ASPS-9.30.2014-10Q

 
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, 2014

OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number: 1-34354
 
ALTISOURCE PORTFOLIO SOLUTIONS S.A.
(Exact name of Registrant as specified in its Charter)
 
Luxembourg
98-0554932
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
 
40, avenue Monterey
L-2163 Luxembourg
Grand Duchy of Luxembourg
(Address of principal executive offices) (Zip Code)
 
+352 2469 7900
(Registrant’s telephone number)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ  No o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes þ  No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company (as defined in Rule 12b-2 of the Exchange Act):
Large accelerated filer þ
Accelerated filer o
Non-accelerated filer o (Do not check if a smaller reporting company)
Smaller reporting company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No þ

As of October 20, 2014, there were 20,271,929 outstanding shares of the registrant’s shares of beneficial interest (excluding 5,140,819 shares held as treasury stock).
 


Table of Contents

Table of Contents

ALTISOURCE PORTFOLIO SOLUTIONS S.A.

FORM 10-Q
 
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


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Table of Contents

PART I.  FINANCIAL INFORMATION

Item 1.  Interim Condensed Consolidated Financial Statements (Unaudited)

ALTISOURCE PORTFOLIO SOLUTIONS S.A.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)
 
September 30,
2014
 
December 31,
2013
 
 
 
 
ASSETS
Current assets:
 
 
 
Cash and cash equivalents
$
176,589

 
$
130,429

Accounts receivable, net
159,965

 
104,787

Prepaid expenses and other current assets
17,454

 
10,891

Deferred tax assets, net
2,837

 
2,837

Total current assets
356,845

 
248,944

 
 
 
 
Premises and equipment, net
115,773

 
87,252

Deferred tax assets, net
158

 
622

Goodwill
72,384

 
99,414

Intangible assets, net
250,315

 
276,162

Other assets
21,117

 
17,658

 
 
 
 
Total assets
$
816,592

 
$
730,052

 
 
 
 
LIABILITIES AND EQUITY
Current liabilities:
 
 
 
Accounts payable and accrued expenses
$
99,598

 
$
84,706

Current portion of long-term debt
5,945

 
3,975

Deferred revenue
13,504

 
36,742

Other current liabilities
9,683

 
10,131

Total current liabilities
128,730

 
135,554

 
 
 
 
Long-term debt, less current portion
584,028

 
391,281

Other non-current liabilities
14,572

 
45,476

 
 
 
 
Commitments, contingencies and regulatory matters (Note 18)


 


 
 
 
 
Equity:
 
 
 
Common stock ($1.00 par value; 100,000 shares authorized; 25,413 issued and 20,747 outstanding as of September 30, 2014; 25,413 issued and 22,629 outstanding as of December 31, 2013)
25,413

 
25,413

Additional paid-in capital
90,911

 
89,273

Retained earnings
369,952

 
239,561

Treasury stock, at cost (4,666 shares as of September 30, 2014 and 2,784 shares as of December 31, 2013)
(398,217
)
 
(197,548
)
Altisource equity
88,059

 
156,699

 
 
 
 
Non-controlling interests
1,203

 
1,042

Total equity
89,262

 
157,741

 
 
 
 
Total liabilities and equity
$
816,592

 
$
730,052


See accompanying notes to condensed consolidated financial statements.

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
 
Three months ended 
 September 30,
 
Nine months ended 
 September 30,
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
Revenue
$
287,688

 
$
210,835

 
$
823,029

 
$
545,772

Cost of revenue
188,724

 
134,261

 
520,528

 
348,195

 
 
 
 
 
 
 
 
Gross profit
98,964

 
76,574

 
302,501

 
197,577

Selling, general and administrative expenses
46,748

 
31,519

 
139,303

 
80,027

 
 
 
 
 
 
 
 
Income from operations
52,216

 
45,055

 
163,198

 
117,550

Other income (expense), net:
 
 
 
 
 
 
 
Interest expense
(6,480
)
 
(6,188
)
 
(16,040
)
 
(14,302
)
Other income (expense), net
131

 
(253
)
 
135

 
529

Total other income (expense), net
(6,349
)
 
(6,441
)
 
(15,905
)
 
(13,773
)
 
 
 
 
 
 
 
 
Income before income taxes and non-controlling interests
45,867

 
38,614

 
147,293

 
103,777

Income tax provision
(2,752
)
 
(1,659
)
 
(9,300
)
 
(6,227
)
 
 
 
 
 
 
 
 
Net income
43,115

 
36,955

 
137,993

 
97,550

Net income attributable to non-controlling interests
(828
)
 
(947
)
 
(1,974
)
 
(3,093
)
 
 
 
 
 
 
 
 
Net income attributable to Altisource
$
42,287

 
$
36,008

 
$
136,019

 
$
94,457

 
 
 
 
 
 
 
 
Earnings per share:
 
 
 
 
 
 
 
Basic
$
1.96

 
$
1.56

 
$
6.16

 
$
4.07

Diluted
$
1.79

 
$
1.42

 
$
5.63

 
$
3.77

 
 
 
 
 
 
 
 
Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic
21,626

 
23,025

 
22,071

 
23,185

Diluted
23,640

 
25,333

 
24,152

 
25,070

 
 
 
 
 
 
 
 
Transactions with related parties included above:
 
 
 
 
 
 
 
Revenue
$
178,151

 
$
143,557

 
$
502,736

 
$
354,889

Cost of revenue
11,062

 
5,045

 
27,904

 
13,959

Selling, general and administrative expenses
267

 
613

 
(464
)
 
329

Other income

 

 

 
773

 
See accompanying notes to condensed consolidated financial statements.

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
CONDENSED CONSOLIDATED STATEMENTS OF EQUITY
(in thousands)
 
Altisource Equity
 
Non-controlling
interests
 
 
 
Common stock
 
Additional
paid-in capital
 
Retained
earnings
 
Treasury stock,
at cost
 
 
Total
 
Shares
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2012
25,413

 
$
25,413

 
$
86,873

 
$
124,127

 
$
(77,954
)
 
$
1,370

 
$
159,829

Net income

 

 

 
94,457

 

 
3,093

 
97,550

Contributions from non-controlling interest holders

 

 

 

 

 
18

 
18

Distributions to non-controlling interest holders

 

 

 

 

 
(3,234
)
 
(3,234
)
Share-based compensation expense

 

 
2,076

 

 

 

 
2,076

Exercise of stock options

 

 

 
(8,801
)
 
13,511

 

 
4,710

Repurchase of shares

 

 

 

 
(87,418
)
 

 
(87,418
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, September 30, 2013
25,413

 
$
25,413

 
$
88,949

 
$
209,783

 
$
(151,861
)
 
$
1,247

 
$
173,531

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2013
25,413

 
$
25,413

 
$
89,273

 
$
239,561

 
$
(197,548
)
 
$
1,042

 
$
157,741

Net income

 

 

 
136,019

 

 
1,974

 
137,993

Distributions to non-controlling interest holders

 

 

 

 

 
(1,813
)
 
(1,813
)
Share-based compensation expense

 

 
1,638

 

 

 

 
1,638

Exercise of stock options

 

 


 
(5,628
)
 
8,151

 

 
2,523

Repurchase of shares

 

 

 

 
(208,820
)
 

 
(208,820
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, September 30, 2014
25,413

 
$
25,413

 
$
90,911

 
$
369,952

 
$
(398,217
)
 
$
1,203

 
$
89,262

 
See accompanying notes to condensed consolidated financial statements.

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
 
Nine months ended 
 September 30,
 
2014
 
2013
Cash flows from operating activities:
 

 
 

Net income
$
137,993

 
$
97,550

Adjustments to reconcile net income to net cash provided by operating activities:
 

 
 

Depreciation and amortization
21,086

 
13,791

Amortization of intangible assets
29,290

 
18,857

Change in the fair value of Equator Earn Out
(37,924
)
 

Goodwill impairment
37,473

 

Share-based compensation expense
1,638

 
2,076

Equity in losses of investment in affiliate

 
176

Bad debt expense
4,667

 
1,338

Amortization of debt discount
191

 
184

Amortization of debt issuance costs
799

 
702

Deferred income taxes
464

 

Loss on disposal of fixed assets
98

 
1,178

Changes in operating assets and liabilities, net of effects of acquisitions:
 

 
 

Accounts receivable
(58,725
)
 
3,762

Prepaid expenses and other current assets
(6,525
)
 
(6,142
)
Other assets
(1,656
)
 
(1,871
)
Accounts payable and accrued expenses
14,968

 
4,574

Other current and non-current liabilities
(18,141
)
 
(1,535
)
Net cash provided by operating activities
125,696

 
134,640

 
 
 
 
Cash flows from investing activities:
 

 
 

Additions to premises and equipment
(48,119
)
 
(20,528
)
Acquisition of businesses, net of cash acquired
(14,931
)
 
(204,567
)
Proceeds from loan to Ocwen

 
75,000

Proceeds from sale of equity affiliate

 
12,648

Other investing activities
(294
)
 
(50
)
Net cash used in investing activities
(63,344
)
 
(137,497
)
 
 
 
 
Cash flows from financing activities:
 

 
 

Proceeds from issuance of long-term debt
198,000

 
201,000

Repayment of long-term debt and payments on capital lease obligations
(3,474
)
 
(2,736
)
Debt issuance costs
(2,608
)
 
(2,400
)
Proceeds from stock option exercises
2,523

 
4,710

Purchase of treasury stock
(208,820
)
 
(87,418
)
Contributions from non-controlling interests

 
18

Distributions to non-controlling interests
(1,813
)
 
(3,234
)
Net cash (used in) provided by financing activities
(16,192
)
 
109,940

 
 
 
 
Net increase in cash and cash equivalents
46,160

 
107,083

Cash and cash equivalents at the beginning of the period
130,429

 
105,502

 
 
 
 
Cash and cash equivalents at the end of the period
$
176,589

 
$
212,585

 
 
 
 
Supplemental cash flow information:
 

 
 

Interest paid
$
15,049

 
$
13,592

Income taxes paid, net
12,112

 
2,360

 
 
 
 
Non-cash investing and financing activities:
 

 
 

Increase in payables for purchases of premises and equipment
$
482

 
$
1,947

Decrease in acquisition of businesses from subsequent working capital true-ups
(3,711
)
 
(2,039
)

See accompanying notes to condensed consolidated financial statements.

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements

NOTE 1 — ORGANIZATION AND BASIS OF PRESENTATION
 
Description of Business
 
Altisource Portfolio Solutions S.A., together with its subsidiaries (which may be referred to as “Altisource,” the “Company,” “we,” “us” or “our”), is a premier marketplace and transaction solutions provider for the real estate, mortgage and consumer debt industries offering both distribution and content. We leverage proprietary business process, vendor and electronic payment management software and behavioral science based analytics to improve outcomes for marketplace participants.
We are incorporated under the laws of Luxembourg and are publicly traded on the NASDAQ Global Select Market under the symbol “ASPS.” 
Altisource® operations are conducted through three reporting segments: Mortgage Services, Financial Services and Technology Services.  In addition, we report our corporate-related expenditures and eliminations separately (see Note 19 for a description of our business segments).
 
Basis of Presentation
 
The unaudited interim condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Securities and Exchange Commission (“SEC”) Regulation S-X. Accordingly, these financial statements do not include all of the information and notes required by GAAP for complete consolidated financial statements. In the opinion of management, the interim data includes all normal recurring adjustments considered necessary to fairly state the results for the interim periods presented. The preparation of interim condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of our interim condensed consolidated financial statements, as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates. Intercompany and inter-segment transactions and accounts are eliminated in consolidation.

The Mortgage Partnership of America, L.L.C. (“MPA”), a wholly-owned subsidiary of Altisource, serves as the manager of Best Partners Mortgage Cooperative, Inc. doing business as Lenders One Mortgage Cooperative (“Lenders One”). MPA provides services to Lenders One under a management agreement that ends on December 31, 2025. The management agreement between MPA and Lenders One® members, pursuant to which MPA is the management company of Lenders One, represents a variable interest in a variable interest entity. MPA is the primary beneficiary of Lenders One as it has the power to direct the activities that most significantly impact Lenders One’s economic performance and the obligation to absorb losses or the right to receive benefits from Lenders One. As a result, Lenders One is presented in the accompanying condensed consolidated financial statements on a consolidated basis with the interests of the members reflected as non-controlling interests. As of September 30, 2014, Lenders One had total assets of $7.0 million and total liabilities of $5.8 million.  As of December 31, 2013, Lenders One had total assets of $4.6 million and total liabilities of $3.5 million.
 
These interim condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto contained in our Form 10-K for the year ended December 31, 2013, filed with the SEC on February 13, 2014, which contains a summary of our significant accounting policies. Certain footnote detail in the Form 10-K is omitted from the information included herein.
 
Correction of Immaterial Errors

As previously disclosed, during the second quarter of 2014, we determined that while we properly identified our related parties in previously issued financial statements, disclosures of certain immaterial related party expenses were omitted. We have corrected the previously presented disclosures of related party expenses in Note 2 — Transactions with Related Parties and on the face of the condensed consolidated statements of operations for the three and nine months ended September 30, 2013. The impact of correcting these items in the notes to the condensed consolidated financial statements had the effect of increasing the amounts disclosed as related party cost of revenue from Ocwen Financial Corporation, together with its subsidiaries (“Ocwen”), by $14.0 million for the nine months ended September 30, 2013 ($5.0 million for the third quarter of 2013), increasing the amounts disclosed as selling, general and administrative expenses from Ocwen billings to Altisource by $1.0 million for the nine months ended

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements (Continued)



September 30, 2013 ($0.8 million for the third quarter of 2013), decreasing the amounts disclosed as selling, general and administrative expenses from Altisource billings to Ocwen by $0.1 million for the nine months ended September 30, 2013 (less than $0.1 million for the third quarter of 2013) and decreasing the amounts disclosed as selling, general and administrative expenses from Altisource billings to Altisource Asset Management Corporation (“AAMC”) by $0.3 million for the nine months ended September 30, 2013 ($0.1 million for the third quarter of 2013). Correcting these items on the face of the condensed consolidated statements of operations resulted in the disclosure of related party cost of revenue of $14.0 million for the nine months ended September 30, 2013 ($5.0 million for the third quarter of 2013) and a decrease in previously disclosed related party selling, general and administrative expenses by $1.8 million for the nine months ended September 30, 2013 ($0.1 million for the third quarter of 2013).

In accordance with Accounting Standards Codification (“ASC”) Topic 250, Accounting Changes and Error Corrections, the Company evaluated the effect of the disclosure and presentation errors on its previously issued annual and quarterly financial statements, both qualitatively and quantitatively, and concluded that the related party disclosures in the Company’s previously issued annual and quarterly financial statements are not materially misstated.

Future Adoption of New Accounting Pronouncement

In May 2014, the Financial Accounting Standards Board issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers. This standard establishes a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance. The core principle of the new standard is an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. This new standard will be effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early adoption is not permitted. The Company is currently evaluating the impact this new guidance may have on its results of operations and financial position.

Fair Value of Financial Instruments
 
ASC Topic 820, Fair Value Measurement, established a three-level hierarchy that prioritizes the inputs used to measure fair value as follows:

Level 1 — Quoted prices in active markets for identical assets and liabilities
Level 2 — Observable inputs other than quoted prices included in Level 1
Level 3 — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of assets
or liabilities.

Our financial assets and liabilities primarily include cash and cash equivalents, restricted cash, long-term debt and acquisition-related contingent consideration. Cash and cash equivalents and restricted cash are carried at amounts that approximate their fair value due to the short-term nature of these instruments. The fair value for cash and cash equivalents and restricted cash was measured using level 1 inputs. The carrying amount of long-term debt approximates fair value due to the variable interest rate and consistent credit rating of the Company. The fair value of long-term debt was measured using level 2 inputs. The carrying amount of acquisition-related contingent consideration is equal to its fair value. The fair value of acquisition-related contingent consideration was measured using level 3 inputs, which included sensitivities pertaining to discount rates and financial projections. See Note 3 for further discussion of the change in fair value of contingent consideration.

NOTE 2 — TRANSACTIONS WITH RELATED PARTIES
 
Our Chairman, William C. Erbey, also serves as Executive Chairman of Ocwen and Chairman of Home Loan Servicing Solutions, Ltd. (“HLSS”), Altisource Residential Corporation (“Residential”) and AAMC. As a result, he has obligations to Altisource as well as Ocwen, HLSS, Residential and AAMC. As of September 30, 2014, Mr. Erbey owned or controlled approximately 29% of the common stock of Altisource, approximately 14% of the common stock of Ocwen, approximately 1% of the common stock of HLSS, approximately 4% of the common stock of Residential and approximately 28% of the common stock of AAMC. As of September 30, 2014, Mr. Erbey also held 873,501 options to purchase Altisource common stock (all of which were exercisable), 3,620,498 options to purchase Ocwen common stock (3,220,498 of which were exercisable) and 87,350 options to purchase AAMC common stock (all of which were exercisable).




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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements (Continued)



Ocwen
 
Revenue
Ocwen is our largest customer. Ocwen purchases certain mortgage services and technology services from us under the terms of the master services agreements and amendments to the master services agreements (collectively, the “Service Agreements”) with terms extending through August 2025. The Service Agreements, among other things, contain a “most favored nation” provision and the parties to the Service Agreements have the right to renegotiate pricing. In connection with our March 29, 2013 acquisition from Ocwen of the fee-based businesses of Homeward Residential, Inc. (“Homeward”) and the April 12, 2013 transaction with Ocwen related to the fee-based businesses of Residential Capital, LLC (“ResCap”) (see Note 3), our Service Agreements with Ocwen were amended to extend the term from 2020 to 2025. Further, as part of the amendments, Ocwen agreed not to establish similar fee-based businesses that would directly or indirectly compete with Altisource’s services with respect to the Homeward and ResCap businesses. During the third quarter of 2014, we agreed with Ocwen to apply a negligence standard with respect to indemnification obligations arising out of property preservation and inspection services. Previously, Altisource and Ocwen applied a gross negligence standard with respect to these indemnification obligations. We settle amounts with Ocwen on a daily, weekly or monthly basis depending upon the nature of the service and when the service is provided.

Related party revenue consists of revenue earned directly from Ocwen and revenue earned from the loans serviced by Ocwen when Ocwen designates us as the service provider. We earn additional revenue on the portfolios serviced by Ocwen that are not considered related party revenue when a party other than Ocwen selects Altisource as the service provider. Related party revenue from Ocwen as a percentage of segment and consolidated revenue was as follows:
 
Three months ended 
 September 30,
 
Nine months ended 
 September 30,
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
Mortgage Services
66
%
 
72
%
 
67
%
 
70
%
Financial Services
31
%
 
37
%
 
28
%
 
25
%
Technology Services
42
%
 
53
%
 
39
%
 
53
%
Consolidated revenue
60
%
 
68
%
 
60
%
 
65
%
 
We record revenue we earn from Ocwen under the Service Agreements at rates we believe to be market rates as we believe they are consistent with the fees we charge to other customers for comparable services and/or fees charged by our competitors.

Cost of Revenue

At times, we use Ocwen’s contractors and/or employees to support Altisource related services. Ocwen bills us for these contractors and/or employees based on their fully-allocated cost. Additionally, we purchase certain data relating to Ocwen’s servicing portfolio in connection with a Data Access and Services Agreement. The Data Access and Services Agreement may be renegotiated and may be cancelled by either Altisource or Ocwen with 90 days prior written notice. Ocwen bills us a per asset fee for this data. For the nine months ended September 30, 2014 and 2013, Ocwen billed us $27.9 million and $14.0 million, respectively ($11.1 million and $5.0 million for the third quarter of 2014 and 2013, respectively). These amounts are reflected as a component of cost of revenue in the condensed consolidated statements of operations.

Selling, General and Administrative Expenses

We provide certain other services to Ocwen and Ocwen provides certain other services to us. These services include such areas as human resources, vendor management, vendor oversight, corporate services, operational effectiveness, quality assurance, quantitative analytics, tax and treasury. Billings for these services are based on the fully-allocated cost of providing the service based on an estimate of the time and expense of providing the service or estimates thereof. For the nine months ended September 30, 2014 and 2013, we billed Ocwen $3.4 million and $1.9 million, respectively ($1.2 million and $0.6 million for the third quarter of 2014 and 2013, respectively), and Ocwen billed us $4.3 million and $3.1 million, respectively ($1.9 million and $1.5 million for the third quarter of 2014 and 2013, respectively). These amounts are reflected as a component of selling, general and administrative expenses in the condensed consolidated statements of operations.

Unsecured Term Loan
 
On December 27, 2012, we entered into a senior unsecured term loan agreement with Ocwen under which we loaned $75.0 million to Ocwen.  Payments of interest were due quarterly at a rate per annum equal to the Eurodollar Rate (as defined in the agreement)

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements (Continued)



plus 6.75%, provided that the Eurodollar Rate is not less than 1.50%.  On February 15, 2013, Ocwen repaid the outstanding principal amount of this loan and all accrued and unpaid interest and the term loan was terminated.  Interest income related to this loan was $0.8 million for the nine months ended September 30, 2013, all of which was recognized in the first quarter of 2013.
 
Transactions Related to Fee-Based Businesses
 
On January 31, 2013, we entered into non-binding letters of intent with Ocwen to acquire certain fee-based businesses associated with Ocwen’s acquisitions of the Homeward and ResCap servicing portfolios. Ocwen acquired the Homeward servicing portfolio on December 27, 2012 and the ResCap servicing portfolio on February 15, 2013. Altisource acquired the Homeward fee-based businesses from Ocwen on March 29, 2013 (see Note 3). Altisource entered into an agreement with Ocwen on April 12, 2013 to establish additional terms related to our services in connection with the ResCap fee-based businesses (see Note 3).
 
Correspondent One and HLSS
 
In July 2011, we acquired an equity interest in Correspondent One S.A. (“Correspondent One”). Correspondent One purchased closed conforming and government guaranteed residential mortgages from approved mortgage bankers. On March 31, 2013, we sold our 49% interest in Correspondent One to Ocwen for $12.6 million.  Prior to the sale to Ocwen, we provided Correspondent One certain finance, human resources, legal support, facilities, technology, vendor management and risk management services under a support services agreement. For the nine months ended September 30, 2013, we billed Correspondent One $0.1 million (no comparative amounts for 2014 and the third quarter of 2013).  This amount was reflected as a component of selling, general and administrative expenses in the condensed consolidated statements of operations. We also provided certain origination related services to Correspondent One. We earned revenue of $0.1 million for the nine months ended September 30, 2013 for these services (no comparative amounts for 2014 and the third quarter of 2013).
 
HLSS is a publicly traded company whose primary objective is the acquisition of mortgage servicing rights and related servicing advances, loans held for investment and other residential mortgage related assets. Under a support services agreement, we provide HLSS certain finance, human resources, tax and facilities services. We billed HLSS $0.7 million and $0.5 million for the nine months ended September 30, 2014 and 2013, respectively ($0.2 million in each period for the third quarter of 2014 and 2013). These amounts are reflected as a component of selling, general and administrative expenses in the condensed consolidated statements of operations.
 
Residential and AAMC
 
Residential and AAMC were established, capitalized and their equity was distributed to our shareholders on December 21, 2012 and they are each separate publicly traded companies. Residential is focused on acquiring and managing single family rental properties by acquiring portfolios of sub-performing and non-performing residential mortgage loans throughout the United States. AAMC is an asset management company providing portfolio management and corporate governance services to Residential.
For purposes of governing certain ongoing relationships between Altisource, Residential and AAMC, we entered into certain agreements with Residential and AAMC. We have agreements to provide Residential with renovation management, lease management and property management services. We have an agreement with AAMC's subsidiary, Newsource Reinsurance Company Ltd. to provide a variety of title insurance related services. In addition, we have agreements with Residential and AAMC to provide services such as finance, human resources, facilities, technology and risk management. Further, we have separate agreements for certain services related to income tax matters, trademark licenses and technology products and services.

For the nine months ended September 30, 2014 and 2013, we billed Residential $8.9 million and $1.3 million, respectively ($4.2 million and $0.9 million for the third quarter of 2014 and 2013, respectively). This excludes revenue from services we provide to Residential's loans serviced by Ocwen where we are retained by Ocwen. That revenue is included in Ocwen related party revenue. For the nine months ended September 30, 2014 and 2013, we billed AAMC $2.2 million and less than $0.1 million, respectively ($2.1 million and less than $0.1 million for the third quarter of 2014 and 2013, respectively), under the services agreements. These amounts are reflected in revenue in the condensed consolidated statements of operations. In addition, for the nine months ended September 30, 2014 and 2013, we billed AAMC $0.7 million and $0.3 million, respectively ($0.2 million and $0.1 million for the third quarter of 2014 and 2013, respectively), under the services agreements. These amounts are reflected as a component of selling, general and administrative expenses in the condensed consolidated statements of operations.

 



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NOTE 3 — ACQUISITIONS
 
Homeward Fee-Based Businesses
 
On March 29, 2013, we acquired certain fee-based businesses associated with Ocwen’s acquisition of Homeward. As part of the acquisition, Ocwen agreed not to develop similar fee-based businesses that would directly or indirectly compete with services provided by Altisource relative to the Homeward servicing portfolio. Additionally, the terms of our Service Agreements with Ocwen were amended to extend the term from 2020 to 2025 (see Note 2). We paid $75.8 million, after a working capital and pre-acquisition net income adjustment payment by Ocwen of $11.1 million, which we received in September 2013.
 
Since the acquisition date, management adjusted the purchase price allocation and assigned associated asset lives based upon information that has become available. In addition to the working capital adjustment, we also reduced premises and equipment by $1.2 million based on a post-acquisition detailed analysis of software licenses received and increased current liabilities by $2.0 million based on a subsequent detailed analysis of obligations payable as of the closing date, which we paid in July 2014. Consequently, the Company retrospectively adjusted the fair value of the assets acquired and liabilities assumed in the condensed consolidated balance sheet as of December 31, 2013 as well as disclosed the corresponding amount of non-cash investing and financing activities in the condensed consolidated statement of cash flows for the nine months ended September 30, 2013.

The final adjusted allocation of the purchase price is as follows:
(in thousands)
 
 
 
Premises and equipment
$
1,559

Customer relationship
75,609

Goodwill
2,039

 
79,207

Accounts payable and accrued expenses
(3,390
)
 
 
Purchase price
$
75,817

 
Estimated life
(in years)
 
 
Premises and equipment
3 - 5
Customer relationship
7

ResCap Fee-Based Businesses
 
On April 12, 2013, we entered into an agreement with Ocwen to establish additional terms related to the existing servicing arrangements between Altisource and Ocwen in connection with certain mortgage servicing platform assets of ResCap (the “ResCap Business”). The agreement provides that (i) Altisource will be a provider to Ocwen of certain services related to the ResCap Business, (ii) Ocwen will not establish similar fee-based businesses that would directly or indirectly compete with Altisource’s services as they relate to the ResCap Business and (iii) Ocwen will market and promote the utilization of Altisource’s services to their various third party relationships. Additionally, the parties agreed to use commercially reasonable best efforts to ensure that the loans associated with the ResCap Business are boarded onto Altisource’s mortgage servicing platform. We paid $128.8 million to Ocwen in connection with the ResCap fee-based businesses agreement.
 
We acquired no tangible assets and assumed no liabilities in connection with the ResCap transaction. However, certain employees as well as practices and processes developed to support the ResCap servicing portfolio were components of the transaction. We accounted for this transaction as a business combination in accordance with ASC Topic 805, Business Combinations.
 
Management prepared a final purchase price allocation and assigned associated asset lives based upon available information at the time of the agreement and until finalized as of December 31, 2013. The agreement consideration of $128.8 million was fully allocated to the customer relationship intangible asset with an estimated average useful life of 7 years.
 
Equator Acquisition
 
On November 15, 2013, we completed the acquisition of all of the outstanding limited liability company interests of Equator, LLC (“Equator”) pursuant to a Purchase and Sale Agreement dated August 19, 2013 (the “Purchase Agreement”).  Pursuant to the terms

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of the Purchase Agreement, we paid $63.4 million at closing in cash (net of closing working capital adjustments), subject to certain post-closing adjustments based on current assets and current liabilities of Equator at closing. After the acquisition date, management adjusted the purchase price allocation based upon information that has subsequently become available relating to acquisition date working capital, resulting in an obligation of the Company to pay the sellers an additional $3.7 million. Consequently, the Company retrospectively adjusted the fair value of the assets acquired and liabilities assumed in the condensed consolidated balance sheet as of December 31, 2013 as well as disclosed the corresponding amount of non-cash investing and financing activities in the condensed consolidated statement of cash flows for the nine months ended September 30, 2014.

The Purchase Agreement also provides for the payment of up to $80 million in potential additional consideration (the “Earn Out”). The Earn Out is determined based on Equator’s Adjusted EBITA (as defined in the Purchase Agreement) in the three consecutive 12-month periods following closing. Up to $22.5 million of the Earn Out can be earned in each of the first two 12-month periods, and up to $35.0 million can be earned in the third 12-month period.  Any amounts earned upon the achievement of Adjusted EBITA thresholds are payable through 2017.  We may, in our discretion, pay up to 20% of each payment of any Earn Out in shares of Company restricted stock, with the balance to be paid in cash. As of the closing date, we estimated the fair value of the Earn Out to be $46.0 million, determined based on the present value of future estimated Earn Out payments at such date, which has subsequently been reduced to $8.1 million, as further described below. The acquisition date fair value of the Earn Out is included as a component of the purchase price of Equator.

The final adjusted allocation of the purchase price is as follows:

 
 
Initial purchase price allocation
 
Adjustments
 
Adjusted purchase price allocation
(in thousands)
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
 
$

 
$
105

 
$
105

Accounts receivable
 
9,293

 
3,490

 
12,783

Prepaid expenses and other current assets
 
954

 
(498
)
 
456

Premises and equipment
 
16,974

 

 
16,974

Customer relationships and trade names
 
43,393

 

 
43,393

Goodwill
 
82,460

 

 
82,460

Other non-current assets
 
242

 
78

 
320

Assets acquired
 
153,316

 
3,175

 
156,491

Accounts payable and accrued expenses
 
(7,232
)
 
536

 
(6,696
)
Deferred revenue
 
(36,689
)
 

 
(36,689
)
Liabilities assumed
 
(43,921
)
 
536

 
(43,385
)
 
 
 
 
 
 
 
Purchase price
 
$
109,395

 
$
3,711

 
$
113,106

 
 
 
Estimated life
(in years)
 
 
 
Premises and equipment (excluding internally developed software)
 
3 - 5
Internally developed software (included in premises and equipment)
 
7
Customer relationships (weighted average)
 
15
Trade names
 
4
 
In accordance with ASC Topic 805, Business Combinations, the liability for Earn Out payments is remeasured to fair value each period until the contingency is resolved with the change in fair value recognized in earnings. As of the closing date, December 31, 2013 and March 31, 2014, we estimated the fair value of the Earn Out to be $46.0 million, determined based on the present value of future estimated Earn Out payments. As of June 30, 2014 and September 30, 2014, we estimated the fair value of the Earn Out to be $8.1 million, determined based on the present value of future estimated Earn Out payments. The lower fair value of the Earn Out is based on management’s revised estimates that expected earnings of Equator will be lower than projected at the time of acquisition. The reduction in fair value of $37.9 million was recorded in the second quarter of 2014 and is reflected as a reduction of selling, general and administrative expenses in the condensed consolidated statements of operations.
  
As a result of the decline in fair value of the Earn Out, management evaluated and determined that Equator goodwill should be tested for impairment. Consequently, we initiated a quantitative two-step goodwill impairment test by comparing the carrying value of the net assets of Equator to its fair value based on a discounted cash flow analysis. In the second quarter of 2014, we determined, based on a preliminary assessment, that the fair value of Equator was less than its carrying value. Based on this

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Notes to Condensed Consolidated Financial Statements (Continued)



preliminary assessment, management has estimated that the Equator goodwill impairment was approximately $37.5 million, which is reflected as a component of selling, general and administrative expenses in the condensed consolidated statements of operations (see Note 15). This assessment was preliminary due to the timing of revisions to forecasted results of operations and cash flows and the volatility of the markets in which Equator’s customers operate. We completed our Equator goodwill impairment assessment in the third quarter of 2014 resulting in no further adjustment to the goodwill impairment recorded in the second quarter of 2014.

The following table presents the impact of the change in the fair value of the Equator Earn Out and Equator goodwill impairment for the nine months ended September 30, 2014, which are included in selling, general and administrative expenses in the condensed consolidated statements of operations:
(in thousands)
 
 
 
 
 
Change in the fair value of Equator Earn Out
 
$
(37,924
)
Goodwill impairment
 
37,473

 
 
 
 
 
$
(451
)

The following tables present the unaudited pro forma consolidated results of operations for the third quarter of 2013 and the nine months ended September 30, 2013 as if the Homeward, ResCap Business and Equator transactions had occurred at the beginning of the period presented.

 
 
Three months ended 
 September 30, 2013
(in thousands, except per share amounts)
 
As reported

 
Pro forma

 
 
 
 
 
Revenue
 
$
210,835

 
$
225,764

Net income attributable to Altisource
 
36,008

 
34,157

Earnings per share — Diluted
 
1.42

 
1.35


 
 
Nine months ended 
 September 30, 2013
(in thousands, except per share amounts)
 
As reported
 
Pro forma
 
 
 
 
 
Revenue
 
$
545,772

 
$
624,049

Net income attributable to Altisource
 
94,457

 
95,865

Earnings per share — Diluted
 
3.77

 
3.82


The unaudited pro forma information presents the combined operating results of Altisource and the Homeward, ResCap Business and Equator transactions. The Homeward, ResCap Business and Equator operating results were derived from their historical financial statements for the most comparable periods available. The results prior to the acquisition dates have been adjusted to include the pro forma impact of the adjustment of amortization of the acquired intangible assets based on the purchase price allocations, the adjustment of interest expense reflecting the portion of our senior secured term loan used in the Homeward, ResCap Business and Equator transactions and to reflect the impact of income taxes on the pro forma adjustments utilizing Altisource’s effective income tax rate.

The unaudited pro forma results are presented for illustrative purposes only and do not reflect additional revenue opportunities, the realization of any potential cost savings and any related integration costs. Certain revenue opportunities and cost savings may result from the transactions and the conversion to the Altisource model; however, there can be no assurance that these revenue opportunities and cost savings will be achieved. These pro forma results do not purport to be indicative of the results that would have actually been obtained if the transactions occurred as of the beginning of the period presented, nor is the pro forma data intended to be a projection of results that may be obtained in the future.

Mortgage Builder Acquisition

On September 12, 2014, we acquired certain assets and assumed certain liabilities of Mortgage Builder Software, Inc. (“Mortgage Builder”) pursuant to a Purchase and Sale Agreement dated July 18, 2014 (“the Purchase and Sale Agreement”). Mortgage Builder is a provider of mortgage loan origination and servicing software systems. Pursuant to the terms of the Purchase and Sale Agreement, we paid $15.7 million at closing in cash (net of closing working capital adjustments). Additionally, the Purchase and Sale Agreement

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provides for the payment of up to $7.0 million in potential additional consideration (the “MB Earn-Out”) based on Adjusted Revenue (as defined in the Purchase and Sale Agreement) in the three consecutive 12-month periods following closing. The Mortgage Builder purchase price includes the fair value of the MB Earn-Out of $1.0 million, determined based on the present value of future estimated MB Earn-Out payments. The Mortgage Builder acquisition is not material in relation to the Company’s results of operations or financial position.

The preliminary allocation of the purchase price is as follows:
(in thousands)
 
 
 
Cash
$
726

Accounts receivable, net
1,120

Prepaid expenses
38

Premises and equipment, net
2,068

Customer relationship
3,143

Goodwill
10,443

 
17,538

Accounts payable and accrued expenses
(881
)
 
 
Purchase price
$
16,657



NOTE 4 — ACCOUNTS RECEIVABLE, NET
 
Accounts receivable, net consists of the following:
(in thousands)
 
September 30,
2014
 
December 31,
2013 (1)
 
 
 
 
 
Billed
 
 

 
 

Non-related parties
 
$
44,768

 
$
41,011

Ocwen
 
34,692

 
11,658

HLSS
 
234

 
83

AAMC
 
1,015

 
1,347

Residential
 
6,488

 
547

Other receivables
 
713

 
1,643

 
 
87,910

 
56,289

Unbilled
 
 
 
 
Non-related parties
 
71,632

 
44,102

Ocwen
 
9,390

 
10,027

AAMC
 
2,118

 

 
 
171,050

 
110,418

Less: allowance for doubtful accounts
 
(11,085
)
 
(5,631
)
 
 
 
 
 
Total
 
$
159,965

 
$
104,787

                                                              
(1) December 31, 2013 accounts receivable has been revised to reflect a purchase accounting measurement period adjustment related to the Equator acquisition. See Note 3.
Unbilled receivables consist primarily of asset management and default management services for which we recognize revenues over the service delivery period but bill following completion of the service. We also include in unbilled receivables amounts that are earned during a month and billed in the following month.

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Notes to Condensed Consolidated Financial Statements (Continued)




NOTE 5 — PREPAID EXPENSES AND OTHER CURRENT ASSETS
 
Prepaid expenses and other current assets consist of the following:
(in thousands)
 
September 30,
2014
 
December 31,
2013 (1)
 
 
 
 
 
Maintenance agreements, current portion
 
$
6,760

 
$
4,600

Income taxes receivable
 
4,155

 
1,645

Prepaid expenses
 
3,647

 
3,672

Other current assets
 
2,892

 
974

 
 
 
 
 
Total
 
$
17,454

 
$
10,891

 
                                                               
(1) December 31, 2013 prepaid expenses and other current assets have been revised to reflect a purchase accounting measurement period adjustment related to the Equator acquisition. See Note 3.
NOTE 6 — PREMISES AND EQUIPMENT, NET
 
Premises and equipment, net consist of the following:
(in thousands)
 
September 30,
2014
 
December 31,
2013
 
 
 
 
 
Computer hardware and software
 
$
136,456

 
$
103,400

Office equipment and other
 
34,699

 
28,057

Furniture and fixtures
 
10,162

 
8,391

Leasehold improvements
 
26,215

 
17,574

 
 
207,532

 
157,422

Less: accumulated depreciation and amortization
 
(91,759
)
 
(70,170
)
 
 
 
 
 
Total
 
$
115,773

 
$
87,252


Depreciation and amortization expense, inclusive of capital leases, amounted to $21.1 million and $13.8 million for the nine months ended September 30, 2014 and 2013, respectively ($7.7 million and $4.5 million for the third quarter of 2014 and 2013, respectively), and is included in cost of revenue for operating assets and in selling, general and administrative expenses for non-operating assets in the accompanying condensed consolidated statements of operations.

NOTE 7 — GOODWILL AND INTANGIBLE ASSETS, NET
 
Goodwill
 
The following is a summary of goodwill by segment:
(in thousands)
 
Mortgage
Services(1)
 
Financial
Services
 
Technology
Services
 
Total
 
 
 
 
 
 
 
 
 
Balance, December 31, 2013
 
$
12,958

 
$
2,378

 
$
84,078

 
$
99,414

Acquisition of Mortgage Builder
 

 

 
10,443

 
10,443

Impairment of Equator goodwill (2)
 

 

 
(37,473
)
 
(37,473
)
 
 
 
 
 
 
 
 
 
Balance, September 30, 2014
 
$
12,958

 
$
2,378

 
$
57,048

 
$
72,384

                                                                 
(1) December 31, 2013 goodwill has been revised to reflect a purchase accounting measurement period adjustment related to
the Homeward acquisition.  See Note 3.

(2) See Note 3 for a discussion of the Equator goodwill impairment.


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Intangible Assets, Net
 
Intangible assets, net consist of the following:
 
 
Weighted
average
estimated
useful life (in years)
 
Gross carrying amount
 
Accumulated amortization
 
Net book value
(in thousands)
 
 
September 30,
2014
 
December 31,
2013
 
September 30,
2014
 
December 31,
2013
 
September 30,
2014
 
December 31,
2013
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Definite lived intangible assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Trademarks
 
14
 
$
12,249

 
$
12,249

 
$
(4,889
)
 
$
(4,534
)
 
$
7,360

 
$
7,715

Customer-related intangible assets
 
10
 
287,627

 
284,484

 
(71,788
)
 
(44,208
)
 
215,839

 
240,276

Operating agreement
 
20
 
35,000

 
35,000

 
(8,166
)
 
(6,854
)
 
26,834

 
28,146

Non-compete agreement
 
4
 

 
1,300

 

 
(1,275
)
 

 
25

Intellectual property
 
10
 
300

 

 
(18
)
 

 
282

 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total
 
 
 
$
335,176

 
$
333,033

 
$
(84,861
)
 
$
(56,871
)
 
$
250,315

 
$
276,162

 
Amortization expense for definite lived intangible assets was $29.3 million and $18.9 million for the nine months ended September 30, 2014 and 2013, respectively ($9.7 million and $8.6 million for the third quarter of 2014 and 2013, respectively). Expected annual definite lived intangible asset amortization for 2014 through 2018 is $40.1 million, $40.3 million, $33.9 million, $29.4 million and $25.4 million, respectively.
 
NOTE 8 — INVESTMENT IN EQUITY AFFILIATE
 
Correspondent One purchased closed conforming residential mortgages from approved mortgage bankers.  Prior to the sale of our interest in Correspondent One to Ocwen on March 31, 2013 (see Note 2), we had significant influence over the general operations of Correspondent One consistent with our 49% ownership level, and therefore, accounted for our investment under the equity method. On March 31, 2013, we sold our 49% interest in Correspondent One to Ocwen for $12.6 million.
 
Our net loss on this investment using the equity method was $0.1 million for the nine months ended September 30, 2013 (no comparative amounts for 2014).

NOTE 9 — OTHER ASSETS
 
Other assets consist of the following:
(in thousands)
 
September 30,
2014
 
December 31,
2013 (1)
 
 
 
 
 
Security deposits, net
 
$
7,500

 
$
7,314

Debt issuance costs, net
 
8,451

 
6,687

Maintenance agreements, non-current portion
 
2,987

 
1,465

Restricted cash
 
1,615

 
1,620

Other
 
564

 
572

 
 
 
 
 
Total
 
$
21,117

 
$
17,658

                                                             
(1) December 31, 2013 security deposits, net and other assets have been revised to reflect a purchase accounting measurement period adjustment related to the Equator acquisition. See Note 3.

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NOTE 10 — ACCOUNTS PAYABLE, ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
 
Accounts payable and accrued expenses consist of the following:
(in thousands)
 
September 30,
2014
 
December 31,
2013 (1)
 
 
 
 
 
Accounts payable
 
$
13,182

 
$
15,171

Accrued expenses - general
 
27,963

 
20,945

Accrued salaries and benefits
 
39,276

 
30,011

Income taxes payable
 
9,042

 
11,211

Payable to Ocwen
 
9,723

 
7,361

Payable to AAMC
 
412

 
7

 
 
 
 
 
Total
 
$
99,598

 
$
84,706

                                                    
 
(1) December 31, 2013 payables have been revised to reflect purchase accounting measurement period adjustments related to the Homeward and Equator acquisitions.  See Note 3.
 
Other current liabilities consist of the following:
(in thousands)
 
September 30,
2014
 
December 31,
2013
 
 
 
 
 
Book overdrafts
 
$
5,747

 
$
4,232

Other
 
3,936

 
5,899

 
 
 
 
 
Total
 
$
9,683

 
$
10,131

 
NOTE 11 — LONG-TERM DEBT
 
Long-term debt consists of the following:
(in thousands)
 
September 30,
2014
 
December 31,
2013
 
 
 
 
 
Senior secured term loan
 
$
593,029

 
$
396,503

Less: unamortized discount, net
 
(3,056
)
 
(1,247
)
Net long-term debt
 
589,973

 
395,256

Less: current portion
 
(5,945
)
 
(3,975
)
 
 
 
 
 
Long-term debt, less current portion
 
$
584,028

 
$
391,281


On November 27, 2012, Altisource Solutions S.à r.l., a wholly-owned subsidiary of the Company, entered into a senior secured term loan agreement, as subsequently amended, with Bank of America, N.A., as administrative agent, and certain lenders, pursuant to which we borrowed $200.0 million.  The senior secured term loan was issued with an original issue discount of $2.0 million, resulting in net proceeds of $198.0 million with the Company and certain wholly-owned subsidiaries acting as guarantors (collectively, the “Guarantors”).
 
On May 7, 2013, we amended the senior secured term loan agreement to increase the principal amount of the senior secured term loan by $200.0 million (the “Incremental Term Loan”), which was issued with a $1.0 million original issue premium, resulting in gross proceeds to the Company of $201.0 million.  Additionally, the Incremental Term Loan amended the senior secured term loan agreement to, among other changes, provide for an additional $200.0 million incremental term loan facility accordion and increase the maximum amount of Restricted Junior Payments (as defined in the senior secured term loan agreement) that may be made by us, including increasing the amount of Company share repurchases permitted. 

On December 9, 2013, we entered into an Amendment No. 2 (“Second Amendment”) to the senior secured term loan agreement in which we incurred indebtedness in the form of Refinancing Debt (as defined in the senior secured term loan agreement), the proceeds of which were used to refinance, in full, the $397.5 million of term loans outstanding under the senior secured term loan

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agreement immediately prior to the effectiveness of the Second Amendment. The Refinancing Debt bears interest at lower rates and has a maturity date approximately one year later than the prior term loans. The Second Amendment further modified the senior secured term loan agreement to, among other changes, increase the maximum permitted amount of Restricted Junior Payments, including share repurchases by the Company.

On August 1, 2014, we entered into Amendment No. 3 (“Third Amendment”) to the senior secured term loan agreement to increase the principal amount of the term loan under the senior secured term loan agreement by $200.0 million, which was issued with a $2.0 million original issue discount, resulting in gross proceeds to the Company of $198.0 million. Additionally, the Third Amendment modified the senior secured term loan agreement to, among other changes, to re-establish the $200.0 million incremental term loan facility accordion and increase the maximum amount of permitted Restricted Junior Payments by $200.0 million.
After giving effect to the Third Amendment, the Refinancing Debt must be repaid in equal consecutive quarterly principal installments of $1.5 million commencing on September 30, 2014, with the balance due at maturity. All amounts outstanding under the senior secured term loan agreement will become due on the earlier of (i) December 9, 2020, being the seventh anniversary of the closing date of the Second Amendment, and (ii) the date on which the loans are declared to be due and owing by the administrative agent at the request (or with the consent) of the Required Lenders (as defined in the senior secured term loan agreement) upon the occurrence of any event of default under the senior secured term loan agreement.
 
In addition to the scheduled principal payments, the Refinancing Debt is (with certain exceptions) subject to mandatory prepayment upon issuances of debt, casualty and condemnation events and sales of assets, as well as from a percentage of excess cash flow (as defined in the senior secured term loan agreement) if the leverage ratio (as defined in the senior secured term loan agreement) is greater than 3.00 to 1.00No mandatory prepayments were owed for the nine months ended September 30, 2014. 
 
All of the term loans outstanding under the senior secured term loan bear interest at rates based upon, at our option, the Adjusted Eurodollar Rate or the Base Rate (each as defined in the senior secured term loan agreement).  Adjusted Eurodollar Rate loans bear interest at a rate per annum equal to the sum of (i) the greater of (x) the Adjusted Eurodollar Rate for the applicable interest period and (y) 1.00% plus (ii) a 3.50% margin.  Base Rate loans bear interest at a rate per annum equal to the sum of (i) the greater of (x) the Base Rate and (y) 2.00% plus (ii) a 2.50% margin. The interest rate at September 30, 2014 was 4.50%.
 
Payments under the senior secured term loan agreement are guaranteed by the Guarantors and are secured by a pledge of all equity interests of certain subsidiaries as well as a lien on substantially all of the assets of Altisource Solutions S.à r.l. and the Guarantors, subject to certain exceptions.
 
The senior secured term loan agreement includes covenants that restrict or limit, among other things, our ability to: create liens and encumbrances; incur additional indebtedness; sell, transfer or dispose of assets; make Restricted Junior Payments including share repurchases; change lines of business; amend material debt agreements or other material contracts; engage in certain transactions with affiliates; enter into sale/leaseback transactions; grant negative pledges or agree to such other restrictions relating to subsidiary dividends and distributions; make changes to its fiscal year and engage in mergers and consolidations.
 
The senior secured term loan agreement contains certain events of default, including (i) failure to pay principal when due or interest or any other amount owing on any other obligation under the senior secured term loan agreement within five days of becoming due, (ii) material incorrectness of representations and warranties when made, (iii) breach of covenants, (iv) failure to pay principal or interest on any other debt that equals or exceeds $40.0 million when due, (v) default on any other debt that equals or exceeds $40.0 million that causes, or gives the holder or holders of such debt the ability to cause, an acceleration of such debt, (vi) occurrence of a Change of Control (as defined in the senior secured term loan agreement), (vii) bankruptcy and insolvency events (as defined in the senior secured term loan agreement), (viii) entry by a court of one or more judgments against us (as defined in the senior secured term loan agreement) in an amount in excess of $40.0 million that remain unbonded, undischarged or unstayed for a certain number of days after the entry thereof, (ix) the occurrence of certain ERISA events and (x) the failure of certain Loan Documents (as defined in the senior secured term loan agreement) to be in full force and effect.  If any event of default occurs and is not cured within applicable grace periods set forth in the senior secured term loan agreement or waived, all loans and other obligations could become due and immediately payable and the facility could be terminated.

At September 30, 2014, debt issuance costs were $8.5 million, net of $1.8 million of accumulated amortization.  At December 31, 2013, debt issuance costs were $6.7 million, net of $1.0 million of accumulated amortization. Debt issuance costs are included in other assets in the accompanying condensed consolidated balance sheets.
 

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements (Continued)



Interest expense on the term loans, including amortization of debt issuance costs and the net debt discount, totaled $16.0 million and $14.3 million for the nine months ended September 30, 2014 and 2013, respectively ($6.5 million and $6.2 million for the third quarter of 2014 and 2013, respectively).

NOTE 12 — OTHER NON-CURRENT LIABILITIES
 
Other non-current liabilities consist of the following:
(in thousands)
 
September 30,
2014
 
December 31,
2013
 
 
 
 
 
Contingent consideration
 
$
9,091

 
$
42,946

Other non-current liabilities
 
5,481

 
2,530

 
 
 
 
 
Total
 
$
14,572

 
$
45,476

 
NOTE 13 — EQUITY AND SHARE-BASED COMPENSATION
 
Stock Repurchase Plan
 
On February 28, 2014, our shareholders approved a new stock repurchase program, which replaced the previous stock repurchase program. Under the new program, we are authorized to purchase up to 3.4 million shares of our common stock, based on a limit of 15% of the outstanding shares of common stock on the date of approval, in the open market, at a minimum price of $1.00 per share and a maximum price of $500.00 per share.  This is in addition to amounts previously purchased under the prior programs. From authorization of the previous programs through September 30, 2014, we have purchased approximately 5.7 million shares of our common stock in the open market at an average price of $77.55 per share.  We purchased 2.0 million shares of common stock at an average price of $104.88 per share during the nine months ended September 30, 2014 and 0.8 million shares at an average price of $103.45 per share during the nine months ended September 30, 2013 (1.3 million shares at an average price of $102.45 per share for the third quarter of 2014 and 0.3 million shares at an average price of $134.86 per share for the third quarter of 2013). As of September 30, 2014, approximately 1.6 million shares of common stock remain available for repurchase under the new program. Our senior secured term loan limits the amount we can spend on share repurchases in any year and may prevent repurchases in certain circumstances. As of September 30, 2014, approximately $220 million was available to repurchase our common stock under our senior secured term loan. Luxembourg law also limits share repurchases to approximately the balance of Altisource Portfolio Solutions S.A. (unconsolidated parent company) retained earnings, less the value of shares repurchased. As the result of a restructuring of our Luxembourg holding companies in the third quarter of 2014, as of September 30, 2014, approximately $1,950 million was available to repurchase our common stock under Luxembourg law.
 
Share-Based Compensation
 
We issue share-based awards in the form of stock options and certain other equity-based awards for certain employees and officers.  We recorded share-based compensation expense of $1.6 million and $2.1 million for the nine months ended September 30, 2014 and 2013, respectively ($0.5 million and $0.6 million for the third quarter of 2014 and 2013, respectively).
 
Outstanding share-based compensation currently consists primarily of stock option grants that are a combination of service-based and market-based options.
 
Service-Based Options.  These options are granted at fair value on the date of grant. The options generally vest over four years with equal annual cliff-vesting and expire on the earlier of 10 years after the date of grant or following termination of service. A total of 0.7 million service-based awards were outstanding at September 30, 2014.
 
Market-Based Options.  These option grants have two components, each of which vests only upon the achievement of certain criteria. The first component, which we refer to internally as “ordinary performance” grants, consists of two-thirds of the market-based grant and begins to vest if the stock price is at least double the exercise price, as long as the stock price realizes a compounded annual gain of at least 20% over the exercise price. The remaining third of the market-based options, which we refer to internally as “extraordinary performance” grants, begins to vest if the stock price is at least triple the exercise price, as long as the stock price realizes a compounded annual gain of at least 25% over the exercise price. The vesting schedule for all market-based awards is 25% upon achievement of the criteria and the remaining 75% in three equal annual installments. A total of 1.8 million market-based awards were outstanding at September 30, 2014.

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements (Continued)




The Company granted 0.1 million stock options (at a weighted average exercise price of $92.91 per share) and less than 0.1 million stock options (at a weighted average exercise price $104.84 per share) during the nine months ended September 30, 2014 and 2013, respectively.

The fair value of the service-based options was determined using the Black-Scholes option pricing model, and a lattice (binomial) model was used to determine the fair value of the market-based options, using the following assumptions as of the grant date:
 
 
Nine months ended 
 September 30, 2014
 
Nine months ended 
 September 30, 2013
 
 
Black-Scholes
 
Binomial
 
Black-Scholes
 
Binomial
 
 
 
 
 
 
 
 
 
Risk-free interest rate
 
1.80% – 1.90%

 
0.02% – 2.49%

 
1.02% – 1.81%

 
0.01% – 2.71%

Expected stock price volatility
 
37.57% – 38.58%

 
38.48% – 38.58%

 
36.35% – 36.76%

 
36.40% – 36.80%

Expected dividend yield
 

 

 

 

Expected option life (in years)
 
6.25

 

 
6.25

 

Contractual life (in years)
 

 
14

 

 
14

Fair value
 
$35.37 – $41.79

 
$25.51 – $31.93

 
$31.33 – $49.14

 
$16.12 – $41.72

 
The following table summarizes the weighted average fair value of stock options granted, the total intrinsic value of stock options exercised and the grant date fair value of stock options vested during the period presented:
 
 
Nine months ended September 30,
(in thousands, except per share amounts)
 
2014
 
2013
 
 
 
 
 
Weighted average fair value at grant date per share
 
$
26.39

 
$
32.59

Intrinsic value of options exercised
 
7,636

 
24,587

Grant date fair value of options vested during the period
 
1,412

 
1,867

 
Share-based compensation expense is recorded net of estimated forfeiture rates ranging from 1% to 10%.
 
As of September 30, 2014, estimated unrecognized compensation costs related to share-based payments amounted to $2.5 million, which we expect to recognize over a weighted average remaining requisite service period of approximately 3.1 years.
 
The following table summarizes the activity related to our stock options:
 
Number of
options
 
Weighted
average
exercise
price
 
Weighted
average
contractual
term
(in years)
 
Aggregate
intrinsic value
(in thousands)
 
 
 
 
 
 
 
 
Outstanding at December 31, 2013
2,589,343

 
$
18.33

 
5.20
 
$
363,293

Granted
65,000

 
92.91

 
 
 
 
Exercised
(101,337
)
 
24.93

 
 
 
 

Forfeited
(16,001
)
 
73.14

 
 
 
 

 
 
 
 
 
 
 
 
Outstanding at September 30, 2014
2,537,005

 
19.63

 
4.54
 
206,753

 
 
 
 
 
 
 
 
Exercisable at September 30, 2014
2,192,639

 
13.04

 
4.08
 
192,474



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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements (Continued)




NOTE 14 — COST OF REVENUE
 
Cost of revenue principally includes payroll and employee benefits associated with personnel employed in customer service and operations roles, fees paid to external providers related to the provision of services, reimbursable expenses, technology and telecommunications expenses as well as depreciation and amortization of operating assets. The components of cost of revenue were as follows:
 
 
Three months ended 
 September 30,
 
Nine months ended 
 September 30,
(in thousands)
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
 
Compensation and benefits
 
$
68,502

 
$
39,600

 
$
184,273

 
$
108,923

Outside fees and services
 
62,086

 
56,611

 
186,279

 
137,851

Reimbursable expenses
 
39,149

 
29,496

 
100,220

 
73,061

Technology and telecommunications
 
13,388

 
5,459

 
34,078

 
18,010

Depreciation and amortization
 
5,599

 
3,095

 
15,678

 
10,350

 
 
 
 
 
 
 
 
 
Total
 
$
188,724

 
$
134,261

 
$
520,528

 
$
348,195

 
NOTE 15 — SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
 
Selling, general and administrative expenses include payroll for personnel employed in executive, finance, legal, human resources, vendor management, risk and operational effectiveness roles.  This category also includes occupancy costs, professional fees and depreciation and amortization on non-operating assets.  The components of selling, general and administrative expenses were as follows:
 
 
Three months ended 
 September 30,
 
Nine months ended 
 September 30,
(in thousands)
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
 
Compensation and benefits
 
$
11,770

 
$
6,802

 
$
31,870

 
$
18,868

Professional services
 
4,106

 
2,168

 
10,896

 
5,184

Occupancy related costs
 
9,041

 
7,438

 
27,848

 
21,971

Amortization of intangible assets
 
9,717

 
8,620

 
29,290

 
18,857

Depreciation and amortization
 
2,112

 
1,390

 
5,408

 
3,441

Change in the fair value of Equator Earn Out
 

 

 
(37,924
)
 

Goodwill impairment
 

 

 
37,473

 

Marketing costs
 
6,021

 
1,636

 
18,805

 
3,617

Other
 
3,981

 
3,465

 
15,637

 
8,089

 
 
 
 
 
 
 
 
 
Total
 
$
46,748

 
$
31,519

 
$
139,303

 
$
80,027

 
NOTE 16 — OTHER INCOME (EXPENSE), NET
 
Other income (expense), net consists of the following:
 
 
Three months ended 
 September 30,
 
Nine months ended 
 September 30,
(in thousands)
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
 
Loss in equity affiliate
 
$

 
$
(54
)
 
$

 
$
(176
)
Interest income
 
37

 
14

 
63

 
881

Other, net
 
94

 
(213
)
 
72

 
(176
)
 
 
 
 
 
 
 
 
 
Total
 
$
131

 
$
(253
)
 
$
135

 
$
529

 
Loss in equity affiliate for the third quarter of 2013 and the nine months ended September 30, 2013 represents our proportional share of the losses in Correspondent One (see Note 8). There were no comparative amounts in 2014.

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements (Continued)



NOTE 17 — EARNINGS PER SHARE
 
Basic earnings per share (“EPS”) is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period.  Diluted EPS reflects the assumed conversion of all dilutive securities using the treasury stock method.
 
Basic and diluted EPS are calculated as follows:
 
 
Three months ended 
 September 30,
 
Nine months ended 
 September 30,
(in thousands, except per share data)
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
 
Net income attributable to Altisource
 
$
42,287

 
$
36,008

 
$
136,019

 
$
94,457

 
 
 
 
 
 
 
 
 
Weighted average common shares outstanding, basic
 
21,626

 
23,025

 
22,071

 
23,185

Dilutive effect of stock options
 
2,014

 
2,308

 
2,081

 
1,885

 
 
 
 
 
 
 
 
 
Weighted average common shares outstanding, diluted
 
23,640

 
25,333

 
24,152

 
25,070

 
 
 
 
 
 
 
 
 
Earnings per share:
 
 
 
 
 
 
 
 
Basic
 
$
1.96

 
$
1.56

 
$
6.16

 
$
4.07

Diluted
 
$
1.79

 
$
1.42

 
$
5.63

 
$
3.77

 
For the third quarter of 2014 and 2013 and the nine months ended September 30, 2014 and 2013, less than 0.1 million options were anti-dilutive in each period and, consequently, have been excluded from the computation of diluted EPS.  These options were anti-dilutive because their exercise price was greater than the average market price of our common stock. Also excluded from the computation of diluted EPS for the nine months ended September 30, 2014 and 2013 are 0.1 million options in each period (0.1 million options in each period for the third quarter of 2014 and 2013), granted for shares that are issuable upon the achievement of certain market and performance criteria related to our common stock price and an annualized rate of return to investors that have not yet been met.

NOTE 18 — COMMITMENTS, CONTINGENCIES AND REGULATORY MATTERS
 
Litigation
 
From time to time, we are involved in legal proceedings arising in the ordinary course of business.  We record a liability for litigation if an unfavorable outcome is probable and the amount of loss can be reasonably estimated, including expected insurance coverage.  For proceedings where a range of loss is determined, we record a best estimate of loss within the range.
 
Regulatory Matters
Our business is subject to regulation and oversight by federal, state and local governmental authorities. We periodically receive subpoenas, civil investigative demands or other requests for information from regulatory agencies in connection with their regulatory or investigative authority. We are currently responding to such inquiries from federal and state agencies relating to certain aspects of our business. We believe it is premature to predict the potential outcome or to estimate any potential financial impact in connection with these inquiries.

Escrow and Trust Balances
 
We hold customers’ assets in escrow and trust accounts at various financial institutions pending completion of certain real estate activities.  We also hold cash in trust accounts at various financial institutions where contractual obligations mandate maintaining dedicated bank accounts for Financial Services collections.  These amounts are held in escrow and trust accounts for limited periods of time and are not included in the condensed consolidated balance sheets.  Amounts held in escrow and trust accounts were $85.4 million and $71.8 million at September 30, 2014 and December 31, 2013, respectively.
 

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ALTISOURCE PORTFOLIO SOLUTIONS S.A.
Notes to Condensed Consolidated Financial Statements (Continued)




NOTE 19 — SEGMENT REPORTING

Our business segments are based upon our organizational structure, which focuses primarily on the services offered, and are consistent with the internal reporting used by our Chief Executive Officer (our Chief Operating Decision Maker) to evaluate operating performance and to assess the allocation of our resources.
We classify our business into three reporting segments. The Mortgage Services segment provides services that span the mortgage and real estate lifecycle and are typically outsourced by loan servicers, loan originators and investors in single family homes. The Financial Services segment provides collection and customer relationship management services primarily to debt originators and servicers (e.g., credit card, auto lending, retail credit and mortgage) and the utility and insurance industries. The Technology Services segment principally consists of our REALSuite software applications, Equator® software applications, Mortgage Builder® software applications as well as our information technology infrastructure services. The software platforms provide a fully integrated set of software applications and technologies that manage the end-to-end lifecycle for residential and commercial mortgage loan servicing including the automated management and payment of a distributed network of vendors. Equator’s software applications provide comprehensive, end-to-end workflow and transaction services to manage real estate and foreclosure related activities and purchase related services from vendors. Mortgage Builder provides mortgage origination and servicing software applications. In addition, Corporate Items and Eliminations include eliminations of transactions between the reporting segments and costs related to corporate support functions including executive, finance, legal, human resources, vendor management, risk and operational effectiveness as well as interest expense.
 
Financial information for our segments is as follows:

 
 
Three months ended September 30, 2014
(in thousands)
 
Mortgage
Services
 
Financial
Services
 
Technology
Services
 
Corporate
Items and
Eliminations
 
Consolidated
Altisource
 
 
 
 
 
 
 
 
 
 
 
Revenue
 
$
209,946

 
$
26,852

 
$
61,726

 
$
(10,836
)
 
$
287,688

Cost of revenue
 
128,816

 
17,123

 
52,583

 
(9,798
)
 
188,724

Gross profit
 
81,130

 
9,729

 
9,143

 
(1,038
)
 
98,964

Selling, general and administrative expenses
 
20,644

 
4,767

 
7,240

 
14,097

 
46,748

Income from operations
 
60,486

 
4,962

 
1,903

 
(15,135
)
 
52,216

Other income (expense), net
 
18

 
13

 
25

 
(6,405
)
 
(6,349
)
 
 
 
 
 
 
 
 
 
 
 
Income before income taxes and non-controlling interests
 
$
60,504

 
$
4,975

 
$
1,928

 
$
(21,540
)
 
$
45,867


 

 
 
Three months ended September 30, 2013
(in thousands)
 
Mortgage
Services
 
Financial
Services
 
Technology
Services
 
Corporate
Items and
Eliminations
 
Consolidated
Altisource
 
 
 
 
 
 
 
 
 
 
 
Revenue
 
$
164,661

 
$
27,267

 
$
25,175

 
$
(6,268
)
 
$
210,835

Cost of revenue
 
106,412

 
14,998

 
18,569

 
(5,718
)
 
134,261

Gross profit
 
58,249

 
12,269

 
6,606

 
(550
)
 
76,574

Selling, general and administrative expenses
 
14,224

 
4,616

 
2,621

 
10,058

 
31,519

Income from operations
 
44,025