**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

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**FORM 10-Q**

**Forthe quarterly period ended September 30, 2005**

**of**

| **COMPUCREDIT CORPORATION** | **** |
|-----------------------------|------|

 

**aGeorgia CorporationIRS Employer Identification No. 58-2336689SEC File Number 0-25751**

**245Perimeter Center Parkway, Suite 600Atlanta, Georgia 30346(770) 206-6200**

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CompuCredit’s CommonStock, no par value per share, is registered pursuant to Section 12(g) ofthe Securities Exchange Act of 1934.

CompuCredit has (1) filedall reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months and (2) beensubject to such filing requirements for the past 90 days.

CompuCredit is anaccelerated filer (as defined in Exchange Act Rule 12b-2).

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act o Yes x No

Asof October 31, 2005, 48,870,316 shares of Common Stock, no par value, ofthe registrant were outstanding.

 

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**COMPUCREDITCORPORATIONFORM 10-QTABLE OF CONTENTSSeptember 30, 2005**

|               | ** **            | ** **                                                                                          | **Page** | ** ** |
|---------------|-----------------------|-----------------------------------------------------------------------------------------------------|----------|------------|
| PART I.  | FINANCIAL INFORMATION | ** **                                                                                          |     | ** ** |
|          | Item 1.               | Financial Statements (Unaudited)                                                                    |     |       |   |
|          |                  | Condensed Consolidated  Balance Sheets                                                              |     | 3          |   |
|          |                  | Condensed Consolidated  Statements of Operations                                                    |     | 4          |   |
|          |                  | Condensed Consolidated  Statement of Shareholders’ Equity                                      |     | 5          |   |
|          |                  | Condensed Consolidated  Statements of Cash Flows                                                    |     | 6          |   |
|          |                  | Notes to Condensed  Consolidated Financial Statements                                               |     | 7          |   |
|          | Item 2.               | Management’s Discussion and  Analysis of Financial Condition and Results of Operations    |     | 25         |   |
|          | Item 3.               | Quantitative and Qualitative  Disclosures About Market Risk                                         |     | 51         |   |
|          | Item 4.               | Controls and Procedures                                                                             |     | 52         |   |
| PART II. | OTHER INFORMATION     |                                                                                                | 53       |       |
|          | Item 1.               | Legal Proceedings                                                                                   |     | 53         |   |
|          | Item 2.               | Unregistered Sales of Equity  Securities, Use of Proceeds and Issuer Purchases of Equity Securities |     | 53         |   |
|          | Item 3.               | Defaults Upon Senior Securities                                                                     |     | 53         |   |
|          | Item 4.               | Submission of Matters to a  Vote of Security Holders                                                |     | 53         |   |
|          | Item 5.               | Other Information                                                                                   |     | 53         |   |
|          | Item 6.               | Exhibits                                                                                            |     | 54         |   |
|          |                  | Signatures                                                                                          |     | 55         |   |
|               |                       |                                                                                                     |          |            |  |  |  |  |

 

2

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**CompuCredit Corporation and SubsidiariesCondensed ConsolidatedBalance Sheets**

| ** **                                                                                                                                                                   | ** ** | **September 30,**               | ** ** | **December 31, ** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                                                                   | ** ** | **2005**                             | ** ** | **2004**                    | ** ** |
| ** **                                                                                                                                                                   | ** ** | **(Unaudited)**                      | ** ** | ** **                  | ** ** |
| ** **                                                                                                                                                                   | ** ** | **(Dollars in thousands)** | ** ** |
| **Assets**                                                                                                                                                                   |       |                                 |       |                        |       |   |   |   |   |
| Cash and cash  equivalents (including restricted cash of $11,990 at September 30, 2005  and $11,615 at December 31, 2004)                                          |       |                                 | $          | 93,906                      |       |   |   | $ | 68,240 |   |   |
| Securitized  earning assets                                                                                                                                                  |       |                                 | 714,369    |                        |       |   | 536,718 |   |   |
| Non-securitized  earning assets, net                                                                                                                                         |       |                                 | 388,756    |                        |       |   | 158,430 |   |   |
| Deferred costs,  net                                                                                                                                                         |       |                                 | 30,988     |                        |       |   | 34,920 |   |   |
| Software,  furniture, fixtures and equipment, net                                                                                                                            |       |                                 | 37,694     |                        |       |   | 31,552 |   |   |
| Investments in  equity-method investees                                                                                                                                      |       |                                 | 69,729     |                        |       |   | 42,059 |   |   |
| Intangibles, net                                                                                                                                                             |       |                                 | 14,621     |                        |       |   | 10,643 |   |   |
| Goodwill                                                                                                                                                                     |       |                                 | 131,150    |                        |       |   | 100,552 |   |   |
| Prepaid expenses  and other assets                                                                                                                                           |       |                                 | 26,475     |                        |       |   | 20,412 |   |   |
| Total assets                                                                                                                                                                 |       |                                 | $          | 1,507,688                   |       |   |   | $ | 1,003,526 |   |   |
| **Liabilities**                                                                                                                                                              |       |                                 |       |                        |       |   |   |   |   |
| Accounts payable  and accrued expenses                                                                                                                                       |       |                                 | $          | 80,201                      |       |   |   | $ | 36,088 |   |   |
| Notes payable                                                                                                                                                                |       |                                 | 161,079    |                        |       |   | 83,624 |   |   |
| Convertible  senior notes                                                                                                                                                    |       |                                 | 250,000    |                        |       |   | — |   |   |
| Deferred revenue                                                                                                                                                             |       |                                 | 70,895     |                        |       |   | 29,830 |   |   |
| Current and deferred  income tax liabilities                                                                                                                                 |       |                                 | 133,783    |                        |       |   | 115,786 |   |   |
| Total liabilities                                                                                                                                                            |       |                                 | 695,958    |                        |       |   | 265,328 |   |   |
| Minority interests                                                                                                                                                           |       |                                 | 50,332     |                        |       |   | 54,308 |   |   |
| **Shareholders’  equity**                                                                                                                                               |       |                                 |       |                        |       |   |   |   |   |
| Common stock, no  par value, 150,000,000 shares authorized: 53,389,205 and 53,159,253  issued at September 30, 2005 and December 31, 2004,  respectively |       |                                 | —     |                        |       |   | — |   |   |
| Additional  paid-in capital                                                                                                                                                  |       |                                 | 315,358    |                        |       |   | 303,356 |   |   |
| Treasury stock,  at cost, 4,531,722 and 1,914,646 shares at September 30, 2005 and  December 31, 2004, respectively                                      |       |                                 | (124,805   | )                           |       |   | (26,721 | ) |   |
| Deferred  compensation                                                                                                                                                       |       |                                 | (5,707     | )                           |       |   | (922 | ) |   |
| Warrant                                                                                                                                                                      |       |                                 | 25,610     |                        |       |   | 25,610 |   |   |
| Retained earnings                                                                                                                                                            |       |                                 | 550,942    |                        |       |   | 382,567 |   |   |
| Total  shareholders’ equity                                                                                                                                             |       |                                 | 761,398    |                        |       |   | 683,890 |   |   |
| Total liabilities and  shareholders’ equity                                                                                                                             |       |                                 | $          | 1,507,688                   |       |   |   | $ | 1,003,526 |   |   |

 

See accompanying notes.

3

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**CompuCredit Corporation and SubsidiariesCondensed ConsolidatedStatements of Operations (Unaudited)**

| ** **                                                                                                                  | ** ** | **For the three months ended**                               | ** ** | **For the nine months ended**                                | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------|------------|
| ** **                                                                                                                  | ** ** | **September 30,**                                                           | ** ** | **September 30,**                                                           | ** ** |
| ** **                                                                                                                  | ** ** | **      2005      ** | ** ** | **      2004      ** | ** ** | **       2005       ** | ** ** | **      2004      ** | ** ** |
| ** **                                                                                                                  | ** ** | **(In thousands, except per share data)**               | ** ** |
| Interest income:                                                                                                            |       |                                                                             |       |                                                                             |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Consumer loans, including past due fees                                                                                     |       |                                                                             | $          | 37,479                                                                           |       |   |   | $ | 11,702 |   |   |   | $ | 82,460 |   |   |   | $ | 27,282 |   |   |
| Other                                                                                                                       |       |                                                                             | 2,468      |                                                                             |       |   | 2,224 |   |   |   | 8,028 |   |   |   | 5,841 |   |   |
| Total interest  income                                                                                                      |       |                                                                             | 39,947     |                                                                             |       |   | 13,926 |   |   |   | 90,488 |   |   |   | 33,123 |   |   |
| Interest expense                                                                                                            |       |                                                                             | (6,345     | )                                                                                |       |   | (1,951 | ) |   |   | (25,140 | ) |   |   | (2,722 | ) |   |
| Net interest income before fees and other income  on non-securitized earning assets and provision for loan losses |       |                                                                             | 33,602     |                                                                             |       |   | 11,975 |   |   |   | 65,348 |   |   |   | 30,401 |   |   |
| Fees and other income on non-securitized earning  assets                                                                    |       |                                                                             | 112,347    |                                                                             |       |   | 84,600 |   |   |   | 386,503 |   |   |   | 153,099 |   |   |
| Provision for loan losses                                                                                                   |       |                                                                             | (48,012    | )                                                                                |       |   | (27,221 | ) |   |   | (106,826 | ) |   |   | (51,221 | ) |   |
| Net interest  income, fees and other income on non-securitized earning assets                                               |       |                                                                             | 97,937     |                                                                             |       |   | 69,354 |   |   |   | 345,025 |   |   |   | 132,279 |   |   |
| Other operating income:                                                                                                     |       |                                                                             |       |                                                                             |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Fees and other income on securitized earning assets                                                                         |       |                                                                             | 56,503     |                                                                             |       |   | 54,386 |   |   |   | 116,484 |   |   |   | 130,180 |   |   |
| Servicing income                                                                                                            |       |                                                                             | 33,667     |                                                                             |       |   | 23,365 |   |   |   | 107,819 |   |   |   | 70,589 |   |   |
| Ancillary and interchange revenues                                                                                          |       |                                                                             | 7,325      |                                                                             |       |   | 6,155 |   |   |   | 19,327 |   |   |   | 16,281 |   |   |
| Equity in income (loss) of equity-method investees                                                                          |       |                                                                             | 9,708      |                                                                             |       |   | (169 | ) |   |   | 35,889 |   |   |   | (606 | ) |   |
| Total other  operating income                                                                                               |       |                                                                             | 107,203    |                                                                             |       |   | 83,737 |   |   |   | 279,519 |   |   |   | 216,444 |   |   |
| Other operating expense:                                                                                                    |       |                                                                             |       |                                                                             |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Salaries and benefits                                                                                                       |       |                                                                             | 9,174      |                                                                             |       |   | 5,744 |   |   |   | 24,163 |   |   |   | 17,116 |   |   |
| Card and loan servicing                                                                                                     |       |                                                                             | 55,115     |                                                                             |       |   | 42,505 |   |   |   | 177,623 |   |   |   | 116,397 |   |   |
| Marketing and solicitation                                                                                                  |       |                                                                             | 26,748     |                                                                             |       |   | 12,251 |   |   |   | 64,954 |   |   |   | 26,980 |   |   |
| Depreciation                                                                                                                |       |                                                                             | 4,846      |                                                                             |       |   | 4,094 |   |   |   | 13,405 |   |   |   | 12,046 |   |   |
| Other                                                                                                                       |       |                                                                             | 23,617     |                                                                             |       |   | 21,347 |   |   |   | 64,533 |   |   |   | 42,119 |   |   |
| Total other  operating expense                                                                                              |       |                                                                             | 119,500    |                                                                             |       |   | 85,941 |   |   |   | 344,678 |   |   |   | 214,658 |   |   |
| Income before  minority interests and income taxes                                                                          |       |                                                                             | 85,640     |                                                                             |       |   | 67,150 |   |   |   | 279,866 |   |   |   | 134,065 |   |   |
| Minority interests                                                                                                          |       |                                                                             | (2,706     | )                                                                                |       |   | (7,131 | ) |   |   | (14,709 | ) |   |   | (20,178 | ) |   |
| Income before  income taxes                                                                                                 |       |                                                                             | 82,934     |                                                                             |       |   | 60,019 |   |   |   | 265,157 |   |   |   | 113,887 |   |   |
| Income taxes                                                                                                                |       |                                                                             | (30,271    | )                                                                                |       |   | (21,007 | ) |   |   | (96,782 | ) |   |   | (41,236 | ) |   |
| Net income                                                                                                                  |       |                                                                             | $          | 52,663                                                                           |       |   |   | $ | 39,012 |   |   |   | $ | 168,375 |   |   |   | $ | 72,651 |   |   |
| Net income  attributable to common shareholders                                                                             |       |                                                                             | $          | 52,663                                                                           |       |   |   | $ | 37,887 |   |   |   | $ | 168,375 |   |   |   | $ | 69,359 |   |   |
| Net income per  common share—basic                                                                                     |       |                                                                             | $          | 1.09                                                                             |       |   |   | $ | 0.77 |   |   |   | $ | 3.37 |   |   |   | $ | 1.41 |   |   |
| Net income per common  share—diluted                                                                                   |       |                                                                             | $          | 1.05                                                                             |       |   |   | $ | 0.75 |   |   |   | $ | 3.27 |   |   |   | $ | 1.39 |   |   |

 

See accompanying notes.

4

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**CompuCredit Corporation and SubsidiariesCondensed ConsolidatedStatement of Shareholders’ Equity (Unaudited)For the Nine Months Ended September 30, 2005**

| ** **                                              | ** ** | ** **                           | ** ** | **Additional** | ** ** | ** **                          | ** ** | ** **   | ** ** | ** **       | ** ** | ** **   | ** ** | **Total**              | ** ** |
|---------------------------------------------------------|------------|--------------------------------------|------------|----------------|------------|-------------------------------------|------------|--------------|------------|------------------|------------|--------------|------------|------------------------|------------|
| ** **                                              | ** ** | **Common Stock**                | ** ** | **Paid-In**    | ** ** | **Treasury**                        | ** ** | **Deferred** | ** ** | ** **       | ** ** | **Retained** | ** ** | **Shareholders’** | ** ** |
| ** **                                              | ** ** | **Shares**                           | ** ** | **Amount**     | ** ** | **  Capital  ** | ** ** | **Stock**    | ** ** | **Compensation** | ** ** | **Warrant**  | ** ** | **Earnings**           | ** ** | **Equity** | ** ** |
| ** **                                              | ** ** | **(Dollars in thousands)** | ** ** |
| Balance at  December 31, 2004                 |       | 53,159,253                           |       |           | $          | —                              |       |         |       | $                | 303,356    |         |       | $                      | (26,721    | ) |   | $ | (922 | ) |   |   | $ | 25,610 |   |   |   | $ | 382,567 |   |   |   | $ | 683,890 |   |   |
| Exercise of stock  options, including tax benefit       |       | 376,924                              |       |           | —     |                                |       |         | 7,079      |             |       | —       |       |                   | —     |   |   |   | — |   |   |   | — |   |   |   | 7,079 |   |   |
| Use of treasury  stock to satisfy stock option exercise |       | (376,924                             | )          |           | —     |                                |       |         | (2,050     | )                |       | 2,050        |       |                   | —     |   |   |   | — |   |   |   | — |   |   |   | — |   |   |
| Issuance of  restricted stock, net                 |       | 229,952                              |       |           | —     |                                |       |         | 6,973      |             |       | —       |       |                   | (6,973     | ) |   |   | — |   |   |   | — |   |   |   | — |   |   |
| Amortization of  deferred  compensation                 |       | —                               |       |           | —     |                                |       |         | —     |             |       | —       |       |                   | 2,188      |   |   |   | — |   |   |   | — |   |   |   | 2,188 |   |   |
| Purchase of  treasury stock                             |       | —                               |       |           | —     |                                |       |         | —     |             |       | (100,134     | )          |                   | —     |   |   |   | — |   |   |   | — |   |   |   | (100,134 | ) |   |
| Net income                                              |       | —                               |       |           | —     |                                |       |         | —     |             |       | —       |       |                   | —     |   |   |   | — |   |   |   | 168,375 |   |   |   | 168,375 |   |   |
| Balance at  September 30, 2005                |       | 53,389,205                           |       |           | $          | —                              |       |         |       | $                | 315,358    |         |       | $                      | (124,805   | ) |   | $ | (5,707 | ) |   |   | $ | 25,610 |   |   |   | $ | 550,942 |   |   |   | $ | 761,398 |   |   |

 

See accompanying notes.

5

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**CompuCredit Corporation and SubsidiariesCondensed ConsolidatedStatements of Cash Flows (Unaudited)**

| ** **                                                                         | ** ** | **For the nine months  ended September 30,** | ** ** |
|------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                                                         | ** ** | **2005**                                                              | ** ** | **2004** | ** ** |
| ** **                                                                         | ** ** | **(In thousands)**                                               | ** ** |
| **Operating activities**                                                           |       |                                                                  |       |   |   |
| Net income                                                                         |       | $                                                                     | 168,375    |   | $ | 72,651 |   |
| Adjustments to reconcile net income to net cash  provided by operating activities: |       |                                                                  |       |   |   |
| Depreciation expense                                                               |       | 13,405                                                                |       | 12,046 |   |
| Provision for loan losses                                                          |       | 106,826                                                               |       | 51,221 |   |
| Amortization expense                                                               |       | 1,592                                                                 |       | 2,146 |   |
| Amortization of deferred  revenue/acquired servicing liability                     |       | (21,994                                                               | )          | (3,577 | ) |
| Amortization of deferred  compensation                                             |       | 2,188                                                                 |       | 330 |   |
| Minority interests                                                                 |       | 14,709                                                                |       | 20,178 |   |
| Securitization income  adjustment                                                  |       | (36,797                                                               | )          | (1,651 | ) |
| Retained interests income  adjustment, net                                         |       | (806                                                                  | )          | 12,249 |   |
| Gain on bulk sale of receivables                                                   |       | (69,559                                                               | )          | — |   |
| (Income in excess of  distributions from) loss on equity-method investments        |       | (16,408                                                               | )          | 606 |   |
| Changes in assets and liabilities, exclusive of  business acquisitions:            |       |                                                                  |       |   |   |
| Increase in deferred  costs                                                        |       | (5,922                                                                | )          | (23,253 | ) |
| Increase in income tax  liability                                                  |       | 21,768                                                                |       | 4,453 |   |
| Increase in uncollected  fees on non-securitized earning assets                    |       | (45,625                                                               | )          | (50,533 | ) |
| Increase in deferred  revenue before amortization thereof                          |       | 74,013                                                                |       | — |   |
| Other                                                                              |       | 3,925                                                                 |       | 8,639 |   |
| Net cash provided  by operating activities                                         |       | 209,690                                                               |       | 105,505 |   |
| **Investing activities**                                                           |       |                                                                  |       |   |   |
| Investments in  equity-method investees                                            |       | (25,285                                                               | )          | — |   |
| Proceeds from  equity-method investments                                           |       | 14,146                                                                |       | — |   |
| Investments in  securitized earning assets                                         |       | (927,095                                                              | )          | (782,681 | ) |
| Proceeds from  securitized earning assets                                          |       | 793,931                                                               |       | 772,411 |   |
| Investments in  non-securitized earning assets                                     |       | (1,053,454                                                            | )          | (267,308 | ) |
| Proceeds from  non-securitized earning assets                                      |       | 976,148                                                               |       | 224,984 |   |
| Acquisitions of  sub-prime lenders’ assets                                    |       | (134,582                                                              | )          | (135,737 | ) |
| Purchases and development  of software, furniture, fixtures and equipment          |       | (15,410                                                               | )          | (19,007 | ) |
| Net cash used in  investing activities                                             |       | (371,601                                                              | )          | (207,338 | ) |
| **Financing activities**                                                           |       |                                                                  |       |   |   |
| Minority interests  distributions, net of contributions                            |       | (18,510                                                               | )          | (14,822 | ) |
| Proceeds from  exercise of stock options                                           |       | 3,308                                                                 |       | 1,036 |   |
| Purchase of  treasury stock                                                        |       | (100,134                                                              | )          | (23,873 | ) |
| Proceeds from  issuance of convertible senior notes                                |       | 250,000                                                               |       | — |   |
| Debt issuance  costs                                                               |       | (10,645                                                               | )          | — |   |
| Proceeds from  borrowings                                                          |       | 125,886                                                               |       | 87,378 |   |
| Repayment of  borrowings                                                           |       | (62,328                                                               | )          | (13,676 | ) |
| Net cash provided  by financing activities                                         |       | 187,577                                                               |       | 36,043 |   |
| **Net  increase (decrease) in cash**                                               |       | 25,666                                                                |       | (65,790 | ) |
| Cash and cash  equivalents at beginning of period                                  |       | 68,240                                                                |       | 122,526 |   |
| Cash and cash  equivalents at end of period                                        |       | $                                                                     | 93,906     |   | $ | 56,736 |   |
| **Supplemental cash flow information**                                             |       |                                                                  |       |   |   |
| Cash paid for  interest                                                            |       | $                                                                     | 18,950     |   | $ | 757 |   |
| Cash paid for  income taxes                                                        |       | $                                                                     | 75,011     |   | $ | 36,775 |   |
| **Supplemental non-cash information**                                              |       |                                                                  |       |   |   |
| Issuance of  warrant                                                               |       | $                                                                     | —     |   | $ | 25,610 |   |
| Notes payable  associated with capital leases                                      |       | $                                                                     | 5,022      |   | $ | 7,516 |   |
| Notes payable  associated with investments in securities                           |       | $                                                                     | 20,214     |   | $ | — |   |
| Accretion of  preferred stock dividends                                            |       | $                                                                     | —     |   | $ | 3,277 |   |
| Issuance of  restricted stock                                                      |       | $                                                                     | 6,973      |   | $ | 91 |   |

 

See accompanying notes.

6

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**CompuCredit Corporation and SubsidiariesNotes to CondensedConsolidated Financial Statements (Unaudited)September 30, 2005**

**1.**   Basis ofPresentation

The Company’s condensed consolidated financialstatements have been prepared in accordance with accounting principlesgenerally accepted in the United States of America (“GAAP”) for interimfinancial information and with the instructions to Form 10-Q and Article 10of Securities and Exchange Commission (“SEC”) Regulation S-X. Accordingly,they do not include all of the information and notes required by GAAP forcomplete consolidated financial statements. In the opinion of management, allnormal recurring adjustments considered necessary to fairly state the resultsfor the interim periods presented have been included. The preparation ofinterim condensed consolidated financial statements in conformity with GAAPrequires management to make estimates and assumptions that affect the reportedamounts of assets and liabilities and the disclosure of contingent assets andliabilities at the date of the financial statements, as well as the reportedamounts of revenues and expenses during the reporting period. Actual resultscould differ from these estimates. Certain estimates, such as credit losses,payment rates, discount rates and the yield earned on securitized receivables,significantly affect the Company’s reported gains and losses on securitizationsand income from retained interests in credit card receivables securitized (bothof which are components of fees and other income on securitized earning assetson the Company’s condensed consolidated statements of operations), as well asthe Company’s reported value of securitized earning assets on its condensedconsolidated balance sheets. Additionally, estimates of future credit losses onthe Company’s non-securitized loans and fees receivable have a significantimpact on the provision for loan losses within the Company’s condensedconsolidated statements of operations and loans and fees receivable, net, whichis a component of non-securitized earning assets, net on the Company’scondensed consolidated balance sheets. Operating results for the three and ninemonths ended September 30, 2005 are not necessarily predictive of resultsfor the year ending December 31, 2005. These unaudited condensedconsolidated financial statements should be read in conjunction with the notesto the consolidated financial statements for the year ended December 31,2004 contained in the Company’s Annual Report on Form 10-K filedwith the SEC.

Certain amounts in priorperiod financial statements have been reclassified to conform to the currentperiod presentation. The primary reclassification relates to combiningsecuritized earning assets and non-securitized earning assets and respectiveresults and cash flows thereon on the Company’s condensed consolidated balancesheets, statements of operations and statements of cash flows. All significantintercompany balances and transactions have been eliminated for financialreporting purposes.

**2.**   SignificantAccounting Policies and Condensed Consolidated Financial Statement Components

The following is a summaryof significant accounting policies followed in preparation of the condensedconsolidated financial statements, along with a discussion of significantcondensed consolidated balance sheet components.

7

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***Non-Securitized Earning Assets, Net***

Non-securitized earningassets, net on the Company’s condensed consolidated balance sheets includeloans and fees receivable, net, investments in previously charged-off receivablesand investments in securities, each of which is discussed separately below.Details of non-securitized earning assets, net balances are as follows (inthousands of dollars):

| ** **                                         | ** ** | **Balance at  September 30, 2005** | ** ** | **Balance at  December 31, 2004** | ** ** |
|----------------------------------------------------|------------|---------------------------------------------------|------------|--------------------------------------------------|------------|
| Loans and fees receivable, net |       |                                              | $          | 303,644                                          |       |   |   | $ | 94,055 |   |   |
| Investments in  previously charged-off receivables |       |                                              | 19,876     |                                             |       |   | 15,094 |   |   |
| Investments in  securities                         |       |                                              | 65,236     |                                             |       |   | 49,281 |   |   |
| Non-securitized earning  assets, net               |       |                                              | $          | 388,756                                          |       |   |   | $ | 158,430 |   |   |

 

***Loans and Fees Receivable,Net.****  *Loansand fees receivable, net include receivables associated with: the Company’slargely fee-based credit card offering to consumers at the lower end of theFICO scoring range; the Company’s micro-loan activities; and the Company’s AutoFinance segment, none of which have been securitized in off balance sheetsecuritizations. These receivables are shown net of an allowance foruncollectible loans and fees. Loans and fees receivable are also presented netof unearned fees (or “deferred revenue”) in accordance with Statement ofFinancial Accounting Standards No. 91, “Accounting for Nonrefundable Feesand Costs Associated with Originating or Acquiring Receivables and InitialDirect Costs of Leases.”

Loans and fees receivable associated with the Company’slargely fee-based credit card offering to consumers at the lower end of theFICO scoring range consist of finance charges and fees, as well as principalbalances receivable from this class of customer. In addition to finance chargesand late fees on principal balances, the fees associated with this particularproduct offering consist principally of activation, annual, monthlymaintenance, over-limit, cash advance and returned check fees. The activationfees are recognized over the estimated life of a customer (approximately oneyear), and the annual fees are recognized over the year to which they apply.Loans and fees receivable associated with the Company’s micro-loan activitiesinclude principal balances and associated fees due from consumers, as well asmarketing and servicing fees receivable from third-party financialinstitutions; these fees are recognized as earned—generally over a two-weekperiod. Loans and fees receivable associated with the Company’s auto financebusiness include principal balances and associated fees and interest, net ofthe unearned portion of loan discounts due from customers; discounts on theseloans are recognized over the life of each loan.

Theallowance for uncollectible loans and fees is provided for that portion of theloans and fees receivable that management believes will not ultimately becollected. The components of loans and fees receivable, net are as follows (inmillions of dollars):

| ** **                                  | ** ** | **Balance at  December 31, 2004** | ** ** | **Additions** | ** ** | **Subtractions** | ** ** | **Receivables  Added Through  Acquisitions** | ** ** | **Balance at  September 30, 2005** | ** ** |
|---------------------------------------------|------------|--------------------------------------------------|------------|---------------|------------|------------------|------------|---------------------------------------------------|------------|---------------------------------------------------|------------|
| Loans and fees  receivable, gross           |       |                                             | $          | 145.2         |       |             |       | $                                                 | 960.5      |                                              |       |   | $ | (816.8 | ) |   |   | $ | 152.0 |   |   |   | $ | 440.9 |   |   |
| Deferred revenue                            |       |                                             | (22.0      | )             |       |             | (117.4     | )                                                 |       |                                              | 88.5       |   |   |   | (24.9 | ) |   |   | (75.8 | ) |   |
| Allowance for  uncollectible loans and fees |       |                                             | (29.1      | )             |       |             | (106.8     | )                                                 |       |                                              | 74.4       |   |   |   | — |   |   |   | (61.5 | ) |   |
| Loans and fees  receivable, net             |       |                                             | $          | 94.1          |       |             |       | $                                                 | 736.3      |                                              |       |   | $ | (653.9 | ) |   |   | $ | 127.1 |   |   |   | $ | 303.6 |   |   |

 

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Interest income associated with loans and feesreceivable for the three and nine months ended September 30, 2005 and 2004is included in interest income on the accompanying condensed consolidatedstatements of operations under the consumer loans, including past due feescategory. Additionally, $75.4 million, $182.0 million, $41.3 million and$82.6 million of fee income associated with these loans and feesreceivable for the three and nine months ended September 30, 2005 and2004, respectively, is reflected in fees and other income from non-securitizedearning assets on the condensed consolidated statement of operations. As of September 30,2005, the weighted-average remaining amortization period for the$75.8 million of deferred revenue reflected in the above table was 8.2months.

***Investments in Previously Charged-Off Receivables.******  ***For the threeand nine months ended September 30, 2005, the following table shows aroll-forward of the Company’s investments in previously charged-off receivablesactivities (in thousands of dollars):

| ** **                                                                                                                                                                                                                           | ** ** | **Three Months  Ended  September 30, 2005** | ** ** | **Nine Months  Ended  September 30, 2005** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| Unrecovered  balance at beginning of period                                                                                                                                                                                          |       |                                                       | $          | 14,550                                                    |       |   |   | $ | 15,094 | ** ** |   |
| Acquisitions of  defaulted accounts                                                                                                                                                                                                  |       |                                                       | 15,883     |                                                      |       |   | 36,213 | ** ** |   |
| Cost-recovery  method income recognized on defaulted accounts (included as a  component of fees and other income on non-securitized earning assets on the  Company’s condensed consolidated statements of operations) |       |                                                       | 6,628      |                                                      |       |   | 41,620 | ** ** |   |
| Cost-recovery  method income recognized on bulk sale of receivables (See Note 5, “Sale  of Investments in Previously Charged-Off Receivables and Forward Flow  Contract.”)                                       |       |                                                       | —     |                                                      |       |   | 69,559 | ** ** |   |
| Cash collections                                                                                                                                                                                                                     |       |                                                       | (17,185    | )                                                         |       |   | (66,610 | **)** |   |
| Cash collections  on bulk sale of receivables (See Note 5, “Sale of Investments in  Previously Charged-Off Receivables and Forward Flow Contract.”)                                                         |       |                                                       | —     |                                                      |       |   | (76,000 | **)** |   |
| Unrecovered balance  at September 30, 2005                                                                                                                                                                                      |       |                                                       | $          | 19,876                                                    |       |   |   | $ | 19,876 | ** ** |   |
| Estimated remaining  collections (“ERC”)                                                                                                                                                                                   |       |                                                       | $          | 44,278                                                    |       |   |   | $ | 44,278 | ** ** |   |

 

In June of 2005, a subsidiary of the Company solda significant pool of its previously charged-off receivables; See Note 5, “Saleof Investments in Previously Charged-Off Receivables and Forward Flow Contract.”Remaining after this sale are the Company’s pools of previously charged-offreceivables primarily associated with accounts for which the debtors have filedfor bankruptcy protection under Chapter 13 of the United States Bankruptcy Code(“Chapter 13 Bankruptcies”) or accounts participating in or acquired inconnection with the subsidiary’s balance transfer program. Additionally, thesubsidiary of the Company is expected to continue to acquire for resale underthe Forward Flow Contract discussed in Note 5 certain previously charged-offreceivables from trusts, the receivables of which are serviced by the Company,as well as certain previously charged-off receivables associated with theCompany’s largely fee-based credit card offering to consumers at the lower endof the FICO scoring range. Included in cash collections in the above table is$2.8 million of amortized deferred revenue associated with a $67.0 million cashprepayment made to the Company under the Forward Flow Contract discussed inNote 5.

The life of each pool of charged-off receivablestypically acquired by the Company is generally estimated to be between 24 and36 months for normal delinquency charged-off accounts and approximately 60months for Chapter 13 Bankruptcies. The Company anticipates collecting 

9

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approximately 40.4%of the ERC of the existing accounts over the next twelve months, with thebalance to be collected thereafter.

***Investments in Securities.******  ***The Company periodicallyinvests through the open market in debt and equity securities that the Companyfeels will provide it with an adequate return. Generally, these debt and equitysecurities are purchased outright or partially funded using existing marginaccounts; see Note 11, “Notes Payable and Issuance of Convertible SeniorNotes,” below. The Company’s purchased debt securities generally are classifiedas trading securities. Additionally, the Company has occasionally receiveddistributions of debt securities from its equity-method investees; the Companyhas classified such distributed debt securities as held to maturity.

***Fees and Other Income on Non-Securitized EarningAssets***

Fees and other income on non-securitized earningassets include (1) lending fees associated with the Company’s micro-loanactivities; (2) fees associated with the Company’s largely fee-based cardoffering to consumers at the lower end of the FICO scoring system; (3) incomeassociated with the Company’s Fingerhut receivables while the Company has heldthem on balance sheet; (4) income associated with the Company’sinvestments in previously charged-off receivables; (5) gain associatedwith the Company’s bulk sale of previously charged-off receivables (See Note 5,“Sale of Investments in Previously Charged-Off Receivables and Forward FlowContract”); (6) transaction and other fees associated with the Company’sstored-value card offering; and (7) gains and losses associated withthe Company’s investments in debt securities.

Detailsof the components of fees and other income on non-securitized earning assetsfor the three and nine months ended September 30, 2005 and 2004 are asfollows:

| ** **                                                                                                                                                                          | ** ** | **For the three months  ended September 30,** | ** ** | **For the nine months  ended September 30,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                                                                                                                                                          | ** ** | **2005**                                                               | ** ** | **2004**                                                              | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                                                                                                                                          | ** ** | **(In thousands)**                                                | ** ** |
| Fees and other income on  non-securitized earning assets:                                                                                                                           |       |                                                                   |       |                                                                  |       |   |   |   |   |
| Retail micro-loan fees                                                                                                                                                              |       | $                                                                      | 22,510     |                                                                  | $          | 15,347 |   | $ | 58,713 |   | $ | 18,398 |   |
| Fees on non-securitized credit card receivables                                                                                                                                     |       | 52,123                                                                 |       | 25,277                                                                |       | 120,078 |   | 63,482 |   |
| Fingerhut receivables while on balance sheet                                                                                                                                        |       | 28,350                                                                 |       | 28,660                                                                |       | 84,494 |   | 28,660 |   |
| Investments in previously charged-off receivables                                                                                                                                   |       | 6,628                                                                  |       | 13,871                                                                |       | 41,620 |   | 40,858 |   |
| Gain on bulk sale of previously charged-off  receivables (See Note 5, “Sale  of Investments in Previously Charged-Off Receivables and Forward Flow  Contract.”) |       | —                                                                 |       | —                                                                |       | 69,559 |   | — |   |
| Other                                                                                                                                                                               |       | 2,736                                                                  |       | 1,445                                                                 |       | 12,039 |   | 1,701 |   |
| Total                                                                                                                                                                               |       | $                                                                      | 112,347    |                                                                  | $          | 84,600 |   | $ | 386,503 |   | $ | 153,099 |   |

 

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***Fees and Other Income on Securitized Earning Assets***

Feesand other income on securitized earning assets include (1) annualmembership, over-limit, cash advance, returned check and other fees associatedwith the Company’s credit card products, (2) securitization gains andlosses and (3) income from retained interests in credit card receivablessecuritized, each of which is detailed in the following table for the three andnine months ended September 30, 2005 and 2004.

| ** **                                                             | ** ** | **For the three months  ended September 30,** | ** ** | **For the nine months  ended September 30,** | ** ** |
|------------------------------------------------------------------------|------------|------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                                             | ** ** | **2005**                                                               | ** ** | **2004**                                                              | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                             | ** ** | **(In thousands)**                                                | ** ** |
| Securitization  income                                                 |       | $                                                                      | 34,018     |                                                                  | $          | 1,651 |   | $ | 36,797 |   | $ | 1,651 |   |
| Income from  retained interests in credit card receivables securitized |       | 7,745                                                                  |       | 33,609                                                                |       | 33,399 |   | 69,600 |   |
| Fees on  securitized receivables                                       |       | 14,740                                                                 |       | 19,126                                                                |       | 46,288 |   | 58,929 |   |
| Total fees and other  income on securitized earning assets             |       | $                                                                      | 56,503     |                                                                  | $          | 54,386 |   | $ | 116,484 |   | $ | 130,180 |   |

 

***Stock Options***

The Company has five stock-based employee compensationplans (an employee stock purchase plan, three stock option plans and arestricted stock plan). As permitted by Statement of Financial AccountingStandards No. 123, “Accounting for Stock-Based Compensation” (“Statement No. 123”),the Company accounts for its stock option plans under the recognition andmeasurement principles of Accounting Principles Board Opinion No. 25, “Accountingfor Stock Issued to Employees” (“APB 25”), and its related interpretations.Because all options granted under the Company’s stock option plans had anexercise price equal to the market value of the underlying common stock on thedate of grant, no stock-based compensation cost is reflected in net incomeunder the Company’s application of APB 25. The Company issued no stock optionsduring the nine months ended September 30, 2005.

Thefollowing table presents the effects on net income and net income per commonshare if the Company had recognized compensation expense under the fair valuerecognition provisions of Statement No. 123:

| ** **                                                                               | ** ** | **For the three months  ended September 30,** | ** ** | **For the nine months  ended September 30,** | ** ** |
|------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                                                               | ** ** | **2005**                                                               | ** ** | **2004**                                                              | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                                               | ** ** | **(In thousands, except per share data)**     | ** ** |
| Net income  attributable to common shareholders, as reported                             |       | $                                                                      | 52,663     |                                                                  | $          | 37,887 |   | $ | 168,375 |   | $ | 69,359 |   |
| Stock-based  employee compensation expense determined under fair value basis, net of tax |       | (188                                                                   | )          | (187                                                                  | )          | (566 | ) | (527 | ) |
| Pro-forma net  income                                                                    |       | $                                                                      | 52,475     |                                                                  | $          | 37,700 |   | $ | 167,809 |   | $ | 68,832 |   |
| Net income per  common share:                                                            |       |                                                                   |       |                                                                  |       |   |   |   |   |
| Basic—as reported                                                                   |       | $                                                                      | 1.09       |                                                                  | $          | 0.77 |   | $ | 3.37 |   | $ | 1.41 |   |
| Basic—pro-forma                                                                     |       | $                                                                      | 1.08       |                                                                  | $          | 0.76 |   | $ | 3.36 |   | $ | 1.40 |   |
| Diluted—as  reported                                                                |       | $                                                                      | 1.05       |                                                                  | $          | 0.75 |   | $ | 3.27 |   | $ | 1.39 |   |
| Diluted—pro-forma                                                                   |       | $                                                                      | 1.04       |                                                                  | $          | 0.75 |   | $ | 3.26 |   | $ | 1.38 |   |

 

Due to a variety of factors, including the timing andnumber of awards, the above pro-forma results may not be indicative of thefuture effect of stock option expensing on the Company’s results of operations.

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In December 2004, theFASB issued a revised Statement of Financial Accounting Standards 123, “ShareBased Payment” (“Statement No. 123R”), to address the accounting forstock-based employee plans. The statement eliminates the ability to account forshare-based compensation transactions using APB 25 and instead requires thatsuch transactions be accounted for using a fair-value-based method ofaccounting. The adoption of this statement will result in income statementeffects similar to those reflected in the above pro-forma computations. TheCompany is required to adopt Statement No. 123R for interim and annualreporting periods beginning after December 15, 2005, and the adoption ofthis statement is not expected to have a material effect on the Company’s financialstatements.

**3.**   SegmentReporting

The Company operates primarily within one industryconsisting of five reportable segments by which it manages its business. TheCompany’s five reportable segments are: Credit Cards; Investments in PreviouslyCharged-Off Receivables; Retail Micro-Loans; Auto Finance; and Other.

TheCompany measures the profitability of its reportable segments based on theirincome after allocation of specific costs and corporate overhead. Overheadcosts are allocated based on headcounts and other applicable measures in orderto better align costs with the associated revenues. Summary operating segmentinformation is as follows (in thousands of dollars):

| **Three Months Ended  September 30, 2005**                                   | ** ** | ** ** | ** ** | **Credit Cards** | ** ** | **Investments in  Previously  Charged-Off  Receivables** | ** ** | **Retail  Micro-Loans** | ** ** | **Auto Finance** | ** ** | **Other** | ** ** | **Total** | ** ** |
|---------------------------------------------------------------------------------------------|------------|------------|------------|-----------------------|------------|---------------------------------------------------------------|------------|-------------------------|------------|-----------------------|------------|-----------|------------|-----------|------------|
| **Net interest income  (expense), fees and other income on non-securitized earning assets** | ** ** |       | $          | 66,266                |       |                                                          |       | $                       | 6,628      |                  |       |      | $          | 16,607    |       |   |   | $ | 8,675 |   |   | $ | (239 | ) | $ | 97,937 |   |
| **Total other operating  income**                                                           |       |       | $          | 99,443                |       |                                                          |       | $                       | 2,279      |                  |       |      | $          | 5,481     |       |   |   | $ | — |   |   | $ | — |   | $ | 107,203 |   |
| **Income before income  taxes**                                                             |       |       | $          | 84,303                |       |                                                          |       | $                       | 5,047      |                  |       |      | $          | 2,953     |       |   |   | $ | 2,006 |   |   | $ | (11,375 | ) | $ | 82,934 |   |
| **Loans and fees  receivable, gross**                                                       |       |       | $          | 239,484               |       |                                                          |       | $                       | —     |                  |       |      | $          | 49,308    |       |   |   | $ | 150,756 |   |   | $ | 1,314 |   | $ | 440,862 |   |
| **Loans and fees receivable,  net**                                                         |       |       | $          | 137,277               |       |                                                          |       | $                       | —     |                  |       |      | $          | 42,941    |       |   |   | $ | 122,722 |   |   | $ | 704 |   | $ | 303,644 |   |
| **Total assets**                                                                            |       |       | $          | 1,104,905             |       |                                                          |       | $                       | 36,347     |                  |       |      | $          | 187,565   |       |   |   | $ | 168,807 |   |   | $ | 10,064 |   | $ | 1,507,688 |   |

 

| **Nine Months Ended  September 30, 2005**                          | ** ** | ** ** | ** ** | **Credit Cards** | ** ** | **Investments in  Previously  Charged-Off  Receivables(1)** | ** ** | **Retail  Micro-Loans** | ** ** | **Auto Finance** | ** ** | **Other** | ** ** | **Total** | ** ** |
|-----------------------------------------------------------------------------------|------------|------------|------------|-----------------------|------------|------------------------------------------------------------------|------------|-------------------------|------------|-----------------------|------------|-----------|------------|-----------|------------|
| **Net interest income,  fees and other income on non-securitized earning assets** |       |       | $          | 169,033               |       |                                                             |       | $                       | 111,179    |                  |       |      | $          | 45,619    |       |   |   | $ | 18,228 |   |   | $ | 966 |   | $ | 345,025 |   |
| **Total other operating  income**                                                 |       |       | $          | 257,380               |       |                                                             |       | $                       | 4,295      |                  |       |      | $          | 17,844    |       |   |   | $ | — |   |   | $ | — |   | $ | 279,519 |   |
| **Income before income  taxes**                                                   |       |       | $          | 188,596               |       |                                                             |       | $                       | 89,705     |                  |       |      | $          | 6,560     |       |   |   | $ | 4,979 |   |   | $ | (24,683 | ) | $ | 265,157 |   |
| **Loans and fees  receivable, gross**                                             |       |       | $          | 239,484               |       |                                                             |       | $                       | —     |                  |       |      | $          | 49,308    |       |   |   | $ | 150,756 |   |   | $ | 1,314 |   | $ | 440,862 |   |
| **Loans and fees  receivable, net**                                               |       |       | $          | 137,277               |       |                                                             |       | $                       | —     |                  |       |      | $          | 42,941    |       |   |   | $ | 122,722 |   |   | $ | 704 |   | $ | 303,644 |   |
| **Total assets**                                                                  |       |       | $          | 1,104,905             |       |                                                             |       | $                       | 36,347     |                  |       |      | $          | 187,565   |       |   |   | $ | 168,807 |   |   | $ | 10,064 |   | $ | 1,507,688 |   |

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(1)    Net interest income, fees and other income onnon-securitized earnings assets includes $69.6 million of gain on the bulk saleof previously charged-off receivables (See Note5, “Sale of Investments in Previously Charged-Off Receivables and Forward FlowContract.”).

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| **Three Months Ended  September 30, 2004**                         | ** ** | ** ** | ** ** | **Credit Cards** | ** ** | **Investments in  Previously  Charged-Off  Receivables** | ** ** | **Retail  Micro-Loans** | ** ** | **Auto Finance** | ** ** | **Other** | ** ** | **Total** | ** ** |
|-----------------------------------------------------------------------------------|------------|------------|------------|-----------------------|------------|---------------------------------------------------------------|------------|-------------------------|------------|-----------------------|------------|-----------|------------|-----------|------------|
| **Net interest income,  fees and other income on non-securitized earning assets** |       |       | $          | 44,376                |       |                                                          |       | $                       | 13,857     |                  |       |      | $          | 11,164    |       |   |   | $ | — |   |   | $ | 118 |   | $ | 69,515 |   |
| **Total other operating  income**                                                 |       |       | $          | 75,783                |       |                                                          |       | $                       | —     |                  |       |      | $          | 7,793     |       |   |   | $ | — |   |   | $ | — |   | $ | 83,576 |   |
| **Income before income  taxes**                                                   |       |       | $          | 59,265                |       |                                                          |       | $                       | 3,915      |                  |       |      | $          | 2,705     |       |   |   | $ | — |   |   | $ | (5,866 | ) | $ | 60,019 |   |
| **Loans and fees  receivable, gross**                                             |       |       | $          | 98,291                |       |                                                          |       | $                       | —     |                  |       |      | $          | 32,610    |       |   |   | $ | — |   |   | $ | 885 |   | $ | 131,786 |   |
| **Loans and fees  receivable, net**                                               |       |       | $          | 54,503                |       |                                                          |       | $                       | —     |                  |       |      | $          | 27,221    |       |   |   | $ | — |   |   | $ | 574 |   | $ | 82,298 |   |
| **Total assets**                                                                  |       |       | $          | 774,797               |       |                                                          |       | $                       | 12,739     |                  |       |      | $          | 155,421   |       |   |   | $ | — |   |   | $ | 4,203 |   | $ | 947,160 |   |

 

| **Nine Months Ended  September 30, 2004**                               | ** ** | ** ** | ** ** | **Credit Cards** | ** ** | **Investments in  Previously  Charged-Off  Receivables** | ** ** | **Retail  Micro-Loans** | ** ** | **Auto Finance** | ** ** | **Other** | ** ** | **Total** | ** ** |
|----------------------------------------------------------------------------------------|------------|------------|------------|-----------------------|------------|---------------------------------------------------------------|------------|-------------------------|------------|-----------------------|------------|-----------|------------|-----------|------------|
| **Net interest income, fees and other income on  non-securitized earning assets** |       |       | $          | 77,943                |       |                                                          |       | $                       | 40,858     |                  |       |      | $          | 13,269    |       |   |   | $ | — |   |   | $ | 209 |   | $ | 132,279 |   |
| **Total other operating income**                                                       |       |       | $          | 206,240               |       |                                                          |       | $                       | —     |                  |       |      | $          | 10,204    |       |   |   | $ | — |   |   | $ | — |   | $ | 216,444 |   |
| **Income before income taxes**                                                         |       |       | $          | 113,373               |       |                                                          |       | $                       | 11,427     |                  |       |      | $          | 3,512     |       |   |   | $ | — |   |   | $ | (14,425 | ) | $ | 113,887 |   |
| **Loans and fees receivable, gross**                                                   |       |       | $          | 98,291                |       |                                                          |       | $                       | —     |                  |       |      | $          | 32,610    |       |   |   | $ | — |   |   | $ | 885 |   | $ | 131,786 |   |
| **Loans and fees receivable, net**                                                     |       |       | $          | 54,503                |       |                                                          |       | $                       | —     |                  |       |      | $          | 27,221    |       |   |   | $ | — |   |   | $ | 574 |   | $ | 82,298 |   |
| **Total  assets**                                                                      |       |       | $          | 774,797               |       |                                                          |       | $                       | 12,739     |                  |       |      | $          | 155,421   |       |   |   | $ | — |   |   | $ | 4,203 |   | $ | 947,160 |   |

 

**4.   Shareholders’ Equity**

***Treasury Stock***

The Company’s Board of Directors has authorized aprogram to repurchase up to 10 million shares of the Company’s outstandingcommon stock. Under the plan, the Company repurchases shares of its commonstock from time to time either on the open market or through privatelynegotiated transactions in compliance with SEC guidelines. Concurrent with theCompany’s second quarter of 2005 issuance of $250.0 million of convertiblesenior notes due 2025 (see Note 11, “Notes Payable and Issuance of ConvertibleSenior Notes”), the Company repurchased 2,994,000 shares of the Company’scommon stock for $100.0 million.

At its discretion, theCompany will use treasury shares to satisfy option exercises and restrictedstock awards. The Company uses the cost approach when accounting for therepurchase and reissuance of its treasury stock. During the three and ninemonths ended September 30, 2005, the Company reissued 213,924 and 376,924treasury shares, respectively, in satisfaction of option exercises at a cost of$1.2 million and $2.1 million, respectively.

***Restricted Share Awards***

The Company granted 3,650and 230,115 shares of restricted stock under its 2004 Restricted Stock Plan forthe three and nine months ended September 30, 2005, respectively. The fairmarket value of granted restricted shares as of the respective grant dates is shownnet of amortization as deferred compensation within consolidated shareholders’equity as of the close of each accounting period. The Company’s restrictedshare grants generally vest over a range of 24 to 36 months and are beingamortized to compensation expense ratably over the vesting period.

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**5.   Saleof Investments in Previously Charged-Off Receivables and Forward Flow Contract**

In June of 2005, asubsidiary of the Company sold a portfolio of charged-off credit cardreceivables having a face amount of approximately $2.9 billion to EncoreCapital Group, Inc. (“Encore”) and agreed to sell Encore up to $3.25billion in face amount of the future charged-off credit card receivables atestablished pricing over the next five years (the “Forward Flow Contract”). Asconsideration for these transactions, the subsidiary received $143.0 million incash. The purchase price included $76.0 million related to the portfolio ofcharged-off credit card receivables and $67.0 million of deferred revenuerelated to the Forward Flow Contract. The sale of the portfolio of charged-offcredit card receivables resulted in a gain of $69.6 million, which has beenrecorded in fees and other income on non-securitized earning assets on theCompany’s condensed consolidated statements of operations for the nine monthsended September 30, 2005. Ten million dollars of the $67.0 million indeferred revenue related to the Forward Flow Contract is required to be held inescrow until the performance of certain conditions under the contract and isincluded in restricted cash on the Company’s condensed consolidated balancesheet; as such, this $10 million will be excluded from income recognitioncomputations until the conditions are satisfied. The remaining $57.0 million ofdeferred revenue will be recognized into income over the life of the contractas the Company’s subsidiary delivers its associated volumes of charged-offcredit card receivables to Encore in the future. Based on the Forward FlowContract, the Company’s subsidiary is expected to purchase for delivery toEncore over the life of the contract, certain previously charged-offreceivables from trusts, the receivables of which are serviced by the Company,as well as certain previously charged-off receivables associated with theCompany’s largely fee-based credit card offering to consumers at the lower endof the FICO scoring range. Any shortfalls in delivery of minimum periodicdollar amounts of previously charged-off receivables to Encore couldresult in the subsidiary being required to return a portion of the purchaseprice related to the Forward Flow Contract. During the third quarter of 2005,$2.8 million of deferred revenue associated with the Forward Flow Contractwas recognized and is included in fees and other income on non-securitizedearning assets on the accompanying condensed consolidated statements ofoperations.

**6.   Investmentsin Equity-Method Investees**

In January 2005, the Company purchased a 47.5%interest in a joint venture for $10.9 million, including transactioncosts. A wholly owned subsidiary of the Company and two unaffiliated investorsformed this entity in connection with the acquisition of $376.3 million(face amount) in credit card receivables. These receivables were thentransferred to a subsidiary of the joint venture, and then on to a trustpursuant to a Statement of Financial Accounting Standards No. 140, “Accountingfor Transfers and Servicing of Financial Assets and Extinguishments ofLiabilities” (“Statement No. 140”), transfer in exchange for notes and asubordinated, certificated interest issued by the trust. The Company accountsfor its investment in this joint venture and other similar investments inexistence as of September 30, 2005 under the equity method of accounting,and these investments are included in investment in equity-method investees onthe Company’s condensed consolidated balance sheets.

During the second quarterof 2005, the Company made an $11.0 million payment in final settlement of itsobligations to a lender that financed the Company’s original equity investmentin CSG, LLC (“CSG’’), an equity-method investee. Under the terms of theoriginal loan agreement, in addition to principal payments to be made, whichwere repaid during the fourth quarter of 2002, the lender was entitled toreceive 15% of all future excess cash flows received by the Company from itsinvestment in CSG. The $11.0 settlement payment to the lender is includedwithin interest expense in the condensed consolidated statements of operationsfor the nine month period ended September 30, 2005; because of thispayment, the Company is now entitled to receive 100% of all future excess cashflows attributable to the Company’s investment in CSG. The Company anticipatesthat CSG will resume distributions of excess cash flows to its members(including the Company) during the fourth quarter of 2005.

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**7.   Fingerhut Receivables**

In September 2005, the Company sold its Fingerhutreceivables to a trust pursuant to a Statement No. 140 transfer inexchange for a subordinated, certificated interest issued by the trust (“FingerhutTrust”), thereby resulting in securitization income of $31.6 million. Becausethe fees earned by the Company for servicing the Fingerhut Trust receivables donot represent adequate compensation for servicing, the Company has recorded aservicing liability associated with its servicing obligation; as of September 30,2005, this servicing liability was $0.8 million.

Prior to theirsecuritization in September 2005, the then previously de-securitizedFingerhut receivables generated income of $28.4 million and $84.5 millionfor the three and nine months ended September 30, 2005, respectively, and$28.7 million for both the three and nine months ended September 30, 2004,such amounts being included as a component of fees and other income on non-securitizedearning assets on the Company’s condensed consolidated statements ofoperations. Included within the above amounts are amortization and recoveriesof deferred gain on the previously de-securitized Fingerhut receivablesin the amounts of $13.5 million and $23.4 million for the three and ninemonths ended September 30, 2005, respectively, and $5.2 million for boththe three and nine months ended September 30, 2004.

**8.   CreditCard Receivables Acquisition**

In January 2005, one of the Company’smajority-owned subsidiaries purchased $72.1 million (face amount) incredit card receivables for $42.0 million, including transaction costs.These receivables were then transferred to a trust pursuant to a Statement No. 140transfer in exchange for notes and a subordinated, certificated interest issuedby the trust, thereby resulting in securitization income of $1.6 million.To fund this purchase, the Company contributed $2.0 million into itsmajority-owned subsidiary. The assets and liabilities of the majority-ownedsubsidiary, and its associated earnings from operations, are presented as partof the Company’s condensed consolidated financial statements with a minorityinterest being shown to reflect the unaffiliated investor’s portion of theoperations. The minority interest associated with this subsidiary is not shownnet of tax because the subsidiary is a pass-through entity for income taxpurposes. For a fee that represents adequate compensation for servicing, theCompany has agreed to service the entire portfolio of credit card receivablesunderlying the trust.

See separately thediscussion of credit card receivables acquired during 2005 by the Company’sequity-method investee in Note 6, “Investments in Equity-MethodInvestees,” above.

**9.   Auto Finance Acquisition**

On April 1, 2005, theCompany completed the acquisition of Wells Fargo Financial’s “Consumer AutoReceivables” business unit. This acquisition included all of Consumer AutoReceivables’ assets, business operations and employees for approximately $121.5million including transaction costs. The acquisition was financed using $88.2million in debt (see Note 11, “Notes Payable and Issuance of Convertible SeniorNotes”) with the remainder in cash. Based on fair value purchase accounting,Consumer Auto Receivables had $128.9 million auto-finance-relatedreceivables (at face, net of unearned discounts) and operated in thirty-eightstates through its twelve branches, three regional processing centers andnational collection center at its Lake Mary, Florida headquarters. Thebusiness has approximately 300 employees. The results of operations of the autofinance business are included in the Company’s condensed consolidated financialstatements subsequent to the acquisition date and are treated as a separatesegment as shown in Note 3, “Segment Reporting,” above. Goodwill ofapproximately $22.5 million resulted from this transaction.

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**10.   Off Balance Sheet Arrangements**

The Company securitizes through a master trust all ofits credit card receivables originated on a daily basis under its primarythird-party financial institution relationship (the “originated portfolio”),except for those credit card receivables underlying the Company’s largelyfee-based card offering to consumers at the lower end of the FICO scoringrange. The securitized credit card receivables are transferred to a mastertrust, which issues notes representing undivided ownership interests in theassets of the master trust. Additionally, during the first quarter of 2005, theCompany acquired receivables from a third party and subsequently securitizedthem. (See Note 8, “Credit Card Receivables Acquisition,” for a discussionof the first quarter of 2005 acquisition.)

All of the Company’s originated and purchased creditcard receivables, with the exception of those receivables associated with itslargely fee-based card offering to consumers at the lower end of the FICOscoring range, are currently held by securitization trusts. The exclusiveinterest of the Company in these securitized receivables is in the form ofretained interests. GAAP requires the Company to treat its transfers to thesecuritization trusts as sales, and the receivables are removed from theCompany’s condensed consolidated balance sheets. Under Statement No. 140,an entity recognizes the assets it controls and liabilities it has incurred,and derecognizes the financial assets for which control has been surrenderedand all liabilities that have been extinguished. An entity is considered tohave surrendered control over the transferred assets and, therefore, to havesold the assets if the following conditions are met:

1.                The transferredassets have been isolated from the transferor and put presumptively beyond thereach of the transferor and its creditors.

2.                Each transfereehas the right to pledge or exchange the assets it has received, and nocondition both constrains the transferee from taking advantage of its right topledge or exchange and provides more than a trivial benefit to the transferor.

3.                The transferordoes not maintain effective control over the transferred assets through either (i) anagreement that both entitles and obligates the transferor to repurchase orredeem them before their maturity, or (ii) the ability to unilaterallycause the holder to return specific assets, other than through a clean-up call.

The securitization transactions do not affect therelationship the Company has with its customers, and the Company continues toservice the securitized credit card receivables.

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Thetable below summarizes the Company’s securitization activity for the periodspresented. As with other tables included herein, it does not include thesecuritization activity of the Company’s equity-method investees:

| ** **                                                                | ** ** | **For the three months ended  September 30,** | ** ** | **For the nine months ended  September 30,** | ** ** |
|---------------------------------------------------------------------------|------------|-------------------------------------------------------------------|------------|------------------------------------------------------------------|------------|
| ** **                                                                | ** ** | **2005**                                                          | ** ** | **2004**                                                         | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                                | ** ** | **(In thousands)**                                           | ** ** |
| Gross amount of  receivables securitized at period end                    |       | $                                                                 | 1,649,550  |                                                             | $          | 1,710,585 |   | $ | 1,649,550 |   | $ | 1,710,585 |   |
| Proceeds from  collections reinvested in revolving-period securitizations |       | $                                                                 | 275,484    |                                                             | $          | 243,898 |   | $ | 780,128 |   | $ | 667,081 |   |
| Excess cash flows  generated on securitized receivables                   |       | $                                                                 | 63,645     |                                                             | $          | 72,303 |   | $ | 185,351 |   | $ | 207,523 |   |
| Pretax  securitization income                                             |       | $                                                                 | 34,018     |                                                             | $          | 1,651 |   | $ | 36,797 |   | $ | 1,651 |   |
| Income from  retained interests in credit card receivables securitized    |       | 7,745                                                             |       | 33,609                                                           |       | 33,399 |   | 69,600 |   |
| Fees on  securitized receivables                                          |       | 14,740                                                            |       | 19,126                                                           |       | 46,288 |   | 58,929 |   |
| Total fees and other  income on securitized earning assets                |       | $                                                                 | 56,503     |                                                             | $          | 54,386 |   | $ | 116,484 |   | $ | 130,180 |   |

 

The investors in the Company’s securitizationtransactions have no recourse against the Company for its customers’ failure topay their credit card receivables. However, the Company’s retained interestsare subordinated to the investors’ interests until the investors have beenfully paid.

Generally, all collections received from thecardholders underlying each securitization are included in the securitizationcash flows. This includes collections from the cardholders for interest, feesand other charges on the accounts and collections from the cardholders repayingthe principal portion of their account balances. In general, the cash flows arethen distributed to the Company as servicer for its servicing fee, to theinvestors as interest on their outstanding notes, to the investors to repay anyportion of their outstanding notes that becomes due and payable and to theCompany as the seller to fund new purchases. Any collections from cardholdersremaining each month after making the various payments noted above generallyare paid to the Company on its retained interests.

The retained interests associated with the credit cardreceivables that the Company has securitized are carried at estimated fairmarket value within the securitized earning assets category on the Company’scondensed consolidated balance sheets, and because they are classified astrading securities, any changes in fair value are included in income. Becausequoted market prices for the Company’s retained interests are generally notavailable, the Company estimates fair value based on the estimated presentvalue of future cash flows using management’s best estimates of keyassumptions.

The measurements of retained interests associated withCompany-arranged securitizations are dependent upon management’s estimates offuture cash flows using the cash-out method. Under the cash-out method,the future cash flows (including the release of any cash related to creditenhancements) are recorded at a discounted value. The cash flows are discountedbased on the timing of when the Company expects to receive the cash flows. Thediscount rates are based on management’s estimates of returns that would berequired by investors in an investment with similar terms and credit quality.Yields on the credit card receivables are estimated based on the stated annualpercentage rates in the credit card agreements. Estimated default and paymentrates are based on historical results, adjusted for expected changes based onthe Company’s credit risk models. Credit card receivables are typically chargedoff when the receivables become 180 days past due, although earlier chargeoffs may occur specifically related to 

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accounts of bankrupt ordeceased customers. Bankrupt and deceased customers’ accounts are typicallycharged off within 30 days of verification.

TheCompany’s retained interests in credit card receivables securitized (labeled assecuritized earning assets on the condensed consolidated balance sheets)include the following:

| ** **                        | ** ** | **September 30,  2005** | ** ** | **December 31,  2004** | ** ** |
|-----------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                        | ** ** | **(In thousands)**      | ** ** |
| I/O strip                         |       |                         | $          | 62,972                      |       |   |   | $ | 91,654 |   |   |
| Accrued interest  and fees        |       |                         | 12,940     |                        |       |   | 12,603 |   |   |
| Servicing  liability              |       |                         | (1,098     | )                           |       |   | (6,336 | ) |   |
| Amounts due from  securitization  |       |                         | 9,188      |                        |       |   | 6,511 |   |   |
| Fair value of  retained interests |       |                         | 630,367    |                        |       |   | 432,286 |   |   |
| Securitized  earning assets       |       |                         | $          | 714,369                     |       |   |   | $ | 536,718 |   |   |

 

The I/O strip reflects the fair value of the Company’srights to future income from Company-arranged securitizations and includescertain credit enhancements. The I/O strip decreased during the nine monthsended September 30, 2005 principally due to reduced receivables levelswithin the trust underlying the Company’s 2003 Providian portfolio acquisition(the “Embarcadero Trust”), an increased payment rate experienced within theCompany’s originated portfolio master trust and an increase in theweighted-average expected credit loss rate assumption used in the Company’sretained interests valuation models. Partially offsetting this decrease was anincrease in yield and a reduction in the residual cash flows discount rate usedto value the I/O strip as of September 30, 2005. (See the table below forthe assumptions used to value the I/O strip as of September 30, 2005). Theslight increase in accrued interest and fees corresponds with the increase inreceivables within the Company’s originated portfolio master trust and theinclusion of the receivables within the Fingerhut Trust offset by the netreductions in receivables levels within the Embarcadero Trust. The servicingliability reflects, for those securitization structures for which servicingcompensation is not adequate, the fair value of the costs to service thereceivables above and beyond the servicing income the Company expects toreceive from the securitizations. Notwithstanding the new servicing liabilityassociated with the September 2005 Fingerhut receivables securitization, theservicing liability decreased slightly consistent with reductions inreceivables levels to which the servicing liability relates. The fair value ofretained interests includes the Company’s interests in its securitizations. Thefair value of retained interests increased between December 31, 2004 and September 30,2005, principally due to the effects of decreased draws of cash against theCompany’s originated portfolio master trust securitization facilities, as wellas the aforementioned resecuritization of the Fingerhut receivables. Given theliquidity generated for the Company based on the second quarter of 2005 Encoretransaction (see Note 5, “Sale of Investments in Previously Charged-OffReceivables and Forward Flow Contract”) and the Company’s $250.0 millionconvertible senior debt issuance (see Note 11, “Notes Payable and Issuance ofConvertible Senior Notes”),****theCompany funded the majority of cardholder purchases underlying its originatedportfolio master trust during the second and third quarters of 2005, ratherthan drawing against originated portfolio master trust securitization facilitiesto fund these purchases.

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Changesin any of the assumptions used to value the Company’s retained interests in itssecuritizations could impact the Company’s fair value estimates. Theweighted-average key assumptions used to estimate the fair value of the Company’sretained interests in the receivables it has securitized are presented below:

| ** **                              | ** ** | **September 30,  2005** | ** ** | **December 31,  2004** | ** ** | **September 30,  2004** | ** ** |
|-----------------------------------------|------------|------------------------------|------------|-----------------------------|------------|------------------------------|------------|
| Yield  (annualized)                     |       |                         | 30.0       | %                           |       |                         | 29.4       | % |   |   | 28.9 | % |   |
| Payment rate  (monthly)                 |       |                         | 6.6        |                        |       |                         | 6.3        |   |   |   | 6.4 |   |   |
| Expected credit  loss rate (annualized) |       |                         | 14.1       |                        |       |                         | 13.7       |   |   |   | 13.0 |   |   |
| Residual cash  flows discount rate      |       |                         | 14.5       |                        |       |                         | 17.4       |   |   |   | 15.5 |   |   |
| Servicing liability  discount rate      |       |                         | 14.0       |                        |       |                         | 14.0       |   |   |   | 14.0 |   |   |

 

The decrease in the residual cash flows discount ratecorresponds with new market evidence of tightened spreads on credit cardsecuritization notes based upon the sale to third parties of subordinated bondsin a securitization in the second quarter of 2005 and the renewal atsignificantly lower pricing of two-year variable funding notes within theCompany’s originated portfolio master trust during the third quarter of 2005,coupled with significantly increased overall collateral enhancement levelswithin the originated portfolio master trust during the second and thirdquarter of 2005 given the Company’s funding of cardholder purchases asdiscussed above. These beneficial effects were offset somewhat by increases inthe LIBOR rate over the same period. The Company’s Statement No. 140models recognize in computing the residual cash flows discount rate thatvariations in collateral enhancement levels affect the returns that investorsrequire within securitization structures.

AtSeptember 30, 2005, the following illustrates the hypothetical effect ofan adverse 5 and 10 percent change in key economic assumptions on theretained interests in credit card receivables securitized (dollars inthousands):

| ** **                                    | ** ** | **Credit Card  Receivables** | ** ** |
|-----------------------------------------------|------------|-----------------------------------|------------|
| **Yield  (annualized)**                       |       |                              | 30.0       | % |   |
| *Impact  on fair value of 5% adverse change*  |       |                              | $          | (13,239 | ) |   |
| *Impact  on fair value of 10% adverse change* |       |                              | $          | (26,477 | ) |   |
| **Payment rate (monthly)**                    |       |                              | 6.6        | % |   |
| *Impact  on fair value of 5% adverse change*  |       |                              | $          | (1,466 | ) |   |
| *Impact  on fair value of 10% adverse change* |       |                              | $          | (3,250 | ) |   |
| **Expected credit loss rate (annualized)**    |       |                              | 14.1       | % |   |
| *Impact  on fair value of 5% adverse change*  |       |                              | $          | (5,928 | ) |   |
| *Impact  on fair value of 10% adverse change* |       |                              | $          | (11,857 | ) |   |
| **Residual cash flows discount rate**         |       |                              | 14.5       | % |   |
| *Impact  on fair value of 5% adverse change*  |       |                              | $          | (1,957 | ) |   |
| *Impact  on fair value of 10% adverse change* |       |                              | $          | (3,899 | ) |   |
| **Servicing discount rate**                   |       |                              | 14.0       | % |   |
| *Impact  on fair value of 5% adverse change*  |       |                              | $          | (85 | ) |   |
| *Impact on fair value of 10%  adverse change* |       |                              | $          | (171 | ) |   |

 

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These sensitivities are hypothetical and should beused with caution. As the figures indicate, changes in fair value based on a 5%and a 10% variation in assumptions generally cannot be extrapolated because therelationship of the change in assumption to the change in fair value of theretained interests in credit card receivables securitized may not be linear.Also, in this table, the effect of a variation in a particular assumption onthe fair value of the retained interest is calculated without changing anyother assumptions; in reality, changes in one assumption may result in changesin another. For example, increases in market interest rates may result in lowerprepayments and increased credit losses, which could magnify or counteract thesensitivities.

TheCompany’s managed receivables portfolio underlying its securitizations(including only those of its consolidated subsidiaries) is comprised of theCompany’s retained interests in the credit card receivables securitized andother investors’ shares of these securitized receivables. The table belowsummarizes the balances included within, and certain operating statisticsassociated with, all of the managed receivables underlying the securitizationsof the Company’s consolidated subsidiaries. The investors’ shares of thesemanaged securitized credit card receivables are not assets of the Company.

| ** **                                   | ** ** | **September 30,  2005** | ** **                      | **December 31,   2004** | ** ** |
|----------------------------------------------|------------|------------------------------|---------------------------------|-----------------------------------|------------|
| ** **                                   | ** ** | **(In thousands)**      | ** **                      |
| Total managed  principal balance             |       |                         | $ 1,501,222                |                              |       |   | $ 1,493,903 |   |   |
| Total managed  finance charge balance        |       |                         | 148,328                         |                              |       |   | 160,382 |   |   |
| Total managed  receivables                   |       |                         | $ 1,649,550                |                              |       |   | $ 1,654,285 |   |   |
| Receivables  delinquent—60 or more days |       |                         | $  136,704            |                              |       |   | $  144,715 |   |   |
| Net charge offs for the  three months ended  |       |                         | $    42,862 |                              |       |   | $    44,770 |   |   |

 

**11.   NotesPayable and Issuance of Convertible Senior Notes**

Includedin notes payable as of September 30, 2005 are the following debtinstruments associated with the acquisition of and ongoing working capitalneeds of the Company’s Retail Micro-Loans segment (in thousands ofdollars):

| ** **                 | ** ** | **Balance at  September 30,  2005** | ** ** | **Applicable Interest  Rate as of  September 30, 2005** | ** ** |
|----------------------------|------------|-----------------------------------------------|------------|----------------------------------------------------------------------------------|------------|
| Term Loan A                |       |                                          | $20,000    |                                                                             |       |   | 7.5 | % |   |
| Term Loan B                |       |                                          | 20,000     |                                                                             |       |   | 13.0 | % |   |
| Seller Note                |       |                                          | 5,000      |                                                                             |       |   | 10.0 | % |   |
| Revolving Credit  Facility |       |                                          | 3,100      |                                                                             |       |   | 6.6 | % |   |
| Total Debt                 |       |                                          | $48,100    |                                                                             |       |   |   |   |   |

 

The interest rates associated with the term loanfacilities are adjusted periodically based on an index over LIBOR or Prime.

Effective June 30, 2005, the Company reduced theamount of notes payable associated with the acquisition of and ongoing working capitalneeds of the Retail Micro-Loans segment. The current amounts outstanding andtheir associated interest rates are reflected in the table above. In connectionwith the amended financing document, the maturity date of the term loans wasextended to June 30, 2007 and financial covenants that govern these termloans were modified to focus on leverage tests in relation to earnings beforeinterest, taxes, depreciation and amortization. The Company has agreed toprovide up to $8.0 million of further capital to reduce term loan outstandingbalances on June 30, 2006 if certain contingencies arise prior to thatdate. In addition, while all of the Retail Micro-Loans segment’s notes payableare recourse only to the assets of the Retail Micro-Loans segment, the Companyhas agreed to 

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guarantee a $10.0 millionRevolving Credit Facility that provides working capital for this segment, ofwhich $3.1 million was outstanding at September 30, 3005.

Similarly, notes payable as of September 30, 2005include $87.8 million of notes payable associated with the acquisition of andongoing working capital needs of the Company’s Auto Finance segment. Thesenotes payable are held by a conduit underlying a structured financing of theAuto Finance segments receivables; they have a 364-day maturity from thedate of issuance, and they bore an interest rate of 7.8% as of September 30,2005. The debt incurred under this facility is recourse only to the assets thatare pledged to the lender. The Company intends to finance any receivables growthin the business through this same process.

Finally, the Company’s September 30, 2005 notespayable balances also include $20.2 million related to margin borrowingsunderlying the Company’s investments in securities (for which interest wascharged at a 5.8% rate as of September 30, 2005), as well as$5.0 million of borrowings associated with certain vendor-financedacquisitions of software and equipment (for which interest rates ranged from 3%to 7% as of September 30, 2005).

In May 2005, the Company issued $250.0 millionaggregate principal amount of 3.625% convertible senior notes due 2025 toqualified institutional buyers in a private placement, and the notes weresubsequently registered with the SEC. These notes are reflected within theCompany’s September 30, 2005 convertible senior notes balance on itscondensed consolidated balance sheet.

During certain periods andsubject to certain conditions, the $250.0 million of notes will be convertibleby holders into cash and, if applicable, shares of the Company’s common stockat an initial conversion rate of 23.0309 shares of common stock per $1,000principal amount of notes, subject to adjustment; the conversion rate is basedon an initial conversion price of $43.42 per share of common stock. Uponconversion of the notes, the Company will deliver to holders of the notes cashof up to $1,000 per $1,000 aggregate principal amount of notes and, at itsoption, either cash or shares of the Company’s common stock in respect of theremainder of the conversion obligation, if any. Beginning with the six-monthperiod commencing on May 30, 2012, the Company will pay contingentinterest on the notes during a six-month period if the average trading price ofthe notes is above a specified level. The Company may redeem the notes at itselection commencing May 30, 2009 if certain conditions are met. Inaddition, holders of the notes may require the Company to repurchase the noteson each of May 30, 2012, 2015, and 2020 and upon certain specified events.

**12.   Commitments and Contingencies**

In the normal course of business through theorigination of unsecured credit card receivables, the Company incurs offbalance sheet risks. The Company’s off balance sheet risks with respect to thereceivables the Company manages include commitments to extend further credit tocardholders totaling $2.0 billion at September 30, 2005. These instrumentsinvolve, to varying degrees, elements of credit risk in excess of the amountssecuritized. The principal amount of these instruments reflects the maximumexposure the Company has in the instruments. The Company has not experiencedand does not anticipate that all of its customers will exercise their entireavailable line of credit at any given point in time. The Company has the rightto reduce or cancel these available lines of credit at any time.

The Company is an equity member of CSG. During thesecond quarter of 2002, CSG entered into a note purchase agreement whereby itagreed to buy additional interests in a portfolio of credit card receivablesowned by CSG Trust should there be net new growth in the receivables or shouldcollections not be available to fund new cardholder purchases. As of September 30,2005, CSG would be obligated to purchase up to $49.8 million of new notesfrom the CSG Trust should this contingency arise. In general, this contingencyamount will decline as the amount of credit available to cardholders for futurepurchases declines. The portfolio has declined and is expected to continue todecline during the life of the CSG Trust 

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as payments are expectedto exceed new purchases each month. As a member of CSG, the Company has agreedto guarantee the payment of the purchase price of the aforementioned new notesif the events giving rise to this contingency arise, but only if CSG itselfshould fail to purchase the new notes under the note purchase agreement. As of September 30,2005, CSG had not purchased and was not required to purchase any additionalnotes under the note purchase agreement. The Company’s guarantee is limited toits ownership percentage in CSG (which at September 30, 2005 was 50%)multiplied by the total amount of the notes that CSG would be required topurchase. Therefore, as of September 30, 2005, the maximum amount of theCompany’s guarantee was $24.9 million. The Company currently does not haveany liability recorded with respect to this guarantee, but it will record oneif events occur that make payment probable under the guarantee. The fair valueof this guarantee is not material.

For various other receivables portfolio investmentsthe Company has made through majority-owned subsidiaries and equity-methodinvestees, the Company has entered into similar note purchase agreements (andrelated guarantees) to that described with respect to CSG above. As of September 30,2005, none of these majority-owned subsidiaries or equity-method investees hadpurchased nor were they required to purchase any additional notes under thenote purchase agreements. The Company’s guarantee is limited to its respectiveownership percentages in the various majority-owned subsidiaries andequity-method investees multiplied times the total amount of the notes thateach of the majority-owned subsidiaries and equity-method investees couldbe required to purchase. As of September 30, 2005, the maximum amount ofthe Company’s collective guarantees related to all of these othermajority-owned subsidiaries and equity-method investees was$434.3 million. The Company currently does not have any liability recordedwith respect to these guarantees, but it will record one if events occur thatmake payment probable under the guarantees. The fair value of these guaranteesis not material.

The Company’s agreement with its principal third-partyoriginating financial institution requires the Company to purchase on a dailybasis the credit card receivables that are originated in the accountsmaintained for the Company’s benefit. To secure this obligation, the Companyhas provided the financial institution a $10.0 million standby letter ofcredit (with respect to which cash collateralization requirements were removedin the second quarter of 2005) and has pledged retained interests carried at$52.1 million. The Company’s arrangements with the financial institutionexpire in March 2006. If the Company were to terminate a sub-serviceagreement under which this institution also provides certain services for theCompany, there would be penalties of $1.5 million as of September 30,2005. The Company currently does not have any liability recorded with respectto the guarantees discussed in this paragraph, but it will record one if eventsoccur that make payment probable under the guarantees. The fair value of theseguarantees is not material.

A subsidiary of the Company has an agreement withanother third-party financial institution pursuant to which the subsidiaryservices loans on behalf of the financial institution in exchange for servicingfees. Either party can cancel this contract with 180 days notice. TheCompany believes that the entities that conduct this business are adequatelycapitalized. Nevertheless, to further growth plans for the operationsunderlying the Company’s Retail Micro-Loans segment, the Company has guaranteedup to $15.0 million of potential indebtedness to the financial institutionunder its servicing program with subsidiaries of the Company. The Companycurrently does not have any liability recorded with respect to the guaranteediscussed in this paragraph, but it will record one if events occur that makepayment probable under the guarantee. The fair value of this guarantee is notmaterial.

One of the Company’s most significant sources ofliquidity is the securitization of credit card receivables. The maturity termsof the Company’s securitizations vary. As of September 30, 2005,securitization facilities underlying the Company’s securitization trustsincluded: a six-year term securitization facility, a five-year termsecuritization facility, a two-year variable funding securitization facilitywith renewal options and a one-year conduit securitization facility withrenewal options issued out of its originated portfolio master trust; a ten-yearamortizing term securitization facility issued out of the 

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Embarcadero Trust; atwo-year amortizing term securitization facility issued out of the FingerhutTrust; and a one-year variable funding securitization facility issued outof the a trust associated with the Company’s securitization of$92.0 million and $72.1 million (face amount) in credit card receivablesacquired during 2004 and in the first quarter of 2005, respectively. While theCompany has never triggered an early amortization within any of the seriesunderlying Company-arranged securitization facilities, and while the Companydoes not believe that it will, the Company may trigger an early amortization ofone or more of the outstanding series within its securitization trusts. As eachsecuritization facility expires or comes up for renewal, there can be noassurance that the facility will be renewed, or if renewed, there can be noassurance that the terms will be as favorable as the terms that currentlyexist. Either of these events could significantly increase the Company’s needfor additional liquidity.

The Company is subject to various legal proceedingsand claims that arise in the ordinary course of business. In one of these legalproceedings, CompuCredit Corporation and five of the Company’s subsidiaries aredefendants in a purported class action lawsuit entitled Knox, et al. vs. FirstSouthern Cash Advance, et al, No 5 CV 0445, filed in the SuperiorCourt of New Hanover County, North Carolina, on February 8, 2005. Theplaintiffs allege that in conducting a so-called “payday lending” business,certain of the Company’s Retail Micro-Loans segment subsidiaries violatedvarious laws governing consumer finance, lending, check cashing, tradepractices and loan brokering. The plaintiffs further allege that CompuCredit isthe alter ego of its subsidiaries and is liable for their actions. Theplaintiffs are seeking damages of up to $75,000 per class member. The Companyintends to vigorously defend this lawsuit. These claims are similar to thosethat have been asserted against several other market participants intransactions involving small balance, short-term loans made to consumers inNorth Carolina. There are no other material pending legal proceedings to whichthe Company is a party.

On September 25,2005, a wholly owned subsidiary of CompuCredit Corporation entered into a stockpurchase agreement with CardWorks, L.P., pursuant to which the subsidiary wouldacquire all of the issued and outstanding shares of capital stock of CardWorks, Inc.,a privately held issuer and third-party servicer of consumer credit cardsthrough its subsidiaries Merrick Bank Corporation, a Utah industrial loan bank,and Cardholder Management Services, LLC. The purchase price to be paid forthe shares is $270.0 million in cash. The acquisition is subject to customaryclosing conditions, including the receipt of regulatory approvals, and isexpected to be completed late in the fourth quarter of 2005 or early 2006.Pursuant to the agreement, the subsidiary could be subject to a fee of $27.0million if the contract is terminated as defined by the purchase agreement. The Companycurrently does not have any liability recorded with respect to the guaranteediscussed in this paragraph, but it will record one if events occur that makepayment probable under the guarantee.

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**13.   Net Income Per Common Share**

Thefollowing table sets forth the computation of net income per common share:

| ** **                                                                                    | ** ** | **For the three months ended  September 30,**                       | ** **              | **For the nine months ended  September 30,**                        | ** ** |
|-----------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------|-------------------------|----------------------------------------------------------------------------------------------|------------|
| ** **                                                                                    | ** ** | **       2005       ** | ** **              | **       2004       ** | ** ** | **      2005      ** | ** ** | **      2004      ** | ** ** |
| ** **                                                                                    | ** ** | **(In thousands, except per share data)**                           | ** **              |
| Numerator:                                                                                    |       |                                                                                         |                    |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Net income                                                                                    |       |                                                                                         | $ 52,663           |                                                                                         |       |   | $ 39,012 |   |   |   | $ 168,375 |   |   |   | $ 72,651 |   |   |
| Preferred stock dividends                                                                     |       |                                                                                         | —                  |                                                                                         |       |   | (1,125 | ) |   |   | — |   |   |   | (3,292 | ) |   |
| Net income attributable to common shareholders                                                |       |                                                                                         | $ 52,663           |                                                                                         |       |   | $ 37,887 |   |   |   | $ 168,375 |   |   |   | $ 69,359 |   |   |
| Denominator:                                                                                  |       |                                                                                         |                    |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Denominator for basic net income per common share  (weighted-average shares outstanding) |       |                                                                                         | 48,524                  |                                                                                         |       |   | 50,876 |   |   |   | 49,930 |   |   |   | 51,387 |   |   |
| Effect of dilutive stock options, warrants and  restricted stock                              |       |                                                                                         | 1,754                   |                                                                                         |       |   | 810 |   |   |   | 1,520 |   |   |   | 860 |   |   |
| Denominator for diluted net income per common share  (adjusted weighted-average shares)       |       |                                                                                         | 50,278                  |                                                                                         |       |   | 51,686 |   |   |   | 51,450 |   |   |   | 52,247 |   |   |
| Net income per common share—Basic                                                        |       |                                                                                         | $   1.09 |                                                                                         |       |   | $   0.77 |   |   |   | $     3.37 |   |   |   | $   1.41 |   |   |
| Net income per  common share—Diluted                                                     |       |                                                                                         | $   1.05 |                                                                                         |       |   | $   0.75 |   |   |   | $     3.27 |   |   |   | $   1.39 |   |   |

 

Excluded from the three and nine months ended September 30,2005 net income per common share calculations were options to purchase 26,000and 25,000 shares of common stock, respectively, as their effects wereanti-dilutive. Excluded from the three and nine months ended September 30,2004 net income per common share calculations are warrants to purchase2.4 million shares of common stock and options to purchase 0.3 millionshares of common stock as their effects were anti-dilutive.

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**ITEM2.**                MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

*Thefollowing discussion should be read in conjunction with our condensedconsolidated financial statements and the related notes included therein andour Annual Report on Form 10-K for the year ended December 31,2004 where certain terms (including trust, subsidiary and other entity namesand financial, statistical and operating measures) have been defined.*

This Management’sDiscussion and Analysis of Financial Condition and Results of Operationsincludes forward-looking statements. We have based these forward-lookingstatements on our current plans, expectations and beliefs about future events.Actual results could differ materially because of factors discussed in “Forward-LookingInformation” in this item and elsewhere in this report.

**OVERVIEW**

We are a provider ofvarious credit and related financial services and products to or associatedwith the underserved, or sub-prime, consumer credit market, as well as to “un-banked”consumers. Historically, we have served this market through our marketing andsolicitation of credit card accounts and our servicing of various credit cardreceivables underlying both our originated accounts and our portfolioacquisitions. We generally have financed our credit card activities throughsecuritization of the receivables underlying the accounts we originate and theportfolios we purchase. The leverage (i.e., the percentage on a dollarthat lenders will lend us, or the “advance rate”) that our securitizationfacilities provide against our credit card receivables is a critical factor inour ability to obtain the desired returns on equity for our shareholders.

More recently, we havediversified our business operations to include the purchase and recovery ofpreviously charged-off receivables, the issuance of a stored-value card throughmass marketing efforts and the marketing and servicing of micro-loans throughvarious channels, including retail branch locations, grocery and convenience stores,direct marketing, telemarketing and the Internet.

Additionally, during thenine months ended September 30, 2005, we partnered with others to completetwo credit card portfolio acquisitions, we completed our acquisition of WellsFargo Financial’s “Consumer Auto Receivables” business unit and most recently,we have entered into a stock purchase agreement with CardWorks, Inc., aprivately held issuer and third-party servicer of consumer credit cards throughits subsidiaries Merrick Bank Corporation, a Utah industrial loan bank, andCardholder Management Services, LLC.

Both occurring during thefirst quarter of 2005, the first credit card portfolio acquisition of $72.1million (face amount) in credit card receivables was through a majority-ownedsubsidiary, while the second involved the purchase of $376.3 million (faceamount) of credit card receivables through a 47.5% equity-method interest in ajoint venture with other unaffiliated investors. The acquisition of theConsumer Auto Receivables business unit included all of Consumer AutoReceivables’ assets, business operations and employees for approximately $121.5million including transaction costs. Our $270.0 million Cardworks, Inc.acquisition is subject to customary closing conditions, including the receiptof regulatory approval, and is expected to be completed late in the fourthquarter of 2005 or early 2006.

During the second quarter of 2005, we issued $250.0million aggregate principal amount of our 3.625% convertible senior notes due2025 to qualified institutional buyers in a private placement, providing asignificant source of new liquidity for our Company. These convertible seniornotes were subsequently registered with the SEC.

Throughout 2005 andbeyond, our shareholders should expect us to continue to evaluate and pursueadditional credit card receivables portfolios and other business activities andasset classes that are complementary to our historic sub-prime credit cardbusiness, including further acquisitions of sub-prime lenders.

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We remain focused onmaking good economic decisions that will result in high returns on equity toour shareholders over a long-term horizon. While our decisions may makeeconomic sense, they may also result in volatile earnings under GAAP as aresult of the accounting requirements for securitizations under Statement ofFinancial Accounting Standards No. 140, “Accounting for Transfers andServicing of Financial Assets and Extinguishments of Liabilities” (“Statement No. 140”).To the extent that we grow our overall portfolio of credit card receivables(through origination, acquisition or other new channels) and then securitizethese assets, we will have securitization income or loss, which may bematerial. For further discussion of our historic results and the impact ofsecuritization accounting on our results, see the “Results of Operations” and “Liquidity,Funding and Capital Resources” sections below, as well as our condensedconsolidated financial statements and the notes thereto.

**RESULTS OFOPERATIONS**

**Threeand Nine Months Ended September 30, 2005, Compared to Three and NineMonths Ended September 30, 2004**

***Total interest income.******  ***Total interestincome consists primarily of finance charges and late fees earned on ourlargely fee-based card offering to consumers at the lower end of the FICOscoring range and interest and fee income associated with our new Auto Financesegment. The $26.0 million and $57.4 million increase when comparing thethree and nine months ended September 30, 2005 to 2004, respectively, isprimarily due to growth in credit card receivables associated with our largelyfee based card offering to consumers at the lower end of the FICO scoringrange, as well as the addition of our Auto Finance segment and its relatedloans receivable, none of which we have securitized. Also included within totalinterest income (under the other category) is the interest income we haveearned on our interest-bearing cash accounts and various investments indebt securities, including interest earned on bonds distributed to us from ourequity-method investees and on our subordinated, certificated interest in theEmbarcadero Trust. Principal amortization has caused reductions in interestincome levels associated with some of our bonds and the Embarcadero Trustsubordinated, certificated interest. Nevertheless, our other interest incomelevels have increased between 2004 and 2005 due to (1) other bondinvestments that we have made (typically in bonds issued by other third-partyasset backed securitization trusts) throughout 2004 and the first nine monthsof 2005, and (2) cash deposits associated with our $250.0 millionconvertible senior note offering and our receipt of $143.0 in cash from thesale of assets within our Investments in Previously Charged-Off Receivablessegment that were temporarily accumulated in interest-bearing accounts prior totheir use during the third quarter of this year to fund cardholder purchasesand other investments.

As we continue to grow ourlargely fee-based credit card offering to consumers at the lower end of theFICO scoring range as well as the receivables within our new Auto Financesegment, and assuming that we do not securitize the loans receivable underlyingthese product offerings in off balance sheet arrangements, we expect to seecontinued growth in our total interest income throughout 2005.

***Interest Expense.******  ***Interestexpense increased $4.4 million and $22.4 million for the three and ninemonths ended September 30, 2005, respectively, when compared to the sameperiods of the prior year. The increase in interest expense for the nine monthperiod ended September 30, 2005 when compared to the same period in theprior year is principally due to an $11.0 million final settlement of ourobligations to a lender that financed our original equity investment in CSG, anequity-method investee. Under the terms of the original loan agreement, inaddition to principal payments to be made, which were repaid during the fourthquarter of 2002, the lender was entitled to receive 15% of all future excesscash flows we receive from our investment in CSG. Because of our $11.0 millionsettlement payment to the lender, the Company is now entitled to receive 100%of all future excess cash flows attributable to the Company’s investment inCSG; we expect to resume receipt of these excess cash flows (and hence beginrealization of the benefits of 

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our settlement payment tothe lender) during the fourth quarter of 2005. Additional 2005 increases ininterest costs when compared to corresponding periods in the prior year areassociated with:

(1)         ourRetail Micro-Loans segment acquisition and working capital-related debt, whichincreased interest costs $0.3 million and $3.6 million for the three and ninemonths ended September 30, 2005, respectively, when compared to the sameperiods in the prior year;

(2)         debtfunding for the acquisition and operations of our new Auto Finance segment,which added $2.6 million and $5.0 million in interest costs for the threeand nine months ended September 30, 2005, respectively; and

(3)         oursecond quarter of 2005 convertible senior note issuance, which added $2.1million and $3.1 million in interest costs for both the three and nine monthsended September 30, 2005, respectively.

***Fees and other income on non-securitized earningassets.******  ***The following table details thecomponents of fees and other income on non-securitized earning assets for thethree and nine months ended September 30, 2005 and 2004:

| ** **                                                | ** ** | **For the three months** | ** ** | **For the nine months** | ** ** |
|-----------------------------------------------------------|------------|-----------------------------------------|------------|----------------------------------------|------------|
| ** **                                                | ** ** | **ended September 30,**       | ** ** | **ended September 30,**      | ** ** |
| ** **                                                | ** ** | **2005**                                | ** ** | **2004**                               | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                | ** ** | **(In thousands)**                 | ** ** |
| Fees and other  income on non-securitized earning assets: |       |                                    |       |                                   |       |   |   |   |   |
| Retail micro-loan fees                                    |       | $                                       | 22,510     |                                   | $          | 15,347 |   | $ | 58,713 |   | $ | 18,398 |   |
| Fees on non-securitized credit card receivables           |       | 52,123                                  |       | 25,277                                 |       | 120,078 |   | 63,482 |   |
| Fingerhut receivables while on balance sheet              |       | 28,350                                  |       | 28,660                                 |       | 84,494 |   | 28,660 |   |
| Investments in previously charged-off receivables         |       | 6,628                                   |       | 13,871                                 |       | 41,620 |   | 40,858 |   |
| Gain on bulk sale of previously charged-off  receivables  |       | —                                  |       | —                                 |       | 69,559 |   | — |   |
| Other                                                     |       | 2,736                                   |       | 1,445                                  |       | 12,039 |   | 1,701 |   |
| Total                                                     |       | $                                       | 112,347    |                                   | $          | 84,600 |   | $ | 386,503 |   | $ | 153,099 |   |

 

The increase infees and other income on non-securitized earning assets of $27.7 millionand $233.4 million for the three and nine months ended September 30,2005, respectively, when compared to the same periods of the prior year, waslargely attributable to:

(1)         growth in fees on ourlargely fee-based credit card offering to consumers at the lower end of theFICO scoring range, which increased $26.8 million and $56.6 million for thethree and nine months ended September 30, 2005, respectively, whencompared to the same periods of the prior year;

(2)         the addition of ourRetail Micro-Loans segment (during the second quarter of 2004) in which feesincreased $7.2 million and $40.3 million for the three and nine monthsended September 30, 2005, respectively, when compared to the same periodsof the prior year;

(3)         increasedincome (including amortization of deferred gain) of  $55.8 million for the nine months ended September 30,2005 when compared to the same period in the prior year associated with theFingerhut receivables while held on balance sheet following theirde-securitization in the third quarter of last year and prior to theirsecuritization in September 2005 of this year, as referenced in Note 7, “FingerhutReceivables,” to our condensed consolidated financial statements includedherein (Income associated with the Fingerhut receivables for the three monthsended September 30, 2005 when compared to the same period in the prioryear was relatively flat to down due to the declining balances within theFingerhut portfolio and an 

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associatedreduction in deferred gain recognition; this decline was offset somewhat byrecognition of the remaining deferred gain upon securitization of thesereceivables in September 2005.);

(4)         growthin income within our Investments In Previously Charged-Off Receivables segmentof $0.8 million for the nine months ended September 30, 2005, whencompared to the same period of the prior year (Income within our Investments InPreviously Charged-Off Receivables segment declined during the three monthsended September 30,2005 when compared to the same period in the prior yeardue to the bulk sale of receivables during the prior quarter.); and

(5)         ourbulk sale of previously charged-off receivables during the second quarter of2005, which generated $69.6 in fees and other income for the nine months ended September 30,2005, with no corresponding amount recognized in the prior year.

The bulk sale of previouslycharged-off receivables transaction is discussed further in the specificsegment discussion for our Investments in Previously Charged-Off Receivablessegment. Because of that transaction, we do not anticipate investments inpreviously charged-off receivables income to grow throughout the rest of 2005when compared to the same periods in the prior year. As was shown during thisyear’s third quarter, we expect this income to be lower during the fourthquarter of this year than in last year’s fourth quarter.

Because of the September 2005securitization of the Fingerhut receivables, income for the foreseeable futureassociated with the Fingerhut receivables will be represented exclusivelywithin the income from retained interests in credit card receivables category(as part of fees and other income on securitized assets on our consolidatedstatements of operations securitization) and within servicing income on ourconsolidated statements of operations. Upon securitization of these receivablesin September 2005, we recorded securitization income (as part of fees andother income on securitized earning assets on our consolidated statements ofoperations) of $31.6 million.

The other category aboveincludes gains on put options that we wrote on our stock, gains associated withour investments in securities and fees associated with our stored-value card,merchant credit and on-line micro-lending operations, none of which currentlyrepresent significant activities for us. We expect to see continued incomegrowth within the other category as well as within our retail micro-loans feesand fees on non-securitized credit card categories throughout the remainder ofthis year.

***Provision for loan losses.  ***Ourprovision for loan losses increased $20.8 million and $55.6 million forthe three and nine months ended September 30, 2005, respectively, whencompared to the same periods of 2004, principally due to significantyear-over-year growth in on-balance sheet loans and fees receivable related to:(1) our largely fee-based credit card offering to consumers at the lowerend of the FICO scoring range; (2) our micro-loan acquisitions, two ofwhich occurred in the second and third quarters of 2004; and (3) oursecond quarter 2005 Auto Finance segment acquisition.

The provision for loanlosses is provided to cover aggregate loss exposures on (1) principalreceivable balances, (2) finance charges and late fees receivableunderlying income amounts included within our total interest income category,and (3) fees receivable underlying fee income included within our fees andother income on non-securitized assets category. Although we do not expect tosee any significant degradation in credit quality for the next few quarters andwhile, considering seasonality, current delinquency and credit loss trends lookfavorable, we do expect that our provision for loan losses will increase overthe next few quarters based on the loans and fees receivable growth that we areplanning. Our provision for loan losses as a percentage of average loans andfees receivable for the third quarter of 2005 is significantly lower than forthe third quarter of 2004, principally due to our acquisition within the AutoFinance segment during the second quarter of 2005. We acquire loans and feesreceivable from auto dealers with recourse back to the dealers to the extent ofnegotiated reserves that we carry as a liability within accounts payable andaccrued expenses on our balance sheet. Because of the level of recourse that wehave back to the dealers, our credit losses for the Auto Finance segment are(and are expected in the future to be) lower than 

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averageloss rates experienced (and expected to be experienced) for our credit card andmicro-loan activities. The effects of the auto finance acquisition also accountfor the reduction in the ratio of our allowance for uncollectible loans andfees receivable as a percentage of period-end loans and fees receivable at September 30,2005, versus recent prior quarters. The dealer reserve liability that we have includedwithin accounts payable and accrued expenses at September 30, 2005 is$29.5 million. Another factor favorable to the above ratios is $15.8 million ofa new third quarter 2005 category of receivables within our retail micro-loanoperations for which we have low loss expectations given underlying creditenhancements in the form of corporate guarantees and bank-issued standbyletters of credit; we have not provided an allowance for these loansreceivables because we do not expect to see any charge offs of thesereceivables. Lastly, the aforementioned ratios are also favorably influencedthus far in 2005 by the improved overall credit environment that we haveexperienced across the board within our portfolio of loans and fees receivable.

***Fees and other income on securitized earning assets.  ***Feesand other income on securitized earning assets include (1) annualmembership, over-limit, cash advance, returned check and other fees associatedwith our credit card products, (2) securitization gains and losses and (3) incomefrom retained interests in credit card receivables securitized, each of whichis detailed in the following table for the three and nine months ended September 30,2005 and 2004.

| ** **                                                             | ** ** | **For the three months** | ** ** | **For the nine months** | ** ** |
|------------------------------------------------------------------------|------------|-----------------------------------------|------------|----------------------------------------|------------|
| ** **                                                             | ** ** | **ended September 30,**       | ** ** | **ended September 30,**      | ** ** |
| ** **                                                             | ** ** | **2005**                                | ** ** | **2004**                               | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                             | ** ** | **(In thousands)**                 | ** ** |
| Securitization income                                                  |       | $                                       | 34,018     |                                   | $          | 1,651 |   | $ | 36,797 |   | $ | 1,651 |   |
| Income from retained  interests in credit card receivables securitized |       | 7,745                                   |       | 33,609                                 |       | 33,399 |   | 69,600 |   |
| Fees on securitized  receivables                                       |       | 14,740                                  |       | 19,126                                 |       | 46,288 |   | 58,929 |   |
| Total fees and other income on securitized earning  assets             |       | $                                       | 56,503     |                                   | $          | 54,386 |   | $ | 116,484 |   | $ | 130,180 |   |

 

The following trends arenoted with respect to the above table of fees and other income on securitizedearning assets:

(1)         The$34.0 million and $36.8 million of securitization income for the three and ninemonths ended September 30, 2005, respectively, relates to securitizationof the Fingerhut receivables which resulted in a securitization gain of $31.6 millionas well as $1.6 million of securitization income associated with our firstquarter 2005 acquisition of $72.1 million (face amount) in credit cardreceivables through one of our majority—owned subsidiaries. Additionally,securitization income of $2.4 million and $3.6 million for the three and ninemonths ended September 30, 2005, respectively, resulted from a netincrease in the managed receivables underlying securitizations through ouroriginated portfolio master trust during the second and third quarters of 2005;in recent prior quarters, we experienced net liquidations of managedreceivables within the originated portfolio master trust. We expect to seeadditional securitization income associated with receivables underlyingsecuritizations through our originated portfolio master trust throughout thebalance of 2005.

(2)         Incomefrom retained interests in credit card receivables securitized is down $25.9million between the third quarter of 2004 and the third quarter of 2005 and isdown $36.2 million year to date 2005 versus year to date 2004, due in part to: (a) reductionsin managed receivables levels within the Embarcadero Trust between the thirdquarter of 2004 and the third quarter of 2005 and (b) the effects ofpurchase discounts underlying our retained interests in the Embarcadero Trust.The benefits of purchase discounts associated with the managed receivablesunderlying our retained interests in the Embarcadero Trust have abatedsignificantly between the third quarter 

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of 2004 and thethird quarter of 2005; this was expected as the mix of managed receivableswithin the Embarcadero Trust has continued to shift over time (i.e., fromreceivables to which purchase discounts applied at the date of acquisition tonew receivables generated from post-acquisition cardholder purchases for whichthere are no purchase discounts). Related to these mix changes are higherfinance charge and late fee charge offs and higher principal charge offs beingnetted against our income from retained interests in credit card receivablessecuritized, as well as lower inclusions of accretable yield as a component ofour income from retained interest in credit card receivables securitized.

(3)         Anotherfactor underlying the decrease in income from retained interests in credit card receivables securitized is the increase in our servicing rates to 4% on the two termsecuritization facilities issued out of the originated portfolio master trustin October 2004. This accounts for $6.3 million and $18.8 million of thisdecrease for the three and nine months ended September 30, 2005,respectively, versus the three and nine months ended September 30, 2004,respectively. Offsetting this amount dollar-for-dollar are a $6.3 millionand $18.8 million increase in servicing income for the three and nine monthsended September 30, 2005, respectively, versus the three and nine monthsended September 30, 2004.

(4)         Thevarious decreases in income from retained interests in credit card receivables securitized described above wereoffset somewhat by (a) income associated with the September 2005securitization of the Fingerhut receivables and (b) modest amounts ofincome associated with the securitization trust underlying our third quarter2004 acquisition of $92.0 million in face amount and our first quarter 2005acquisition of $72.1 million in face amount of receivables.

(5)         Giventhe volatility of changing credit enhancement levels and assumptions within ourStatement No. 140 models, it is difficult for us to predict any particularongoing trend for our future income from retained interests in credit cardreceivables securitized. We do note, however, that seasonally adjusted creditloss and delinquency trends continue to be favorable.

(6)         Feeson securitized receivables have declined primarily due to lower 2005 over-limitfees, reflecting the fact that many of our originated portfolio master trustreceivables relate to newer account additions, as well as general economicenvironment and credit quality improvements for our securitized receivables whichare consistent with the general improvements seen in our delinquency andcharge-off rates.

Further details concerningdelinquency and credit quality trends, which affect the level of our incomefrom retained interests in credit card receivables securitized, are provided inthe discussion of our Credit Cards segment below.

***Servicing income.******  ***Servicingincome increased $10.3 million and $37.2 million for the three and ninemonths ended September 30, 2005, respectively, when compared to the sameperiods of the prior year, due in part to the $6.3 million and $18.8 millionhigher servicing fees realized for the three and nine months ended September 30,2005, respectively, for the two term securitization facilities issued out ofthe originated portfolio master trust in October 2004. These two termsecuritization facilities permitted an increase in our servicing rates to 4%(i.e., from the .10% level that we have historically experienced for facilitiesissued out of our originated portfolio master trust). Also contributing to theservicing income increases were (1) $7.6 million of higher retailmicro-loan processing and servicing fees for the nine months ended September 30,2005 when compared to the same period of the prior year and (2) theaddition of servicing income related to the $92.0 million (face amount) inreceivables that we acquired and securitized during the third quarter of 2004,the $996.5 million (face amount) in receivables that our equity-methodinvestee, Transistor, acquired during the fourth quarter of 2004, the$376.3 million (face amount) in receivables that our newest equity-methodinvestee acquired during the first quarter of 2005 and the $72.1 million(face amount) in receivables that we acquired during the first quarter of 2005.

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The above-noted servicing income increases were offsetpartially by declines in the Embarcadero Trust and CSG Trust managedreceivables, the third quarter 2004 de-securitization of the Fingerhutreceivables (which were subsequently re-securitized in September 2005) anddecreases in servicing revenues (from $7.8 million in the third quarter of 2004to $5.5 million in the third quarter of 2005) within our Retail Micro-Loans segmentas a result of the guidance adopted by the FDIC regarding micro-loans (seeRetail Micro-Loans segment discussion below). The de-securitization ofthe Fingerhut receivables in the third quarter of 2004 resulted in ayear-over-year reduction of $3.5 million and $17.7 million in servicingrevenues for the three and nine months ended September 30, 2005,respectively, relative to comparable periods of 2004. With our new September 2005securitization of the Fingerhut receivables, we expect to see Fingerhut-relatedservicing revenues in future quarters (at amounts that will decline over timewith liquidation of the Fingerhut receivables).

We expect servicing income levels during the remainderof 2005 that will be higher than 2004 levels based on the new, higher termsecuritization facility servicing rates, coupled with anticipated originatedportfolio master trust receivables growth in 2005, the re-securitization of theFingerhut receivables and the new servicing opportunities that have arisen forus associated with the credit card receivables portfolio acquisitions mentionedabove. To the extent that our servicing income rises associated with increasedservicing rates on the two recent term securitization facilities issued out ofthe originated portfolio master trust, we will experience an offsettingreduction in income from retained interests in credit card receivablessecuritized (a component of fees and other income on securitized earningassets).

***Ancillary andinterchange revenues.******  ***Ancillary and interchangerevenues increased $1.2 million and $3.0 million for the three and nine monthsended September 30, 2005, respectively, when compared to the same periodsof the prior year, primarily due to growth in both categories as a result ofthe addition of new accounts in our core portfolio, growth in our largelyfee-based credit card offering to consumers at the lower end of the FICOscoring range, as well as the addition of new purchased portfolios. Wetypically experience higher purchasing volumes and higher associatedinterchange fees for newer cardholders than for more mature cardholders withinour managed receivables portfolios. As such, our recent emphasis on new accountadditions to replace older more stagnant accounts has produced higherinterchange revenues.

***Equity in income ofequity-method investees.******  ***Equity inincome of equity-method investees increased $9.9 million and $36.5 million forthe three and nine months ended September 30, 2005, respectively, comparedto the same periods in 2004 primarily due to income associated with ourinvestments in our Transistor and Capacitor (33.3% each) equity-methodinvestees made during the fourth quarter of 2004 and our first quarter 2005investment in a 47.5%-owned equity-method investee that acquired a credit cardreceivables portfolio in that same quarter. We expect these new investees tocontinue to contribute significantly to our equity in income of equity-methodinvestees for the remainder of this year.

***Total otheroperating expense.******  ***Total other operating expenseincreased by $33.6 million and $130.0 million for the three and ninemonths ended September 30, 2005, respectively, compared to the sameperiods in 2004 due to the following specific increases relative to 2004expense levels:

(1)         a $3.4 million and $7.1million increase for the three and nine months ended September 30, 2005,respectively, in salaries and benefits primarily due to growth in ouroriginated portfolio, increases in our receivables associated with our largelyfee-based credit card offering to consumers at the lower end of the FICOscoring range as well as the addition of several new managed receivablesportfolios noted in the servicing income discussion above;

(2)         a $12.6 million and $61.2million increase for the three and nine months ended September 30, 2005,respectively, related to card and loan servicing primarily due to (a) theaddition of the Company’s micro-loan activities (increases of $2.9 million and$20.8 million for the three and nine months ended September 30, 2005,respectively), (b) servicing costs related to growth in receivablesassociated with our largely fee-based credit card offering to consumers at thelower 

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end of the FICO scoringrange, (c) the addition of several new managed receivables portfoliosnoted in the servicing income discussion above (increases of $9.7 million and$34.7 million for the three and nine months ended September 30, 2005,respectively, which were partly offset by some liquidations of receivables inearlier-acquired portfolios), (d) net growth in our originated portfoliomaster trust receivables, and (e) the April 1, 2005 addition of ourAuto Finance segment;

(3)         a $14.5 million and$38.0 million increase for the three and nine months ended September 30,2005, respectively, in marketing and solicitation costs principally associatedwith (a) increased marketing efforts aimed at growing account originationswithin our originated portfolio master trust and with respect to our largelyfee-based credit card offering to consumers at the lower end of the FICOscoring range, and (b) the addition of our Retail Micro-Loans segment; and

(4)         an overall increase of$2.3 million and $22.4 million for the three and nine months ended September 30,2005, respectively, in other expenses, including occupancy, consulting andrelated expenses, due primarily to the addition of our Retail Micro-Loans andAuto Finance segments.

While we incur certain base levels of fixed costsassociated with the infrastructure that we have built to support our growth anddiversification into new products and services for our under-served andun-banked customers, the vast majority of our operating costs are highlyvariable based on the levels of receivables that we service (both for our ownaccount and for others) and the pace and breadth of our search for, acquisitionof and introduction of new business lines, products and services. We expect tocontinue growing and diversifying our business throughout the remainder of thisyear and into next year, and while certain unique expenses undertaken in 2004may not be repeated in 2005 and while we continue to derive cost reductionsthrough our outsourcing and other cost-control efforts, we do expect tosee continued growth in our total other operating expense levels (on a year-over-yearcomparative basis) based on growth that we plan to undertake. During the secondquarter of 2005, we decided to accelerate our growth plans for the receivablesunderlying our originated portfolio master trust and with respect to ourlargely fee-based credit card offering to consumers at the lower end of theFICO scoring range; as such, we expect continued significant marketing expenselevels throughout the remainder of 2005.

***Minority Interest.******  ***The ownershipinterests of minority holders of equity in our majority-owned subsidiaries arereflected as minority interests in our condensed consolidated statements ofoperations. The minority interests expense associated with these subsidiariestotaled $2.7 million and $14.7 million for the three and nine months ended September 30,2005, respectively, versus $7.1 million and $20.2 million for the same periodsof 2004. These trends are consistent with the relative contributions of two ofour majority-owned subsidiaries to income from retained interest incredit card receivables securitized as discussed above. One of ourmajority-owned subsidiaries owns the retained interests in the EmbarcaderoTrust and the other owns the retained interests in the trust that we formed in2004 to facilitate the securitization of $92.0 million (face amount) of creditcard receivables acquired in the third quarter of 2004 and $72.1 million (faceamount) of credit card receivables acquired in the first quarter of 2005. Formore details, see the above discussion of purchase discount effects andreceivables mix changes in the analysis of income from retained interest incredit card receivables securitized trends.

***Income Taxes.******  ***Our effectivetax rate was 36.5% for both the three and nine months ended September 30,2005, compared to 35.0% and 36.2% for the three and nine months ended September 30,2004, respectively. The 0.3% increase in our year-to-date effective tax ratebetween 2004 and 2005 is principally due to our expansion into additional statetax jurisdictions through acquisitions.

**Credit Cards Segment**

Our Credit Cards segmentconsists of our credit card investment and servicing activities, as conductedwith respect to receivables underlying accounts originated and portfoliospurchased by us. This segment 

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representsaggregate activities associated with all of our credit card products, includingour largely fee-based card offering to consumers at the lower end of theFICO scoring range. Because we have not securitized the receivables associatedwith our largely fee-based offering to consumers at the lower end of the FICOscoring range, revenues associated with this offering include interest income(along with late fees), fees and other income. With respect to our securitizedcredit card receivables (which represent a substantial majority of ourreceivables), our fees and other income on securitized earnings assets withinthe Credit Cards segment include (1) securitization income, (2) incomefrom retained interests in credit card receivables securitized, and (3) feesand other income. Also within our Credit Cards segment are equity in the incomeof equity-method investees and servicing income revenue sources. We earnservicing income from the trusts underlying our securitizations and thesecuritizations of our equity-method investees. Our revenue categories mostaffected by delinquency and credit loss trends are the net interest income, thefees and other income on non-securitized earnings assets (which are net of aprovision for loan losses) and the income from retained interests in creditcard receivables securitized categories.

***Background***

All of our credit card securitizations are treated assales under GAAP. As such, we remove the securitized receivables from ourcondensed consolidated balance sheet. The performance of the underlying creditcard receivables will nevertheless affect the future cash flows we actuallyreceive. Various references within this section are to our managedreceivables, which include our non-securitized credit card receivables, as wellas the credit card receivables underlying our off balance sheet securitizationfacilities. Managed receivables data also include our equity interest in thereceivables that we manage for our equity-method investees and excludeminority interest holders’ shares of the receivables that we manage for ourmajority-owned subsidiaries.

Financial, operating and statistical data based onthese aggregate managed receivables are key to any evaluation of ourperformance in managing (including underwriting, valuing purchased receivables,servicing and collecting) the aggregate of the portfolios of credit cardreceivables reflected on our balance sheet and underlying our securitization facilities.In allocating our resources and managing our business, management reliesheavily upon financial data and results prepared on a so-called “managed basis.”It is also important to analysts, investors and others that we provide selectedfinancial, operating and statistical data on a managed basis because thisallows a comparison of us to others within the specialty finance industry.Moreover, our management, analysts, investors and others believe it is criticalthat they understand the credit performance of the entire portfolio of ourmanaged receivables because it reveals information concerning the quality ofloan originations and the related credit risks inherent within the securitizedportfolios and our retained interests in our securitization facilities. It alsofacilitates comparison of us to others within the specialty finance industry.

Managed receivables data assume that none of thecredit card receivables underlying our off balance sheet securitizationfacilities were ever transferred to securitization facilities and present thenet credit losses and delinquent balances on the receivables as if we stillowned the receivables. Reconciliation of the managed receivables data to ourGAAP financial statements requires: (1) recognition that a significantmajority of our loan and fee receivables (i.e., all but $239.5 million ofGAAP credit card loan and fee receivables at gross face value) had been sold insecuritization transactions as of September 30, 2005; (2) a look-throughto our economic share of (or equity interest in) the receivables that we managefor our three equity-method investees; (3) removal of our minorityinterest holders’ interests in the managed receivables underlying our GAAPconsolidated results; and (4) recognition that the previouslyde-securitized Fingerhut managed receivables were recorded at a $0.0 basis inour GAAP financial statements prior to our re-securitization of thesereceivables in September 2005.

Theperiod-end and average managed receivables data (as well as delinquency andcharge-off statistics) that follow within this section exclude receivablesassociated with accounts in late delinquency 

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status in sellers’ hands as of the dates of ouracquisitions of the receivables or interests therein. Pursuant to thistreatment, the only activity within the following statistical data associatedwith these excluded accounts are recoveries, which we include within thenumerator of the other income ratio computation, as well as the costs ofpursuing these recoveries, which we include within the numerator of theoperating ratio computation. Summarized below are the managed accountsunderlying our 2005 acquisitions, as well as those acquired accounts that havebeen excluded from our credit card data because at the time of purchase, theywere in a late delinquency status (in thousands):

| Acquired accounts |   | 243 |   |
|-------------------|--------|-----|--------|
| Excluded accounts |   | 9   |   |

 

Thecredit card receivables portfolios that we acquire are typically acquired atsubstantial discounts. A portion of each acquisition discount is related to theexcluded receivables and accounts noted above. Another portion of each discountrelates to the credit quality of the remaining acquired receivables and iscalculated as the difference between the face amount of the receivablespurchased (less the excluded receivables described above) and the future cashflows expected to be collected from the receivables. We refer to the balance ofthe discount for each purchase not needed for credit quality as accretableyield, which we amortize into net interest margin using the interest methodover the estimated life of each acquired portfolio. As of the close of eachfinancial reporting period, we evaluate the appropriateness of the creditquality discount component of our acquisition discount and the accretable yieldcomponent of our acquisition discount based on actual and projected futureresults. The following table summarizes the discount components associated withour economic interests in 2004 and 2005 acquired portfolios as they werecomputed at dates of acquisition:

| ** **                             | ** ** | **Purchases occurring:**    | ** ** |
|----------------------------------------|------------|----------------------------------|------------|
| ** **                             | ** ** | **Nine months ended**  | ** ** | **Year ended** | ** ** |
| ** **                             | ** ** | **September 30, 2005** | ** ** | **December 31, 2004** | ** ** |
| ** **                             | ** ** | **(In millions)**           | ** ** |
| Total face value  acquired             |       |                             | $          | 228.1 |   |   |   | $ | 401.6 |   |   |
| Total discount                         |       |                             | 46.7       |   |   |   | 77.2 |   |   |
| Portion used for  excluded receivables |       |                             | 13.1       |   |   |   | 26.9 |   |   |
| Portion needed  for credit quality     |       |                             | 21.5       |   |   |   | 35.1 |   |   |
| Portion reflecting  accretable yield   |       |                             | 12.1       |   |   |   | 15.2 |   |   |

 

***Asset Quality***

Our delinquency and charge off data at any point intime reflect the credit performance of our managed receivables. The average ageof our credit card accounts, the timing of portfolio purchases, the success ofour collection and recovery efforts and general economic conditions all affectour delinquency and charge-off rates. The average age of our credit card receivablesportfolio also affects the stability of our delinquency and loss rates. Thedelinquency and charge-off data reflected herein are considered by managementin determining our allowance for uncollectible loans and fees with respect toour non-securitized earning assets, net on our condensed consolidatedbalance sheets, as well as the valuation of our retained interests in creditcard receivables securitized, which is a component of securitized earningassets on our condensed consolidated balance sheets. As receivables are chargedoff, the charge offs of non-securitized receivables are reflected within ourprovision for loan losses, and the charge offs of securitized receivables arereflected as an offset in determining income from retained interest in creditcard receivables securitized (within fees and other income on securitizedearning assets) on our condensed consolidated statements of operations.

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Our strategy for managing delinquency and receivableslosses consists of account management throughout the customer relationship.This strategy includes credit line management and pricing based on the risks ofthe credit card accounts.

*Delinquencies.**  *Delinquencies have the potential toimpact net income in the form of net credit losses. Delinquencies are also costlyin terms of the personnel and resources dedicated to resolving them. A creditcard account is contractually delinquent if the cardholder’s minimum payment isnot received by the specified date on the cardholder’s statement. It is ourpolicy to continue to accrue interest and fee income on all credit cardaccounts, except in limited circumstances, until the account and all relatedreceivables, interest and other fees are charged off. See the “Charge offs”discussion as well.

The account management strategies that we use on ourportfolio are intended to manage and to the extent possible reduce the higherdelinquency rates that can be expected in a more mature managed portfolio suchas ours. These account management strategies include conservative credit linemanagement, purging of inactive accounts and collection strategies (asdescribed under the heading “How Do We Collect from Our Customers?” in “Item 1.Business” of our Annual Report on Form 10-K for the year ended December 31,2004) intended to optimize the effective account-to-collector ratio acrossdelinquency buckets. We measure the success of these efforts by measuringdelinquency rates. These rates exclude accounts that have been charged off.

Thefollowing table presents the delinquency trends of the credit card receivablesthat we manage:

| ** **                                        | ** ** | **As of**                                             | ** ** |
|---------------------------------------------------|------------|------------------------------------------------------------|------------|
| ** **                                        | ** ** | **2005**                                                   | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                        | ** ** | **Sep. 30**                                           | ** ** | **Jun. 30** | ** ** | **Mar. 31** | ** ** | **Dec. 31** | ** ** | **Sep. 30** | ** ** | **Jun. 30** | ** ** | **Mar. 31** | ** ** | **Dec. 31** | ** ** |
| ** **                                        | ** ** | **(Dollars in thousands; % of total)** | ** ** |
| Period-end managed receivables                    |       | $                                                          | 2,230,108  |   | $ | 2,198,703 |   | $ | 2,246,256 |   | $ | 2,166,489 |   | $ | 1,931,514 |   | $ | 1,942,059 |   | $ | 2,090,644 |   | $ | 2,340,898 |   |
| Period-end managed  accounts                      |       | 3,169                                                      |       | 2,973 |   | 2,943 |   | 2,888 |   | 2,317 |   | 2,222 |   | 2,276 |   | 2,416 |   |
| Receivables  delinquent:                          |       |                                                       |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| 30 to 59 days past due                            |       | $                                                          | 82,070     |   | $ | 83,175 |   | $ | 70,558 |   | $ | 80,419 |   | $ | 76,028 |   | $ | 84,474 |   | $ | 71,108 |   | $ | 104,380 |   |
| 60 to 89 days past due                            |       | 66,287                                                     |       | 61,882 |   | 54,505 |   | 61,408 |   | 61,144 |   | 60,780 |   | 58,188 |   | 79,347 |   |
| 90 or more days past due                          |       | 158,161                                                    |       | 128,351 |   | 143,416 |   | 167,863 |   | 148,132 |   | 126,505 |   | 160,055 |   | 200,965 |   |
| Total 30 or more days past due                    |       | $                                                          | 306,518    |   | $ | 273,408 |   | $ | 268,479 |   | $ | 309,690 |   | $ | 285,304 |   | $ | 271,759 |   | $ | 289,351 |   | $ | 384,692 |   |
| Total 60 or more days past due                    |       | $                                                          | 224,448    |   | $ | 190,233 |   | $ | 197,921 |   | $ | 229,271 |   | $ | 209,276 |   | $ | 187,285 |   | $ | 218,243 |   | $ | 280,312 |   |
| Receivables  delinquent as % of period-end loans: |       |                                                       |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| 30 to 59 days past due                            |       | 3.7                                                        | %          | 3.8 | % | 3.1 | % | 3.7 | % | 3.9 | % | 4.3 | % | 3.4 | % | 4.5 | % |
| 60 to 89 days past due                            |       | 3.0                                                        | %          | 2.8 | % | 2.4 | % | 2.8 | % | 3.2 | % | 3.1 | % | 2.8 | % | 3.4 | % |
| 90 or more days past due                          |       | 7.1                                                        | %          | 5.8 | % | 6.4 | % | 7.7 | % | 7.7 | % | 6.5 | % | 7.7 | % | 8.6 | % |
| Total 30 or more days past due                    |       | 13.8                                                       | %          | 12.4 | % | 11.9 | % | 14.2 | % | 14.8 | % | 13.9 | % | 13.9 | % | 16.5 | % |
| Total 60 or more  days past due                   |       | 10.1                                                       | %          | 8.6 | % | 8.8 | % | 10.5 | % | 10.9 | % | 9.6 | % | 10.5 | % | 12.0 | % |

 

A comparison of our lowerdelinquency rates in all categories as of September 30, 2005 to those asof September 30, 2004 supports our belief that we are seeing creditquality improvements within our portfolios. We believe this to be the casedespite our marketing and addition of new accounts underlying our originatedportfolio master trust during 2004, which tend to have lower delinquency ratesthan more mature accounts. The favorable effects of this phenomenon are offsetby the growth in our largely fee-based credit card offering to consumers at thelower end of the FICO scoring range, the receivables of which experiencegreater delinquency and charge-off levels.

The increases in our 30 to59 and 60 to 89 days past due delinquency rates since March 31, 2005 areconsistent with the seasonal trends that we have experienced in prior years. Wetypically experience higher 

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payments, and hence lowerdelinquencies, during the first quarter of each year. We expect to see anincrease in charge-offs in the fourth quarter related to these seasonal trends.In addition to these seasonal trends, we expect an increase in fourth quartergross charge offs due to increased bankruptcy filings in advance of theeffective date of recently enacted bankruptcy legislation. (See discussion ofcharge-offs below.) Finally, we expect that the recent Gulf coast hurricaneswill not have a material effect on our delinquency ratios and charge offs giventhat only 0.9% of our cardholders reside within zip codes associated with thegeographic areas affected by the hurricanes.

*Chargeoffs.  *We generally charge off credit card receivableswhen they become contractually 180 days past due or within 30 days ofnotification and confirmation of a customer’s bankruptcy or death. In somecases of death, however, receivables are not charged off if, with respect tothe deceased customer’s account, there is a surviving, contractually liableindividual or an estate large enough to pay the debt in full. Other loans andfees receivable generally are charged off when they become contractually90 days past due.

The following tablepresents charge off data for: (1) all of the credit card receivablesunderlying the securitizations of our consolidated subsidiaries (adjusted toexclude the receivables associated with minority interest holders’ equity inour consolidated subsidiaries), including the Fingerhut receivables that werere-securitized in September 2005; (2) our respective 50.0%, 33.3% and47.5% shares of the receivables that we manage on behalf of our equity-methodinvestees; and (3) the $239.5 million face amount of receivablesassociated with our largely fee-based credit card offering to consumers at thelower end of the FICO scoring range, which have not been securitized.

| ** **                        | ** ** | **For the Three Months Ended**                     | ** ** |
|-----------------------------------|------------|------------------------------------------------------------------------|------------|
| ** **                        | ** ** | **2005**                                                               | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                        | ** ** | **Sep. 30**                                                       | ** ** | **Jun. 30** | ** ** | **Mar. 31** | ** ** | **Dec. 31** | ** ** | **Sep. 30** | ** ** | **Jun. 30** | ** ** | **Mar. 31** | ** ** | **Dec. 31** | ** ** |
| ** **                        | ** ** | **(Dollars in thousands; percentages annualized)** | ** ** |
| Average managed  receivables      |       | $                                                                      | 2,211,547  |   | $ | 2,212,378 |   | $ | 2,307,471 |   | $ | 2,039,235 |   | $ | 1,924,520 |   | $ | 2,001,489 |   | $ | 2,219,537 |   | $ | 2,419,674 |   |
| Gross yield ratio                 |       | 30.2                                                                   | %          | 29.1 | % | 28.2 | % | 29.3 | % | 29.8 | % | 29.6 | % | 30.3 | % | 31.3 | % |
| Combined gross  charge offs       |       | $                                                                      | 120,989    |   | $ | 129,921 |   | $ | 117,924 |   | $ | 131,061 |   | $ | 121,498 |   | $ | 140,573 |   | $ | 165,815 |   | $ | 169,482 |   |
| Net charge offs                   |       | $                                                                      | 58,473     |   | $ | 67,602 |   | $ | 52,432 |   | $ | 58,270 |   | $ | 61,255 |   | $ | 74,087 |   | $ | 87,331 |   | $ | 90,446 |   |
| Adjusted charge  offs             |       | $                                                                      | 42,463     |   | $ | 44,900 |   | $ | 39,053 |   | $ | 39,899 |   | $ | 38,343 |   | $ | 43,934 |   | $ | 45,294 |   | $ | 47,304 |   |
| Combined gross  charge off  ratio |       | 21.9                                                                   | %          | 23.5 | % | 20.4 | % | 25.7 | % | 25.3 | % | 28.1 | % | 29.9 | % | 28.0 | % |
| Net charge off  ratio             |       | 10.6                                                                   | %          | 12.2 | % | 9.1 | % | 11.4 | % | 12.7 | % | 14.8 | % | 15.7 | % | 15.0 | % |
| Adjusted charge  off ratio        |       | 7.7                                                                    | %          | 8.1 | % | 6.8 | % | 7.8 | % | 8.0 | % | 8.8 | % | 8.2 | % | 7.8 | % |
| Net interest  margin              |       | 23.3                                                                   | %          | 22.5 | % | 21.1 | % | 20.4 | % | 22.4 | % | 20.8 | % | 20.1 | % | 22.1 | % |
| Other income  ratio               |       | 10.4                                                                   | %          | 8.6 | % | 6.8 | % | 5.4 | % | 7.4 | % | 6.9 | % | 6.2 | % | 5.9 | % |
| Operating ratio                   |       | 9.0                                                                    | %          | 8.9 | % | 8.6 | % | 10.3 | % | 8.2 | % | 7.6 | % | 7.1 | % | 8.6 | % |

 

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The higher grossyield ratio experienced during the third quarter of 2005 reflects interest rateincreases associated with cardholder accounts, as well as trending late feeincreases associated with seasonal delinquency rises subsequent to the firstquarter of this year. Interest rates on our credit card receivables are indexedto prime rates, which have increased along with Federal Reserve Board rateincreases over the past several months. Observations with respect to theremaining categories in the above table are as follows:

·       Whileall of our charge-off levels and ratios benefit from our marketing of newaccounts underlying our originated portfolio master trust, which was renewedduring mid to late 2004 and has continued into 2005, the favorable effects ofthe new accounts are offset by the growth in our largely fee-based credit cardoffering to consumers at the lower end of the FICO scoring range, thereceivables of which experience greater charge-off levels than we experiencewithin our originated portfolio master trust and with respect to purchasedreceivables.

·       Whileour net interest margin benefits from lower finance charge and late fee chargeoff levels within newly added accounts underlying our originated portfoliomaster trust, the favorable effects of the new accounts are offset partially bythe growth in our largely fee-based credit card offering to consumers at thelower end of the FICO scoring range, the receivables of which experience lowerAPRs and have greater charge-off levels than we experience within ouroriginated portfolio master trust and with respect to purchased receivables.

·       Thesignificant trending, seasonally adjusted decline in combined gross charge offsand combined gross charge off ratios during 2005 as compared to 2004 principallyreflects credit quality improvements within our portfolios.

·       Bothcredit quality improvements within our portfolios and lower delinquenciescontributed to trending lower net charge off ratios and adjusted charge offratios, when comparing each quarter of 2005 with its comparable 2004 quarter.

·       Ourfirst quarter of 2005 combined gross charge off, net charge off and adjustedcharge off ratios all benefit from the effects of three acquisitions thatoccurred late in the fourth quarter of 2004 and early in the first quarter of2005. That is to say that our March 31, 2005 managed receivables dataexclude all receivables associated with accounts that were at or near chargeoff at the time the receivables portfolios were acquired. The exclusion ofthese late stage or severely delinquent accounts at the time of acquisitionmeans that there are fewer charge offs on the acquired portfolios’ receivablesuntil the acquired portfolios season through their delinquency buckets in themonths following the acquisitions. Magnifying this beneficial effect is thefact that while there are no charge offs of these receivables until theportfolios season through their delinquency buckets, the denominator of thevarious charge off ratio computations is increased to include all of theacquired portfolios’ receivables that were not at or near charge off at thetimes of acquisition. In prior filings we have sometimes referred to thiseffect as the “denominator effect.” These beneficial effects diminishedsignificantly during the second quarter of 2005 with the seasoning of theacquired portfolio’s receivables through their delinquency buckets; thisaccounted for the increases in the second quarter 2005 combined charge offratio, net charge off ratio and adjusted charge off ratio relative tocomparable first quarter 2005 ratios.

·       Thegap between our net charge offs and adjusted charge offs, as well as theirassociated ratios, has narrowed in recent quarters leading up to the firstquarter of 2005. Given our efforts to grow our account originations andreceivables levels for both our traditional credit card product and our largelyfee-based credit card offering to consumers at the lower end of the FICOscoring range and given cardholder purchase activities and the commensurategeneration of new receivables by customers underlying our portfolioacquisitions, the pre-acquisition receivables balances within our acquiredportfolios (to which our credit quality discount at acquisition applies) havefallen as a 

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relative percentage of ourtotal portfolio of managed receivables. Our first quarter 2005 receivablesacquisitions should serve to diminish somewhat the pace of this trend over thenext few quarters; in fact, these acquisitions contributed to a temporaryreversal of this trend in the second quarter of 2005. As first quarter 2005acquisitions began to age through their delinquency buckets in the secondquarter of 2005, we began to experience charge offs for these acquisitions forthe first time, and the net charge offs associated with these acquisitions wereoffset by credit quality discounts in arriving at our adjusted charge offs.This caused the proportion of net charges to which credit quality discountsrelate to actually increase (thus widening the spread between the net chargeoff ratio and the adjusted charge off ratio) in the second quarter of 2005. Asexpected, we saw the gap between our net charge off and adjusted charge offs(and their associated ratios) begin to narrow again in the third quarter of2005 for the same reasons cited above with respect the narrowing that occurredleading into the second quarter of 2005.

·       Comparingour quarterly 2005 net interest margins to their corresponding 2004 quartersdemonstrates the favorable effects of lower finance charge and late fee chargeoffs, which are consistent with the absolute improvements that we are seeingyear over year in the credit quality of our portfolios. We have also seenimprovement in our net interest margin during each successive quarter of 2005,which corresponds with the improved gross yield ratios experienced during eachsuch quarter, as well as higher accretable yield inclusions within the netinterest margin based on the continued strength of the Fingerhut portfolio.During the second quarter of 2005, we determined that $28.0 million of excesscredit quality discount on the Fingerhut portfolio should be reclassified toaccretable yield and amortized into net interest margin over the remaining lifeof the Fingerhut portfolio.

·       Thegeneral trend of year-over-year and successive 2005 quarterly improvements inthe other income ratio results principally from increased fee income (net offee charge offs) associated with our largely fee-based credit card productoffering to consumers at the lower end of the FICO scoring range. Alsocontributing is improved credit quality overall, which has had the effect ofreducing the level of fee charge offs netted against fee income associated withour originated portfolio master trust and purchased portfolio managedreceivables.

·       Theoperating ratio increased slightly over that experienced in the first andsecond quarters primarily due to the fourth quarter 2004 and first quarter 2005portfolio acquisitions, for which servicing revenues (which are an offset tothe numerator in our operating ratio computation) have not exceeded servicingcosts by as wide of a margin as we have experienced for other recentacquisitions.

·       Relative to third quarter2005 statistics, we expect a lower fourth quarter 2005 net interest margin, ahigher fourth quarter 2005 net charge off ratio and a higher fourth quarter2005 adjusted charge off ratio, due in part to normal seasonal charge offtrends. Like other credit card issuers, however, we have also experiencedheightened bankruptcy charge offs in recent weeks as consumers rushed to filefor bankruptcy before the October 17, 2005 effective date of recentlyenacted bankruptcy legislation. While we know that we have not yet experiencedthe full effects of these heightened bankruptcy filings due to a backlog of filingswithin the courts, we believe that (1) the full effects of theseheightened filing levels will be realized in our fourth quarter, (2) manyof our customers who have filed for bankruptcy filed at a point in time afterwe had already charged off their receivables through the normal delinquencyprocess, (3) our fourth quarter economics may be affected by $10.0 millionto $15.0 million in incremental charge offs, and (4) much of theincrementally higher fourth quarter charge offs that we will experience associatedwith the bankruptcy legislation will offset future delinquency charge offs.

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***Definitions of Financial, Operating and StatisticalMeasures***

We refer readers to ourAnnual Report on Form 10-K for the year ended December 31, 2004for the definitions of adjusted charge offs, combined gross charge offs, thegross yield ratio, net charge offs, the net interest margin, and the otherincome ratio, none of which have changed from the definitions provided in thatAnnual Report on Form 10-K. Our operating ratio represents anannualized fraction, the numerator of which includes the expenses associatedwith our Credit Cards segment (net of any servicing income we receive in ourcapacity as servicer for other parties with separate economic interests in thetrusts that we service), other than marketing and solicitation and ancillaryproduct expenses, and the denominator of which is average managed receivables.

**Investmentsin Previously Charged-Off Receivables Segment**

Forthe three and nine months ended September 30, 2005, the following tableshows a roll-forward of our investments in previously charged-off receivablesactivities (in thousands of dollars):

| ** **                                                                                                                                                                                                                           | ** ** | **Three Months  Ended  September 30,  2005** | ** ** | **Nine Months  Ended  September 30,  2005** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------|------------|-------------------------------------------------------|------------|
| Unrecovered  balance at beginning of period                                                                                                                                                                                          |       |                                                   | $          | 14,550                                                |       |   |   | $ | 15,094 |   |   |
| Acquisitions of  defaulted accounts                                                                                                                                                                                                  |       |                                                   | 15,883     |                                                  |       |   | 36,213 |   |   |
| Cost-recovery  method income recognized on defaulted accounts (included as a  component of fees and other income on non-securitized earning assets on the  Company’s condensed consolidated statements of operations) |       |                                                   | 6,628      |                                                  |       |   | 41,620 |   |   |
| Cost-recovery  method income recognized on bulk sale of receivables (See Note 5, “Sale  of Investments in Previously Charged-Off Receivables and Forward Flow  Contract.”)                                       |       |                                                   | —     |                                                  |       |   | 69,559 |   |   |
| Cash collections                                                                                                                                                                                                                     |       |                                                   | (17,185    | )                                                     |       |   | (66,610 | ) |   |
| Cash collections  on bulk sale of receivables (See Note 5, “Sale of Investments in  Previously Charged-Off Receivables and Forward Flow Contract.”)                                                         |       |                                                   | —     |                                                  |       |   | (76,000 | ) |   |
| Unrecovered  balance at September 30, 2005                                                                                                                                                                                      |       |                                                   | $          | 19,876                                                |       |   |   | $ | 19,876 |   |   |
| Estimated remaining  collections (“ERC”)                                                                                                                                                                                   |       |                                                   | $          | 44,278                                                |       |   |   | $ | 44,278 |   |   |

 

The above table reflects our use of the cost recoverymethod of accounting for our investments in previously charged-off receivables.Under this method, static pools consisting of homogenous accounts andreceivables are established for each portfolio acquisition. Once a static poolis established, the receivables within the pool are not changed. Each staticpool is recorded at cost and is accounted for as a single unit for paymentapplication and income recognition purposes. Under the cost recovery method,income associated with a particular portfolio is not recognized until cashcollections have exceeded the investment. Additionally, until such time as cashcollected for a particular portfolio exceeds our investment in the portfolio,we will incur commission costs and other internal and external servicing costsassociated with the cash collections on the portfolio investment that will becharged as an operating expense without any offsetting income amounts. Includedwithin cash collections in the above table is $2.8 million of amortizeddeferred revenue associated with a $67.0 million cash prepayment made to usunder the Forward Flow Contract discussed both below and in Note 5, “Sale ofInvestments in Previously Charged-Off Receivables and Forward FlowContract,” within our condensed consolidated financial statements includedherein.

The life of each pool of charged-off receivables thatwe typically acquire is generally estimated to be between 24 and 36 monthsfor normal delinquency charged-off accounts and approximately 60 months for 

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Chapter 13 Bankruptcies.The Company anticipates collecting approximately 40.4% of the ERC of theexisting accounts over the next twelve months, with the balance to be collectedthereafter.

In June of 2005, the subsidiary that comprisesour Investments in Previously Charged-Off Receivables segment sold a portfolioof charged-off credit card receivables having a face amount of approximately$2.9 billion to Encore Capital Group, Inc. (“Encore”) and agreed tosell Encore up to $3.25 billion in face amount of the subsidiary’s futurecharged-off credit card receivable acquisitions at established pricing over thenext five years. As consideration for these transactions, the subsidiaryreceived $143.0 million in cash. The purchase price included $76.0 millionrelated to the portfolio of charged-off credit card receivables and $67.0million related to the Forward Flow Contract. The sale of the portfolio ofcharged-off credit card receivables resulted in a gain of $69.6 million, whichhas been recorded in fees and other income on non-securitized earning assets onour condensed consolidated statements of operations for the nine months ended September 30,2005. Ten million dollars of the $67.0 million in deferred revenue related tothe Forward Flow Contract is required to be held in escrow until theperformance of certain conditions under the contract and is included inrestricted cash on our condensed consolidated balance sheet; as such, this $10million will be excluded from income recognition computations until theconditions are satisfied. The remaining $57.0 million of deferred revenue willbe recognized into income over the life of the contract as our subsidiarydelivers its associated volumes of charged-off credit card receivables toEncore in the future. Based on the Forward Flow Contract, our subsidiary isexpected to purchase for delivery to Encore over the life of the contract certainpreviously charged-off receivables from trusts, the receivables of which areserviced by us, as well as certain previously charged-off receivablesassociated with our largely fee-based credit card offering to consumers at thelower end of the FICO scoring range. Any shortfalls in delivery of minimumperiodic dollar amounts of previously charged-off receivables to Encore couldresult in the subsidiary being required to return a portion of the purchaseprice related to the Forward Flow Contract.

Remaining after the Encoretransaction are our pools of previously charged-off receivables associated withChapter 13 Bankruptcies and our balance transfer program, which we expect tocontinue to service and grow through future acquisitions. We expect ourInvestments in Previously Charged-Off Receivables segment to continue itsChapter 13 Bankruptcies and other previously charged-off receivables activitiesthroughout the remainder of 2005 and beyond as we acquire previouslycharged-off receivables and sell them to Encore for fixed sales prices underthe Forward Flow Contract (recognizing as we will the associated deferredrevenue under the contract). We note here, however, that we do not anticipateincome at recent pre-second-quarter-of-2005 levels to be recurringthroughout the remainder of 2005. Similar to our experiences in the thirdquarter of this year, we expect fourth quarter 2005 income from this segment tobe lower than fourth quarter 2004 income, although we do anticipate income inthis segment to continue to grow throughout 2005 and 2006 relative to resultspresented in the third quarter of 2005.

**Retail Micro-Loans Segment**

The Retail Micro-Loans segment consists of a networkof storefront locations that provide, either directly or on behalf of a lendingbank, small-denomination, short-term, unsecured cash advances that aretypically due on the customer’s next payday. The assets associated with ourRetail Micro-Loans operations were principally acquired in two separatetransactions completed during 2004. During the second quarter of 2004, certainof our subsidiaries acquired substantially all of the assets of First American,including over 300 retail locations in 11 states, for $108.9 million.Representing an initial market entry into micro-loan activities, the FirstAmerican acquisition provided a platform for future growth in this market.Subsequently, during the third quarter of 2004, our subsidiaries acquiredsubstantially all of the assets of another micro-lender, Venture Services, including166 retail locations in 7 states, for $33.9 million. The Venture Servicesacquisition provided complementary locations in 4 existing states and added 3new states. Also in January 2005, one of our subsidiaries acquiredsubstantially all of the assets of another micro-lender for$11.9 million, including transaction costs; with this acquisition, weadded an additional 

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39 stores in theState of Ohio. As of September 30, 2005, our subsidiaries operated a totalof 508 micro-loan locations in 15 states.

The micro-lending market emerged in the early 1990s inresponse to a shortage of available short-term consumer creditalternatives from traditional banking institutions. We believe customers seekmicro-loans as a simple, quick and confidential way to meet short-term cashneeds between paydays while avoiding the potentially higher costs and negativecredit consequences of other financing alternatives, which include overdraftprivileges or bounced check protection, late bill payments, checks returned forinsufficient funds and short-term collateralized loans.

In most of the states in which our subsidiariesoperate our micro-loans business, the subsidiaries make loans directly tocustomers. However, in certain other states, they act only as a processing andservicing agent for a state-chartered, FDIC insured bank that issues loans tocustomers pursuant to the authority of the laws of the state in which the bankis located and federal interstate banking laws, regulations and guidelines.Unlike many competitors, our subsidiaries have structured their processing andservicing agreements with the lending bank so that the bank bears the entirecredit risk associated with the loans. Additionally, unlike many competitors,our subsidiaries typically do not purchase overdue loans from the lending bank.As of September 30, 2005, our subsidiaries were making micro-loansdirectly to customers in 381 of the 508 locations in 11 states, and they wereacting as a processing and servicing agent for the lending bank in theremaining 127 locations in 4 states. For the three and nine months ended September 30,2005, we generated $22.5 million and $58.7 million, respectively, inrevenues from making micro-loans directly to consumers, while we generated$15.3 million and $18.4 million, respectively, in revenues from these lendingactivities during comparable 2004 periods. Our revenues from processing andservicing activities for the lending bank were $5.5 million and $17.8million for the three and nine months ended September 30, 2005, respectively,and $7.8 million and $10.2 million for the three and nine months ended September 30,2004, respectively.

Inaddition to the 39 locations we acquired during the three months ended March 31,2005, we opened 9 new locations during the nine months ended September 30,2005. The capital cost of opening a new branch location varies depending on thesize and location of the branch, but typically averages approximately $30,000.This capital cost includes leasehold improvements, signage, fixtures, furniture,computer equipment and security. Historically, it typically takes approximatelynine months for a micro-loan location to generate sufficient revenues to coverits branch expenses, excluding management fees paid to its parent. During thenine months ended September 30, 2005, 22 of the branch locations wereclosed in order to better allocate our resources.

| ** **                     | ** ** | **For the Three  Months Ended  September 30, 2005** | ** ** | **For the Nine  Months Ended  September 30, 2005** | ** ** | **Year Ended  December 31, 2004** | ** ** |
|--------------------------------|------------|------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| Beginning number  of locations |       |                                                                         | 513        |                                                                        |       |                                             | 482        |   |   |   | — |   |   |
| Acquired  locations            |       |                                                                         | —     |                                                                        |       |                                             | 39         |   |   |   | 468 |   |   |
| Opened locations               |       |                                                                         | 3          |                                                                        |       |                                             | 9          |   |   |   | 16 |   |   |
| Closed locations               |       |                                                                         | (8         | )                                                                           |       |                                             | (22        | ) |   |   | (2 | ) |   |
| Ending locations               |       |                                                                         | 508        |                                                                        |       |                                             | 508        |   |   |   | 482 |   |   |

 

Pre-tax net income within our Retail Micro-Loanssegment was $3.0 million and $6.6 million for the three and nine months ended September 30,2005, respectively, and $2.7 million and $3.5 million for the three and ninemonths ended September 30, 2004, respectively. The pre-tax net incomeduring the three months ended September 30, 2005 reflects the impact ofcertain guidelines issued by the FDIC to FDIC-insured institutionsoffering micro-loans, including the lending bank for which our Retail Micro-Loanssegment acts as a processing and servicing agent. Issued on March 1, 2005,this revised guidance limits the frequency of customer usage of micro-loans andlimits the period a customer may have 

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micro-loans outstandingfrom any lender to an aggregate of three months during any 12-monthperiod. Based on an average term of approximately 15 days, this effectivelylimits the number of micro-loans that may be made to any customer to six duringany 12-month period. In response to the FDIC guidelines, which tookeffect during July 2005, our Retail Micro-Loans operations began processingand servicing various alternative financial products on behalf of theFDIC-regulated bank for which we act as a processing and servicing agent. Thesealternative financial products were introduced by the bank during the thirdquarter of 2005 and include: (a) an amortizing installment loan; (b) anamortizing auto equity loan; and (c) a credit card product. As of September 30,2005, processing and servicing revenues for these alternative financialproducts, particularly the amortizing installment loan, accounted for asignificant percentage of our ongoing revenues in the four states with respectto which our operations have been affected by the new FDIC guidance. Wecontinue to evaluate the impact of the FDIC guidelines and will continuemonitoring the profitability of the new alternative financial products forwhich we perform processing and servicing activities.

The results for our RetailMicro-Loans operations during the three months ended September 30, 2005also reflect the impact of Hurricane Katrina. While Hurricane Rita did notaffect our operations, we were forced to close 7 existing stores in Mississippibecause of Hurricane Katrina, and we had to delay openings for certain plannedstore locations in Louisiana. Although all but one of the Mississippi storeswere re-opened within a few days, our decision to ease our typical collectionefforts with respect to affected customers in Mississippi negatively impactedthe pre-tax results of our Retail Micro-Loans segment. As of September 30,2005, our Retail Micro-Loans segment had gross receivables in Mississippi of$1.2 million. In anticipation of potentially higher bad debt losses inMississippi, we appropriately revised our allowance for uncollectible loans andfees receivable as of September 30, 2005; we believe this additionalallowance is sufficient to cover potential incremental charge-offs resultingfrom Katrina.

**Auto Finance Segment**

On April 1, 2005, we completed an acquisition ofWells Fargo Financial’s Consumer Auto Receivables business unit, whichcomprises our new Auto Finance segment. This acquisition included all ofConsumer Auto Receivables’ assets, business operations and employees forapproximately $121.5 million including transaction costs. The acquisition wasfinanced using $88.2 million in debt with the remainder in cash. Uponacquisition, Consumer Auto Receivables had $128.9 millionauto-finance-related receivables (at face, net of unearned discounts) andoperated in thirty-eight states through its twelve branches, three regionalprocessing centers and national collection center at its Lake Mary, Floridaheadquarters. The business has approximately 300 employees.

The Auto Finance segment consists of a nationwidenetwork of pre-qualified dealers in the “Buy Here/Pay Here” used car businessfrom which auto loans are purchased at a discount or serviced for a fee.Revenues are generated on purchased loans through interest earned on the facevalue of the purchased installment agreements combined with discounts on thesepurchased loans. Interest income from discounts is generally earned over thelife of the applicable loan. Additionally, our Auto Finance segment generatesrevenues by servicing loans on behalf of dealers for a portion of actualcollections, and by providing back-up servicing for similar quality securitizedassets.

The number of active dealers is a function of newdealer enrollments offset by dealer attrition within the states in which theAuto Finance segment is presently licensed. Dealers are certified upon beingrecruited by a sales force of approximately 60 resources located throughoutstrategically selected territories. Our Auto Finance segment recently receivedauthorization to expand business operations into three new states, bringing thetotal number of states in which the business unit operates to 41, and wepresently have approximately 1,300 active dealers and approximately 42,000active accounts.

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The Auto Finance segment is also in the process ofdeveloping and releasing new financing products designed to complete its complementof products being offered to this market segment. In addition to theseinitiatives, the business unit is in the process of forming strategic allianceswith aftermarket product and service providers in an effort to cross-sell totheir existing customer base. We currently are in the process of implementing anew system of record for the Auto Finance segment (and transferring off of thesystem used by the segment under Wells Fargo’s ownership). Upon implementation(which we expect will occur by January 1, 2006), we expect that the newsystem of record will improve the efficiency and effectiveness of our salesprocesses and will enable us to grow and book new dealer relationships andreceivables at rates not currently feasible with the Wells Fargo system. Untilthat time, however, we do not expect to see meaningful growth within the AutoFinance segment.

Third quarter 2005hurricanes within the Gulf region are not expected to have a material effect onthe results of our Auto Finance segment. Based on analysis of our potentialcredit exposure related to the hurricanes, we determined that we have 14 dealerrelationships in the zip codes affected by the hurricanes, and that wecurrently own $0.7 million of receivables associated with 289 automobiles locatedwithin the affected zip codes. As appropriately adjusted as ofSeptember 30, 2005, we believe that our allowance for uncollectible loansand fees receivable is adequate to cover any incremental hurricane-relatedcredit exposures within the Auto Finance segment.

**Other Segment**

The Other segment consistsof our stored-value card operations and their associated fee income andservicing expenses and other start-up product offerings (including merchantcredit and internet-based micro-loan offerings). We expect continuedlosses within this segment for at least the next few quarters as we continue todevelop our infrastructure and product offerings.

**Liquidity,Funding and Capital Resources**

AtSeptember 30, 2005, we had $81.9 million in unrestricted cash.Because the characteristics of our assets and liabilities change, liquiditymanagement is a dynamic process affected by the pricing and maturity of ourassets and liabilities. We finance our business through cash flows fromoperations, asset backed securitizations and the issuance of debt and equity:

·       During the nine monthsended September 30, 2005, we generated $209.7 million in cash flowfrom operations, compared to generating $105.5 million in cash flow fromoperations during the nine months ended September 30, 2004. Major factorsassociated with the $104.2 million increase include (1) a $55.8million net increase in cash flows associated with our zero-basis Fingerhutreceivables while they were held on balance sheet after their third quarter2004 de-securitization and prior to their re-securitization inSeptember 2005 ($84.5 million in cash flows reflected in year-to-date 2005pre-tax income versus $28.7 million in reflected in year-to-date 2004 pre-taxincome), and (2) the Forward Flow Contract associated with the Encoretransaction, which resulted in the receipt of $67.0 million in cash, $64.2million of which is shown as deferred revenue on our condensed consolidatedbalance sheet at September 30, 2005.

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·       Duringthe nine months ended September 30, 2005, we used $371.6 million ofcash in investing activities, compared to using $207.3 million of cash forthe nine months ended September 30, 2004. The $164.3 million increase isdue primarily to: (1) net investments in securitized earning assets of$133.3 million for the nine months ended September 30, 2005 compared tonet investments in securitized earning assets of $10.3 million for the ninemonths ended September 30, 2004, due to our use of proceeds from ourconvertible senior notes offering and the Encore transaction to fundreceivables purchases that are securitized within our originated portfoliomaster trust; (2) our first quarter investment in a 47.5%-ownedequity-method investee in connection with the acquisition of$376.3 million (face amount) in credit card receivables; (3) theacquisition of our auto finance business during the second quarter of 2005; (4) increasedpurchases of software, furniture, fixtures and equipment related to ourcontinued growth and expansion; and (5) notwithstanding $76.0 million ofyear-to-date 2005 cash receipts associated with our bulk sale of previouslycharged-off receivables to Encore and included as proceeds from non-securitizedearning assets, significant increased net investments in our non-securitizedearnings assets (primarily receivables associated with our largely fee-basedcredit card offering to consumers at the lower end of the FICO scoring range).

·       Duringthe nine months ended September 30, 2005, we generated $187.6 millionin cash from financing activities, compared to generating $36.0 million incash from financing activities during the same period in 2004. The $151.6million increase in cash flow generated is primarily due to: (1) oursecond quarter 2005 issuance of $250.0 million aggregate principal amount of3.625% convertible senior notes due 2025; (2) debt incurred during theacquisition of our Auto Finance segment and subsequent funding of receivablestherein; and (3) increased borrowings underlying our investments in debtsecurities. Increases in cash flows from financing activities were offset,however, by: (1) repurchases of $100.0 million treasury stock inconnection with the $250.0 million debt offering; (2) increased netdistributions to minority interest-holders in our consolidated subsidiaries;and (3) higher net debt repayments related to our Retail Micro-Loanssegment in the first nine months of 2005 than in the corresponding period of2004.

In recent prior quarters, we focused on reducing ourunrestricted cash balances to the minimal levels necessary to meet our dailyoperations and investment needs so as to avoid incurring costs on funds notcurrently needed to fund investments or operations. Historically, we have beenable to manage our cash balances in this way by managing draws under oursecuritization facilities so as to meet our cash needs on an “as needed” basis.During the second quarter of 2005, however, we received substantial net cashflows of $141.7 million net from our convertible senior notes offering (the$250.0 million convertible senior notes proceeds, net of $8.3 million issuancecosts and the $100.0 million used contemporaneous with issuance to repurchaseour common shares) and $133.0 million ($143.0 million, net of $10.0 million ofescrowed cash) from the Encore transaction. With these cash flows, weaccumulated $204.6 million in unrestricted cash as of June 30, 2005,notwithstanding our continuing efforts to fund receivable purchases securitizedwithin our originated portfolio master trust so as to minimize draws onoutstanding securitization facilities. Notwithstanding our receipt of $31.6million of cash associated with the securitization of our Fingerhut receivablesin September 2005, by funding cardholder purchases underlying receivablessecuritized within our originated portfolio master trust, we were able toreturn our unrestricted cash balance as of September 30, 2005 back down toa level more consistent with our above-stated goals (i.e., $81.9 million). Wecontinue to focus on this cash management strategy because the yields that wecan earn on our cash deposits are less than the costs of funds under oursecuritization facilities. We take comfort in this strategy because we areconfident in our ability to draw additional cash from a $1.0 billion 2-yearvariable funding facility (as well as a conduit facility) to meet ouracquisition and operating needs as they arise in the future.

As of September 30, 2005, our collateral basewithin our originated portfolio master trust was sufficient to allow foradditional cash draws of $369.3 million against our existing securitizationfacilities. 

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Coupled with ourunrestricted cash balances, this gives us some $451.2 million of readyliquidity for use in our growth, acquisition and diversification efforts. Weexpect to explore several new acquisition opportunities throughout theremainder of 2005 and beyond through our efforts to acquire other credit cardreceivables portfolios and our expansion into product and service offeringscomplementary to our sub-prime consumer market. In light of our acquisitiongoals including our $270 million acquisition of CardWorks, Inc. (asexpected late in the fourth quarter of this year or early next year), wethought it prudent to seek leverage against our Fingerhut receivables in thethird quarter of this year through their securitization. We also continue toexplore new sources of capital to facilitate our acquisition goals, and ifmarket conditions are right for us, we may leverage other assets through structuredfinance or securitization transactions, issue convertible or other debtinstruments or raise capital through equity or equity-linked instruments,possibly in the near future.

On April 1, 2005, we completed the acquisition ofWells Fargo Financial’s Consumer Auto Receivables business unit. Thisacquisition included all of Consumer Auto Receivables’ assets, businessoperations and approximately 300 employees for approximately $121.5 millionincluding transaction costs. The acquisition was financed using $88.2 millionin debt with the remainder paid in cash. The $88.2 million in debt was financedthrough a structured finance transaction. In that transaction, a newly formedspecial purpose subsidiary purchased the receivables and supporting collateralfrom the business and financed that acquisition through a secured lendingfacility with a bank. The debt incurred under that facility is recourse only tothe assets that are pledged to the lender. We intend to finance any receivablesgrowth in the business through this same process. The sale of receivables andsupporting collateral to this particular special purpose subsidiary does notqualify for gain on sale treatment under Statement No. 140.

In January 2005, we purchased a 47.5% interest ina joint venture for $10.9 million, including transaction costs. One of ourwholly owned subsidiaries and two unaffiliated investors formed this entity inconnection with the acquisition of $376.3 million (face amount) in creditcard receivables. These receivables were then transferred to a subsidiary ofthe joint venture, and then on to a trust pursuant to a Statement No. 140transfer in exchange for notes and a subordinated, certificated interest issuedby the trust. We account for our investment in this joint venture under theequity method of accounting, and it is included in investment in equity-methodinvestees on our condensed consolidated balance sheet as of September 30,2005. For a fee that represents adequate compensation for servicing, we agreedto service this entire portfolio of securitized credit card receivables.

Our Board of Directors hasauthorized a program to repurchase up to 10 million shares of our outstandingcommon stock. Under the plan, we repurchase shares of our common stock fromtime to time either on the open market or through privately negotiatedtransactions in compliance with SEC guidelines. At our discretion, we may usethe treasury shares to satisfy option exercises and restricted stock grants. Wewill continue to evaluate our stock price relative to other investmentopportunities and, to the extent we believe that the repurchase of our stockrepresents an appropriate return of capital, we will repurchase additionalshares of our stock. To date, we have repurchased 5,252,500 shares includingthe 2,994,000 shares we repurchased in conjunction with the issuance ofthe convertible senior notes. We have subsequently reissued 720,778 of theseshares in satisfaction of stock option exercises.

***Securitization Facilities***

One of our most significant sources of liquidity isthe securitization of credit card receivables. As of September 30, 2005,we had total securitization facilities of approximately $2.3 billion and hadused approximately $894.8 million of these facilities. The weighted-averageborrowing rate on these facilities at September 30, 2005 was approximately5.0%. The maturity terms of our securitizations vary.

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In the table below, wehave noted the securitization facilities (along with their maturity dates) withrespect to which a substantial majority of our managed credit card receivablesserved as collateral as of September 30, 2005 (i.e., all credit cardreceivables other than the receivables associated with our largely fee-basedcredit card offering to consumers at the lower end of the FICO scoring range).Following the table are further details concerning each of the facilities.

| **Maturity date** | ** ** | ** **                          | ** ** | **Facility Limit(1)** | ** ** |
|------------------------|------------|-------------------------------------|------------|----------------------------|------------|
| ** **             | ** ** | **(Dollars in millions)** | ** ** |
| January 2006(2)   |       |                                | $          | 63.5                       |       |   |
| September 2006(3) |       |                                | 306.0      |                       |       |
| September 2007(4) |       |                                | 31.6       |                       |       |
| January 2008(5)   |       |                                | 1,000.0    |                       |       |
| October 2009(6)   |       |                                | 299.5      |                       |       |
| October 2010(6)   |       |                                | 299.5      |                       |       |
| January 2014(7)   |       |                                | 256.1      |                       |       |
| Total                  |       |                                | $          | 2,256.2                    |       |   |

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(1)          Excludes securitizationfacilities related to receivables managed by CSG because such receivables andtheir related securitization facilities relate to CSG, our 50%-ownedequity-method investee, and therefore are appropriately excluded from directpresentation in the condensed consolidated statement of operations or condensedconsolidated balance sheet items included herein. For similar reasons, excludesthe securitization facilities underlying Transistor’s on-balance-sheetstructured financing of its credit card receivables acquisition and thesecuritization facility of our 47.5%-owned equity-method investee, theinvestment in which we completed in January of 2005.

(2)          Represents the conduitnotes associated with our 75.1% membership interest in our majority-ownedsubsidiary that securitized the $92.0 million (face amount) of receivablesacquired in the third quarter of 2004 and the $72.1 million (face amount) ofreceivables acquired in the first quarter of 2005.

(3)          Represents the end ofthe revolving period for a $306.0 million conduit facility.

(4)          In September 2005,we securitized the Fingerhut receivables in a two-year amortizing structure.

(5)          This two-year variablefunding note facility also contains one-year renewal periods (subject tocertain conditions precedent) at the expiration of the recently renewedtwo-year term and an orderly amortization of the facility at expiration.

(6)          On October 8, 2004,we completed two new, term securitization facilities that were issued out ofour originated portfolio master trust:  a5-year facility represented by $299.5 million aggregate principal notesand a 6-year facility also represented by $299.5 million aggregateprincipal notes. To date, we have elected to sell only $287.0 million of theprincipal notes underlying the 5-year facility and $264.0 of theprincipal notes underlying the 6-year facility. However, assuming thecontinuation of current market conditions and performance within our originalportfolio master trust, we believe we can sell the remaining principal notesunder terms advantageous to us should we need additional liquidity from thesale of the notes during the life of the facilities.

(7)          Represents a ten-yearamortizing term series issued out of the Embarcadero Trust.

For each portfolio of credit card receivables that wehave securitized, there has never been an early amortization period. We haveexperienced, however, early amortization events associated with each of thesecuritization structures represented by the Fingerhut retained interests thatwe acquired in 2002 and the retained interests that CSG acquired in 2002—bothof which were contemplated and planned for in connection with our establishmentof purchase prices for the respective acquisitions. While the Fingerhut earlyamortization event was made inconsequential to us first by a Fingerhut retainedinterests exchange 

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during the third quarterof 2003 and then again by our third quarter 2004 de-securitization of theFingerhut receivables, as well as the third quarter 2005 re-securitization ofthese receivables, the CSG early amortization event has ongoing consequencesfor us. Due to a reduction in the principal balance of the receivables withinthe CSG Trust (the retained interests in which are owned by our equity-methodinvestee, CSG), a principal balance trigger occurred, and hence earlyamortization began, during the second quarter of 2003. The occurrence of thisevent caused CSG to cease its cash distributions to us in June 2003,although we expect that the CSG Trust will continue to provide adequatecompensation to us in cash for servicing the portfolio of receivablesunderlying the CSG Trust and will continue to make payments to us in respect ofour investment in CSG Trust bonds held. We expect CSG to resume cashdistributions to its equity-holders (including us) late in the fourth quarterof 2005.

While we have nevertriggered an early amortization within any of the series underlying ouroriginated portfolio master trust securitization and while we do not believethat we will, it is conceivable that, even with close management, we maytrigger an early amortization of one or more of the outstanding series withinthis trust. Early amortization for any of the originated portfolio master trustsecuritization series would have adverse effects on our liquidity, certainlyduring the early amortization period and potentially beyond repayment of anysuch series because potential investors could tend to shy away from futureCompuCredit-backed issuances.

**ContractualObligations, Commitments and Off Balance Sheet Arrangements**

See Item 7,“Management’s Discussion and Analysis of Financial Condition and Results ofOperations” in our Annual Report on Form 10-K for the year endedDecember 31, 2004. There have been no new material commitments enteredinto since December 31, 2004 other than:

·       OnApril 1, 2005, we completed our acquisition of the Consumer AutoReceivables business unit for approximately $121.5 million includingtransaction costs. The acquisition was financed using $88.2 million indebt with the remainder paid in cash. The $88.2 million in debt was financedthrough an asset securitization transaction described above under “Liquidity,Funding and Capital Resources.

·       InMay 2005, we issued $250.0 million aggregate principal amount of 3.625%convertible senior notes due 2025 to qualified institutional buyers in aprivate placement, and the notes were subsequently registered with the SEC.During certain periods and subject to certain conditions, the $250.0 million ofnotes will be convertible by holders into cash and, if applicable, shares ofour common stock at an initial conversion rate of 23.0309 shares of commonstock per $1,000 principal amount of notes, subject to adjustment; theconversion rate is based on an initial conversion price of $43.42 per share ofcommon stock. Upon conversion of the notes, we will deliver to holders of thenotes cash of up to $1,000 per $1,000 aggregate principal amount of notes and,at our option, either cash or shares of our common stock in respect of theremainder of the conversion obligation, if any. Beginning with the six-monthperiod commencing on May 30, 2012, we will pay contingent interest on thenotes during a six-month period if the average trading price of the notes isabove a specified level. In addition, holders of the notes may require us torepurchase the notes on each of May 30, 2012, 2015, and 2020 and uponcertain specified events.

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·       InJune of 2005, one of our subsidiaries entered into a Forward Flow Contractagreeing to sell Encore up to $3.25 billion in face amount of the subsidiary’sfuture charged-off credit card receivable acquisitions at established pricingover the next five years. In consideration, the subsidiary received $67.0million. Based on the Forward Flow Contract, our subsidiary is expected topurchase for delivery to Encore over the life of the contract certainpreviously charged-off receivables from trusts, the receivables of which areserviced by us, as well as certain previously charged-off receivablesassociated with the our largely fee-based credit card offering to consumers atthe lower end of the FICO scoring range. Any shortfalls in delivery of minimumperiodic dollar amounts of previously charged-off receivables to Encore couldresult in the subsidiary being required to return a portion of the purchaseprice related to the Forward Flow Contract.

·       On September 25, 2005,one of our subsidiaries entered into a stock purchase agreement with CardWorks,L.P., pursuant to which the subsidiary is expected to pay $270 million toacquire all of the issued and outstanding shares of capital stock of CardWorks, Inc.,a privately held issuer and third-party servicer of consumer credit cardsthrough its subsidiaries Merrick Bank Corporation, a Utah industrial loan bank,and Cardholder Management Services, LLC. This acquisition is subject tocustomary closing conditions, including the receipt of regulatory approvals,and is expected to be completed late in the fourth quarter of 2005 or early2006. Under the stock purchase agreement, the subsidiary could be subject to afee of $27.0 million if the contract is terminated as defined by the agreement.

***Commitments and Contingencies***

We have certaincontractual arrangements that would require us to make payments or providefunding if certain circumstances occur (“contingent commitments”). We do notcurrently expect that these contingent commitments will result in any amountsbeing paid by us. See Note 10, “Commitments and Contingencies,” to ourcondensed consolidated financial statements for further discussion of thesematters.

**Recent Accounting Pronouncements**

See Note 2, “SignificantAccounting Policies and Condensed Consolidated Financial Statement Components,”to our condensed consolidated financial statements for a discussion of recentaccounting pronouncements.

**Critical Accounting Estimates**

In many instances, theapplication of GAAP requires management to make estimates or to applysubjective principles to particular facts and circumstances. A variance in theestimates used or a variance in the application or interpretation of GAAP couldyield a materially different accounting result. It is impracticable for us tosummarize every accounting principle that requires us to use judgment orestimates in its application. In our Annual Report on Form 10-K forthe year ended December 31, 2004, we discuss the four areas (valuation ofretained interests, investments in previously charged-off receivables,non-consolidation of qualifying special purpose entities and the allowance foruncollectible loans and fees) where we believe that the estimations, judgmentsor interpretations that we have made, if different, would have yielded the mostsignificant differences in our financial statements, and we urge you to reviewthat discussion. In addition, in Note 10, “Off Balance Sheet Arrangements,”to the condensed consolidated financial statements included in this report, wehave updated a portion of our sensitivity analysis with respect to retainedinterest valuations.

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**Related Party Transactions**

Since 2001, we have been subleasing 7,316 square feetof excess office space to Frank J. Hanna, Jr., for $21.50 per square foot.Frank J. Hanna, Jr. is the father of our Chairman and Chief ExecutiveOfficer, David G. Hanna, and one of our directors, Frank J. Hanna, III.The sublease rate is the same as the rate that we pay on the prime lease. Totalrent for the three months and nine months ended September 30, 2005 for thesublease was approximately $40,000 and $120,000, respectively.

See Note 2, “SignificantAccounting Policies,” to the consolidated financial statements included withinour Annual Report on Form 10-K for the year ended December 31,2004 for a discussion of the acquisition of previously defaulted receivables byour subsidiary, Jefferson Capital, from trusts serviced by us.

**Forward-Looking Information**

All statements in this quarterly report concerning ouroperations, earnings and liquidity expectations for 2005 and all otherstatements regarding our future performance (including those using words suchas “believe,” “estimate,” “project,” “anticipate, or “predict”) areforward-looking statements. These types of statements are used in ourdiscussions of:  total interest income;interest expense; fees and other income on non-securitized earning assets;provision for loan losses; fees and other income on securitized earning assets;servicing income; equity in income of equity-method investees; total otheroperating expense; net interest margin; asset quality; our Investments inPreviously Charged-off Receivables segment; our Retail Micro-Loans segment; ourAuto Finance segment; and our liquidity, funding and capital resources, amongothers. These forward-looking statements are not guarantees of futureperformance and are subject to various assumptions, risks and other factorsthat could cause our actual results to differ materially from those suggestedby these forward-looking statements. These factors include, among others, thefollowing risks and others set forth under the caption “Risk Factors” inour Annual Report on Form 10-K for the year ended December 31, 2004:

(1)          Thecash flows we receive from our retained interests are a critical component ofour financial performance and are dependent upon the cash flows received on thereceivables underlying our securitizations. The collectibility of thereceivables underlying our securitizations is a function of many factorsincluding the criteria used to select to whom credit is extended, the pricingof the credit products, the length of the relationship with each customer,general economic conditions, the rate at which customers repay their accounts,the rate at which customers change or become delinquent and the dynamicregulatory environment in which we operate. To the extent we have overestimated collectibility, in all likelihood we have over estimated ourfinancial performance.

(2)          Weare substantially dependent upon securitizations and other borrowed funds tofund the receivables that we originate or purchase. All of our securitizationfacilities are of finite duration (and ultimately will need to be extended orreplaced) and contain conditions that must be fulfilled in order for funding tobe available. In the event that advance rates for securitizations are reduced,investors in securitizations require a greater rate of return, we fail to meetthe requirements for continued funding or large-scale securitizations otherwisebecome unavailable to us, we may not be able to maintain or grow our base ofreceivables or it may be more expensive for us to do so. In addition, a portionof our receivables cannot be financed through securitizations because ofadvance rate limitations and must be financed through equity that either is theresult of profitable operations or is raised from third parties or throughfunds borrowed elsewhere. The cost and availability of equity and borrowedfunds is dependent upon our financial performance, the performance of ourindustry generally, and general economic and market conditions. While werecently issued convertible senior notes on terms that we found attractive,there have been times throughout our history during which equity and debtfinancing was expensive and difficult to obtain.

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(3)          Ourfinancial performance is, in part, a function of the aggregate amount ofreceivables that we have outstanding. In turn, this is a function of manyfactors including interest rates, seasonality, general economic conditions,competition from other credit card issuers and other sources of consumerfinancing, access to funding as noted above and the success of our marketingefforts. To the extent that we have over-estimated the size or growth of ourreceivables, in all likelihood we have over-estimated our future performance.

(4)          Ouroperating expenses and our ability to effectively service receivables aredependent on our ability to estimate the future size and general growth rate ofthe portfolio. One of our servicing agreements causes us to make additionalpayments if we overestimate the size or growth of our business. Theseadditional payments are to compensate the servicer for increased staffingexpenses it incurs in anticipation of our growth. If we grow slower thananticipated, we may still have higher servicing expenses than we actually need,thus reducing our net income. We generally have sufficient office space,customer service representatives, collectors and computer capacity toaccommodate expected growth. However, we are dependent on labor markets tosupply qualified employees at appropriate compensation when needed. To theextent that growth occurs unexpectedly, or the labor markets are tight at thattime, we may encounter difficulties in accommodating that growth effectively.

(5)          Weoperate in a heavily regulated industry. Changes in bankruptcy, privacy orother consumer protection laws, including laws that regulate the creation andenforcement of consumer loans, or changes in the interpretation thereof, mayadversely affect our ability to collect credit card receivables, micro-loansand other loan and fee balances or otherwise adversely affect our business orexpose us to litigation. Similarly, regulatory changes or changes ininterpretation of existing regulations could adversely affect our ability tomarket credit cards, stored-value cards, micro-loans or other products andservices to our customers. The Retail Micro-Loans segment of our businessoperates in an increasingly hostile regulatory environment, and there currentlyis a purported class action lawsuit pending against us with respect to thisbusiness. Lastly, our operations routinely are subject to review by variousgovernmental authorities, which may or may not subject us to fines, penaltiesor requirements that we change our operations.

(6)          Theaccounting rules that govern our business are exceedingly complex,difficult to apply and in a state of flux. As a result, how we value our creditcard receivables and otherwise account for our business (including whether weconsolidate our securitizations) is subject to change depending upon theinterpretation of, and changes in, those rules.

(7)          Weroutinely explore various opportunities to grow our business, including thepurchase of receivable portfolios and other businesses. We have acquiredseveral businesses within the past year and expect to acquire others in thefuture. There are a number of risks attendant to any acquisition, including thepossibility that we will overvalue the assets to be purchased, that we will notbe able to successfully integrate the acquired business or assets and that wewill not be able to produce the expected level of profitability from theacquired business or assets. As a result, the impact of any acquisition on ourfuture performance may not be as favorable as expected and actually may beadverse.

We expressly disclaim anyobligation to update or revise any forward-looking statements, whether as aresult of new information, future events or otherwise, except as required bylaw.

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**ITEM 3.**                QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

**InterestRate Sensitivity and Market Risk**

Interest rate sensitivity is comprised of basis risk,gap risk and market risk. Basis risk is caused by the difference in theinterest rate indices used to price assets and liabilities. Gap risk is causedby the difference in repricing intervals between assets and liabilities. Marketrisk is the risk of loss from adverse changes in market prices and rates. Ourprincipal market risk is related to changes in interest rates. This affects usdirectly in our lending and borrowing activities, as well as indirectly asinterest rates may impact the payment performance of our customers.

We incur basis risk because we fund managed assets ata spread over commercial paper rates or LIBOR, while the rates on theunderlying managed assets are indexed to the prime rate. This basis riskresults from the potential variability over time in the spread between theprime rate on the one hand, and commercial paper rates and LIBOR on the otherhand. We have not hedged our basis risk because we believe that the cost ofhedging this risk is greater than the benefits we would get from elimination ofthis risk. We incur gap risk because the debt underlying our securitizationtrust facilities reprices monthly; whereas, our receivables do not adjustunless we specifically adjust them with appropriate notification. This gaprisk, however, is relatively minor as we can reprice the substantial majorityof our receivables very quickly in response to a rate change.

As to the issue of market risk, we attempt to minimizethe impact of interest rate fluctuations on net income by regularly evaluatingthe risk inherent within our asset and liability structure, especially our offbalance sheet assets (such as securitized receivables) and their correspondingliabilities. The impact of interest rate fluctuations on our securitizedreceivables is reflected in the valuation of our retained interests in creditcard receivables securitized. This risk arises from continuous changes in ourasset and liability mix, changes in market interest rates (including suchchanges that are caused by fluctuations in prevailing interest rates, paymenttrends on our interest-earning assets and payment requirements on our interest-bearingliabilities) and the general timing of all other cash flows. To manage ourdirect risk to interest rates, management actively monitors interest rates andthe interest sensitive components of our securitization structures. Managementseeks to minimize the impact of changes in interest rates on the fair value ofassets, net income and cash flows primarily by matching asset and liabilityrepricings. There can be no assurance, however, that we will be successful inour attempts to manage such risks.

At September 30, 2005, a substantial portion ofour managed credit card receivables, including those related to ourequity-method investees, and other interest-earning assets had variable ratepricing, with receivables carrying annual percentage rates at a spread over theprime rate (6.75% at September 30, 2005), subject to interest rate floors.At September 30, 2005, $58.5 million of our total managed receivableswere priced at their floor rate, of which, $33.3 million of thesereceivables were closed and therefore ineligible to be repriced; the remaining$25.2 were open and eligible to be repriced. Every 10% increase in LIBOR thatwe experience until the accounts underlying these $58.5 million inreceivables reach their floor rate would result in an approximately $85,000after-tax negative impact on our annual cash flows. Nevertheless, to the extentwe choose to reprice any of the $25.2 million of receivables underlyingthe open accounts that are below their floor rate, we can mitigate against any possibleadverse impact on our cash flows.

We believe we are notexposed to any material foreign currency exchange rate risk or commodity pricerisk.

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**ITEM 4.**                CONTROLSAND PROCEDURES

(a)          Disclosurecontrols and procedures.

As of the end of theperiod covered by this report, we carried out an evaluation, under thesupervision and with the participation of our Chief Executive Officer and ChiefFinancial Officer, of the effectiveness of disclosure controls and proceduresas defined in Rules 13a-15(e) and 15d-15(e) of theSecurities Exchange Act of 1934, as amended (the “Exchange Act”). Based on suchevaluation, our Chief Executive Officer and Chief Financial Officer haveconcluded that as of the end of the period covered by this report, ourdisclosure controls and procedures were effective at meeting their objectives.

(b)         Internalcontrol over financial reporting.

There were not any changes in our internal controlover financial reporting (as such term is defined in Rules 13a-15(f) and15d-15(f) under the Exchange Act) during the fiscal quarter to whichthis report relates that have materially affected, or are reasonably likely tomaterially affect, our internal control over financial reporting.

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**PART II—OTHER INFORMATION**

**ITEM 1.**                LEGALPROCEEDINGS

We are involved in variouslegal proceedings that are incidental to the conduct of our business. In one ofthese legal proceedings, CompuCredit Corporation and five of our subsidiariesare defendants in a purported class action lawsuit entitled Knox, et al. vs.First Southern Cash Advance, et al, No 5 CV 0445, filed in theSuperior Court of New Hanover County, North Carolina, on February 8, 2005.The plaintiffs allege that in conducting a so-called “payday lending” business,certain of our Retail Micro-Loans segment subsidiaries violated various lawsgoverning consumer finance, lending, check cashing, trade practices and loanbrokering. The plaintiffs further allege that CompuCredit is the alter ego ofour subsidiaries and is liable for their actions. The plaintiffs are seekingdamages of up to $75,000 per class member. We intend to vigorously defend thislawsuit. These claims are similar to those that have been asserted againstseveral other market participants in transactions involving small balance,short-term loans made to consumers in North Carolina.

**ITEM 2.**                UNREGISTEREDSALES OF EQUITY SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITYSECURITIES

***Issuer Purchases of Equity Securities***

Thefollowing table provides information with respect to purchases we made of ourcommon stock during the nine months ended September 30, 2005:

| ** **                            | ** ** | **Total Number of  Shares Purchased(1)** | ** ** | **Average Price Paid  per Share** | ** ** | **Total Number of   Shares Purchased as  Part of Publicly  Announced Plans or  Programs(2)** | ** ** | **Maximum Number of  Shares (or  Approximate Dollar  Value) That May Yet  Be Purchased Under  the Plans or Programs** | ** ** |
|---------------------------------------|------------|---------------------------------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| Balance as of  December 31, 2004 |       |                                                    | 2,248,500  |                                             |       |                                                                                                                                      | $          | 12.63                                                                                                                                                                             |       |   |   | 2,248,500 |   |   |   | 7,751,500 |   |   |
| May 2005                         |       |                                                    | 2,994,000  |                                             |       |                                                                                                                                      | $          | 33.40                                                                                                                                                                             |       |   |   | 2,994,000 |   |   |   | 4,757,500 |   |   |
| Total                                 |       |                                                    | 5,242,500  |                                             |       |                                                                                                                                      | $          | 24.45                                                                                                                                                                             |       |   |   | 5,242,500 |   |   |   | 4,757,500 |   |   |

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(1)          Excludes treasury stockused to satisfy stock option exercises of 376,924 and 343,854 for 2005 and2004, respectively.

(2)          Underthe repurchase program authorized by the Board of Directors, we are authorizedto repurchase up to 10 million shares of our outstanding common stock.

**ITEM 3.**                DEFAULTSUPON SENIOR SECURITIES

None.

**ITEM 4.**                SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS

None.

**ITEM 5.**                OTHERINFORMATION

None.

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**ITEM 6.**                EXHIBITS

(a)          Exhibits

| Exhibit  Number | ** ** | ** **                                                                                                                         | ** ** | **Description of Exhibit**                              | ** ** | **Incorporated by reference from  CompuCredit’s SEC filings unless  otherwise indicated:** |
|-----------------|------------|------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------|
| 2.1             |       | Stock Purchase Agreement, dated as of  September 25, 2005, by and between CardWorks, L.P. and Liberty  Acquisition, Inc. |       | September 25, 2005 Form 8-K  Exhibit 2.1 |
| 31.1            |       | Certification per Section 302 of the  Sarbanes-Oxley Act of 2002 for David G. Hanna                                           |       | Filed herewith                                          |
| 31.2            |       | Certification per Section 302 of the  Sarbanes-Oxley Act of 2002 for J.Paul Whitehead, III                               |       | Filed herewith                                          |
| 32.1            |       | Certification per Section 906 of the  Sarbanes-Oxley Act of 2002 for David G. Hanna and J.Paul Whitehead, III            |       | Filed herewith                                          |

 

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**SIGNATURES**

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.
|                       | COMPUCREDIT CORPORATION |
|-----------------------|-------------------------|
| November 1, 2005 | By                      | /s/  J.PAUL WHITEHEAD, III |
|                  |                    | J.Paul  Whitehead, III |
|                  | * *                | *Chief  Financial Officer* |
|                  | * *                | *(duly  authorized officer and  principal financial officer)* |

 

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