UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2005

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

Portfolio Recovery Associates, Inc.

 

Delaware		75-3078675
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
120 Corporate Boulevard, Norfolk, Virginia		23502
(Address of principal executive offices)		(zip code)

(888) 772-7326
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

þ Yes o No

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

þ Yes o No

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

o Yes þ No

The number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class		Outstanding as of October 19, 2005
Common Stock, $0.01 par value		15,717,393

 

 

PORTFOLIO RECOVERY ASSOCIATES, INC.

INDEX

		Page(s)
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets (unaudited)			3
as of September 30, 2005 and December 31, 2004
Consolidated Income Statements (unaudited)			4
For the three and nine months ended September 30, 2005 and 2004
Consolidated Statements of Changes in Stockholders’ Equity (unaudited)			5
For the nine months ended September 30, 2005
Consolidated Statements of Cash Flows (unaudited)			6
For the nine months ended September 30, 2005 and 2004
Notes to Consolidated Financial Statements (unaudited)			7-17
Item 2. Management’s Discussion and Analysis of Financial			18-35
Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosure About Market Risk			36
Item 4. Controls and Procedures			36
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K			37
SIGNATURES			38

PORTFOLIO RECOVERY ASSOCIATES, INC.
CONSOLIDATED BALANCE SHEETS
September 30, 2005 and December 31, 2004
(unaudited)

		September 30,				December 31,
		2005				2004
Assets
Cash and cash equivalents		$	67,398,268			$	24,512,575
Investments			—				23,950,000
Finance receivables, net			117,246,471				105,188,906
Property and equipment, net			7,431,544				5,752,489
Goodwill			18,287,511				6,397,138
Intangible assets, net			9,777,568				6,318,838
Other assets			1,687,821				3,056,023
Total assets		$	221,829,183			$	175,175,969
Liabilities and Stockholders’ Equity
Liabilities:
Accounts payable		$	2,738,360			$	1,413,726
Accrued expenses			1,963,799				1,563,285
Income taxes payable			3,485,759				182,221
Accrued payroll and bonuses			5,535,060				4,475,919
Deferred tax liability			21,864,507				13,650,722
Long-term debt			1,269,331				1,924,422
Obligations under capital lease			427,742				576,234
Total liabilities			37,284,558				23,786,529
Commitments and contingencies (Note 11)
Stockholders’ equity:
Preferred stock, par value $0.01, authorized shares, 2,000,000, issued and outstanding shares - 0			—				—
Common stock, par value $0.01, authorized shares, 30,000,000, issued and outstanding shares - 15,714,463 at September 30, 2005, and 15,498,210 at December 31, 2004			157,145				154,982
Additional paid in capital			106,735,523				100,905,851
Retained earnings			77,651,957				50,328,607
Total stockholders’ equity			184,544,625				151,389,440
Total liabilities and stockholders’ equity		$	221,829,183			$	175,175,969

The accompanying notes are an integral part of these consolidated financial statements.

PORTFOLIO RECOVERY ASSOCIATES, INC.
CONSOLIDATED INCOME STATEMENTS
For the Three and Nine Months Ended September 30, 2005 and 2004
(unaudited)

		Three Months				Three Months				Nine Months				Nine Months
		Ended				Ended				Ended				Ended
		September 30,				September 30,				September 30,				September 30,
		2005				2004				2005				2004
Revenues:
Income recognized on finance receivables		$	33,987,480			$	27,069,524			$	100,060,121			$	77,867,413
Commissions			3,517,617				1,216,054				9,139,288				3,826,564
Total revenue			37,505,097				28,285,578				109,199,409				81,693,977
Operating expenses:
Compensation and employee services			11,215,665				9,154,696				32,491,172				26,902,987
Outside legal and other fees and services			7,417,463				5,347,702				22,153,943				15,038,953
Communications			1,115,603				840,321				3,213,324				2,658,619
Rent and occupancy			554,675				434,541				1,543,004				1,296,577
Other operating expenses			833,815				648,512				2,315,722				2,028,266
Depreciation and amortization			1,288,649				487,757				3,268,654				1,398,091
Total operating expenses			22,425,870				16,913,529				64,985,819				49,323,493
Income from operations			15,079,227				11,372,049				44,213,590				32,370,484
Other income and (expense):
Interest income			188,220				77,259				475,680				105,841
Interest expense			(59,001	)			(69,383	)			(185,816	)			(206,451	)
Income before income taxes			15,208,446				11,379,925				44,503,454				32,269,874
Provision for income taxes			5,866,624				4,405,160				17,180,104				12,533,777
Net income		$	9,341,822			$	6,974,765			$	27,323,350			$	19,736,097
Net income per common share
Basic		$	0.60			$	0.45			$	1.75			$	1.29
Diluted		$	0.58			$	0.44			$	1.69			$	1.25
Weighted average number of shares outstanding
Basic			15,692,417				15,341,801				15,607,596				15,322,675
Diluted			16,172,657				15,831,660				16,132,869				15,793,935

The accompanying notes are an integral part of these consolidated financial statements.

PORTFOLIO RECOVERY ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
For the Nine Months Ended September 30, 2005
(unaudited)

						Additional								Total
		Common				Paid in				Retained				Stockholders’
		Stock				Capital				Earnings				Equity
Balance at December 31, 2004		$	154,982			$	100,905,851			$	50,328,607			$	151,389,440
Net income			—				—				27,323,350				27,323,350
Exercise of stock options, warrants and vesting of restricted shares			1,826				2,215,575				—				2,217,401
Issuance of common stock for acquisition			337				1,443,426				—				1,443,763
Amortization of stock-based compensation			—				382,523				—				382,523
Stock-based compensation income tax benefits			—				1,788,148				—				1,788,148
Balance at September 30, 2005		$	157,145			$	106,735,523			$	77,651,957			$	184,544,625

The accompanying notes are an integral part of these consolidated financial statements.

PORTFOLIO RECOVERY ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine Months Ended September 30, 2005 and 2004
(unaudited)

		Nine Months				Nine Months
		Ended				Ended
		September 30,				September 30,
		2005				2004
Operating activities:
Net income		$	27,323,350			$	19,736,097
Adjustments to reconcile net income to cash provided by operating activities:
Increase in equity from vested options and warrants			718,942				456,379
Income tax benefit from stock option exercises			1,788,148				437,514
Depreciation and amortization			3,268,654				1,398,091
Deferred tax expense			8,213,785				11,729,031
Changes in operating assets and liabilities:
Other assets			1,742,935				558,704
Accounts payable			313,433				(114,556	)
Income taxes			3,303,538				499,590
Accrued expenses			241,765				699,745
Accrued payroll and bonuses			1,059,141				682,866
Net cash provided by operating activities			47,973,691				36,083,461
Cash flows from investing activities:
Purchases of property and equipment			(3,074,499	)			(1,967,964	)
Acquisition of finance receivables, net of buybacks			(56,133,504	)			(37,626,129	)
Collections applied to principal on finance receivables			44,075,939				34,882,955
Acquisition of RDS, net of acquisition costs and cash received			(14,983,332	)			—
Purchase of auction rate certificates			(84,475,000	)			(20,950,000	)
Sales of auction rate certificates			108,425,000				—
Net cash (used in) investing activities			(6,165,396	)			(25,661,138	)
Cash flows from financing activities:
Proceeds from exercise of options and warrants			1,880,981				309,570
Proceeds from long-term debt			—				750,000
Payments on long-term debt			(655,091	)			(357,226	)
Payments on capital lease obligations			(148,492	)			(221,257	)
Net cash provided by financing activities			1,077,398				481,087
Net increase in cash and cash equivalents			42,885,693				10,903,410
Cash and cash equivalents, beginning of period			24,512,575				24,911,841
Cash and cash equivalents, end of period		$	67,398,268			$	35,815,251
Supplemental disclosure of cash flow information:
Cash paid for interest		$	185,816			$	206,451
Cash paid for income taxes		$	3,874,533			$	280,642
Noncash investing and financing activities:
Capital lease obligations incurred		$	—			$	296,910
Acquisition of RDS — Common stock issued		$	1,443,763			$	—

The accompanying notes are an integral part of these consolidated financial statements.

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

1. Organization and Business:

     Portfolio Recovery Associates, LLC (“PRA”) was formed on March 20, 1996. Portfolio Recovery Associates, Inc. (“PRA Inc”) was formed in August 2002. On November 8, 2002, PRA Inc completed its initial public offering (“IPO”) of common stock. As a result, all of the membership units and warrants of PRA were exchanged on a one to one basis for warrants and shares of a single class of common stock of PRA Inc. PRA Inc owns all outstanding membership units of PRA, PRA Receivables Management, LLC (d/b/a Anchor Receivables Management) (“Anchor”), PRA Location Services, LLC (d/b/a IGS Nevada) (“IGS”), PRA Government Services, LLC (d/b/a Alatax and RDS) (“RDS”) and Thomas West Associates, LLC (“TWA”). PRA Inc, a Delaware corporation, and its subsidiaries (collectively, the “Company”) are full-service providers of outsourced receivables management and related services. The Company is engaged in the business of purchasing, managing and collecting portfolios of defaulted consumer receivables as well as offering a broad range of accounts receivable management services. The majority of the Company’s business activities involve the purchase, management and collection of defaulted consumer receivables. These are purchased from sellers of finance receivables and collected by a highly skilled staff whose purpose is to locate and contact customers and arrange payment or resolution of their debts. The Company, through TWA and its Legal Recovery Department, collects accounts judicially, either by using its own attorneys, or by contracting with independent attorneys throughout the country with whom the Company takes legal action to satisfy consumer debts. The Company also services receivables on behalf of clients on either a commission or transaction-fee basis. Clients include entities in the financial services, auto, retail, utility, health care and government sectors. Services provided to these clients include standard collection services on delinquent accounts, obtaining location information for clients in support of their collection activities (known as skip tracing), and the management of both delinquent and non-delinquent tax receivables for government entities.

     The consolidated financial statements of the Company include the accounts of PRA Inc, PRA, PRA Holding I, Anchor, IGS, TWA and RDS. Certain 2004 amounts have been reclassified to conform to the 2005 presentation.

     The accompanying unaudited financial statements of the Company have been prepared in accordance with Rule 10-01 of Regulation S-X promulgated by the Securities and Exchange Commission and, therefore, do not include all information and footnotes necessary for a fair presentation of financial position, results of operations and cash flows in conformity with accounting principles generally accepted in the United States of America. In the opinion of the Company, however, the accompanying unaudited consolidated financial statements contain all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the Company’s balance sheet as of September 30, 2005, its income statements for the three and nine month periods ended September 30, 2005 and 2004 and its statements of cash flows for the nine month periods ended September 30, 2005 and 2004, respectively. The income statements of the Company for the three and nine month periods ended September 30, 2005 and 2004 may not be indicative of future results. These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K, as filed for the year ended December 31, 2004.

2. Finance Receivables, net:

     The Company’s principal business consists of the acquisition and collection of accounts that have experienced deterioration of credit quality between origination and the Company’s acquisition of the accounts. The amount paid for an account reflects the Company’s determination that it is probable the Company will be unable to collect all amounts due according to the account’s contractual terms. At acquisition, the Company reviews each account to determine whether there is evidence of deterioration of credit quality since origination and if it is probable that the Company will be unable to collect all amounts due according to the account’s contractual terms. If both conditions exist, the Company determines whether each such account is to be accounted for individually or whether such accounts will be assembled into pools based on common risk characteristics. The Company considers expected prepayments and estimates the amount and timing of undiscounted expected principal, interest and other cash flows for each acquired portfolio and subsequently aggregated pools of accounts. The Company determines the excess of the pool’s scheduled contractual principal and contractual interest payments over all cash flows expected at acquisition as an amount that should not be accreted (nonaccretable difference) based on the Company’s proprietary acquisition models. The remaining amount, representing the excess of the account’s cash flows expected to be collected over the amount paid, is accreted into income recognized on finance receivables over the remaining life of the account or pool (accretable yield).

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

     Prior to January 1, 2005, the Company accounted for its investment in finance receivables using the interest method under the guidance of Practice Bulletin 6, “Amortization of Discounts on Certain Acquired Loans.” Effective January 1, 2005, the Company adopted and began to account for its investment in finance receivables using the interest method under the guidance of American Institute of Certified Public Accountants (“AICPA”) Statement of Position (“SOP”) 03-3, “Accounting for Loans or Certain Securities Acquired in a Transfer.” For loans acquired in fiscal years beginning prior to December 15, 2004, Practice Bulletin 6 is still effective; however, Practice Bulletin 6 was amended by SOP 03-3 as described further in this note. For loans acquired in fiscal years beginning after December 15, 2004, SOP 03-3 is effective. Under the guidance of SOP 03-3 (and the amended Practice Bulletin 6), static pools of accounts are established. These pools are aggregated based on certain common risk criteria. Each static pool is recorded at cost, which includes certain direct costs of acquisition paid to third parties, and is accounted for as a single unit for the recognition of income, principal payments and loss provision. Once a static pool is established for a quarter, individual receivable accounts are not added to the pool (unless replaced by the seller) or removed from the pool (unless sold or returned to the seller). SOP 03-3 (and the amended Practice Bulletin 6) requires that the excess of the contractual cash flows over expected cash flows not be recognized as an adjustment of revenue or expense or on the balance sheet. The SOP initially freezes the internal rate of return, referred to as IRR, estimated when the accounts receivable are purchased as the basis for subsequent impairment testing. Significant increases in actual, or expected future cash flows may be recognized prospectively through an upward adjustment of the IRR over a portfolio’s remaining life. Any increase to the IRR then becomes the new benchmark for impairment testing. Effective for fiscal years beginning after December 15, 2004 under SOP 03-3 and the amended Practice Bulletin 6, rather than lowering the estimated IRR if the collection estimates are not received or projected to be received, the carrying value of a pool would be written down to maintain the then current IRR. Income on finance receivables is accrued quarterly based on each static pool’s effective IRR. Quarterly cash flows greater than the interest accrual will reduce the carrying value of the static pool. Likewise, cash flows that are less than the accrual will accrete the carrying balance. The IRR is estimated and periodically recalculated based on the timing and amount of anticipated cash flows using the Company’s proprietary collection models. A pool can become fully amortized (zero carrying balance on the balance sheet) while still generating cash collections. In this case, all cash collections are recognized as revenue when received. Additionally, the Company uses the cost recovery method when collections on a particular pool of accounts cannot be reasonably predicted. Under the cost recovery method, no revenue is recognized until the Company has fully collected the cost of the portfolio, or until such time that the Company considers the collections to be probable and estimable and begins to recognize income based on the interest method as described above. At September 30, 2005, the Company had unamortized purchased principal (purchase price) of $1,656,746 in pools accounted for under the cost recovery method.

     The Company establishes valuation allowances for all acquired accounts subject to SOP 03-3 to reflect only those losses incurred after acquisition (that is, the present value of cash flows initially expected at acquisition that are no longer expected to be collected). Valuation allowances are established only subsequent to acquisition of the accounts. At September 30, 2005, the Company had no valuation allowance on its finance receivables. Prior to January 1, 2005, in the event that estimated future cash collections would be inadequate to amortize the carrying balance, an impairment charge would be taken with a corresponding write-off of the receivable balance.

     The Company capitalizes certain fees paid to third parties related to the direct acquisition of a portfolio of accounts. These fees are added to the acquisition cost of the portfolio and accordingly are amortized over the life of the portfolio using the interest method. The balance of the unamortized capitalized fees at September 30, 2005 and 2004 was $998,192 and $1,225,998, respectively. During the three and nine months ended September 30, 2005 the Company capitalized $228,150 and $353,730, respectively, of these direct acquisition fees. During the three and nine months ended September 30, 2004 the Company capitalized $354,751 and $688,765, respectively, of these direct acquisition fees. During the three and nine months ended September 30, 2005 the Company amortized $138,193 and $454,054, respectively, of these direct acquisition fees. During the three and nine months ended September 30, 2004 the Company amortized $163,906 and $734,312, respectively, of these direct acquisition fees. At June 30, 2004 the Company wrote-off $530,580 related to the capitalization of fees paid to third parties for address correction and other customer data associated with the acquisition of portfolios purchased over the past five years. As a result of a review of the Company’s accounting, the Company determined these capitalized acquisition fees should be expensed.

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

     The agreements to purchase the aforementioned receivables include general representations and warranties from the sellers covering account holder death or bankruptcy and accounts paid in full, settled or disputed prior to sale. The representation and warranty period permitting the return of these accounts from the Company to the seller is typically 90 to 180 days. Any funds received from the seller of finance receivables as a return of purchase price are referred to as buybacks. Buyback funds are simply applied against the finance receivable balance received and are not included in the Company’s cash collections from operations. In some cases, the seller will replace the returned accounts with new accounts in lieu of returning the purchase price. In that case, the old account is removed from the pool and the new account is added.

     As of September 30, 2005 and 2004, the Company had $117,246,471 and $95,311,731, respectively, remaining of finance receivables. Changes in finance receivables for the three and nine months ended September 30, 2005 and 2004 were as follows:

		Three Months				Three Months				Nine Months				Nine Months
		Ended				Ended				Ended				Ended
		September 30,				September 30,				September 30,				September 30,
		2005				2004				2005				2004
Balance at beginning of period		$	114,837,794			$	96,270,285			$	105,188,906			$	92,568,557
Acquisitions of finance receivables, net of buybacks			15,916,690				10,821,842				56,133,504				37,626,129
Cash collections			(47,495,493	)			(38,849,920	)			(144,136,060	)			(112,750,368	)
Income recognized on finance receivables			33,987,480				27,069,524				100,060,121				77,867,413
Cash collections applied to principal			(13,508,013	)			(11,780,396	)			(44,075,939	)			(34,882,955	)
Balance at end of period		$	117,246,471			$	95,311,731			$	117,246,471			$	95,311,731

     Based upon current projections, cash collections applied to principal is estimated to be as follows for the twelve months in the periods ending:

September 30, 2006		$	33,753,214
September 30, 2007			29,397,388
September 30, 2008			25,693,090
September 30, 2009			16,891,519
September 30, 2010			9,072,231
September 30, 2011			2,439,029
		$	117,246,471

     Accretable yield represents the amount of income the Company can expect to generate over the remaining life of its existing portfolios based on estimated future cash flows as of September 30, 2005 and 2004. Reclassifications from nonaccretable difference to accretable yield primarily result from the Company’s increase in its estimate of future cash flows. Changes in accretable yield for the three and nine months ended September 30, 2005 and 2004 were as follows:

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

		Three Months				Three Months				Nine Months				Nine Months
		Ended				Ended				Ended				Ended
		September 30,				September 30,				September 30,				September 30,
		2005				2004				2005				2004
Balance at beginning of period		$	224,453,203			$	187,970,086			$	202,841,339			$	175,098,132
Income recognized on finance receivables			(33,987,480	)			(27,069,524	)			(100,060,121	)			(77,867,413	)
Additions			20,054,019				15,613,073				60,482,154				55,958,806
Sales			—				—				—				—
Reclassifications from nonaccretable difference			22,268,147				14,909,816				69,524,517				38,233,926
Balance at end of period		$	232,787,889			$	191,423,451			$	232,787,889			$	191,423,451

     During the three and nine months ended September 30, 2005, the Company purchased $445.3 million and $2.47 billion of face value of charged-off consumer receivables. During the three and nine months ended September 30, 2004, the Company purchased $564.9 million and $2.67 billion of face value of charged-off consumer receivables. At September 30, 2005, the estimated remaining collections on the receivables purchased in the three and nine months ended September 30, 2005 are $36,404,931 and $109,415,694, respectively. At September 30, 2005, the estimated remaining collections on the receivables purchased in the three and nine months ended September 30, 2004 are $17,809,235 and $58,503,723, respectively.

3. Investments:

     The Company accounts for its investments under the guidance of SFAS 115, “Accounting for Certain Investments in Debt and Equity Securities.” At December 31, 2004, the Company had investments totaling $23,950,000 which consist of variable rate auction rate certificates classified as available-for-sale securities. These securities are recorded at cost, which approximates fair market value due to their variable interest rates, which typically reset every 7 to 35 days, and, despite the long term nature of their stated contractual maturities, the Company has the ability to quickly liquidate these investments. As a result, the Company had no cumulative gross unrealized holding gains (losses) or gross realized gains (losses) from these investments and all income generated was recorded as interest income. The Company may continue to invest in these types of securities within a given reporting period.

4. Revolving Line of Credit:

     The Company maintains a $25.0 million revolving line of credit pursuant to an agreement entered into on November 28, 2003 and amended on November 22, 2004. The credit facility bears interest at a spread of 2.50% over LIBOR and extends through November 28, 2006. The agreement calls for:

	•		restrictions on monthly borrowings are limited to 20% of estimated remaining collections;
	•		a debt coverage ratio of at least 8.0 to 1.0, calculated on a rolling twelve-month average;
	•		a debt to tangible net worth ratio of less than 0.40 to 1.00;
	•		net income per quarter of at least $1.00, calculated on a consolidated basis; and
	•		restrictions on change of control.

     This facility had no amounts outstanding at September 30, 2005. As of September 30, 2005 the Company is in compliance with all of the covenants of this agreement.

     In accordance with the credit agreement, the Company obtained approval from the lender for the RDS acquisition.

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

5. Long-Term Debt:

     In July 2000, the Company purchased a building in Hutchinson, Kansas. The building was financed with a commercial loan for $550,000 with a variable interest rate based on LIBOR. This commercial loan is collateralized by the real estate in Kansas. Monthly principal payments on the loan were $4,583 for an amortized term of 10 years. A balloon payment of $275,000 was due July 21, 2005, which resulted in a five-year principal payout. The loan was paid in full at its maturity date of July 21, 2005.

     On February 9, 2001, the Company purchased a generator for its Norfolk location. The generator was financed with a commercial loan for $107,000 with a fixed rate of 7.9%. This commercial loan is collateralized by the generator. Monthly payments on the loan are $2,170 and the loan matures on February 1, 2006.

     On February 20, 2002, the Company completed the construction of a satellite parking lot at its Norfolk location. The parking lot was financed with a commercial loan for $500,000 with a fixed rate of 6.47%. The loan is collateralized by the parking lot. The loan required only interest payments during the first six months. Beginning October 1, 2002, monthly payments on the loan are $9,797 and the loan matures on September 1, 2007.

     On May 1, 2003, the Company secured financing for its computer equipment purchases related to the Hampton, Virginia office opening. The computer equipment was financed with a commercial loan for $975,000 with a fixed rate of 4.25%. This loan is collateralized by computer equipment. Monthly payments are $18,096 and the loan matures on May 1, 2008.

     On January 9, 2004, the Company entered into a commercial loan agreement in the amount of $750,000 to finance equipment purchases at its newly leased Norfolk facility. This loan bears interest at a fixed rate of 4.45%, matures on January 1, 2009 and is collateralized by the purchased equipment.

     These four loans are collateralized by the related asset and are subject to the following covenants:

	•		net worth greater than $20,000,000; and
	•		a cash flow coverage ratio of at least 1.5 to 1 calculated on a rolling twelve-month average.

6. Property and Equipment:

     Property and equipment, at cost, consist of the following as of the dates indicated:

		September 30,				December 31,
		2005				2004
Software		$	3,179,806			$	2,550,224
Computer equipment			3,540,678				2,964,333
Furniture and fixtures			2,138,222				1,729,792
Equipment			2,605,665				1,876,081
Leasehold improvements			1,617,441				1,146,489
Building and improvements			1,673,353				1,142,017
Land			150,922				150,922
Less accumulated depreciation			(7,474,543	)			(5,807,369	)
Property and equipment, net		$	7,431,544			$	5,752,489

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

7. Acquisition of RDS:

     On July 29, 2005, the Company acquired substantially all of the assets and liabilities of Alatax, Inc. for consideration of $17.5 million, consisting of $16.1 million in cash and 33,684 shares of our common stock, valued at $1.4 million at the closing in accordance with the calculation set forth in the asset purchase agreement. The assets acquired from Alatax, Inc. consisted of cash, accounts receivable, prepaid expenses, customer relationships, fixed assets, non-competition protection and goodwill. Liabilities assumed consisted of accounts payable and accrued expenses.

     The following is an allocation of the purchase price to the assets acquired and liabilities assumed of Alatax, Inc.:

Purchase price including acquisition costs		$	17,825,717
Cash			(1,398,622	)
Accounts receivable and prepaid expenses (included in other assets)			(374,732	)
Customer relationships			(4,800,000	)
Non-compete agreements			(200,000	)
Fixed assets			(331,939	)
Accounts payable			1,011,200
Accrued expenses			158,749
Goodwill		$	11,890,373

     Alatax, Inc., which is based in Birmingham, Alabama, was founded in 1980 and has become a leading provider of outsourced business revenue administration, audit and debt discovery/recovery services for local governments. Alatax, Inc. has a workforce of about 80 employees and contractors. Alatax Inc.’s two top executives have both signed long-term employment agreements and will continue to manage the company. Although most of its clients are located in Alabama (where it operates as Alatax), the company recently has begun expanding into surrounding states (where it operates as Revenue Discovery Systems (RDS)). The income statement includes the results of operations of RDS for the period from August 1, 2005 through September 30, 2005.

8. Intangible Assets:

     With the acquisitions of IGS on October 1, 2004 and RDS on July 29, 2005, the Company purchased certain tangible and intangible assets. Intangible assets purchased included client and customer relationships, non-compete agreements and goodwill. In accordance with the Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standard No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142”), the Company is amortizing the IGS client relationships over seven years, the RDS customer relationships over ten years and the non-compete agreements over three years for both the IGS and RDS acquisitions. The Company reviews them at least annually for impairment. Total amortization expense was $651,554 and $1,541,270 for the three and nine months ended September 30, 2005, respectively. Total amortization expense was $0 for the three and nine months ended September 30, 2004. In addition, goodwill, pursuant to SFAS 142, is not amortized but rather is reviewed at least annually for impairment. The annual review, which is conducted as of October 1, 2005, has not been completed at the time of the filing of this Form 10-Q.

9. Stock-Based Compensation:

     The Company has a stock option and restricted (nonvested) share plan. The Amended and Restated Portfolio Recovery Associates 2002 Stock Option Plan and 2004 Restricted Stock Plan was approved by the Company’s shareholders at its Annual Meeting of Shareholders on May 12, 2004, enabling the Company to issue to its employees and directors restricted shares of stock, as well as stock options. Also, in connection with the IPO, all existing PRA warrants that were owned by certain individuals and entities were exchanged for an equal number of PRA Inc warrants. Prior to 2002, the Company accounted for stock compensation issued under the recognition and measurement provisions of APB Opinion No. 25 (“APB 25”), “Accounting for Stock Issued to Employees,” and related Interpretations.

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

     Effective January 1, 2002, the Company adopted the fair value recognition provisions of FASB Statement No. 123 (“SFAS 123”), “Accounting for Stock-Based Compensation,” prospectively to all employee awards granted, modified, or settled after January 1, 2002. All stock-based compensation measured under the provisions of APB 25 became fully vested during 2002. All stock-based compensation expense recognized thereafter was derived from stock-based compensation based on the fair value method prescribed in SFAS 123.

     Total equity-based compensation expense was $331,211 and $808,684 for the three and nine months ended September 30, 2005, respectively. Total equity-based compensation expense was $220,832 and $516,028 for the three and nine months ended September 30, 2004, respectively.

Stock Warrants

     Prior to the IPO, the PRA management committee was authorized to issue warrants to partners, employees or vendors to purchase membership units. Generally, warrants granted had a term between five and seven years and vested within three years. Warrants had been issued at or above the fair market value on the date of grant. Warrants vest and expire according to terms established at the grant date. All warrants became fully vested at the Company’s IPO in 2002. During the three and nine months ended September 30, 2005 and 2004, no warrants were issued.

     The following summarizes all warrant related transactions from December 31, 2001 through September 30, 2005:

						Weighted
						Average
		Warrants				Exercise
		Outstanding				Price
December 31, 2001			2,195,000			$	4.17
Granted			50,000				10.00
Exercised			(50,000	)			4.20
Cancelled			(10,000	)			4.20
December 31, 2002			2,185,000				4.30
Exercised			(2,026,000	)			4.17
Cancelled			(51,500	)			9.72
December 31, 2003			107,500				4.20
Exercised			(67,500	)			4.20
December 31, 2004			40,000				4.20
Exercised			(36,250	)			4.20
September 30, 2005			3,750			$	4.20

     The following information is as of September 30, 2005:

						Warrants Outstanding								Warrants Exercisable
						Weighted-
						Average				Weighted-								Weighted-
						Remaining				Average								Average
Exercise		Number				Contractual				Exercise				Number				Exercise
Prices		Outstanding				Life				Price				Exercisable				Price
$4.20			3,750				0.5			$	4.20				3,750			$	4.20
Total at September 30, 2005			3,750				0.5			$	4.20				3,750			$	4.20

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Stock Options

     The Company created the 2002 Stock Option Plan (the “Plan”) on November 7, 2002. The Plan was amended in 2004 (the “Amended Plan”) to enable the Company to issue restricted (nonvested) shares of stock to its employees and directors. The Amended Plan was approved by the Company’s shareholders at its Annual Meeting on May 12, 2004. Up to 2,000,000 shares of common stock may be issued under the Amended Plan. The Amended Plan expires November 7, 2012. All options and restricted shares issued under the Amended Plan vest ratably over five years. Granted options expire seven years from grant date. Expiration dates range between November 7, 2009 and January 16, 2011. Options granted to a single person cannot exceed 200,000 in a single year. As of September 30, 2005, 895,000 options have been granted under the Amended Plan, of which 86,055 have been cancelled.

     Options are expensed under SFAS 123 and are included in operating expenses as a component of compensation. The Company issued 0 options to non-employee directors during the three and nine months ended September 30, 2005. The Company issued 0 and 20,000 options to non-employee directors during the three and nine months ended September 30, 2004, respectively. All of the stock options which have been issued under the Amended Plan were issued to employees of the Company except for 40,000 which were issued to non-employee directors.

     The following summarizes all option related transactions from December 31, 2001 through September 30, 2005:

						Weighted
						Average
		Options				Exercise
		Outstanding				Price
December 31, 2001			—			$	—
Granted			820,000				13.06
Exercised			—				—
Cancelled			(12,150	)			13.00
December 31, 2002			807,850				13.06
Granted			55,000				27.88
Exercised			(50,915	)			13.00
Cancelled			(14,025	)			13.00
December 31, 2003			797,910				14.09
Granted			20,000				28.79
Exercised			(63,511	)			13.30
Cancelled			(47,940	)			13.00
December 31, 2004			706,459				14.65
Exercised			(132,980	)			13.00
Cancelled			(11,940	)			13.00
September 30, 2005			561,539			$	15.07

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

The following information is as of September 30, 2005:

						Options Outstanding								Options Exercisable
						Weighted-
						Average				Weighted-								Weighted-
						Remaining				Average								Average
Exercise		Number				Contractual				Exercise				Number				Exercise
Prices		Outstanding				Life				Price				Exercisable				Price
$13.00			473,539				4.1			$	13.00				56,599			$	13.00
$16.16			14,000				4.1				16.16				5,000				16.16
$27.77 - $29.79			74,000				5.0				28.11				25,000				27.98
Total at September 30, 2005			561,539				4.2			$	15.07				86,599			$	17.51

     The Company utilizes the Black-Scholes option pricing model to calculate the value of the stock options when granted. This model was developed to estimate the fair value of traded options, which have different characteristics than employee stock options. In addition, changes to the subjective input assumptions can result in materially different fair market value estimates. Therefore, the Black-Scholes model may not necessarily provide a reliable single measure of the fair value of employee stock options.

Options issue year:		2004		2003
Weighted average fair value of options granted		$2.85		$5.84
Expected volatility		13.26% - 13.55%		15.70% - 15.73%
Risk-free interest rate		3.16% - 3.37%		2.92% - 3.19%
Expected dividend yield		0.00%		0.00%
Expected life (in years)		5.00		5.00

     Utilizing these assumptions, each employee stock option granted in 2003 was valued between $5.80 and $6.25. Each non-employee director stock option granted in 2004 was valued between $2.62 and $2.92.

Nonvested Shares

     Prior to the approval of the Amended Plan, nonvested shares were permitted to be issued as an incentive to attract new employees and, effective commensurate with the adoption of the Amended Plan at the meeting of shareholders held on May 12, 2004, are permitted to be issued to directors and existing employees. The terms of the nonvested share awards are similar to those of the stock option awards, wherein the shares are issued at or above market values and vest ratably over five years. Nonvested share grants are expensed over their vesting period.

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

     The following summarizes all nonvested stock transactions from December 31, 2002 through September 30, 2005:

		Nonvested				Weighted
		Shares				Average
		Outstanding				Price
December 31, 2002			—			$	—
Granted			13,045				27.57
December 31, 2003			13,045				27.57
Granted			84,350				26.94
Vested			(2,609	)			27.57
Cancelled			(4,900	)			26.08
December 31, 2004			89,886				27.06
Granted			69,600				42.13
Vested			(13,339	)			25.95
Cancelled			(7,330	)			27.48
September 30, 2005			138,817			$	34.70

10. Earnings per Share:

     Basic earnings per share (“EPS”) is computed by dividing income available to common shareholders by weighted average common shares outstanding. Diluted EPS is computed using the same components as basic EPS with the denominator adjusted for the dilutive effect of stock warrants, stock options and restricted stock awards. The following tables provide a reconciliation between the computation of basic EPS and diluted EPS for the three and nine months ended September 30, 2005 and 2004:

						For the three months ended September 30,
						2005												2004
						Weighted Average												Weighted Average
		Net Income				Common Shares				EPS				Net Income				Common Shares				EPS
Basic EPS		$	9,341,822				15,692,417			$	0.60			$	6,974,765				15,341,801			$	0.45
Dilutive effect of stock warrants, options and restricted stock awards							480,240												489,859
Diluted EPS		$	9,341,822				16,172,657			$	0.58			$	6,974,765				15,831,660			$	0.44
						For the nine months ended September 30,
						2005												2004
						Weighted Average												Weighted Average
		Net Income				Common Shares				EPS				Net Income				Common Shares				EPS
Basic EPS		$	27,323,350				15,607,596			$	1.75			$	19,736,097				15,322,675			$	1.29
Dilutive effect of stock warrants, options and restricted stock awards							525,273												471,260
Diluted EPS		$	27,323,350				16,132,869			$	1.69			$	19,736,097				15,793,935			$	1.25

     As of September 30, 2005 and 2004, there were 0 and 75,000 antidilutive options outstanding, respectively.

11. Commitments and Contingencies:

Employment Agreements:

     The Company has employment agreements with all of its executive officers and with several members of its senior management group, the terms of which expire on various dates in 2005, 2006 and 2007. Such agreements provide for base salary payments as well as bonus entitlement, based on the attainment of specific personal and Company goals. Estimated future compensation under these agreements is approximately $3,871,884. The agreements also contain confidentiality and non-compete provisions.

PORTFOLIO RECOVERY ASSOCIATES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Leases:

     The Company is party to various operating and capital leases with respect to its facilities and equipment. Please refer to the Company’s consolidated financial statements and notes thereto in the Company’s Annual Report on Form 10-K, as filed with the Securities and Exchange Commission for discussion of these leases.

Litigation:

     The Company is from time to time subject to routine litigation incidental to its business. The Company believes that the results of any pending legal proceedings will not have a material adverse effect on the financial condition, results of operations or liquidity of the Company.

12. Recent Accounting Pronouncements:

     On December 16, 2004, the Financial Accounting Standards Board (“FASB”) issued FASB statement No. 123(R), “Share-Based Payment,” (“FAS 123R”). FAS 123R revises FASB statement No. 123, “Accounting for Stock-Based Compensation” (“FAS 123”) and requires companies to expense the fair value of employee stock options and other forms of stock-based compensation. In addition to revising FAS 123, FAS 123R supersedes Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” and amends FASB Statement No. 95, “Statement of Cash Flows.” FAS 123R applies to all stock-based compensation transactions in which a company acquires services by (1) issuing its stock or other equity instruments, except through arrangements resulting from employee stock-ownership plans (ESOPs) or (2) incurring liabilities that are based on the company’s stock price. FAS 123R is effective for annual periods that begin after June 15, 2005; however, early adoption is encouraged. The Company believes that all of its existing stock-based awards are equity instruments. The Company previously adopted FAS 123 on January 1, 2002 and has been expensing equity based compensation since that time. Management believes the adoption of FAS 123R will have no material impact on its financial statements.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Cautionary Statements Pursuant to Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995:

This report contains forward-looking statements within the meaning of the federal securities laws. These forward-looking statements involve risks, uncertainties and assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. All statements, other than statements of historical fact, are forward-looking statements, including statements regarding overall trends, gross margin trends, operating cost trends, liquidity and capital needs and other statements of expectations, beliefs, future plans and strategies, anticipated events or trends, and similar expressions concerning matters that are not historical facts. The risks, uncertainties and assumptions referred to above may include the following:

	•		our ability to purchase defaulted consumer receivables at appropriate prices;
	•		changes in the business practices of credit originators in terms of selling defaulted consumer receivables or outsourcing defaulted consumer receivables to third-party contingent fee collection agencies;
	•		changes in government regulations that affect our ability to collect sufficient amounts on our acquired or serviced receivables;
	•		our ability to employ and retain qualified employees, especially collection personnel;
	•		changes in the credit or capital markets, which affect our ability to borrow money or raise capital to purchase or service defaulted consumer receivables;
	•		the degree and nature of our competition;
	•		our future ability to comply with the provisions of the Sarbanes-Oxley Act of 2002 and the rules and regulations promulgated thereunder;
	•		our ability to successfully integrate IGS and RDS into our business operations;
	•		our ability to secure sufficient levels of placements for our fee-for-service businesses;
	•		the sufficiency of our funds generated from operations, existing cash and available borrowings to finance our current operations; and
	•		the risk factors listed from time to time in our filings with the Securities and Exchange Commission.

Results of Operations

     The following table sets forth certain operating data as a percentage of total revenue for the periods indicated:

		For the Three Months								For the Nine Months
		Ended September 30,								Ended September 30,
		2005				2004				2005				2004
Revenues:
Income recognized on finance receivables			90.6	%			95.7	%			91.6	%			95.3	%
Commissions			9.4	%			4.3	%			8.4	%			4.7	%
Total revenue			100.0	%			100.0	%			100.0	%			100.0	%
Operating expenses:
Compensation and employee services			29.9	%			32.4	%			29.8	%			32.9	%
Outside legal and other fees and services			19.8	%			18.9	%			20.3	%			18.4	%
Communications			3.0	%			3.0	%			2.9	%			3.3	%
Rent and occupancy			1.5	%			1.5	%			1.4	%			1.6	%
Other operating expenses			2.2	%			2.3	%			2.1	%			2.5	%
Depreciation and amortization			3.4	%			1.7	%			3.0	%			1.7	%
Total operating expenses			59.8	%			59.8	%			59.5	%			60.4	%
Income from operations			40.2	%			40.2	%			40.5	%			39.6	%
Other income and (expense):
Interest income			0.5	%			0.3	%			0.4	%			0.1	%
Interest expense			(0.2	%)			(0.2	%)			(0.2	%)			(0.3	%)
Income before income taxes			40.5	%			40.3	%			40.7	%			39.5	%
Provision for income taxes			15.6	%			15.6	%			15.7	%			15.3	%
Net income			24.9	%			24.7	%			25.0	%			24.2	%

     We use the following terminology throughout our reports. “Cash Receipts” refers to all collections of cash, regardless of the source. “Cash Collections” refers to collections on our owned portfolios only, exclusive of commission income and sales of finance receivables. “Cash Sales of Finance Receivables” refers to the sales of our owned portfolios. “Commissions” refers to fee income generated from our wholly-owned contingent fee and fee-for-service subsidiaries.

Three Months Ended September 30, 2005 Compared To Three Months Ended September 30, 2004

Revenue

     Total revenue was $37.5 million for the three months ended September 30, 2005, an increase of $9.2 million or 32.5% compared to total revenue of $28.3 million for the three months ended September 30, 2004.

Income Recognized on Finance Receivables

     Income recognized on finance receivables was $34.0 million for the three months ended September 30, 2005, an increase of $6.9 million or 25.5% compared to income recognized on finance receivables of $27.1 million for the three months ended September 30, 2004. The majority of the increase was due to an increase in our cash collections on our owned defaulted consumer receivables to $47.5 million from $38.8 million, an increase of 22.4%. Our amortization rate on our owned portfolio for the three months ended September 30, 2005 was 28.4% while for the three months ended September 30, 2004 it was 30.3%. During the three months ended September 30, 2005, we acquired defaulted consumer receivables portfolios with an aggregate face value amount of $445.3 million at a cost of $16.5 million. During the three months ended September 30, 2004, we acquired defaulted consumer receivable portfolios with an aggregate face value of $564.9 million at a cost of $10.8 million. In any period, we acquire defaulted consumer receivables that can vary dramatically in their age, type and ultimate collectibility. We may pay significantly different purchase rates for purchased receivables within any period as a result of this quality fluctuation. In addition, market forces can drive pricing rates up or down in any period, irrespective of other quality fluctuations. As a result, the average purchase rate paid for any given period can fluctuate dramatically based on our particular buying activity in that period. However, regardless of the average purchase price, we intend to target a similar internal rate of return in pricing our portfolio acquisitions; therefore, the absolute rate paid is not necessarily relevant to estimated profitability of a period’s buying.

Commissions

     Commissions were $3.5 million for the three months ended September 30, 2005, an increase of $2.3 million or 191.7% compared to commissions of $1.2 million for the three months ended September 30, 2004. Commissions increased as a result of the additions of our IGS fee-for-service business and our RDS government processing and collection business, as well as a slight increase in revenue generated by our Anchor contingent fee business compared to the prior year period.

Operating Expenses

     Total operating expenses were $22.4 million for the three months ended September 30, 2005, an increase of $5.5 million or 32.5% compared to total operating expenses of $16.9 million for the three months ended September 30, 2004. Total operating expenses, including compensation and employee services expenses, were 44.0% of cash receipts excluding sales for the three months ended September 30, 2005 compared to 42.2% for the same period in 2004.

Compensation and Employee Services

     Compensation and employee services expenses were $11.2 million for the three months ended September 30, 2005, an increase of $2.0 million or 21.7% compared to compensation and employee services expenses of $9.2 million for the three months ended September 30, 2004. Compensation and employee services expenses increased as total employees grew to 1,005 at September 30, 2005 from 891 at September 30, 2004. Compensation and employee services expenses as a percentage of cash receipts excluding sales decreased to 22.0% for the three months ended September 30, 2005 from 22.9% of cash receipts excluding sales for the same period in 2004 as a result of increased collector productivity and a shift in portfolio mix.

Outside Legal and Other Fees and Services

     Outside legal and other fees and services expenses were $7.4 million for the three months ended September 30, 2005, an increase of $2.1 million or 39.6% compared to outside legal and other fees and services expenses of $5.3 million for the three months ended September 30, 2004. Of the $2.1 million increase, $0.4 million was attributable to agency fees mainly incurred by our IGS subsidiary and $0.4 million was attributable to increases in other fees and services. The remaining $1.3 million increase was attributable to the increased cash collections resulting from the increased number of accounts referred to independent contingent fee attorneys. This increase is consistent with the growth we experienced in our portfolio of defaulted consumer receivables and a portfolio management strategy shift implemented in mid-2002. This strategy resulted in us referring to the legal suit process more previously unsuccessfully liquidated accounts that have an identified means of repayment but that are nearing their legal statute of limitations, than had been referred historically. Legal cash collections represented 32.4% of total cash receipts for the three months ended September 30, 2005 compared to 29.7% for the three months ended September 30, 2004. Total legal expenses for the three months ended September 30, 2005 were 34.5% of legal cash collections compared to 36.8% for the three months ended September 30, 2004. Legal fees and costs increased from $4.4 million for the three months ended September 30, 2004 to $5.7 million, or an increase of 29.5%, for the three months ended September 30, 2005.

     Communications

     Communications expenses were $1,116,000 for the three months ended September 30, 2005, an increase of $276,000 or 32.9% compared to communications expenses of $840,000 for the three months ended September 30, 2004. The increase was attributable to a growth in mailings which increased by $293,000 offset by a slight decrease in telephone expenses of $17,000.

Rent and Occupancy

     Rent and occupancy expenses were $555,000 for the three months ended September 30, 2005, an increase of $120,000 or 27.6% compared to rent and occupancy expenses of $435,000 for the three months ended September 30, 2004. Our new IGS facility and our RDS facility accounted for $75,000 and $17,000 of the increase, respectively. The remaining increase was attributable to rent escalations at our Norfolk locations as well as increased utility charges generally.

Other Operating Expenses

     Other operating expenses were $834,000 for the three months ended September 30, 2005, an increase of $185,000 or 28.5% compared to other operating expenses of $649,000 for the three months ended September 30, 2004. The increase was due to changes in travel expenses, advertising and marketing, miscellaneous expenses, hiring expenses, repairs and maintenance and taxes, fees and licenses. Travel expenses increased by $63,000, advertising and marketing expenses increased by $37,000 and taxes, miscellaneous expenses increased by $26,000, repairs and maintenance increased by $24,000, hiring expenses increased by $22,000 and fees and licenses increased by $13,000.

Depreciation and Amortization

     Depreciation and amortization expenses were $1,289,000 for the three months ended September 30, 2005, an increase of $801,000 or 164.1% compared to depreciation expenses of $488,000 for the three months ended September 30, 2004. The increase was attributable to the depreciation and amortization of the acquired assets of IGS and Alatax and the continued capital expenditures on equipment, software and computers related to our growth and systems upgrades. The amortization of the IGS and Alatax intangible assets accounted for $445,000 and $207,000 of the increase, respectively. The remaining increase of $149,000 resulted from continued capital expenditures on equipment, software and computers.

Interest Income

     Interest income was $188,000 for the three months ended September 30, 2005, an increase of $111,000 compared to interest income of $77,000 for the three months ended September 30, 2004. This increase is the result of the investment of larger balances in higher yielding auction rate certificates and tax exempt money market accounts during the three months ended September 30, 2005.

Interest Expense

     Interest expense was $59,000 for the three months ended September 30, 2005, a decrease of $10,000 compared to interest expense of $69,000 for the three months ended September 30, 2004. The decrease is due to lower balances on our long-term debt and obligations under capital leases.

Nine Months Ended September 30, 2005 Compared To Nine Months Ended September 30, 2004

Revenue

     Total revenue was $109.2 million for the nine months ended September 30, 2005, an increase of $27.5 million or 33.7% compared to total revenue of $81.7 million for the nine months ended September 30, 2004.

Income Recognized on Finance Receivables

     Income recognized on finance receivables was $100.1 million for the nine months ended September 30, 2005, an increase of $22.2 million or 28.5% compared to income recognized on finance receivables of $77.9 million for the nine months ended September 30, 2004. The majority of the increase was due to an increase in our cash collections

on our owned defaulted consumer receivables to $144.1 million from $112.8 million, an increase of 27.8%. Our amortization rate on our owned portfolio for the nine months ended September 30, 2005 was 30.6% while for the nine months ended September 30, 2004 it was 30.9%. During the nine months ended September 30, 2005, we acquired defaulted consumer receivables portfolios with an aggregate face value amount of $2.47 billion at a cost of $57.3 million. During the nine months ended September 30, 2004, we acquired defaulted consumer receivable portfolios with an aggregate face value of $2.67 billion at a cost of $38.7 million. In any period, we acquire defaulted consumer receivables that can vary dramatically in their age, type and ultimate collectibility. We may pay significantly different purchase rates for purchased receivables within any period as a result of this quality fluctuation. In addition, market forces can drive pricing rates up or down in any period, irrespective of other quality fluctuations. As a result, the average purchase rate paid for any given period can fluctuate dramatically based on our particular buying activity in that period. However, regardless of the average purchase price, we intend to target a similar internal rate of return in pricing our portfolio acquisitions, therefore, the absolute rate paid is not necessarily relevant to estimated profitability of a period’s buying.

Commissions

     Commissions were $9.1 million for the nine months ended September 30, 2005, an increase of $5.3 million or 139.5% compared to commissions of $3.8 million for the nine months ended September 30, 2004. Commissions increased as a result of the addition of our IGS fee-for-service business and our RDS government processing and collection business, as well as a slight increase in revenue generated by our Anchor contingent fee business compared to the prior year period.

Operating Expenses

     Total operating expenses were $65.0 million for the nine months ended September 30, 2005, an increase of $15.7 million or 31.9% compared to total operating expenses of $49.3 million for the nine months ended September 30, 2004. Total operating expenses, including compensation and employee services expenses, were 42.4% of cash receipts excluding sales for the nine months ended September 30, 2005 compared with 42.3% for the same period in 2004.

Compensation and Employee Services

     Compensation and employee services expenses were $32.5 million for the nine months ended September 30, 2005, an increase of $5.6 million or 20.8% compared to compensation and employee services expenses of $26.9 million for the nine months ended September 30, 2004. Compensation and employee services expenses increased as total employees grew to 1,005 at September 30, 2005 from 891 at September 30, 2004. Compensation and employee services expenses as a percentage of cash receipts excluding sales decreased to 21.2% for the nine months ended September 30, 2005 from 23.1% of cash receipts excluding sales for the same period in 2004 as a result of increased collector productivity and a shift in portfolio mix.

Outside Legal and Other Fees and Services

     Outside legal and other fees and services expenses were $22.2 million for the nine months ended September 30, 2005, an increase of $7.2 million or 48.0% compared to outside legal and other fees and services expenses of $15.0 million for the nine months ended September 30, 2004. Of the $7.2 million increase, $1.9 million was attributable to agency fees mainly incurred by our IGS subsidiary, $0.9 million was attributable to increases in other fees and services and $0.1 million was attributable to increases in accounting and professional fees. This was offset by a decrease of $0.5 million as a result of capitalized acquisition fees that were expensed in the quarter ended June 30, 2004 as a result of a review of our accounting. The remaining $4.8 million of the increase was attributable to the increased cash collections resulting from the increased number of accounts referred to independent contingent fee attorneys. This increase is consistent with the growth we experienced in our portfolio of defaulted consumer receivables, and a portfolio management strategy shift implemented in mid-2002. This strategy resulted in us referring to the legal suit process previously unsuccessfully liquidated accounts that have an identified means of repayment but that are nearing their legal statute of limitations. Legal cash collections represented 30.7% of total cash receipts for the nine months ended September 30, 2005, compared to 28.3% for the nine months ended September 30, 2004. Total legal expenses for the nine months ended September 30, 2005 were 34.6% of legal cash collections compared to 34.8% for the nine months ended September 30, 2004. Legal fees and costs increased from $11.5 million for the nine months ended September 30, 2004 to $16.3 million, or an increase of 41.7%, for the nine months ended September 30, 2005.

Communications

     Communications expenses were $3.2 million for the nine months ended September 30, 2005, an increase of $0.5 million or 18.5% compared to communications expenses of $2.7 million for the nine months ended September 30, 2004. The increase was attributable to growth in mailings and higher telephone expenses incurred to collect on a greater number of defaulted consumer receivables owned and serviced. Mailings were responsible for 92.1% of this increase, while the remaining 7.9% is attributable to higher telephone expenses.

Rent and Occupancy

     Rent and occupancy expenses were $1.5 million for the nine months ended September 30, 2005, an increase of $0.2 million or 15.4% compared to rent and occupancy expenses of $1.3 million for the nine months ended September 30, 2004. Our new IGS facility and RDS facility accounted for $166,000 and $17,000 of the increase, respectively, while the remaining increase was attributable to rent escalations at our Norfolk locations as well as increased utility charges generally.

Other Operating Expenses

     Other operating expenses were $2,316,000 for the nine months ended September 30, 2005, an increase of $288,000 million or 14.2% compared to other operating expenses of $2,028,000 for the nine months ended September 30, 2004. The increase was due mainly to changes in taxes, fees and licenses, travel and meals, advertising and marketing, insurance, hiring expenses, dues and subscriptions and repairs and maintenance. Taxes, fees and licenses increased by $120,000, travel and meals increased by $63,000, advertising and marketing increased by $57,000, insurance expenses increased by $42,000 and hiring expenses increased by $26,000. These increases were offset by a decrease in dues and subscriptions of $15,000 and a decrease in repairs and maintenance of $5,000.

Depreciation and Amortization

     Depreciation and amortization expenses were $3.3 million for the nine months ended September 30, 2005, an increase of $1.9 million or 135.7% compared to depreciation expenses of $1.4 million for the nine months ended September 30, 2004. The increase was attributable to the depreciation and amortization of the acquired assets of IGS and RDS and the continued capital expenditures on equipment, software and computers related to our growth and systems upgrades. The amortization of the IGS and RDS intangible assets accounted for $1.3 million and $0.2 million of the increase, respectively. The remaining increase of $0.4 million resulted from continued capital expenditures on equipment, software and computers.

Interest Income

     Interest income was $476,000 for the nine months ended September 30, 2005, an increase of $370,000 compared to interest income of $106,000 for the nine months ended September 30, 2004. This increase is the result of the investment of larger balances in higher yielding auction rate certificates and tax exempt money market accounts during the nine months ended September 30, 2005.

Interest Expense

     Interest expense was $186,000 for the nine months ended September 30, 2005, a decrease of $20,000 or 9.7% compared to interest expense of $206,000 for the nine months ended September 30, 2004. The decrease is due to lower balances on our long-term debt and obligations under capital leases.

Supplemental Performance Data

Owned Portfolio Performance:

The following table shows our portfolio buying activity by year, setting forth, among other things, the purchase price, unamortized purchase price (finance receivables, net), actual cash collections and estimated remaining cash collections as of September 30, 2005.

     ($ in thousands)

						Unamortized				Percentage				Actual Cash																Total Estimated
						Purchase Price				of Purchase Price				Collections				Estimated								Total Estimated				Collections to
Purchase		Purchase				Balance at				Remaining Unamortized				Including Cash				Remaining				Total Estimated				Collections to				Purchase Price
Period		Price(1)				September 30, 2005 (2)				at September 30, 2005 (3)				Sales				Collections (4)				Collections (5)				Purchase Price (6)				Adjusted (7)
1996		$	3,080			$	0				0	%		$	9,419			$	99			$	9,518				309	%			309	%
1997		$	7,685			$	0				0	%		$	23,113			$	403			$	23,516				306	%			306	%
1998		$	11,089			$	0				0	%		$	32,549			$	1,020			$	33,569				303	%			303	%
1999		$	18,898			$	105				1	%		$	56,994			$	2,854			$	59,848				317	%			317	%
2000		$	25,015			$	553				2	%		$	85,741			$	7,738			$	93,479				374	%			374	%
2001		$	33,470			$	2,113				6	%		$	119,947			$	25,571			$	145,518				435	%			435	%
2002		$	42,279			$	6,888				16	%		$	112,486			$	37,880			$	150,366				356	%			356	%
2003		$	61,482			$	20,454				33	%		$	114,969			$	73,932			$	188,901				307	%			307	%
2004		$	59,965			$	34,051				57	%		$	54,105			$	91,121			$	145,226				242	%			255	%
2005 YTD		$	57,582			$	53,082				92	%		$	9,445			$	109,416			$	118,861				206	%			224	%

     The following graph shows the purchase price of our owned portfolios by year beginning in 1996 and includes the year to date acquisition amount for the nine months ended September 30, 2005 and 2004. The purchase price number represents the cash paid to the seller to acquire defaulted consumer receivables, plus certain capitalized costs, less the purchase price refunded by the seller due to the return of non-compliant accounts.

     We utilize a long-term approach to collecting our owned pools of receivables. This approach has historically caused us to realize significant cash collections and revenues from purchased pools of finance receivables years after they are originally acquired. As a result, we have in the past been able to reduce our level of current period acquisitions without a corresponding negative current period impact on cash collections and revenue.

     The following table, which excludes any proceeds from cash sales of finance receivables, demonstrates our ability to realize significant multi-year cash collection streams on our owned pools:

Cash Collections By Year, By Year of Purchase

($ in thousands)
Purchase		Purchase				Cash Collection Period
Period		Price				1996				1997				1998				1999				2000				2001				2002				2003				2004				2005 YTD				Total
1996		$	3,080			$	548			$	2,484			$	1,890			$	1,348			$	1,025			$	730			$	496			$	398			$	285			$	153			$	9,357
1997			7,685				—				2,507				5,215				4,069				3,347				2,630				1,829				1,324				1,022				690			$	22,633
1998			11,089				—				—				3,776				6,807				6,398				5,152				3,948				2,797				2,200				1,416			$	32,494
1999			18,898				—				—				—				5,138				13,069				12,090				9,598				7,336				5,615				3,455			$	56,301
2000			25,015				—				—				—				—				6,894				19,498				19,478				16,628				14,098				8,683			$	85,279
2001			33,470				—				—				—				—				—				13,048				28,831				28,003				26,717				17,857			$	114,456
2002			42,279				—				—				—				—				—				—				15,073				36,258				35,742				25,401			$	112,475
2003			61,482				—				—				—				—				—				—				—				24,308				49,706				40,955			$	114,970
2004			59,965				—				—				—				—				—				—				—				—				18,019				36,080			$	54,100
2005 YTD			57,582				—				—				—				—				—				—				—				—				—				9,445			$	9,445
Total		$	320,545			$	548			$	4,991			$	10,881			$	17,362			$	30,733			$	53,148			$	79,253			$	117,052			$	153,404			$	144,136			$	611,508

     When we acquire a new pool of finance receivables, our estimates typically result in a 72 — 84 month projection of cash collections. The following chart shows our historical cash collections (including cash sales of finance receivables) in relation to the aggregate of the total estimated collection projections made at the time of each respective pool purchase, adjusted for buybacks.

Owned Portfolio Personnel Performance:

     We measure the productivity of each collector each month, breaking results into groups of similarly tenured collectors. The following three tables display various productivity measures that we track.

Collector by Tenure

Collector FTE at:		12/31/01				12/31/02				12/31/03				12/31/04				09/30/04				09/30/05
One year +1			151				210				241				298				300				324
Less than one year2			218				223				338				349				342				268
Total2			369				433				579				647				642				592

Monthly Cash Collections by Tenure ¹

Average performance YTD		12/31/01				12/31/02				12/31/03				12/31/04				09/30/04				09/30/05
One year +2		$	15,205			$	16,927			$	18,158			$	17,129			$	17,497			$	16,833
Less than one year3		$	7,740			$	8,689			$	8,303			$	9,363			$	9,740			$	8,931

YTD Cash Collections per Hour Paid ¹

Average performance YTD		12/31/01				12/31/02				12/31/03				12/31/04				09/30/04				09/30/05
Total cash collections		$	77.20			$	96.37			$	108.27			$	117.59			$	117.85			$	136.18
Non-legal cash collections		$	66.87			$	77.72			$	80.10			$	82.06			$	83.32			$	91.79

     Cash collections have substantially exceeded revenue in each quarter since our formation. The following chart illustrates the consistent excess of our cash collections on our owned portfolios over the income recognized on finance receivables on a quarterly basis. The difference between cash collections and income recognized is referred to as payments applied to principal. It is also referred to as amortization. This amortization is the portion of cash collections that is used to recover the cost of the portfolio investment represented on the balance sheet.

Seasonality

     We depend on the ability to collect on our owned and serviced defaulted consumer receivables. Collections tend to be higher in the first and second quarters of the year and lower in the third and fourth quarters of the year, due to consumer payment patterns in connection with seasonal employment trends, income tax refunds, and holiday spending habits. Due to our historical quarterly increases in cash collections, our growth has partially masked the impact of this seasonality.

     The following table shows the changes in finance receivables, including the amounts paid to acquire new portfolios.

		Three Months				Three Months				Nine Months				Nine Months
		Ended				Ended				Ended				Ended
		September 30,				September 30,				September 30,				September 30,
		2005				2004				2005				2004
Balance at beginning of period		$	114,837,794			$	96,270,285			$	105,188,906			$	92,568,557
Acquisitions of finance receivables, net of buybacks (1)			15,916,690				10,821,842				56,133,504				37,626,129
Cash collections applied to principal (2)			(13,508,013	)			(11,780,396	)			(44,075,939	)			(34,882,955	)
Balance at end of period		$	117,246,471			$	95,311,731			$	117,246,471			$	95,311,731
Estimated Remaining Collections (“ERC”) (3)		$	350,034,361			$	286,735,182			$	350,034,361			$	286,735,182