right? A pull forward or a pushout of collections. So, it’s — in some ways it is as complicated as it sounds, but some ways it’s very simple, right? It’s really answering that question every quarter. Is it a betterment, or is it a pull forward to the extent you overperform as an example. Separately, and I just want to make sure this maybe a subtlety, but the 180 months you reference, it’s a rolling 180 months, right? So, it’s not just a point in time. It’s always out there even for an existing pool. It doesn’t stop at 180 months. It just the next incremental month is added on, if you will.

Spencer James: That’s helpful. Thank you for the color.

Operator: Please hold as we wait for the next question. Our next question comes from John Rowan of Janney Montgomery Scott. Your line is open.

John Rowan: Good afternoon, guys.

Ashish Masih: Hey, John.

John Rowan: You obviously gave guidance on U.S. purchases. Did you give any guidance on U.K. purchases?

Ashish Masih: John, no, we did not. We did say that we are not looking to increase, so we are being very disciplined in terms of our deployment in U.K. and Europe and allocating more capital to the growth in U.S.

John Rowan: Okay. And then just one kind of bookkeeping question. Obviously, there was the GAAP loss in the quarter impacted the diluted share count. Any guess as to what the diluted share count would be with positive earnings?

Jonathan Clark: Yeah. Roughly 27.5 million shares if it had been a profit.

John Rowan: Okay. Perfect. Thank you.

Operator: Please hold as we wait for the next question. Our next question comes from Mike Grondahl with Northland Capital Markets. Your line is open.

Mike Grondahl: Hey, just two follow-up, guys. Maybe the first one for Jonathan. Jonathan, if you guys purchase $200 million in the first quarter of 2023 in the U.S., roughly what do you collect from that over the first year? And secondly, for Ashish, do you think $1.03 adjusted EPS in the quarter represents the bottom? You’ve highlighted a couple or a few weak quarters. Like, are we halfway through? I don’t know if you could give a little bit of color on those two, that would be great.

Ashish Masih: So, I’ll try to answer the second one first. I don’t know if we can easily answer the first one. But in terms of the pressure, we said several quarters, something along those lines, Mike. Now tough to say exactly when it happens. What I would reiterate is growing deployments in the largest and the most profitable market that we operate in. And at times, as I also said, it can be front loading of expenses a bit. It depends on the type of portfolio. Is at a lower balance portfolio or more of a higher balance portfolio? So, there’s a lot of timing issues on expense side as well. So, all I can say is the pressures were showing up in Q3 and Q4, and as you correctly point out, on the adjusted basis. And we are turning the corner on deployments in our largest market and improving returns.

And we expect the pressures to subside. That’s the most I can say as we do not give very specific quarterly guidance. And given the quarterly volatility that can show up in a whole range of — for a whole range of reasons including CECL, we are not giving quarterly guidance. So, hopefully, that addresses a question to some extent. If not, please follow-up as well if you have any follow-up.

Jonathan Clark: And I want to correct the record on one thing. The diluted share count, if we would have had a profit this quarter would have been 24.6 million shares. More precise answer for you. Okay. Any more questions?

Mike Grondahl: No. That’s it.

Operator: Thank you for your time. I would now like to turn it back to Mr. Masih for closing remarks.

End of Q&A:

Ashish Masih: As we close the call today, I’d like to reiterate a couple of key points. Our strategy of focusing on the right markets, employing discipline in our purchasing approach, executing effectively, and maintaining a strong balance sheet are key drivers of our performance and have put us in a position of strength as portfolio supply in the U.S. is now clearly growing. This is the portion of the credit cycle we have been anticipating and we are ready for it. We’re also as committed as ever to the essential role we play in the credit ecosystem and to help consumers regain their financial freedom. Thanks for taking the time to join us today and we look forward to providing our first quarter 2023 results in May.

Operator: Thank you for your participation in today’s conference. This does conclude the program. You may now disconnect.