ITEM 1.
BUSINESS
General
We are a provider of credit and debit card payment processing services to small merchants across the United States. We conduct all of our operations through our operating company, iPayment, Inc., or “iPayment,” and its subsidiaries. iPayment and its direct parent, iPayment Holdings, Inc., or “Holdings,” are incorporated in Delaware. Holdings is a holding company that does not have any operations or material assets other than the direct and indirect ownership of all of the capital stock of iPayment and its subsidiaries, respectively. All of the capital stock of Holdings is owned by Carl A. Grimstad, iPayment’s Chairman and Chief Executive Officer, Harold H. Stream, III, and certain entities and family trusts affiliated with Mr. Grimstad or Mr. Stream.
Our payment processing services enable our merchants to accept credit cards as well as other forms of payment, including debit cards, checks, gift cards and loyalty programs in traditional card-present, or swipe transactions, as well as card-not-present transactions, such as those conducted over the phone or through the internet. During December 2013, we generated revenue from approximately 153,000 merchants. We market and sell our services directly to merchants through our employee sales force, telemarketing, marketing through electronic and social media and through independent sales groups, or “ISGs,” which are non-employee, external sales organizations, as well as through other third parties. In addition, we partner with banks such as Wells Fargo to sponsor us for membership in the Visa and MasterCard associations and to settle transactions with merchants. We perform core functions for small merchants such as application processing, underwriting, account set-up, risk management, fraud detection, merchant assistance and support, equipment deployment and chargeback services, primarily in our main operating center in Westlake Village, California.
Our strategy has been to increase profits by increasing our penetration of the small merchant marketplace for payment services. Our charge volume processed for 2013 was $21.9 billion, slightly lower than the charge volume processed in 2012 of $22.2 billion. Our revenues decreased $14.3 million or 2.1% to $666.8 million in 2013 from $681.1 million in 2012. Our net revenue decreased 9.2% to $265.9 million in 2013 from $292.9 million in 2012. Our net revenue is composed of total revenue reduced by interchange fees and network fees. Net revenues decreased primarily as a result of a lower number of merchants on file and lower net discount in 2013 compared to 2012. A shift in our competitive landscape in 2013 from monthly fee plus discount to a flat rate discount caused an impact to the overall performance of the portfolios. Income from operations decreased 27.3% to $41.8 million during 2013 from $57.5 million during 2012, primarily due to decreased net revenue and an increase in payroll expense related to one-time compensation charges. Loss before income taxes was $24.6 million in 2013, compared to $5.0 million loss before income taxes in 2012 for iPayment and its consolidated subsidiaries. For Holdings and its consolidated subsidiaries, loss before income taxes was $50.9 million in 2013, compared to $23.1 million of loss before income taxes in 2012.
Industry Overview
Significant market opportunity
The use of electronic forms of payment, such as credit and debit cards, by consumers in the United States has increased steadily over the past ten years and is projected by The Nilson Report to continue to increase through at least 2016. The growth is a result of wider merchant acceptance, growth in consumer spending, increased consumer use of bankcards and advances in payment processing and telecommunications technology. According to The Nilson Report, in 2013, merchant locations in the United States generated approximately $4.1 trillion of total purchases using card-based systems compared to approximately $3.8 trillion in 2012. Total purchases in the United States using card-based systems are expected to grow to approximately $6.1 trillion by 2016. As credit and debit card usage increases, we believe that businesses, both large and small, will increasingly require the product and services of merchant acquirers such as iPayment.
Key participants comprise an efficient value chain
The payment processing industry is made up of a number of key participants, including retail merchants, merchant acquirers (like iPayment), processing vendors, sponsor banks, card issuing banks and card network associations. The various players work together at different points of the value chain with the goal of ensuring seamless processing of transactions, reliable transmission of data, effective risk management and customer service. The diagram below illustrates the payment service providers’ value chain.
Services and economics
We enable small merchants to accept credit and debit cards by providing a range of services, which include transaction processing, risk management, fraud detection, merchant assistance and support and chargeback services in connection with disputes with cardholders. For these services, we charge our merchants a discount fee, or the “Merchant Discount,” which is based primarily on a percentage of the dollar amount of each transaction we process. The Merchant Discount may vary based on several other factors, including the type of merchant, the type of card used and whether the transaction process is a swipe transaction or a card-not-present transaction (i.e., over the Internet or by mail, fax or telephone). For example, on average, the Merchant Discount we typically receive for a payment transaction is approximately 2.8% of the dollar amount of the transaction. In 2013, we derived approximately 90% of our revenues from the Merchant Discount that we charge for each transaction, which we believe has contributed to a stable, recurring revenue base.
A payment transaction is initiated when a consumer purchases a product or service at a merchant using his or her card. At the point of sale, the consumer’s credit card information is submitted to our processing vendor, which then communicates with the card-issuing bank through the proper association network (such as Visa or MasterCard) to authorize the transaction. After authorization, we instruct our processing vendor to route funds from the card-issuing bank to our sponsoring bank. Our sponsoring bank, which sponsors us for membership in the Visa, MasterCard or other card association, settles the transaction with the merchant. We pay interchange fees and assessment fees to the card-issuing bank and the credit card association, respectively, which are typically passed through in the Merchant Discount. We believe this structure allows us to maintain an efficient operating structure and enables us to expand our operations without significantly increasing our fixed costs or capital expenditures.
The following table provides an example of a typical transaction, including amounts paid to the card-issuing bank, Visa, MasterCard or other card association, the processing vendor, the sponsoring bank and us. This example also presents some of our other costs of services, which typically include sales related costs, merchant losses and various other expenses.
We believe our focus on the unique needs of small merchants allows us to develop compelling offerings for our sales channels to market to prospective merchants and provides us with a competitive advantage in our target market. Among the services and capabilities we provide are rapid application response time, merchant application acceptance by fax or on-line submission, superior customer service, risk management, charge-back processing, and merchant reporting. Additionally, we offer our sales channels tailored compensation programs and unique technology applications to assist them in the sales process.
We market and sell our services to merchants throughout the United States through various channels, including a network of ISGs, which are non-employee, external sales organizations with which we have contractual relationships and directly to merchants through our employee sales force, partnerships with various associations and agents banks, through the use of electronic and social media, telemarketing and other programs utilizing partnerships with other companies that market products and services to small businesses. Our relationships with ISGs are typically mutually non-exclusive, permitting us to establish relationships with multiple ISGs and permitting our groups to enter into relationships with other providers of payment processing services. We believe that this sales approach provides us with access to an experienced sales force to market our services with limited investment in sales infrastructure and management time. In addition, we believe we offer the ISGs more rapid and consistent review of merchant applications than may be available from other service providers.
As compensation for their referral of merchant accounts, we pay our ISGs an agreed-upon residual, or percentage of the income we derive from the transactions we process from the merchants these ISGs refer to us. The amount of the residuals we pay to our ISGs varies on a case-by-case basis and depends on several factors, including but not limited to the number and type of merchants each ISG refers to us. We provide additional incentives to our ISGs, including, from time to time, loans that are secured by and repayable from future compensation that may be earned by the ISGs in respect of the merchants they have referred to us. As of December 31, 2013, we had outstanding loans to ISGs in an aggregate amount of $2.8 million. We may decide to loan additional amounts in the future. The notes representing these loans bear interest in amounts ranging from 10.0% to 13.0% and are due through 2018. We secure these loans by perfecting liens against the ISGs’ assets, including the rights they have to receive residuals and fees generated by the merchants they refer to us, any other accounts receivable and, in certain cases, by obtaining personal guarantees from the individuals who operate the ISGs. With respect to our sales channels which involve salespeople that are company employees, compensation typically includes base salary and commission based on production or attainment of sales goals set by us.
Relationships with Sponsors and Processors
In order to provide payment processing services for Visa and MasterCard transactions, we must be sponsored by a financial institution that is a principal member of the Visa and MasterCard card associations. Additionally, we must be registered with Visa and MasterCard as an independent sales organization and with MasterCard as a member service provider.
Sponsoring Banks. We have agreements with various banks that sponsor us for membership in the Visa and MasterCard card associations and settle card transactions for our merchants. The principal sponsoring bank through which we process the significant majority of our transactions is Wells Fargo. The initial term of our agreement with Wells Fargo lasts through December 2014 and will thereafter automatically continue indefinitely unless either party provides the other at least six months’ notice of its intent to terminate. Typically, a sponsoring bank may terminate its agreement with us if we materially breach the agreement and do not cure the breach within an established cure period, if our membership with Visa or MasterCard terminates, if we become subject of a voluntary or involuntary bankruptcy proceeding, or if applicable laws or regulations, including Visa and MasterCard rules and regulations, change to prevent either the applicable bank or us from performing its services under the applicable agreement. From time to time, we may enter into agreements with additional banks. See “Risk Factors-Risk Factors Relating to Our Business-We rely on bank sponsors, which have substantial discretion with respect to certain elements of our business practices, in order to process bankcard transactions. If these sponsorships are terminated and we are
not able to secure or successfully migrate merchant portfolios to new bank sponsors, we will not be able to conduct our business.”
Processing Vendors. We have agreements with several processing vendors to provide us with, on a non-exclusive basis, transaction processing and transmittal, transaction authorization and data capture, and access to various reporting tools. Our primary processing vendor is First Data Merchant Services Corporation (“FDMS”), with which we have entered into several service agreements. Each of the FDMS service agreements may be terminated by FDMS if, among other things, (i) we fail to comply with certain requirements of the agreements (including, but not limited to, failing to pay any amount due under the agreements) and we do not cure such failure within 30 days after receipt of written notice of such failure, (ii) certain insolvency events occur with respect to us, (iii) we fail to maintain our good standing in the Visa or MasterCard associations or (iv) FDMS terminates all of our customer accounts pursuant to the agreements. We may terminate each of the agreements if, among other things, (i) certain insolvency events occur with respect to FDMS, (ii) FDMS materially breaches any of the terms, covenants or conditions of the agreements and fails to cure such breach within 30 days following receipt of written notice thereof, or (iii) under certain circumstances, FDMS is unable to perform interchange settlement services.
Our Merchant Base
We serve a large group of merchants in a broad range of business industries. We believe this diversity contributes to a stable revenue base. No single merchant accounted for more than 1% of our aggregate charge volume for 2013. Because of our limited customer concentration, variation in charge volume from any one merchant or industry has a limited effect on our total charge volume and financial results. The following chart shows the primary categories of the merchants we serve based on 2013 charge volume:
Small merchants, such as those served by our Company, have historically paid higher fees per transaction than larger merchants because they are difficult to identify and service, and their businesses are more likely to fail than larger merchants.
Merchant attrition is expected in the payment processing industry in the ordinary course of business; however, we believe the low average transaction volume of the merchants we serve makes them less likely to change providers because of the inconvenience associated with such a transfer. During 2013, we experienced monthly volume attrition ranging from 1.5% to 2.2% of our total annual charge volume on our merchant portfolios. The primary causes of attrition among our small business customers are business failure, competition from other providers of payment processing services, and our proactive closure of merchant accounts for risk related reasons.
Risk Management
As a result of our exposure to potential liability for merchant fraud, chargebacks, and other losses created by our merchant services business, we view our risk management practices as integral to our operations and overall success.
As of December 31, 2013, we had a staff of 24 employees dedicated to risk management operations, which encompasses underwriting new accounts, monitoring and investigating merchant account activity for suspicious transactions or trends and avoiding or recovering losses. Effective risk management helps us minimize merchant losses for the mutual benefit of our merchant customers and ourselves. Our risk management procedures also help protect us from fraud perpetrated by our merchants. We believe our knowledge and experience in dealing with attempted fraud, established as a result of our management’s extensive experience with higher risk market segments, has resulted in our development and implementation of highly effective risk management and fraud prevention systems and procedures.
We employ the following systems and procedures to minimize our exposure to merchant fraud and transaction-based fraud:
Underwriting. Our sales agents send new applications to our underwriting department for their review and screening. Our underwriters have previous industry underwriting experience and have the authority to render judgment on new applications. Our underwriters also take additional actions such as adjusting aggregate processing and average charge per transaction limits, or establishing reserve requirements for new and existing merchants, as they deem appropriate. We obtain a personal guaranty from most of the owners of new merchants we enroll.
Proprietary Management Information Systems. Our proprietary systems automatically generate credit reports on new applicants, categorize risk based on all of the information provided and place the applications in a queue to be processed by our underwriting staff. The underwriting staff can access all of the collected information on a merchant online in order to render a decision on whether to approve or reject an application or whether to seek additional information.
Merchant Monitoring. We provide several levels of merchant account monitoring to help us identify suspicious transactions and trends. Daily merchant activity is downloaded to our iWorkflow system from our third-party processors such as FDMS and is sorted into a number of customized reports by our proprietary systems. Our risk management team generates daily reports that highlight exceptions to the established daily merchant parameters such as average ticket size, total processing volume or expected merchandise returns.
Risk Review Department. We have established an in-house risk review department that monitors the sales activities of the merchants that we service. The risk review department conducts background checks on these merchants, interviews merchants, anonymously purchases products and services, reviews sales records and follows developments in risk management procedures and technology.
Investigation and Loss Prevention. If a merchant exceeds any approved parameter as established by our underwriting and/or risk management staff or violates regulations established by the applicable card association or the terms of our agreement with the merchant, an investigator will identify the incident and take appropriate action to reduce our exposure to loss, as well as the exposure of our merchants. This action may include requesting additional transaction information, withholding or diverting funds, verifying delivery of merchandise or even deactivating the merchant account.
Reserves. Some of our merchants are required to post reserves (cash deposits) that are used to offset chargebacks incurred. Our sponsoring banks hold such reserves related to our merchant accounts as long as we are exposed to loss resulting from a merchant’s processing activity. In the event that a small company finds it difficult to post a cash reserve upon opening an account with us, we may build the reserve by retaining a percentage of each transaction the merchant performs until the reserve is established. This solution permits the merchant to fund our reserve requirements gradually as its business develops. As of December 31, 2013, our total reserve deposits were approximately $28.5 million. We have no legal title to the cash accounts maintained at the sponsor bank in order to cover potential chargeback and related losses under the applicable merchant agreements. We also have no legal obligation to these merchants with respect to these reserve accounts. Accordingly, we do not include these accounts and the corresponding obligation to the merchants in our consolidated financial statements.
If a billing dispute between a merchant and a cardholder is not ultimately resolved in favor of the merchant, the disputed transaction is “charged back” to the merchant’s bank and credited to the account of the cardholder. After the chargeback occurs, we attempt to recover the chargeback either directly from the merchant or from the merchant’s reserve account. If we or our sponsoring banks are unable to collect the chargeback from the merchant’s account, or, if the merchant refuses or is financially unable to reimburse the merchant’s bank for the chargeback, we bear the loss for the amount of the refund paid to the cardholder’s bank.
Technology
In the course of our operations, we solicit, compile and maintain a large database of information relating to our merchants and their transactions. We place significant emphasis on providing a high level of security in order to protect the information of our merchants and their customers. We have been in compliance with Visa and MasterCard’s security standards since they were first implemented by the Payment Card Industry Security Standards Council in 2006. We have deployed the latest generation of network intrusion detection technology and system monitoring appliances to enhance our level of protection.
Our internal network configuration provides multiple layers of security in an effort to isolate our databases from unauthorized access and implements detailed security rules to limit access to all critical systems. Application components communicate using sophisticated security protocols and are directly accessible by a limited number of employees on a need-only basis. Our operation and customer support systems are primarily located at our facilities in Westlake Village, California.
We also rely on connections to the systems of our third-party processing providers. In all cases, we install encrypted or tunneled communications circuits with backup connectivity to withstand telecommunications problems.
Competition
The payment processing industry is highly competitive. We compete with other providers of payment processing services on the basis of the following factors:
•
quality and reliability of service;
•
ability to evaluate, undertake and manage risk;
•
ability to attract and retain independent sales organizations;
•
speed in approving merchant applications and deploying equipment; and
•
cost to the customer.
Many large and small companies compete with us in providing payment processing services and related services to a wide range of merchants. Many of our large competitors have substantially greater capital resources than we have and operate as subsidiaries of financial institutions or bank holding companies, which may allow them on a consolidated basis to own and conduct depository and other banking activities that we do not have the regulatory authority to own or conduct. This may allow our competitors to offer more attractive pricing to our current and prospective merchants, or other products or services that we do not offer. Large transaction processors, such as FDMS, Bank of America Merchant Services, Chase Paymentech and Elavon, Inc., serve a broad market spectrum from large to small merchants and provide banking, ATM and other payment-related services and systems in addition to card-based payment processing. There are also many smaller transaction processors that provide various services to small and medium sized merchants. See “Risk Factors-Risk Factors Relating to Our Business-The payment processing industry is highly competitive and such competition is likely to increase, which may further adversely influence our prices to merchants, and as a result, our profit margins.”
We believe that our specific focus on smaller merchants, in addition to our understanding of the needs and risks associated with providing payment processing services to small merchants and ISGs, gives us a competitive advantage over larger competitors, which have a broader market perspective and priorities. We also believe that we have a competitive advantage over competitors of a similar or smaller size that may lack our extensive experience and resources.
Segment Information and Geographical Information
We consider our business activities to be in a single reporting segment as we derive approximately 90% of our revenues and results of operations from processing revenues and other fees from electronic payments. During 2013, 2012, and 2011, no single merchant accounted for more than 1% of our revenues. All of our revenue is generated from, and all of our long-lived assets are located in, the United States. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for a discussion of the impact of seasonality on our business.
Our History
iPayment Technologies, Inc., (“Technologies”) was formed in 1992 as a California corporation. In February 2001, iPayment was formed by the majority stockholders of Technologies under the name iPayment Holdings, Inc., a Tennessee corporation, which acted as a holding company for Technologies and other card processing businesses. In August 2002, iPayment was reincorporated in Delaware under the name iPayment, Inc. and in May 2003 iPayment completed an initial public offering. In May 2006, iPayment became a wholly-owned subsidiary of iPayment Holdings, Inc. in a going private transaction. As of the consummation of the going private transaction, Holdings became a wholly-owned subsidiary of iPayment Investors L.P., a Delaware limited partnership then owned by Carl A. Grimstad, iPayment’s Chairman and Chief Executive Officer, former Chief Executive Officer Greg Daily, and certain entities and family trusts affiliated with them.
In May 2011, iPayment completed an offering of $400.0 million in aggregate principal amount of 10.25% Senior Notes due 2018 (the “10.25% Notes”) and entered into its senior secured credit facilities consisting of (i) a $375.0 million term facility and (ii) a $75.0 million revolving facility (the “Senior Secured Credit Facilities”). The revolving facility matures on May 6, 2016, and the term facility matures on May 8, 2017. Also in May 2011, Holdings completed an offering of 125,000 units (the “Units”), consisting of $125.0 million in aggregate principal amount of 15.00%/15.00% Senior Notes due 2018 (the
“15.00%/15.00% Notes”) and 125,000 warrants (the “Warrants”) to purchase common stock of Holdings. The Warrants represent an aggregate 2.5% of the outstanding common stock of Holdings on a fully diluted basis.
The majority of the proceeds from the offerings of the 10.25% Notes and the Units, together with borrowings under the Senior Secured Credit Facilities, were used to (i) permanently repay all of the outstanding indebtedness under iPayment’s then existing senior secured credit facilities; (ii) redeem and satisfy and discharge all of iPayment’s then existing senior subordinated notes; (iii) redeem and satisfy and discharge all of iPayment Investors’ then existing paid-in-kind (“PIK”) toggle notes and (iv) pay fees and expenses in connection with the offerings. All of the remainder of such proceeds and borrowings were used to consummate the Equity Redemption on May 23, 2011, including payment of the transaction fee discussed in “Certain Relationships and Related Transactions, and Director Independence” and other related fees and expenses.
In this Annual Report, we refer to the entry into the Senior Secured Credit Facilities, the offer and sale of the 10.25% Notes and the Units, including the application of the net proceeds of the 10.25% Notes and the Units and borrowings under the Senior Secured Credit Facilities as described above, as the “Refinancing.” In addition, as used in this Annual Report, the term “Notes” refers collectively to the 10.25% Notes and the 15.00%/15.00% Notes.
On August 28, 2012 iPayment Investors merged with and into Holdings with Holdings as the surviving entity.
Employees
As of December 31, 2013, we employed 422 full-time personnel, including 257 in operations, 124 in sales and administration, 24 in risk management, and 17 in information systems and technology. Many of our employees are highly skilled. We believe our future success will depend in large part on our ability to attract and retain such employees. As of December 31, 2013, none of our employees were represented by a labor union, and we have experienced no work stoppages. We believe that our employee relations are good.
Available Information
Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports are available free of charge on our website at www.ipaymentinc.com as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC. The public may also read and copy any materials filed by the Company with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site, www.sec.gov, which contains reports and other information regarding issuers that file such information electronically with the SEC.
ITEM 1A.
ITEM 1A.
RISK FACTORS
Risk Factors Relating to Our Business
Any new or changes made to laws, regulations, card network association rules or other industry standards affecting our business may have an adverse impact on our financial results.
We are subject to numerous regulations that affect the electronic payments industry. Regulation and proposed regulation of the payments industry has increased significantly in recent years. Failure to comply with applicable regulations may have an adverse effect on our business, including the limitation, suspension or termination of services provided to, or by, third parties, and the imposition of penalties, including fines. We are also subject to U.S. financial services regulations, numerous consumer protection laws, escheat regulations, and privacy and information security regulations, among other laws, rules and regulations. Changes to legal rules and regulations, or the interpretation or enforcement thereof, could have a negative financial effect on the Company. We are also subject to the rules of Visa, MasterCard and various other credit and debit networks. We are subject to the Housing Assistance Tax Act of 2008, which requires information returns to be filed by merchant acquiring entities each calendar year. Interchange fees, which are typically paid by the acquirer to the issuer in connection with transactions, are subject to increasingly intense legal, regulatory, and legislative scrutiny. In particular, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), which was signed into law in July 2010, significantly changes the U.S. financial regulatory system, including by regulating and limiting certain debit card fees charged by certain issuer banks and allowing merchants to offer discounts for different payment methods, as well as other measures. This regulation took effect beginning in October 2011. Since October 2011 when the regulations became effective, the Company’s revenues have been reduced as a result of lower interchange fees mandated on regulated debit transactions. Correspondingly, the Company has experienced a reduction in interchange expense. Other potential effects of Dodd-Frank Act, such as merchant card acceptance behavior, competition among merchant acquirers and issuer actions in response to changes in the market place are difficult to verify or estimate.
We are also subject to Section 5 of the Federal Trade Commission Act, which prohibits unfair or deceptive acts or practices by all merchants, financial institutions, and all persons engaged in commerce. The Federal Trade Commission ("FTC") is authorized to take action against nonbanks that engage in such unfair or deceptive acts and, to the extent we are processing payments for a merchant engaged in unfair or deceptive acts, we may be subject to action by the FTC.
Regulatory actions such as those described above, even if not directed at us, may require us to make significant efforts to change our products and services and may require that we change how we price our services to customers. Furthermore, regulatory actions may cause changes in business practices by us and other industry participants which could affect how we market, price and distribute our products and services. Moreover, failure to comply with laws and regulations, even if inadvertent, could damage our business and our reputation. Therefore, these laws and regulations may materially and adversely affect the Company’s business or operations, either directly or indirectly.
We have faced, and may face in the future, significant chargeback liability and liability for merchant or customer fraud, which we may not be able to accurately anticipate.
We have potential liability for chargebacks associated with the transactions we process. If a billing dispute between a merchant and a cardholder is not ultimately resolved in favor of the merchant, the disputed transaction is “charged back” to the merchant’s bank and credited to the account of the cardholder. If we or our sponsoring banks are unable to collect the chargeback from the merchant’s account, or, if the merchant refuses or is financially unable (due to bankruptcy or other reasons) to reimburse the merchant’s bank for the chargeback, we bear the loss for the amount of the refund paid to the cardholder’s bank.
We also have potential liability for losses caused by fraudulent card-based payment transactions. Card fraud occurs when a merchant’s customer uses a stolen card (or a stolen card number in a card-not-present transaction) to purchase merchandise or services or when the perpetrator of the fraud gains access to certain merchant or cardholder information. In a traditional card-present transaction, if the merchant swipes the card, receives authorization for the transaction from the card issuing bank and verifies the signature on the back of the card against the paper receipt signed by the customer, the card issuing bank remains liable for any loss. In a fraudulent card-not-present transaction, even if the merchant receives authorization for the transaction, the merchant is liable for any loss arising from the transaction. Many of the small merchants that we serve are small businesses that transact a substantial percentage of their sales in card-not-present transactions over the Internet or in response to telephone or mail orders, which makes these merchants more vulnerable to customer fraud than larger merchants. Because substantially all of the merchants we serve are small merchants, we experience chargebacks arising from cardholder fraud more frequently than providers of payment processing services that service larger merchants.
Merchant fraud occurs when a merchant, rather than a customer, knowingly uses a stolen or counterfeit card or card number to record a false sales transaction, or intentionally fails to deliver the merchandise or services sold in an otherwise valid
transaction. Anytime a merchant is unable to satisfy a chargeback, we are responsible for that chargeback. We have established systems and procedures to detect and reduce the impact of merchant fraud, but we cannot be certain that these measures are or will be effective. It is possible that incidents of fraud could increase in the future. Failure to effectively manage risk and prevent fraud could increase our chargeback liability.
Charges incurred by us relating to merchant losses were $3.7 million, or 0.6% of revenues in 2013, $3.9 million, or 0.6% of revenues in 2012, and $3.8 million, or 0.5% of revenues in 2011.
We rely on bank sponsors, which have substantial discretion with respect to certain elements of our business practices, in order to process bankcard transactions. If these sponsorships are terminated and we are not able to secure or successfully migrate merchant portfolios to new bank sponsors, we will not be able to conduct our business.
Because we are not a bank, we are unable to belong to and directly access the Visa and MasterCard bankcard associations. Visa and MasterCard operating regulations require us to be sponsored by a bank in order to process bankcard transactions. We are currently registered with Visa and MasterCard through the sponsorship of banks that are members of the card associations. The principal sponsoring bank through which we process the significant majority of our transactions is Wells Fargo.
The initial term of our agreement with Wells Fargo lasts through December 2014 and will thereafter automatically continue indefinitely unless and until either party provides the other at least six months' notice of its intent to terminate. In addition, our sponsoring banks may terminate their agreements with us if we materially breach the agreements and do not cure the breach within an established cure period, if our membership with Visa or MasterCard terminates, if we become the subject to a voluntary or involuntary bankruptcy proceeding, or if applicable laws or regulations, including Visa and MasterCard rules and regulations, change to prevent either the applicable bank or us from performing services under the applicable agreement. The agreements generally define a material breach as a failure to perform a material obligation under the agreement, specifically any breach of any warranty, representation or covenant or condition or term of the agreement, such as noncompliance with applicable laws, failure to provide relevant documentation as to certain account related data, failure to provide a marketing plan upon request, failure to maintain a transfer account or failure to pay for services. If these sponsorships are terminated and we are unable to secure an alternative bank sponsor, we will not be able to process bankcard transactions. Furthermore, our agreements with our sponsoring banks, including our agreement with Wells Fargo, provide the sponsoring banks with substantial discretion in approving certain elements of our business practices, including our solicitation, application and qualification procedures for merchants, the terms of our agreements with merchants, the processing fees that we charge, our customer service levels and our use of ISGs. We cannot guarantee that our sponsoring banks’ actions under these agreements will not be detrimental to us, nor can we provide assurance that any of our sponsoring banks will not terminate their sponsorship of us in the future or seek to modify their agreement with us in a manner that may adversely affect our ability to process bankcard transactions or otherwise operate our business.
If we or our bank sponsors fail to adhere to the standards of the Visa and MasterCard payment card associations, our registrations with these associations could be terminated, and we could be required to stop providing payment processing services for Visa and MasterCard.
Substantially all of the transactions we process involve Visa or MasterCard. If we or our bank sponsors fail to comply with the applicable requirements of the Visa or MasterCard payment card associations, Visa or MasterCard could suspend or terminate our registration. The termination of our registration or any changes in the Visa or MasterCard rules that would impair our registration could prevent us from providing payment processing services.
We rely on third-party processors and service providers; if they fail or no longer agree to provide their services, our merchant relationships could be adversely affected and we could lose business.
We rely on agreements with several large payment processing organizations to enable us to provide card authorization, data capture, settlement and merchant accounting services and access to various reporting tools for the merchants we serve. We also outsource to third parties other services, such as reorganizing and accumulating daily transaction data on a merchant-by-merchant and card issuer-by-card issuer basis and forwarding the accumulated data to the relevant bankcard associations. Many of these organizations and service providers are our competitors, and we do not have long-term contracts with most of them. Typically, our contracts with these third parties are for one-year and are subject to cancellation upon limited notice by either party. The termination by our service providers of their arrangements with us or their failure to perform their services efficiently and effectively may adversely affect our relationships with the merchants whose accounts we serve and may cause those merchants to terminate their processing agreements with us.
To acquire and retain merchant accounts, we depend on ISGs that do not serve us exclusively.
We rely on the efforts of ISGs to market our services to merchants seeking to establish a credit card processing relationship. ISGs are companies that seek to introduce to us, as well as our competitors, newly-established and existing small merchants,
including retailers, restaurants and other service providers. Generally, our agreements with ISGs are not exclusive and they have the right to refer merchants to other providers of transaction payment processing services. Our failure to maintain our relationships with our existing ISGs and to recruit and establish new relationships with other ISGs could adversely affect our revenues and internal growth and increase our merchant attrition.
We periodically experience increases in interchange and other related costs, and if we cannot pass these increases along to our merchants, our profit margins will decline.
We pay interchange fees and assessments to issuing banks through the card associations for each transaction we process using their credit and debit cards. From time to time, the card associations increase the interchange fees that they charge processors and the sponsoring banks. At their sole discretion, our sponsoring banks have the right to pass any increases in interchange fees on to us. In addition, our sponsoring banks may seek to increase their Visa and MasterCard sponsorship fees to us, all of which are based upon the dollar amount of the payment transactions we process. If we are not able to pass these fee increases along to merchants through corresponding increases in merchant discount, our profit margins will decline.
Unauthorized disclosure of merchant and cardholder data, whether through breach of our computer systems or otherwise, could expose us to protracted and costly litigation and potential liability.
We may collect and store limited data concerning merchants and their principal owners, including names, addresses, social security numbers, driver’s license numbers, checking and savings account numbers, and payment history records. In addition, we maintain a limited database of cardholder data relating to specific transactions, including card numbers and cardholder addresses, in order to process such cardholders’ transactions, for fraud prevention and other internal processes. If a third party penetrates our network security or otherwise misappropriates sensitive merchant or cardholder data, we could be subject to liability or business interruption.
Although we generally require that our agreements with our ISGs and other service providers who may have access to merchant and customer data include confidentiality obligations that restrict these parties from using or disclosing any customer or merchant data except as necessary to perform their services under the applicable agreements, we cannot guarantee that these contractual measures will prevent the unauthorized disclosure of merchant or customer data by the ISGs or service providers. In addition, our agreements with financial institutions (as well as card association requirements) require us to take certain protective measures to ensure the confidentiality of merchant and consumer data. Any failure to adequately comply with these protective measures could result in fees, penalties and/or litigation.
The loss of key personnel or damage to their reputations could adversely affect our relationships with ISGs, card associations, bank sponsors and our other service providers, which would adversely affect our business.
Our success depends upon the continued services of our senior management and other key employees, all of whom have substantial experience in the payment processing industry and the small merchant markets in which we offer our services. In addition, our success depends in large part upon the reputation and influence within the industry of our senior managers who have, over the years, developed long standing and favorable relationships with ISGs, card associations, bank sponsors and other payment processing and service providers. The loss of the services of one or more of our senior managers or other key employees or damage to their reputations and influence within the industry could have a material adverse effect on our business, financial condition and results of operations. As a result of our internal fraud investigation discussed in Note 2 to our consolidated financial statements, “Restatement of Consolidated Financial Statements,” certain of our then senior officers were terminated or resigned in September 2012. We acted expeditiously to replace these officers or to reassign their responsibilities to other employees, and we are not aware of any merchants or agents that have been lost or adversely affected as a result of their departures. However, there can be no assurance that their departures, or the future departures of any of our current senior officers, will not have a material adverse effect on our business, financial condition or results of operations in the future.
Our reputation could be damaged as a result of negative publicity.
We depend upon our reputation to compete for agents, merchants and employees. Unfavorable publicity can damage our reputation and negatively impact our economic performance. For example, the fraud committed by certain of our former employees and contractors as discussed in Note 2 to our consolidated financial statements “Restatement of Consolidated Financial Statements,” could adversely impact our reputation. While we have made efforts to mitigate this risk by terminating those former employees who were responsible for such fraud, and by implementing new policies, procedures and internal controls, there can be no assurance that unfavorable publicity arising from the foregoing events, or any other potential negative publicity, will not have a material adverse effect on our business.
The payment processing industry is highly competitive and such competition is likely to increase, which may further adversely impact our pricing to merchants, and as a result, our profit margins.
The market for credit and debit card processing services is highly competitive and has relatively low barriers to entry. The level of competition has increased in recent years as other providers of processing services have established a sizable market share in the small merchant processing sector. Some of our competitors are financial institutions, subsidiaries of financial institutions or well-established payment processing companies that have substantially greater capital, technological, management and marketing resources than we have. There are also a large number of small providers of processing services that provide various ranges of services to small and medium sized merchants. This competition may effectively limit the prices we can charge and requires us to control costs aggressively in order to maintain acceptable profit margins. Further, if the use of payment cards other than Visa or MasterCard, such as American Express, grows, or if there is increased use of certain debit cards, our average profit per transaction could be reduced. In addition, our competitors in recent years have consolidated as large banks merged and combined their networks. This consolidation may also require that we increase the consideration we pay for future acquisitions and could adversely affect the number of attractive acquisition opportunities presented to us. Our future competitors may develop or offer services that have price or other advantages over the services we provide. If they do so and we are unable to respond adequately, our business, financial condition and results of operations could be materially adversely affected.
Increased attrition due to an increase in closed merchant accounts and a decrease in merchant charge volume that we cannot anticipate or offset with new accounts may reduce our revenues.
We experience attrition in merchant accounts and merchant charge volume in the ordinary course of business resulting from several factors, including but not limited to, business closures, transfers of merchants’ accounts to our competitors and account “closures” that we initiate due to heightened credit risks relating to, or contract breaches by, a merchant. We target small merchants that generally have a higher rate of business failure than larger businesses. During 2013, we experienced volume attrition ranging from 1.5% to 2.2% per month on our various merchant portfolios. Substantially all of our processing contracts with merchants can be terminated by either party on relatively short notice. Therefore, merchants could close their processing accounts with us and move to other providers with minimal financial liability or cost. In addition, we believe that challenging economic conditions have adversely affected and may continue to adversely affect merchant charge volume, thereby increasing attrition. We cannot accurately predict the level of attrition in the future. Increased attrition in merchant accounts and merchant charge volume may have a material adverse effect on our business, financial condition and results of operations.
Our business could be adversely affected by a challenging economic environment that causes our merchants to experience adverse business conditions, as they may generate fewer transactions for us to process or may become insolvent, thereby increasing our exposure to chargeback liabilities.
We believe that challenging economic conditions in recent years have caused some of the merchants we serve to experience difficulty in supporting their current operations and implementing their business plans, and any deterioration in economic conditions has the potential to negatively impact consumer confidence and consumer spending. If our merchants make fewer sales of their products and services, we will have fewer transactions to process, resulting in lower revenues.
In addition, in difficult economic environments, the merchants we serve could be subject to a higher rate of business failure which could adversely affect our financial performance. We bear credit risk for chargebacks related to billing disputes between credit or debit card holders and bankrupt merchants. If a merchant seeks relief under bankruptcy laws or is otherwise unable or unwilling to pay, we may be liable for the full transaction amount of a chargeback.
Our inability to adopt technology to meet changing industry or customer needs and trends may affect our competitiveness or demand for our products, which may adversely affect our operating results.
Changes in technology may limit the competitiveness of and demand for our services. We operate in industries that are subject to technological advancements, developing industry standards and changing customer needs and preferences. In addition, our customers continue to adopt new technology for business and personal uses. We must anticipate and respond to these industry and customer changes in order to remain competitive within our markets. For example, our inability to adopt technological advancements surrounding point-of-sale technology available to merchants could have an adverse impact on our business. Our inability to respond to new industry standards, trends and technological advancements could have a material adverse effect on our business, financial condition and results of operations.
There may be a decline in the use of credit cards as a payment mechanism for consumers or adverse developments with respect to the credit card industry in general which could adversely affect our operating results.
If consumers do not continue to use credit cards as a payment mechanism for their transactions or if there is a change in the mix of payments between cash, credit cards and debit cards, it could have a material adverse effect on our business, financial
condition and results of operations. We believe future growth in the use of credit cards will be driven by the cost, ease-of-use, and quality of products and services offered to consumers and businesses. Maintaining or increasing our profitability is dependent on consumers and businesses continuing to use credit cards at the same or greater rate than the current rate. Moreover, if there is an adverse development in the credit card industry in general, such as new legislation or regulation that makes it more difficult for our clients to do business, our business, financial condition and results of operations may be materially adversely affected.
Adverse conditions in industries in which we obtain a substantial amount of our bankcard processing volume, such as the fuel and restaurant industries, could negatively affect our operating results.
We obtain a substantial amount of our bankcard processing volume from merchants in certain industries. For example, merchants in the fuel and restaurant industries represented 14.4% and 14.3% of our bankcard processing volume, respectively, in 2013. As a result, any adverse economic or other conditions in the fuel and restaurant industries, or other industries in which we obtain a substantial amount of our bankcard processing volume, could negatively affect our business, financial condition and results of operations.
Our operating results are subject to seasonality, and, if our revenues are below our seasonal norms during our historically stronger quarters, our financial results could be adversely affected.
We have experienced in the past, and expect to continue to experience, seasonal fluctuations in our revenues as a result of consumer spending patterns. Historically, revenues have been weaker during the first quarter of the calendar year and stronger during the second, third and fourth quarters. If, for any reason, our revenues are below seasonal norms during the second, third or fourth quarter, our business, financial condition and results of operations could be materially adversely affected.
Our information systems, and those of our third party providers, may fail due to factors beyond our control, which could interrupt our business, cause us to lose business and increase our costs.
We depend on the efficient and uninterrupted operations of our computer network systems, software and data centers, as well as those of our third party providers. Our systems and operations could be exposed to damage or interruption from fire, natural disasters, power loss, telecommunications failure, unauthorized entry and computer viruses. Our property and business interruption insurance may not be adequate to compensate us for all losses or failures that may occur, and we do not presently have fully redundant systems to help ensure uninterrupted operations. Defects in our or our third party providers' systems, errors or delays in the processing of payment transactions or other difficulties could result in:
•
additional operational and development costs;
•
diversion of technical and other resources;
•
loss of merchants and revenues;
•
loss of merchant and cardholder data;
•
negative publicity;
•
harm to our business or reputation; or
•
exposure to fraud losses or other liability.
Material breaches in the security of our information systems may have a significant effect on our business.
The uninterrupted operation of our information systems and the confidentiality of the customer/consumer information that resides on such systems are critical to the successful operations of our business. We have security, backup and recovery systems in place, as well as a business continuity plan designed to help ensure that our information systems will operate in the event of a breach or power failure. We also have what we believe to be sufficient security around our information systems to prevent unauthorized access to such systems. However, our visibility in the United States’ payment industry may attract hackers to conduct attacks on our systems that could compromise the security of our data. An information breach and theft of confidential information, such as credit or debit card numbers and related information, could subject us to liability, including claims for unauthorized purchases with misappropriated bankcard information, impersonations, or other similar fraud claims, which could result in a significant impact on our business operations, including losing our customers’ confidence (and thus the loss of their business), as well as the imposition of fines and damages.
New and potential governmental regulations designed to protect or limit access to consumer information could adversely affect our ability to provide, or the value of, the services we currently provide to our merchants.
Due to the increasing public concern over consumer privacy rights, governmental bodies in the United States and abroad have adopted, and are considering adopting, additional laws and regulations restricting the purchase, sale and sharing of personal information about customers. For example, the Gramm-Leach-Bliley Act requires non-affiliated third-party service providers to financial institutions to take certain steps to ensure the privacy and security of consumer financial information. We believe our present activities fall under exceptions to the consumer notice and opt-out requirements contained in this law for third-party service providers to financial institutions. However, the laws governing privacy generally remain unsettled. Even in areas where there has been some legislative action, such as the Gramm-Leach-Bliley Act and other consumer statutes, it is difficult to determine whether and how existing and proposed privacy laws or changes to existing privacy laws will apply to our business. Limitations on our ability to access and use customer information could adversely affect our ability to provide the services we currently offer to our merchants or impair the value of these services.
Several states have proposed legislation that would limit the use of personal information gathered using the Internet. Some proposals would require proprietary online service providers and website owners to establish privacy policies. Congress has also considered privacy legislation that could further regulate the use of consumer information obtained over the Internet or in other ways. Our compliance with these privacy laws and related regulations could materially affect our operations.
Changes to existing laws or the passage of new laws could:
•
create uncertainty in the marketplace that could reduce demand for our services;
•
restrict or limit our ability to sell certain products and services to certain customers;
•
limit our ability to collect and to use merchant and cardholder data; or
•
increase the cost of doing business as a result of litigation costs or increased operating costs;
Any of which could have a material adverse effect on our business, financial condition and results of operations.
If we are required to pay federal, state or local taxes on transaction processing, it could negatively impact our profit margins.
Transaction processing companies may become subject to federal, state or local taxation of certain portions of their fees charged to merchants for their services. Application of these taxes is an emerging issue in our industry and taxing jurisdictions have not yet adopted uniform positions on this topic. If we are required to pay such taxes and are unable to pass this tax expense through to our merchant clients, or are unable to produce increased cash flow to offset such taxes, these taxes would negatively impact our profit margins.
The markets for the services that we offer may fail to expand or may contract, which could negatively impact our growth and profitability.
Our growth and continued profitability depend on the acceptance of the services that we offer. If demand for our services decreases, our profit margins would be negatively impacted. Changes in technology may enable merchants and retail companies to directly process transactions in a cost-efficient manner without the use of our services. Additionally, uncertainty in the economy or a reduction in consumer spending may result in a decrease in the demand for our services. Further, if our customers make fewer sales of their products and services, we will have fewer transactions to process, resulting in lower revenue. Any decrease in the demand for our services for the reasons discussed above or other reasons could have a material adverse effect on our growth and revenue.
We are the subject of various legal proceedings which could have a material adverse effect on our business, financial condition or operating results.
We are involved in various litigation matters. The Company may, from time to time, also be involved in or be the subject of governmental or regulatory agency inquiries or investigations. If the Company is unsuccessful in its defense in the litigation matters, or any other legal proceeding, it may be forced to pay damages or fines and/or change its business practices, any of which could have a material adverse effect on the Company’s business, financial condition and results of operations. For more information about the Company’s legal proceedings, see “Legal Proceedings.”
Our balance sheet includes significant amounts of goodwill and intangible assets. The impairment of a significant portion of these assets would negatively affect our operating results.
Our balance sheet includes goodwill and intangible assets that represent over 90% of our total assets at December 31, 2013. These assets consist primarily of goodwill and identifiable intangible assets associated with our merchant portfolios and acquisitions. We may engage in additional acquisitions, which may result in our recognition of additional intangible assets and goodwill. On at least an annual basis, we assess whether there have been impairments in the carrying value of our goodwill and
intangible assets. If the carrying value of these assets is determined to be impaired, then it is written down to fair value by a non-cash charge to operating earnings. An impairment of a significant portion of goodwill or intangible assets could materially adversely affect our results of operations.
In the past, we have identified material weaknesses in our internal controls over financial reporting.
Maintaining effective internal controls over financial reporting is necessary for us to produce reliable financial statements.
The Board of Directors of the Company concluded on November 1, 2012 that material weaknesses in the internal control over financial reporting existed at the Company, and consequently the Board of Directors determined that management’s report on internal control over financial reporting as of December 31, 2009, 2010, and 2011, included in the Company’s Annual Reports on Form 10-K for the years then ended, should no longer be relied upon. These material weaknesses led to the need for the restatement of the Company’s financial statements for the years ended December 31, 2009, 2010, and 2011 and for the first two quarters of 2012 and the failure of the Company to file on a timely basis its Quarterly Report on Form 10-Q for the interim period ended September 30, 2012. On January 29, 2013, the Company filed its amended Annual Report on Form 10-K/A restating its financial statements for the years ended December 31, 2009, 2010, 2011 and, on January 31, 2013, the Company filed its amended Quarterly Reports on Form 10-Q/A for the periods ended March 31, 2012 and June 30, 2012. The Company and Holdings have successfully remediated those material weaknesses by, among other things, designing and implementing new procedures and controls throughout the Company and its subsidiaries and by strengthening our accounting department through the addition of new personnel and resources. However, if we fail to maintain effective controls over financial reporting in the future, it could result in a material misstatement of our financial statements that would not be prevented or detected on a timely basis. In addition, we would be required to devote significant time and attention to remediating any future material weaknesses and improving our internal controls, and we could incur costs associated with implementing new processes, which could include fees for additional audit and consulting services, which could negatively affect our financial condition and operating results.
Risk Factors Relating to Acquisitions
We have previously acquired, and expect to continue to acquire, other providers of payment processing services and portfolios of merchant processing accounts. These acquisitions entail additional risks to those inherent in the normal conduct of our business.
Revenues and profits generated by acquired businesses or account portfolios may be less than anticipated, resulting in losses or a decline in profits, as well as potential impairment charges.
In evaluating and determining the purchase price for a prospective acquisition, we estimate the future revenues and profits from that acquisition based on the historical revenue of the acquired provider of payment processing services or portfolio of merchant accounts. Following an acquisition, it is customary to experience some attrition in the number of merchants serviced by an acquired provider of payment processing services or included in an acquired portfolio of merchant accounts. Should the rate of post-acquisition merchant attrition exceed the rate we forecasted, the revenues and profits generated by the acquired providers of payment processing services or portfolio of accounts may be less than we estimated, which could result in losses or a decline in profits, as well as potential impairment charges.
We may fail to uncover all liabilities of acquisition targets through the due diligence process prior to an acquisition, exposing us to potentially significant, unanticipated costs.
Prior to the consummation of any acquisition, we perform a due diligence review of the business or portfolio of merchant accounts that we propose to acquire. Our due diligence review, however, may not adequately uncover all of the contingent or undisclosed liabilities we may incur as a consequence of the proposed acquisition. For example, in the past we were obligated to fund certain credits and chargebacks after discovering that a merchant account from an acquired merchant processing portfolio was in substantial violation of the Visa and MasterCard card association rules. In the future we may make acquisitions that may obligate us to make similar payments resulting in potentially significant, unanticipated costs.
We may encounter delays and operational difficulties in completing the necessary transfer of data processing functions and connecting systems links required by an acquisition, resulting in increased costs for, and a delay in the realization of revenues from, that acquisition.
The acquisition of a provider of payment processing services, as well as a portfolio of merchant processing accounts, requires the transfer of various data processing functions and connecting links to our systems and those of our third-party service providers. If the transfer of these functions and links does not occur rapidly and smoothly, payment processing delays and errors may occur, resulting in a loss of revenues, increased merchant attrition and increased expenditures to correct the transitional problems, which could preclude our attainment of, or reduce, our anticipated revenue and profits.
Special non-recurring and integration costs associated with acquisitions could adversely affect our operating results in the periods following these acquisitions.
In connection with some acquisitions, we may incur non-recurring severance expenses, restructuring charges or change of control payments. These expenses, charges or payments, as well as the initial costs of integrating the personnel and facilities of an acquired business with those of our existing operations, may adversely affect our operating results during the initial financial periods following an acquisition. In addition, the integration of newly acquired companies may lead to diversion of management attention from other ongoing business concerns.
Our facilities, personnel and financial and management systems may not be adequate to effectively manage the future expansion we believe necessary to increase our revenues and remain competitive.
We anticipate that future expansion will be necessary in order to increase our revenues. In order to effectively manage our expansion, we may need to attract and hire additional sales, administrative, operations and management personnel. We cannot be sure that our facilities, personnel, financial and management systems and controls will be adequate to support the expansion of our operations, and provide adequate levels of service to our merchants and ISGs. If we fail to effectively manage our growth, our business could be harmed.
Risk Factors Relating to Our Indebtedness
The indentures governing the Notes, as well as other agreements governing our debt, include financial and other covenants that impose restrictions on our financial and business operations.
The indentures governing the Notes and the Senior Secured Credit Facilities contain negative covenants customary for such financings, such as limiting our and our restricted subsidiaries’ ability to pay dividends, redeem stock or make other distributions or restricted payments, make certain investments, incur or guarantee additional debt, create liens, agree to dividend and payment restrictions affecting restricted subsidiaries, consummate mergers, consolidations or other business combinations, designate subsidiaries as unrestricted, change our or their line of business, or enter into certain transactions with affiliates. The indentures governing the Notes also require us to make timely financial statement filings with the Securities and Exchange Commission. The Senior Secured Credit Facilities have various financial and other covenants, including covenants that require iPayment to maintain minimum coverage ratios and a maximum senior leverage ratio. The Senior Secured Credit Facilities also require us to deliver financial statements to the administrative agent in a timely manner. We may also incur future debt obligations, which might subject us to additional restrictive covenants that could affect our financial and operational flexibility.
In addition, iPayment’s ability to make distributions to Holdings is subject to restrictions in the indenture governing the 10.25% Notes and the Senior Secured Credit Facilities. The indenture governing the 10.25% Notes permits payment of dividends to Holdings to satisfy its interest payments on the 15.00%/15.00% Notes that are required to be paid in cash provided no event of default has occurred and is continuing. The indenture governing the 10.25% Notes otherwise limits the amount of “restricted payments,” including dividends, that iPayment can make to Holdings to a percentage of cumulative net income and proceeds of equity issuances, subject to satisfaction of certain other tests and certain exceptions. The Senior Secured Credit Facilities permit payment of dividends to Holdings to satisfy its interest payments on the 15.00%/15.00% Notes that are required to be paid in cash provided no event of default has occurred and is continuing.
In November 2012, we were unable to satisfy the conditions precedent for borrowing under the Senior Secured Credit Facilities’ revolving credit facility in order to fund scheduled interest payments due on November 15, 2012 on the Company’s 10.25% Notes and Holdings’ 15.00%/15.00% Notes. As a result, on November 14, 2012, we entered into a waiver, consent and amendment (the “Waiver”) with a majority of the lenders under the Senior Secured Credit Facilities. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources.”
The covenants in the indentures governing the Notes and in the Senior Secured Credit Facilities could adversely affect our ability to finance our future operations or capital needs, pursue available business opportunities or make payments upon the Notes. Our ability to comply with these covenants may be subject to events outside our control. Moreover, if we fail to comply with these covenants and are unable to obtain a waiver or amendment, an event of default would result. If an event of default were to occur, the trustee under the indentures governing the Notes or the lenders under the Senior Secured Credit Facilities could, among other things, declare outstanding amounts immediately due and payable. We cannot provide assurance that we would have sufficient liquidity to repay or refinance the Notes or borrowings under the Senior Secured Credit Facilities if such amounts were accelerated upon an event of default. In addition, an event of default or declaration of acceleration under the indentures governing the Notes or the Senior Secured Credit Facilities could also result in an event of default under other financing agreements.
Our substantial debt, and any funds iPayment may distribute to Holdings to service its debt, could adversely affect our financial condition and prevent us from fulfilling our obligations to holders of the Notes.
We have a substantial amount of debt which requires significant interest payments. As of December 31, 2013, we had approximately $910.9 million of total debt outstanding, including $785.4 million, net of discount of $1.1 million, of indebtedness under the 10.25% Notes and Senior Secured Credit Facilities and $125.5 million, net of discount of $0.8 million, of indebtedness under the 15.00%/15.00% Notes. Our substantial debt could adversely affect our financial condition and operating results and make it more difficult for us to satisfy our obligations with respect to holders of the Notes.
Our substantial debt, any new debt we may incur as described below and the resulting reduction in our available cash could also:
•
increase our vulnerability to adverse general economic and industry conditions;
•
require us to dedicate a substantial portion of our cash flow from operations to payments on our debt, thereby reducing the availability of our cash flow to fund investments, capital expenditures, working capital and for other general corporate purposes;
•
limit our ability to make required future payments under our debt agreements, including the indentures governing the Notes and the credit agreement governing the Senior Secured Credit Facilities;
•
limit our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate;
•
limit our ability to make acquisitions;
•
limit our ability to withstand competitive pressures;
•
place us at a competitive disadvantage compared to our competitors that have proportionately less debt than we have;
•
create a perception that we may not continue to support and develop certain products or services;
•
increase our exposure to rising interest rates because a portion of our debt is at variable interest rates; and
•
limit our ability to borrow additional funds on terms that are satisfactory to us or at all.
In addition, iPayment is permitted to distribute funds to Holdings, its direct parent, to pay interest on the 15.00%/15.00% Notes. Through and including the interest payment date on May 15, 2015, at least 50% of the interest on the 15.00%/15.00% Notes must be paid in cash, and thereafter, subject to limited exceptions, 100% of the interest on the 15.00%/15.00% Notes generally must be paid in cash. The covenants in the indenture governing the 15.00%/15.00% Notes generally require Holdings to pay interest in cash to the extent permitted by iPayment’s debt agreements, including the indenture governing the 10.25% Notes. Holdings is a holding company with no material assets of its own, and iPayment will serve as the primary source of funds for payments on Holdings’ debt. Any funds that iPayment may distribute to Holdings to service Holdings’ debt could increase the risks associated with iPayment’s substantial debt, including making it more difficult for iPayment to satisfy its obligations to holders of the 10.25% Notes.
We may incur more debt, which could exacerbate the risks associated with our substantial leverage.
Subject to the limitations contained in the agreements governing our debt, we are able to incur significantly more debt in the future, including the ability to issue additional notes under the indentures governing the Notes. Although these agreements restrict us and our restricted subsidiaries from incurring additional debt, these restrictions are subject to important exceptions and qualifications. For example, the Senior Secured Credit Facilities provide for aggregate borrowings of up to $450.0 million, which are secured by liens on substantially all of our assets. Furthermore, the Senior Secured Credit Facilities and the indentures governing the Notes permit us to incur significant additional debt, including additional debt of Holdings’ subsidiaries that will be structurally senior to the 15.00%/15.00% Notes and additional secured debt that will be effectively senior to the Notes to the extent of the value of the collateral securing such debt. If we incur additional debt, the risks that we face as a result of our high leverage, including our possible inability to service our debt, could increase.
We may not be able to generate sufficient cash flow from operations to meet our debt service obligations.
Our ability to generate sufficient cash flow from operations to make scheduled payments on our debt obligations will depend on our future financial performance, which will be affected by a range of economic, competitive, regulatory, legislative and business factors, many of which are outside of our control. If we do not generate sufficient cash flow from operations to satisfy our debt obligations, including interest payments and the payment of principal at maturity, we may have to undertake alternative financing plans, such as refinancing or restructuring our debt, selling assets, reducing or delaying capital investments or seeking to raise additional capital. We cannot be sure that any refinancing or sale of assets would be possible on commercially reasonable terms or at all. In addition, any refinancing of our debt could be at higher interest rates and may require us to comply with more onerous covenants, which could further restrict our business operations.
Our inability to generate sufficient cash flow to satisfy our debt obligations, or to refinance our obligations on commercially reasonable terms, would have an adverse effect on our business, financial condition and results of operations, as well as on our ability to satisfy Holdings’ obligations under the Notes and iPayment’s obligations under the Senior Secured Credit Facilities. Any failure to make scheduled payments of interest and principal on our outstanding debt would likely result in a reduction of our credit rating, which could harm our ability to incur additional debt on commercially reasonable terms or at all and negatively impact the market value of the Notes. In addition, if we are unable to meet our debt service obligations on our outstanding debt, the holders of such indebtedness would have the right to cause the entire outstanding amount of such indebtedness to become immediately due and payable. If the amounts outstanding under any of our debt instruments are accelerated, we cannot assure you that our assets will be sufficient to repay in full the money owed to our debt holders, including holders of the Notes.
All of Holdings’ operations, and some of iPayment’s operations, are conducted at the subsidiary level, which may materially adversely affect our ability to service our debt.
Our principal assets are the equity interests we hold, directly and indirectly, in our subsidiaries. Our subsidiaries are legally distinct from us and have no obligation to pay amounts due on our debt or to make funds available to us for such payment, other than through guarantees of the 10.25% Notes, which may be released under certain circumstances. Because all of Holdings’ operations and some of iPayment’s operations are conducted through our subsidiaries, our ability to service our debt depends upon the earnings of our subsidiaries and the distribution of those earnings, or upon loans or other payments of funds, by our subsidiaries to us. Although the Senior Secured Credit Facilities and the indentures governing the Notes limit the ability of our subsidiaries to enter into covenant restrictions on their ability to pay dividends and make other payments to us, these limitations are subject to a number of significant qualifications, including exempting restrictions imposed under the indenture governing the 10.25% Notes and the Senior Secured Credit Facilities. If our subsidiaries do not have sufficient earnings or cannot distribute their earnings or other funds to us, our ability to service our debt may be materially adversely affected.
Payment of principal and interest on the Notes will be effectively subordinated to our secured debt to the extent of the value of the assets securing that debt.
The Notes are not secured. Therefore, the Notes will be effectively subordinated to claims of our secured creditors, and the guarantees of the 10.25% Notes will be effectively subordinated to the claims of the secured creditors of such guarantors. As of December 31, 2013, iPayment had approximately $386.5 million of total secured debt outstanding and $56.0 million of capacity under the revolving portion of the Senior Secured Credit Facilities. iPayment’s obligations under the Senior Secured Credit Facilities are guaranteed by Holdings and each of iPayment’s existing and future direct and indirect material domestic subsidiaries. Holders of our secured obligations, including obligations under the Senior Secured Credit Facilities, will have claims that are prior to claims of the holders of the Notes with respect to the assets securing those obligations. In the event of a liquidation, dissolution, reorganization, bankruptcy or any similar proceeding, our assets and those of the guarantors of the 10.25% Notes will be available to pay obligations on the Notes and the guarantees of the 10.25% Notes only after holders of our secured debt have been paid in full from the proceeds of the assets securing such debt. Accordingly, there may not be sufficient funds remaining to pay amounts due on all or any of the Notes.
The 10.25% Notes and related guarantees are structurally subordinated to debt of iPayment’s nonguarantor subsidiaries.
As of December 31, 2013, all of iPayment’s subsidiaries were guarantors of the 10.25% Notes. However, under certain circumstances, the guarantees of iPayment’s subsidiaries may be released and iPayment’s future subsidiaries may not be required to guarantee the 10.25% Notes. The 10.25% Notes will be structurally subordinated to all debt and other liabilities and commitments, including trade payables, of iPayment’s subsidiaries that do not guarantee the 10.25% Notes. iPayment relies substantially upon distributions from its subsidiaries to meet its debt obligations, including its obligations with respect to the 10.25% Notes. Any right of the holders of the 10.25% Notes to participate in the assets of a non-guarantor subsidiary upon any liquidation or reorganization of such subsidiary will be subject to the prior claims of the subsidiary’s creditors.
The 15.00%/15.00% Notes are structurally subordinated to indebtedness of its existing and future subsidiaries, including borrowings under the Senior Secured Credit Facilities and the 10.25% Notes.
Holdings’ subsidiaries, including iPayment, do not currently guarantee its obligations under, and do not have any obligation with respect to, the 15.00%/15.00% Notes. Therefore, the 15.00%/15.00% Notes are structurally subordinated to all debt and liabilities of Holdings’ subsidiaries, including the 10.25% Notes and borrowings under the Senior Secured Credit Facilities. The lenders under the Senior Secured Credit Facilities, the holders of the 10.25% Notes and all other creditors of Holdings’ subsidiaries, including trade creditors, have the right to be paid before Holdings from the assets of Holdings’ subsidiaries. In addition, if Holdings causes a subsidiary to pay a dividend or other distribution to enable it to make payments in respect of the 15.00%/15.00% Notes, and if such transfer were deemed to be a fraudulent transfer or an unlawful distribution, the holders of the 15.00%/15.00% Notes could be required to return the payment to (or for the benefit of) the creditors of such subsidiary, including lenders under the Senior Secured Credit Facilities and holders of the 10.25% Notes. In the event of bankruptcy, liquidation or dissolution of a subsidiary, following payment by such subsidiary of its liabilities, such subsidiary may not have sufficient assets necessary to make any payments to Holdings as its direct or indirect equity holder or otherwise. This would adversely affect Holdings’ ability to make payments to the holders of the 15.00%/15.00% Notes.
We may be unable to repay or repurchase the Notes at maturity.
At maturity, the entire outstanding principal amount of the Notes, together with accrued and unpaid interest, will become due and payable. We may not have the funds to fulfill these obligations or the ability to refinance these obligations. If the maturity date occurs at a time when other arrangements prohibit us from repaying the Notes, we could try to obtain waivers of such prohibitions from the lenders and holders under those arrangements, or we could attempt to refinance the borrowings that contain the restrictions. In these circumstances, if we cannot obtain such waivers or refinance these borrowings, we would be unable to repay the Notes.
Under certain circumstances, a court could cancel the Notes or void the guarantees of the 10.25% Notes under fraudulent conveyance laws.
Our issuance of the Notes and the guarantees of the 10.25% Notes may be subject to review under federal or state fraudulent transfer laws, in particular due to the Equity Redemption and because all of the net proceeds from the offering of iPayment Investors’ PIK toggle notes were distributed to iPayment Investors’ equity holders and a portion of the proceeds of the offerings of the Notes were used to fund the Equity Redemption and to redeem and satisfy and discharge such PIK toggle notes. If we become a debtor in a case under the United States Bankruptcy Code or encounter other financial difficulty, a court might avoid (that is, cancel) our obligations under the Notes. The court might do so if it finds that when we issued the Notes and the guarantees of the 10.25% Notes, (i) we or any guarantor of the 10.25% Notes issued the Notes or incurred the guarantee, as applicable, with actual intent of hindering, delaying or defrauding creditors or (ii) we or any guarantor of the 10.25% Notes received less than reasonably equivalent value or fair consideration in return for either issuing the Notes or incurring the guarantee, as applicable (which may be deemed to be zero, because we distributed a portion of the funds from the offerings of the Notes to iPayment Investors to fund the Equity Redemption and to redeem and satisfy and discharge the PIK toggle notes), and, in the case of (ii) only, one of the following is also true at the time thereof:
•
we or any guarantor of the 10.25% Notes were insolvent or rendered insolvent by reason of the issuance of the Notes or the incurrence of the guarantee, as applicable;
•
the issuance of the Notes or the incurrence of the guarantee of the 10.25% Notes left us or any guarantor, as applicable, with an unreasonably small amount of capital to carry on our or its business; or
•
we or any guarantor of the 10.25% Notes intended to, or believed that we or such guarantor would, incur debts beyond our or such guarantor’s ability to pay such debts as they mature.
The measures of insolvency for purposes of these fraudulent transfer laws will vary depending upon the governing law. Generally, however, an entity would be considered insolvent if:
•
the sum of its debts, including contingent liabilities, were greater than the fair saleable value of all of its assets; or
•
if the present fair saleable value of its assets were less than the amount that would be required to pay its probable liability on its existing debts, including contingent liabilities, as they become absolute and mature; or
•
it could not pay its debts as they become due.
For this analysis, “debts” include contingent and unliquidated debts. If a court avoided our obligations under the Notes and the obligations of all of the guarantors of the 10.25% Notes under their guarantees, holders of the Notes would cease to be our creditors or creditors of the guarantors and likely have no source from which to recover amounts due under the Notes. In addition, a court could avoid any payment by us or any guarantor of the 10.25% Notes pursuant to the Notes or a related guarantee, as the case may be, and require any payment to be returned to us or the guarantor, as the case may be, or to be paid to a fund for the benefit of our or the guarantor’s creditors. Further, the avoidance of the Notes could result in an event of default with respect to our other debt that could result in the acceleration of such debt. Even if the guarantee of a guarantor of the 10.25% Notes is not avoided as a fraudulent transfer, a court may subordinate the guarantee to that guarantor’s other debt. In that event, the guarantees of the 10.25% Notes would be structurally subordinated to all of that guarantor’s other debt. If the court were to avoid any guarantee, we cannot assure you that funds would be available to pay the 10.25% Notes from another guarantor or from any other source.
The guarantees of the 10.25% Notes contain a provision intended to limit each guarantor’s liability to the maximum amount that it could incur without causing its guarantee to be a fraudulent transfer. However, this provision may automatically reduce one or more of the guarantor’s obligations to an amount that effectively makes the guarantee worthless and, in any case, this provision may not be effective to protect a guarantee from being avoided under fraudulent transfer laws.
Our unrestricted subsidiaries under the indentures governing the Notes will not be subject to any of the covenants in the indentures and will not guarantee the 10.25% Notes, and we may not be able to rely on the cash flow or assets of those unrestricted subsidiaries to pay any of our debt, including the Notes.
Our unrestricted subsidiaries will not be subject to the covenants under the indentures governing the Notes and will not guarantee the 10.25% Notes. As of December 31, 2013, none of our subsidiaries were unrestricted subsidiaries. However, subject to compliance with the covenants contained in the indentures governing the 10.25% Notes, we are permitted to designate one or more of our subsidiaries as unrestricted subsidiaries. If we designate a guarantor of the 10.25% Notes as an unrestricted subsidiary in accordance with the indenture governing the 10.25% Notes, the guarantee of the 10.25% Notes by such guarantor will be released under such indenture. The creditors of the unrestricted subsidiary and its subsidiaries will generally be entitled to payment of their claim from the assets of such unrestricted subsidiary and its subsidiaries before those assets would be available for distribution to us. In addition, our unrestricted subsidiaries may enter into financing arrangements that limit their ability to make loans or other payments to fund payments in respect of the Notes. Accordingly, we cannot assure you that the cash flow or assets of our unrestricted subsidiaries will be available to pay any of our debt, including the Notes.
We may not have the ability to raise the funds necessary to finance the respective change of control offer required by the indentures governing the Notes.
Upon the occurrence of a “change of control,” as defined in the indentures governing the Notes, we must offer to buy back the Notes at a price equal to 101% of the principal amount of the Notes, together with any accrued and unpaid interest, if any, to the date of the repurchase. Our failure to purchase the Notes, or to give notice of the offer to repurchase the Notes, would be an event of default under the applicable indenture.
The definition of a change of control in the indentures includes a phrase relating to the sale, conveyance, transfer or lease of “all or substantially all” of our assets. There is no precise established definition of the phrase “all or substantially all” and it will likely be interpreted under New York State law, which is the law that governs the indentures, and will be dependent upon the particular facts and circumstances. As a result, there may be a degree of uncertainty in ascertaining whether a sale or disposition of “all or substantially all” of our capital stock or assets has occurred, in which case, the ability of a holder of the Notes to obtain the benefit of an offer to repurchase all or a portion of the Notes held by such holder may be impaired.
If a change of control occurs, it is possible that we may not have sufficient assets at the time of the change of control to make the required repurchase of Notes or to satisfy all obligations under our other debt instruments. Holdings is a holding company for its subsidiaries, with no material operations of its own and only limited assets. See “Risk Factors - All of Holdings’ operations, and substantially all of iPayment’s operations, are conducted at the subsidiary level, which may materially adversely affect our ability to service our debt.” Debt of Holdings’ subsidiaries, including the Senior Secured Credit Facilities and the 10.25% Notes, contains prohibitions and restrictions on dividends to Holdings, including for purposes of funding a change of control offer. In order to satisfy our obligations, we could seek to refinance our debt or obtain a waiver from the other lenders or the holders of the Notes. We cannot assure you that we would be able to obtain a waiver or refinance our debt on terms acceptable to us, if at all. Our failure to pay the change of control purchase price when due will constitute an event of default under the respective indenture and give the holders of the Notes certain rights under such indenture. The same events constituting a change of control under the indentures may also constitute an event of default under the Senior Secured Credit Facilities and permit the lenders thereunder to accelerate any and all outstanding debt. If such debt is not paid, the lenders may enforce security interests in the collateral securing such debt, thereby limiting our ability to raise cash to purchase the Notes and reducing the practical benefit to the holders of the Notes of the offer to purchase provisions of the indentures.
The interests of our equity holders may not be aligned with the interests of the holders of the Notes.
All of our issued and outstanding capital stock is held directly, in the case of Holdings, and indirectly, in the case of iPayment, by Carl A. Grimstad, iPayment’s Chairman and Chief Executive Officer, Harold H. Stream, III, and certain entities and family trusts affiliated with Mr. Grimstad or Mr. Stream. Messrs. Grimstad and Mark C. Monaco, our Chief Financial Officer, are two of the three members of the boards of directors of iPayment and Holdings, along with John A. Vickers.
Circumstances may occur in which the interests of Holdings’ equity holders could be in conflict with the interests of the holders of the Notes. Moreover, Holdings’ equity holders may have interests in their other respective investments that could also be in conflict with the interests of the holders of the Notes. In addition, Holdings’ equity holders may have an interest in pursuing acquisitions, divestitures or other transactions that could enhance their equity investment, even though such transactions might involve risks to holders of the Notes. For example, Holdings’ equity holders may cause us to pursue a growth strategy (including acquisitions which are not accretive to earnings), which could negatively impact our ability to make payments on the Notes and the Senior Secured Credit Facilities or cause a change of control. To the extent permitted by the indentures governing the Notes and the Senior Secured Credit Facilities, Holdings’ equity holders may cause us to pay dividends rather than make capital expenditures.
Changes in the financial and credit markets or in our credit ratings could adversely affect the market prices of the Notes.
The future market prices of our Notes will depend on a number of factors, including:
•
the prevailing interest rates being paid by companies similar to us;
•
our ratings with major credit rating agencies; and
•
the overall condition of the financial and credit markets.
The condition of the financial and credit markets and prevailing interest rates have fluctuated in the past and are likely to fluctuate in the future. Fluctuations in these factors have had adverse effects on the market prices of our debt instruments in the past, and further fluctuation may have adverse effects on the market prices of the Notes in the future. In addition, credit rating agencies continually revise their ratings for companies that they follow, including us. We cannot be sure that any credit rating agencies that rate the Notes will maintain their ratings on the Notes. A negative change in our rating could have an adverse effect on the market prices of the Notes.
Historically, the market for non-investment grade debt has been subject to disruptions that have caused substantial volatility in the prices of securities similar to the Notes. The market for the Notes may be subject to similar disruptions, which could adversely affect their value.
The 15.00%/15.00% Notes are treated as being issued with original issue discount for U.S. federal income tax purposes and if a bankruptcy petition were filed by or against Holdings, holders of the 15.00%/15.00% Notes may receive a lesser amount for their claim than they would have been entitled to receive under the indenture governing the 15.00%/15.00% Notes.
The 15.00%/15.00% Notes are treated as being issued with original issue discount, or “OID,” for U.S. federal income tax purposes. Holders subject to U.S. federal income taxation will have to report such OID as gross income on a constant yield to maturity basis in advance of the receipt of cash payments thereof and regardless of such holder’s method of accounting for U.S. federal income tax purposes.
In addition, if a bankruptcy petition were filed by or against Holdings under applicable U.S. federal bankruptcy laws, the issuance of the 15.00%/15.00% Notes and the claim by any holder of the 15.00%/15.00% Notes for the principal amount of such notes may be limited to an amount equal to the sum of:
•
the original issue price of such notes; and
•
that portion of the OID that does not constitute “unmatured interest” for purposes of the applicable U.S. federal bankruptcy laws.
Any OID that was not amortized as of the date of the bankruptcy filing may constitute unmatured interest. Accordingly, holders of the 15.00%/15.00% Notes under these circumstances may receive a lesser amount than they would be entitled to under the terms of the indenture governing the 15.00%/15.00% Notes, even if sufficient funds are available.
The 15.00%/15.00% Notes may be classified as contingent payment debt instruments for U.S. federal income tax purposes.
No existing authority addresses whether debt instruments with terms similar to the 15.00%/15.00% Notes will be characterized as contingent payment debt instruments for U.S. federal income tax purposes. It is possible that the IRS could assert that, due to certain redemption and repurchase features of the 15.00%/15.00% Notes or options exercisable by us with respect to payments of interest on such notes, the 15.00%/15.00% Notes are subject to the rules governing contingent payment debt instruments. If the IRS were to determine the 15.00%/15.00% Notes are contingent payment debt instruments, the timing and amount of income inclusions on such notes and the character of income recognized with respect to a taxable disposition of such notes may be different from the consequences discussed herein.
We will be subject to interest deductibility limitations with respect to interest accruing on the 15.00%/15.00% Notes.
The 15.00%/15.00% Notes constitute an “Applicable High Yield Discount Obligation” for U.S. federal income tax purposes. Consequently, a portion of the interest payable under the 15.00%/15.00% Notes would be non-deductible by Holdings and a portion would be deductible only when paid. Any limit on Holdings’ ability to deduct interest for U.S. federal income tax purposes would have the effect of increasing our taxable income and may adversely affect the cash flow available for interest payments under the 15.00%/15.00% Notes.
ITEM 1B.
ITEM 1B.
UNRESOLVED STAFF COMMENTS
None.
ITEM 2.
ITEM 2.
PROPERTIES
Our principal executive offices are located in approximately 3,800 square feet of leased office space in New York, New York. Our principal operating facility consists of approximately 44,000 square feet of leased space in Westlake Village, California. We also lease approximately 9,600 square feet in Minden, Nevada and approximately 9,200 square feet in Charlestown, Massachusetts. We believe that these facilities are adequate for our current operations and, if necessary, can be replaced with little disruption to our business.
ITEM 3.
ITEM 3.
LEGAL PROCEEDINGS
SEC Investigation
The Company has been informed that the SEC is conducting an investigation into the events that led to the Company's restatement of its 2011, 2010 and 2009 financial statements, and that were disclosed in the Company’s Current Reports on Form 8-K filed on September 12, 2012 and November 5, 2012 and in the Company’s amended Annual Report on Form 10-K/A filed on January 29, 2013. The Company continues to cooperate with the SEC in its investigation.
Proceedings and claims in the ordinary course of business
We also are party to certain other legal proceedings and claims, either asserted or unasserted, which arise in the ordinary course of business. While the ultimate outcome of these other matters cannot be predicted with certainty, based on information currently available, advice of counsel, and available insurance coverage, we do not believe that the outcome of any of these claims will have a material adverse effect on our business, financial condition or results of operations. However, the results of legal proceedings cannot be predicted with certainty, and in the event of unexpected future developments the ultimate resolution of one or more of these matters could be unfavorable. Should we fail to prevail in any of these legal matters or should several of these legal matters be resolved against us in the same reporting period, our consolidated financial position or operating results could be materially adversely affected. Regardless of the outcome, any litigation may require us to incur significant litigation expenses and may result in significant diversion of management’s attention. All litigation settlements are recorded within “other expense” on our consolidated statements of operations.
ITEM 4.
ITEM 4.
MINE SAFETY DISCLOSURES
None
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANTS’ COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
As of December 31, 2013, iPayment’s authorized capital stock consisted of 1,000 shares of common stock, $0.01 par value per share, of which 100 shares were issued and outstanding, all of which were owned by Holdings. As of December 31, 2013, Holdings’ authorized capital stock consisted of 8,000,000 shares of common stock, $0.01 par value per share, of which 4,875,000 shares were issued and outstanding, all of which were owned by Carl A. Grimstad, iPayment’s Chairman and Chief Executive Officer, Harold H. Stream, III and certain entities and family trusts affiliated with Mr. Grimstad or Mr. Stream.
In connection with the Refinancing, Holdings issued Units that consisted of the 15.00%/15.00% Notes and the Warrants to purchase 125,000 shares of Holdings’ common stock at $0.01 per share, subject to adjustment upon the occurrence of certain events described in the warrant agreement entered into by Holdings and Wilmington Trust, National Association (as successor by merger to Wilmington Trust FSB) (the “Warrant Agreement”). In accordance with the terms of the Warrant Agreement, the 15.00%/15.00% Notes and the Warrants separated on November 2, 2011. The Warrants are exercisable until 5:00 p.m., New York City time, on November 15, 2018. Each Warrant not exercised on or prior to such date will become void and all rights thereunder and all rights in respect thereof under the Warrant Agreement will cease as of such time.
There is no established public trading market for our common stock or for the Warrants.
In May 2011, iPayment paid a $135.5 million dividend to Holdings in connection with the consummation of the Refinancing and Holdings paid a $257.3 million dividend to iPayment Investors, then the parent of Holdings, in connection with the consummation of the Refinancing. In September 2011, iPayment declared another dividend in the amount of $0.4 million to Holdings for other operating costs with which iPayment Investors subsequently settled $0.4 million of the outstanding intercompany receivable at that time. On August 28, 2012, iPayment Investors merged with and into Holdings, with Holdings as the surviving entity.
Pursuant to the terms of the credit agreement governing the Senior Secured Credit Facilities and the indentures governing the Notes, we are limited in the amount of dividends we can declare or pay on our outstanding shares of common stock.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following table and related footnotes thereto present the selected historical consolidated financial and other data as of and for the periods indicated of Holdings and iPayment and, in each case, their respective subsidiaries. Except as otherwise indicated in such footnotes, the selected historical consolidated financial and other data of Holdings and its consolidated subsidiaries and iPayment and its consolidated subsidiaries is the same.
(1)
Net interest expense of Holdings and its consolidated subsidiaries were $89.9 million and $85.4 million for the years ended December 31, 2013 and 2012 respectively.
(2)
Total other expense of Holdings and its consolidated subsidiaries were $92.5 million and $80.4 million for the years ended December 31, 2013 and 2012 respectively.
(3)
Loss before income taxes of Holdings and its consolidated subsidiaries were $50.9 million and $23.1 million for the years ended December 31, 2013 and 2012 respectively.
(4)
Holdings and its consolidated subsidiaries recorded income tax expense (benefit) of $7.7 million and $(5.1) million for the years ended December 31, 2013 and 2012 respectively.
(5)
Net loss of Holdings and its consolidated subsidiaries were $58.6 million and $18.0 million for the years ended December 31, 2013 and 2012 respectively.
(6)
Total assets of Holdings and its consolidated subsidiaries were $940.9 million and $977.9 million as of December 31, 2013 and 2012 respectively.
(7)
Total long-term debt including current portion of Holdings and its consolidated subsidiaries were $910.9 million and $900.6 million as of December 31, 2013 and 2012 respectively.
(8)
Stockholders’ equity (deficit) of Holdings and its consolidated subsidiaries were $(38.5) million and $14.0 million as of December 31, 2013 and 2012 respectively.
(9)
Represents the total dollar volume of all Visa and MasterCard transactions processed by our merchants. This data is provided to us by our third party processing vendors and is not independently verified by us.
See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the “Notes to Consolidated Financial Statements” for information regarding accounting changes, asset acquisitions and dispositions, litigation matters, and other costs and other items affecting comparability.
ITEM 7.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This section includes financial information for Holdings and iPayment and, in each case, their respective subsidiaries. Except as otherwise indicated, the results of operations of Holdings and its consolidated subsidiaries and iPayment and its consolidated subsidiaries are the same. Figures presented in tables in this section of this Annual Report have been rounded and have not been adjusted to correct rounding differences.
The discussion in this section contains forward-looking statements based on management’s current expectations that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of a number of factors, including those set forth under “Cautionary Note Regarding Forward-Looking Statements” and “Risk Factors” included elsewhere in this Annual Report.
Executive overview
We are a provider of credit and debit card payment processing services to small merchants across the United States. Our payment processing services enable our merchants to accept credit cards as well as other forms of payment, including debit cards, checks, gift cards and loyalty programs in traditional card-present, or swipe transactions, as well as card-not-present transactions, such as those done over the phone or through the internet. During December 2013, we generated revenue from approximately 153,000 merchants. Of these merchants, approximately 105,000 were active merchants that had each processed at least one Visa or MasterCard transaction during that month. We market and sell our services through independent sales groups, or “ISGs,” which are non-employee, external sales organizations, an employee sales force, telesales, marketing directly to merchants using electronic media, and other third party resellers of our products and services. In addition, we partner with banks such as Wells Fargo to sponsor us for membership in the Visa and MasterCard associations and to settle transactions with merchants. We perform core functions for small merchants such as application processing, underwriting, account set-up, risk management, fraud detection, merchant assistance and support, equipment deployment, and chargeback services, primarily at our main operating facility in Westlake Village, California.
Our strategy has been to increase profits by increasing our penetration of the small merchant marketplace for payment services. Our charge volume processed for 2013 was $21.9 billion, slightly lower than the charge volume processed in 2012 of $22.2 billion. This decrease in charge volume was due primarily to a lower number of active merchants. Our revenues decreased $14.3 million or 2.1% to $666.8 million in 2013 from $681.1 million in 2012. This decrease in revenues was due primarily to a decrease in other revenues as a result of a lower number of merchant accounts. Our net revenue decreased 9.2% to $265.9 million in 2013 from $292.9 million in 2012. Our net revenue is composed of total revenue reduced by interchange fees and network fees. Income from operations decreased 27.3% to $41.8 million during 2013 from $57.5 million during 2012. Income from operations was impacted by $5.1 million recoveries related to the embezzlement which were partially offset by professional services expense related to the restatement and remediation. In addition, income from operations was affected by an impairment charge of related trade name intangibles of $5.0 million, one-time compensation expense of $5.1 million and phantom stock compensation expense of $4.0 million related to the May 2013 amendments to the Flagship purchase agreement and the employment agreements with the former owners of Flagship and an additional $1.8 million in phantom stock compensation to employees. Excluding these items, income from operations in 2013 would have been $55.3 million or 11.8% lower than the comparable period in 2012. Loss before income taxes was $24.6 million in 2013, compared to $5.0 million loss before income taxes in 2012 for iPayment and its consolidated subsidiaries. For Holdings and its consolidated subsidiaries loss before income taxes was $50.9 million in 2013, compared to $23.1 million of loss before income taxes in 2012.
Acquisitions
Since our inception, we have expanded our card-based payment processing services through the acquisition of businesses, significant portfolios and several smaller portfolios of merchant accounts. These acquisitions have significantly impacted our revenues, results of operations, and financial condition. Primarily due to these acquisitions, our merchant portfolio base increased from approximately 56,000 active small merchants on January 1, 2003, to approximately 105,000 on December 31, 2013. In addition, primarily due to these acquisitions, our revenues grew from $226.1 million in 2003 to $666.8 million in 2013.
Please see Note 5 to our consolidated financial statements for further information on our acquisitions since 2011.
We accounted for all such acquisitions under the purchase method. For acquisitions of a business, we allocate the purchase price based in part on valuations of the assets acquired and liabilities assumed. For acquisitions of merchant portfolios, or the rights to receive residual payments related thereto, we allocate the purchase price to intangible assets. For companies with modest growth prospects, our purchase prices primarily reflect the value of merchant portfolios, which are classified as amortizable intangible assets. Acquisition targets we identified as having entrepreneurial management teams, efficient operating platforms, or proven distribution capabilities, all of which contribute to higher growth prospects, commanded purchase prices in excess of their merchant portfolio values. Consequently, purchase price allocations for these targets may reflect a greater proportion of goodwill.
Critical Accounting Policies
The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”), which require that management make numerous estimates and assumptions. Actual results could differ from those estimates and assumptions, impacting our reported results of operations and financial position. The critical accounting policies described here are those that are most important to the depiction of our financial condition and results of operations and their application requires management’s subjective judgment in making estimates about the effect of matters that are inherently uncertain.
Accounting for Goodwill and Intangible Assets. We follow ASC 350 “Intangibles - Goodwill and Other Topics,” which addresses financial accounting and reporting for acquired goodwill and other intangible assets, and requires that goodwill is subject to at least an annual assessment for impairment. If facts and circumstances indicate goodwill may be impaired, we perform a recoverability evaluation. In accordance with ASC 350, the recoverability analysis is based on fair value. The calculation of fair value includes a number of estimates and assumptions, including projections of future income and cash flows, the identification of appropriate market multiples and the choice of an appropriate discount rate.
We engage, on a regular basis, an independent third party to aid management in determining the fair value of our goodwill and trade name. We also periodically evaluate the carrying value of long-lived assets in relation to the respective projected future undiscounted cash flows to assess recoverability. An impairment loss is recognized if the sum of the expected net cash flows is less than the carrying amount of the long-lived assets being evaluated. The difference between the carrying amount of the long-lived assets being evaluated and their fair value, calculated as the sum of the expected cash flows discounted at a market rate, represents the impairment loss.
Based on the analysis we performed during the fourth quarter of 2013, we concluded that our "iPayment Inc." trade name was impaired by $5.0 million and recognized the charge in the year ended December 31, 2013.
Purchased merchant processing portfolios are recorded at cost and are evaluated by management for impairment at the end of each fiscal quarter through review of actual attrition and cash flows generated by the portfolios in relation to the expected attrition and cash flows and the recorded amortization expense. Amortization of intangible assets results from our acquisitions of portfolios of merchant contracts or acquisitions of a business where we allocated a portion of the purchase price to the existing merchant processing portfolios and other intangible assets. The estimated useful lives of our merchant processing portfolios are assessed by evaluating each portfolio to ensure that the recognition of the costs of revenues, represented by amortization of the intangible assets, approximate the distribution of the expected revenues from each processing portfolio. If, upon review, actual attrition and cash flows indicate impairment of the value of the merchant processing portfolios, an impairment loss would be recognized. During 2013, we experienced monthly volume attrition ranging from 1.5% to 2.2% of our total charge volume on our various merchant portfolios. We utilize an accelerated method of amortization over a 15-year period, which we believe approximates the distribution of actual cash flows generated by our merchant processing portfolios. All other intangible assets are amortized using the straight-line method over an estimated life of three to seven years.
In addition, we have implemented both quarterly and annual procedures to determine whether a significant change in the trend of the current attrition rates being used has occurred on a portfolio-by-portfolio basis. In reviewing the current attrition rate trends, we consider relevant benchmarks such as charge volume, revenues, number of merchant accounts, gross profit and future expectations of the aforementioned factors compared to historical amounts and rates. If we identify any significant changes or trends in the attrition rate of any portfolio, we will adjust our current and prospective estimated attrition rates so that the amortization expense better approximates the distribution of actual cash flows generated by the merchant processing portfolios. Any adjustments made to the amortization schedules would be treated as a change in estimate and accounted for prospectively. As a result of the Equity Redemption, we determined the fair value of our intangible assets and goodwill in accordance with ASC 805, and we engaged an independent, third party valuation firm to assist in evaluating the fair value of certain assets as of May 23, 2011.
Revenue and Cost Recognition. Substantially all of our revenues are generated from fees charged to merchants for card-based payment processing services. We typically charge these merchants a bundled rate, primarily based upon the merchant’s monthly charge volume and risk profile. Our fees principally consist of discount fees, which are a percentage of the dollar amount of each credit or debit transaction. We charge merchants higher discount rates for card-not-present transactions than for card-present transactions in order to provide compensation for the higher risk of underwriting these transactions. We derive the balance of our revenues from a variety of fixed transaction or service fees, including fees for monthly minimum charge volume requirements, statement fees, annual fees, payment card industry compliance, ancillary products and fees for other miscellaneous services, such as handling chargebacks. We recognize discounts and other fees related to payment transactions at the time the merchant’s transactions are processed. Related interchange and assessment costs are also recognized at that time. We recognize revenues derived from service fees at the time the service is performed.
Generally, where we have ultimate responsibility for the merchant, as evidenced by our liability for merchant losses or credit risk, or portability with respect to such merchant, revenues are reported at the time of sale on a gross basis equal to the full
amount of the discount charged to the merchant pursuant to ASC 605. This amount includes interchange paid to card issuing banks and assessments paid to payment card associations pursuant to which such parties receive payments based primarily on processing volume for particular groups of merchants. Interchange fees are recognized at the time transactions are processed. Revenues generated from bank portfolios where we do not have liability for merchant losses or credit risk or rights of portability, such as certain bank portfolios we acquired from FDMS and certain of our other portfolios, are reported net of interchange, as required by ASC 605.
The most significant component of operating expenses is interchange fees, which are amounts we pay to the card issuing banks. Interchange fees are primarily based on transaction processing volume, except in the case of regulated debit transactions, where they are based primarily on a per transaction basis and are recognized at the time transactions are processed.
Other costs of services include costs directly attributable to our provision of payment processing and related services to our merchants and primarily includes residual payments to ISGs, which are commissions we pay to our sales partners based upon a percentage of the net revenues we generate from their merchant referrals, and assessment fees payable to card associations, which are a percentage of the charge volume we generate from Visa and MasterCard. In addition, other costs of services include telecommunications costs, personnel costs, occupancy costs, bonuses and commissions to our sales employees, losses due to merchant defaults, other miscellaneous merchant supplies and services expenses, bank sponsorship costs and other third-party processing costs. Other costs of services also include depreciation expense, which is recognized on a straight-line basis over the estimated useful life of the assets, and amortization expense which is primarily recognized using an accelerated method over a 15-year period. Amortization of intangible assets results from our acquisitions of portfolios of merchant contracts or acquisitions of a business where we allocated a portion of the purchase price to the existing merchant processing portfolios and other intangible assets.
Selling, general and administrative expenses consist primarily of salaries and wages, as well as other general administrative expenses such as marketing expenses and professional fees.
Reserve for Merchant Losses. Disputes between a cardholder and a merchant periodically arise as a result of, among other things, cardholder dissatisfaction with merchandise quality or merchant services. In those cases, in which the dispute is resolved in the cardholder’s favor and against the merchant, the transaction is “charged back” to the merchant, which means the purchase price is refunded to the customer through the merchant’s acquiring bank and charged to the merchant. If the merchant has inadequate funds, we or, under limited circumstances, the acquiring bank and us, must bear the credit risk for the full amount of the transaction. We evaluate the merchant’s risk for such transactions and estimate its potential loss for chargebacks based primarily on historical experience and other relevant factors and record a loss reserve accordingly. Our reserve for losses on merchant accounts included in accrued liabilities and other totaled $1.2 million and $1.3 million at December 31, 2013 and 2012, respectively. We believe our reserve for charge-back and other similar processing-related merchant losses is adequate to cover both the known probable losses and the incurred but not yet reported losses at December 31, 2013.
Income Taxes. We account for income taxes pursuant to the provisions of ASC 740 “Income Taxes.” Under this method, deferred tax assets and liabilities are recorded to reflect the future tax consequences attributable to the effects of differences between the carrying amounts of existing assets and liabilities for financial reporting and for income tax purposes.
Authoritative guidance requires the recording of a valuation allowance when it is more likely than not that some portion or all of the deferred tax assets will not be realized. Under this guidance, forming a conclusion that a valuation allowance is not needed is difficult when there is negative evidence such as cumulative losses in recent years. Such objective evidence limits the ability to consider other evidence such as our projections for future growth.
We have reported a cumulative pretax book loss for the current and two preceding years. Considering the likelihood of realization of deferred tax assets, we reached the determination that a valuation allowance was appropriate. Management assesses the ability to realize the deferred tax assets based on the criteria of authoritative guidance each reporting period. If future events differ from management’s estimates, the valuation allowance may change in future periods.
Components of Revenues and Expenses
For a description of the components of our revenue and expenses, please refer to Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies - Revenue and Cost Recognition."
Seasonality
Our revenues and earnings are impacted by the volume of consumer usage of credit and debit cards at the point of sale. For example, we experience increased point of sale activity during the traditional holiday shopping period in the fourth quarter. Revenues during the first quarter tend to decrease in comparison to the remaining three quarters of our fiscal year on a same store basis, particularly in comparison to our fourth quarter.
Off-Balance Sheet Arrangements
We do not have transactions, arrangements and other relationships with unconsolidated entities that are reasonably likely to affect our liquidity or capital resources. We have no special purpose or limited purpose entities that provide off-balance sheet financing, liquidity or market or credit risk support, engage in leasing, hedging, research and development services, or other relationships that expose us to liability that is not reflected on the face of the financial statements.
Results of Operations
Years ended December 31, 2013 and 2012
(1)
Net interest expense of Holdings and its consolidated subsidiaries were $89.9 million and $85.4 million for the years ended December 31, 2013 and 2012 respectively.
(2)
Net other expense (income) of Holdings and its consolidated subsidiaries were $2.6 million and $(5.1) million for the years ended December 31, 2013 and 2012 respectively.
(3)
Total other expense of Holdings and its consolidated subsidiaries were $92.5 million and $80.4 million for the years ended December 31, 2013 and 2012 respectively.
(4)
Loss before income taxes of Holdings and its consolidated subsidiaries were $50.9 million and $23.1 million for the years ended December 31, 2013 and 2012 respectively.
(5)
Income tax expense (benefit) of Holdings and its consolidated subsidiaries were $7.7 million and $(5.1) million for the years ended December 31, 2013 and 2012 respectively.
(6)
Net loss of Holdings and its consolidated subsidiaries were $58.6 million and $18.0 million for the years ended December 31, 2013 and 2012 respectively.
Revenues. Revenues decreased 2.1% to $666.8 million in 2013 from $681.1 million in 2012. The decrease in revenues was largely due to lower other revenues partially offset by higher processing revenues. Our charge volume in 2013, which represents the total value of transactions processed, was $21.9 billion compared to $22.2 billion in 2012.
Interchange Expenses. Interchange expenses increased 3.4% to $351.3 million in 2013 from $339.7 million in 2012. Interchange expenses increased due to an increase in the average interchange rate as a percentage of charge volume.
Other Costs of Services. Other costs of services decreased 7.9% to $241.9 million in 2013 from $262.6 million in 2012. The decrease in other costs of services was primarily due to a decrease of $13.0 million in depreciation and amortization expenses and $8.9 million in residual expense, offset by an increase of $2.3 million in sales expenses and expenses associated with personnel.
Selling, General and Administrative. Selling, general and administrative expenses increased 68.7% to $36.9 million in 2013 from $21.9 million in 2012. This increase is primarily due to $9.1 million of one-time compensation expense related to the Flagship transaction as well as $5.0 million of loss on trade name impairment as a result of our annual review.
Other Expense. Total other expense increased 6.2% to $66.4 million for iPayment and its consolidated subsidiaries in 2013 from $62.5 million in 2012.
Total other expense increased $12.2 million to $92.5 million for Holdings and its consolidated subsidiaries in 2013 from $80.4 million in 2012. Total other expense consists primarily of interest expense related to the Company’s debt obligations.
Interest expense decreased to $63.8 million for iPayment and its consolidated subsidiaries and increased to $89.9 million for Holdings and its consolidated subsidiaries in 2013 from $64.3 million for iPayment and its consolidated subsidiaries and $85.4 million for Holdings and its consolidated subsidiaries in 2012. The decrease for iPayment and its consolidated subsidiaries was largely due to amortization of debt discount and issuance costs. The increase for Holdings and its consolidated subsidiaries was largely due to higher weighted average interest rates. An additional 2.0% interest expense increase was triggered during the first quarter of 2013, as discussed in Note 8 to our consolidated financial statements.
Income Tax. We recognized an income tax expense of $9.7 million and $7.7 million for iPayment and its consolidated subsidiaries and Holdings and its consolidated subsidiaries, respectively, for the year ended December 31, 2013, as compared to an income tax benefit of $1.4 million and $5.1 million for iPayment and its consolidated subsidiaries and Holdings and its consolidated subsidiaries, respectively, for the year ended December 31, 2012. The change was primarily due to the recording of a valuation allowance against our deferred tax asset. iPayment and its consolidated subsidiaries’ effective income tax rate increased to 38.5% for 2013, compared to 28.7% for 2012. The inverse effective tax rate in 2013 is the result of the recording of a valuation allowance against all the deferred tax assets. Holdings and its consolidated subsidiaries’ effective income tax rate decreased to 15.0% for 2013, compared to 21.9% for 2012, as a result of the aforementioned item as well as the permanent disallowance of a portion of interest accrued on the 15.00%/15.00% Notes which are considered “Applicable High Yield Discount Obligations” for tax purposes.
Years ended December 31, 2012 and 2011
In Management’s Discussion and Analysis of Financial Condition and Results of Operations, we have presented the results of operations separately for the period from January 1, 2011 to May 23, 2011 (“Predecessor”) and the period from May 24, 2011 through December 31, 2011 (“Successor”). When we provide combined changes in operating results, these combined results (i) have not been prepared on a pro forma basis as if the Equity Redemption occurred on the first day of the period, (ii) may not reflect the actual results we would have achieved absent the Equity Redemption, and (iii) maybe not be predictive of future results of operations. We believe this approach provides the most meaningful basis for the analysis and discussion of our results.
(1)
Represents changes in amount and percentages between the years ended December 31, 2011 (Successor and Predecessor combined) and the year ended December 31, 2012.
(2)
Net interest expense of Holdings and its consolidated subsidiaries were $85.4 million and $68.4 million, for the years ended December 31, 2012 and 2011 respectively ($51.9 million in the Successor period and $16.5 million in the Predecessor period in 2011).
(3)
Net other expense of Holdings and its consolidated subsidiaries were $5.1 million and $18.7 million, for the years ended December 31, 2012 and 2011 respectively ($0.1 million of other income in the Successor period and $18.8 million of other expense in the Predecessor period in 2011).
(4)
Total other expense of Holdings and its consolidated subsidiaries were $80.4 million and $87.1 million, for the years ended December 31, 2012 and 2011 respectively ($51.8 million in the Successor period and $35.3 million in the Predecessor period in 2011).
(5)
Loss before income taxes of Holdings and its consolidated subsidiaries were $23.1 million and $21.8 million, for the years ended December 31, 2012 and 2011 respectively ($20.4 million in the Successor period and $1.4 million in the Predecessor period in 2011).
(6)
Income tax benefit of Holdings and its consolidated subsidiaries were $5.1 million and $5.4 million, for the years ended December 31, 2012 and 2011 respectively ($5.6 million in the Successor period and $0.2 million of tax expense in the Predecessor period in 2011).
(7)
Net loss of Holdings and its consolidated subsidiaries were $18.0 million and $16.4 million, for the years ended December 31, 2012 and 2011 respectively ($14.8 million in the Successor period and $1.6 million in the Predecessor period in 2011).
Revenues. Revenues decreased 3.8% to $681.1 million in 2012 from $431.5 million in the Successor period and $276.7 million in the Predecessor period (totaling $708.2 million in 2011). The decrease in revenues was largely due to the impact of the Durbin Amendment to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 on debit interchange fees and the decrease in processing volume. Our charge volume in 2012, which represents the total value of transactions processed, was $22.2 billion compared to $13.9 billion in the Successor period and $8.7 billion in the Predecessor period (totaling $22.7 billion in 2011).
Interchange Expenses. Interchange expenses decreased 9.2% to $339.7 million in 2012 from $226.4 million in the Successor period and $147.8 million in the Predecessor period (totaling $374.1 million in 2011). Interchange expenses decreased due to a reduction in the average interchange rate as a percentage of charge volume, driven in large part by the impact from the Durbin Amendment that became effective on October 1, 2011.
Other Costs of Services. Other costs of services increased 6.2% to $262.6 million in 2012 from $160.2 million in the Successor period and $87.1 million in the Predecessor period (totaling $247.3 million in 2011). The increase in other costs of services was primarily due to higher sales expenses, network fees related to the increased charge volume as well as increased depreciation and amortization of $15.3 million as a result of the recapitalization in May 2011.
Selling, General and Administrative. Selling, general and administrative expenses increased 26.6% to $21.9 million in 2012 from $10.6 million in the Successor period and $6.7 million in the Predecessor period (totaling $17.3 million in 2011). The increase is due to professional services related to our internal investigation and restatement of prior period financial statements and higher compensation expenses. The total recognized in 2012 related to our internal investigation and the restatement of prior period financial statements was $3.4 million.
Other Expense. Total other expense decreased 16.1% to $62.5 million for iPayment and its consolidated subsidiaries in 2012 from $40.1 million in the Successor period and $34.4 million in the Predecessor period (totaling $74.5 million in 2011).
Total other expense decreased $6.8 million to $80.4 million for Holdings and its consolidated subsidiaries in 2012 from $51.8 million in the Successor period and $35.3 million in the Predecessor period (totaling $87.1 million in 2011). Other expense in 2011 primarily consisted of $18.7 million of expenses related to the Refinancing and the Equity Redemption which occurred in 2011, partially offset by an increase in interest expense. Total other expense consists primarily of interest expense related to the Company's debt obligations.
Interest expense increased to $64.3 million for iPayment and its consolidated subsidiaries and $85.4 million for Holdings and its subsidiaries in 2012 from $40.3 million in the Successor period and $15.6 million in the Predecessor period (totaling $55.9 million) for iPayment and its consolidated subsidiaries and $51.9 million in the Successor period and $16.5 million in the Predecessor period (totaling $68.4 million in 2011) for Holdings and its consolidated subsidiaries in 2011, largely due to a higher average debt balance as a result of the Refinancing as well as higher weighted average interest rates.
Income Tax. We recognized an income tax benefit of $1.4 million and $5.1 million for iPayment and its consolidated subsidiaries and Holdings and its consolidated subsidiaries, respectively, for the year ended December 31, 2012, as compared to an income tax benefit of $2.8 million in the Successor period and an income tax expense of $0.4 million in the Predecessor period (totaling $2.4 million in 2011) and $5.6 million in the Successor period and $0.2 million of tax expense in the Predecessor period (totaling $5.4 million in 2011) for iPayment and its consolidated subsidiaries and Holdings and its consolidated subsidiaries, respectively, for the year ended December 31, 2011. The change was primarily due to the changes in pre-tax income and increases in permanent tax differences. iPayment and its consolidated subsidiaries’ effective income tax rate increased to 28.7% for 2012, compared to 25.7% for 2011, as a result of state income taxes, adjustments to deferred tax liabilities and changes in unrecognized tax benefits. Holdings and its consolidated subsidiaries’ effective income tax rate decreased to 21.9% for 2012, compared to 24.8% for 2011, as a result of the aforementioned items as well as the permanent disallowance of a portion of interest accrued on the 15.00%/15.00% Notes which are considered “Applicable High Yield Discount Obligations” for tax purposes.
Cooperation and Restitution and/or Settlement Agreements
As described in Note 2 to our consolidated financial statements, in August 2012 the Company and Holdings were presented with accusations from one of the Company's employees that certain of the Company's employees and outside contractors had engaged in financial misconduct. The Company's internal investigation revealed financial misconduct by certain former officers and employees of the Company and certain of its outside contractors.
The Company has entered into cooperation and restitution and/or settlement agreements with all of the material participants in the misconduct including those former executive officers and other related persons as described in "Item 13 Certain
Relationships and Related Transactions, and Director Independence." Under the terms of the various agreements, the participants in the misconduct have agreed to certain restrictive covenants and collectively, to repay the Company $8.4 million. Of this amount, the Company had collected $5.4 million as of March 27, 2014. Of the remaining $3.0 million, substantially all of which is secured by liens on real property owned by various participants in the misconduct, approximately $1.8 million is expected to be paid no later than July 1, 2016. There can be no assurance, however that we will be able to recover all or a material portion of the remaining amounts described above.
Liquidity and Capital Resources
As of December 31, 2013 and 2012, we had cash and cash equivalents of $8.0 million and $6.6 million, respectively. As of December 31, 2013, iPayment and its consolidated subsidiaries had working deficit (current liabilities in excess of current assets) of $3.6 million compared to a working deficit of $1.1 million as of December 31, 2012. The increase in working deficit is primarily due to decreases in accounts receivable and current deferred tax assets of $5.5 million and $2.3 million, respectively, and an increase in current deferred tax liabilities of $2.8 million, offset by increases in cash and cash equivalents and prepaid and other current assets of $1.4 million and $2.2 million, respectively, and decreases in accounts payable, income taxes payable and accrued liabilities and other of $2.7 million, $0.8 million and $1.4 million, respectively.
As of December 31, 2013, Holdings and its consolidated subsidiaries had working capital (current assets in excess of current liabilities) of $2.5 million compared to working capital of $2.6 million as of December 31, 2012. The decrease in working capital is primarily due to decreases in accounts receivable and current deferred tax assets of $5.5 million and $2.4 million, respectively, and increases in current deferred tax liabilities of $2.2 million, offset by increases in cash and cash equivalents, income taxes receivable and prepaid and other current assets of $1.4 million, $2.6 million and $2.1 million, respectively, and decreases in accounts payable and accrued liabilities and other of $2.7 million and $1.4 million, respectively.
We expect that our cash flow from operations and proceeds from borrowings under our revolving facility will be our primary sources of liquidity and will be sufficient to fund our cash requirements for at least the next twelve months. See “Contractual Obligations” below for a description of future required uses of cash.
We have significant outstanding long-term debt as of December 31, 2013. The terms of our long-term debt contain various nonfinancial and financial covenants as further discussed in Note 8 to the consolidated financial statements. If we fail to comply with these covenants and are unable to obtain a waiver or amendment or otherwise cure the breach, an event of default would result. If an event of default were to occur, the trustee under the indentures governing the Notes or the lenders under the Senior Secured Credit Facilities could, among other things, declare outstanding amounts immediately due and payable. We currently do not have available cash and similar liquid resources available to repay all of our debt obligations if they were to become due and payable. As of December 31, 2013, our Senior Secured Leverage Ratio, as defined in the Senior Secured Credit Facilities, was 3.43 to 1.00 compared to the allowed maximum of 4.00 to 1.00. As of December 31, 2013, our Consolidated Interest Coverage Ratio, as defined in the Senior Secured Credit Facilities, was 1.50 to 1.00 compared to the allowed minimum of 1.25 to 1.00.
At meetings held on November 1, 2012, the Boards of Directors of the Company and Holdings determined that the Company’s financial statements (i) for the fiscal years ended December 31, 2009, 2010, and 2011, included in the Company’s Annual Reports on Form 10-K for the years then ended and Ernst & Young LLP’s reports thereon, (ii) for the interim periods within such fiscal years included in the Company’s Quarterly Reports on Form 10-Q, and (iii) for the quarters ended March 31, 2012, and June 30, 2012, included in the Company’s Quarterly Reports on form 10-Q (collectively, the “Affected Financial Statements”) should no longer be relied upon resulted in a breach of certain representations, warranties and covenants set forth in the Senior Secured Credit Facilities, including but not limited to certain representations and warranties that the Affected Financial Statements (i) were prepared in accordance with GAAP consistently applied and (ii) fairly presented the financial condition of the Company and its subsidiaries as of the date thereof and their results of operations for the periods covered thereby in accordance with GAAP. Further, as a result of the decision to restate the Affected Financial Statements, we were unable to comply with the covenant set forth in the Senior Secured Credit Facilities that we deliver our 3rd Quarter 2012 financial statements by no later than November 14, 2012. Finally, as a result of the foregoing breaches and defaults, we were unable to satisfy the conditions precedent for borrowing under the Senior Secured Credit Facilities’ revolving credit facility in order to borrow the funds necessary to make the scheduled interest payments due on November 15, 2012 under the indentures related to the Company’s 10.25% Notes and Holdings’ 15.00%/15.00% Notes.
On November 14, 2012, we entered into a waiver, consent and amendment (the “Waiver”) with a majority of the lenders under the Senior Secured Credit Facilities. Among other things, the Waiver waived (a) defaults arising from the restatement of our financial statements (i) for the fiscal years ended December 31, 2008, 2009, 2010, and 2011 included in the Company’s Annual Reports on Form 10-K for the years then ended, (ii) for the interim periods within such fiscal years included in the Company’s Quarterly Reports on Form 10-Q and (iii) for the quarters ended March 31, 2012 and June 30, 2012 included in the Company’s Quarterly Reports on Form 10-Q and (b) the Company’s failure to timely provide to the Administrative Agent its 3rd Quarter 2012 financial statements. Following receipt of the Waiver, the Company borrowed amounts under the Senior Secured Credit Facilities’ revolving credit facility so as to make the scheduled interest payments due on November 15, 2012 under the indentures related to the Company’s 10.25% Notes and Holdings’ 15.00%/15.00% Notes. Upon the Company’s filing of its restated financial statements for prior periods on January 29, 2013 and its 3rd Quarter 2012 financial statements on January 31, 2013, the Company had satisfied all conditions and obligations set forth in the Waiver.
On July 25, 2013 (the "Amendment Date"), iPayment, Inc. entered into an amendment (the "Amendment") to the Credit Agreement. Pursuant to the Amendment, the applicable margin for the revolving facility was amended as follows: (i) if the
consolidated leverage ratio as at the last test date is less than 4.0:1.0, 3.75% (for Eurodollar rate loans) or 2.75% (for base rate loans), (ii) if the consolidated leverage ratio as at the last test date is greater than or equal to 4.0:1.0 but less than 4.5:1.0, 4.25% (for Eurodollar rate loans) or 3.25% (for base rate loans), (iii) if the consolidated leverage ratio as at the last test date is greater than or equal to 4.5:1.0 but less than 5.0:1.0, 4.75% (for Eurodollar rate loans) or 3.75% (for base rate loans), and (iv) if the consolidated leverage ratio as at the last test date is greater than or equal to 5.0:1.0, 5.25% (for Eurodollar rate loans) or 4.25% (for base rate loans). The applicable margin for the term facility was increased to 5.25% (for Eurodollar rate loans) and 4.25% (for base rate loans).
The financial covenants set forth in the Credit Agreement were amended as follows: (i) the minimum Consolidated Interest Coverage Ratio is required to be not less than (1) 1.25x as of the end of each fiscal quarter through December 31, 2015, (2) 1.30x for each fiscal quarter ending between January 1, 2016 and December 31, 2016, and (3) 1.35x for each fiscal quarter ending thereafter and (ii) the maximum Senior Secured Leverage Ratio is required to be less than (1) 4.00x as of the end of each fiscal quarter through March 31, 2014, (2) 3.75x as of the end of each fiscal quarter ending between April 1, 2014 and March 31, 2015, (3) 3.50x as of the end of each fiscal quarter ending between April 1, 2015 and March 31, 2016, (4) 3.25x as of the end of each fiscal quarter ending between April 1, 2016 and March 31, 2017 and (5) 3.00x for each fiscal quarter ending thereafter.
Pursuant to the Amendment, certain voluntary prepayments made in connection with any modification of the Credit Agreement that reduces the applicable margin with respect to any Term Loans, or in connection with any refinancing of any Term Loans in whole or in part with proceeds of Indebtedness having lower applicable margins or applicable total yield than the applicable margin or applicable total yield for the Term Loans prior to the first year anniversary of the Amendment Date will be subject to a 1.00% prepayment penalty. In addition, the Amendment included certain other changes to the restricted payments and investments negative covenants in the Credit Agreement.
The Company may from time to time repurchase, subject to restrictions in the Credit Agreement, or otherwise retire or extend the Company's debt and/or take other steps to reduce the Company's debt or otherwise improve the Company's financial position. These actions may include open market debt repurchases, negotiated repurchases, other retirements of outstanding debt and/or opportunistic refinancing of debt. The amount of debt that may be repurchased or otherwise retired or refinanced, if any, will depend on market conditions, trading levels of the Company's debt, the Company's cash position, compliance with debt covenants and other considerations. Affiliates of the Company may also purchase the Company's debt from time to time, through open market purchases or other transactions. In such cases, the Company's debt may not be retired, in which case the Company would continue to pay interest in accordance with the terms of the debt, and the Company would continue to reflect the debt outstanding in its condensed consolidated statements of financial position.
Operating activities
Net cash provided by iPayment and its consolidated subsidiaries’ operating activities was $33.1 million during 2013, consisting of a net loss of $34.3 million adjusted by depreciation and amortization of $47.1 million, stock-based compensation of $5.7 million, non-cash interest expense and other of $1.7 million, loss on disposal of property and equipment of $0.6 million, trade name impairment of $5.0 million, and a net favorable change in operating assets and liabilities of $7.3 million primarily due to decreases in accounts receivable, offset by increases in prepaid and other current assets and other assets and decreases in accounts and income taxes payable and accrued liabilities and other.
Net cash provided by Holdings and its consolidated subsidiaries’ operating activities was $22.3 million during 2013, consisting of a net loss of $58.6 million adjusted by depreciation and amortization of $47.1 million, stock-based compensation of $5.7 million, non-cash interest expense and other of $16.4 million, loss on disposal of property and equipment of $0.6 million, trade name impairment of $5.0 million, and a net favorable change in operating assets and liabilities of $6.1 million primarily due to decreases in accounts receivable, offset by increases in tax receivables, prepaid and other current assets and other assets, and decreases in accounts and income taxes payable and accrued liabilities and other.
Net cash provided by iPayment and its consolidated subsidiaries’ operating activities was $63.6 million during 2012, consisting of a net loss of $3.6 million adjusted by depreciation and amortization of $60.1 million, stock-based compensation of $1.9 million, non-cash interest expense and other of $3.6 million, loss on disposal of property and equipment of $1.3 million, and a net favorable change in operating assets and liabilities of $0.3 million primarily due to increases in accounts payable and accrued liabilities, and a decrease in accounts receivable, partially offset by increases in other assets and prepaid expenses and other assets.
Net cash provided by Holdings and its consolidated subsidiaries’ operating activities was $53.3 million during 2012, consisting of a net loss of $18.0 million adjusted by depreciation and amortization of $60.1 million, stock-based compensation of $1.9 million, non-cash interest expense and other of $16.0 million, loss on disposal of property and equipment of $1.3 million, gain on extinguishment of 15.00%/15.00% Notes of $3.9 million, and a net unfavorable change in operating assets and liabilities of $4.1 million primarily due to an increase in prepaid expenses and other current assets, an increase in other assets, a decrease in
accounts payable and income taxes payable, and a decrease in accrued interest, partially offset by a decrease in accounts receivable and an increase in accrued liabilities and other.
Net cash provided by iPayment and its consolidated subsidiaries' operating activities was $46.1 million in 2011, consisting of a net loss of $6.9 million adjusted by depreciation and amortization of $59.3 million, non-cash interest expense and other of $9.2 million, loss on disposal of property and equipment of $0.9 million, and a net unfavorable change in operating assets and liabilities of $16.4 million primarily due to decreases in accounts payable and income taxes payable as a result of federal and state tax payments made during 2011 and increases in accounts receivable and other assets, partially offset by an increase in accrued interest.
Net cash provided by Holdings and its consolidated subsidiaries' operating activities was $41.2 million during 2011, consisting of a net loss of $16.4 million adjusted by depreciation and amortization of $59.3 million, non-cash interest expense and other of $9.4 million, loss on disposal of property and equipment of $0.9 million, and a net unfavorable change in operating assets and liabilities of $12.0 million primarily due to decreases in accounts payable and income taxes payable as a result of federal and state tax payments made during 2011 and increases in accounts receivable and other assets, primarily offset by an increase in accrued interest.
Investing activities
Net cash used in iPayment and Holdings and their consolidated subsidiaries' investing activities was $17.1 million during 2013. Net cash used in investing activities consisted of $3.5 million of capital expenditures, $6.7 million for payments for contract modifications for prepaid residual expenses, and $4.9 million for acquisitions of merchant portfolios. We currently have no significant capital spending or purchase commitments outstanding, but expect to continue to engage in capital spending in the ordinary course of business.
Net cash used in iPayment and its consolidated subsidiaries’ investing activities was $55.6 million during 2012. Net cash used in investing activities consisted of $6.0 million of capital expenditures, $20.0 million for the purchase of 15.00%/15.00% Notes, $16.1 million for acquisitions of merchant portfolios, and $13.2 million for payments for contract modifications for prepaid residual expenses and other intangible assets.
Net cash used in Holdings and its consolidated subsidiaries’ investing activities was $35.6 million during 2012. Net cash used in investing activities consisted of $6.0 million of capital expenditures, $16.1 million for acquisitions of merchant portfolios, and $13.2 million for payments for contract modifications for prepaid residual expenses and other intangible assets.
Net cash used in investing activities was $31.0 million during 2011. Net cash used in investing activities consisted of $5.2 million of capital expenditures, $24.3 million for acquisitions of merchant portfolios, and $1.6 million for payments for contract modifications for prepaid residual expenses and other intangible assets.
Financing activities
Net cash used in iPayment and its consolidated subsidiaries' financing activities was $14.6 million during 2013, consisting of $2.8 million to amend our senior secured credit facility, $4.0 million of net borrowings under our revolving facility, $5.0 million of repayments on our senior secured credit facilities, and $10.8 million in dividends to Holdings for interest expense.
Net cash used in Holdings and its consolidated subsidiaries financing activities was $3.8 million during 2013, consisting of $2.8 million to amend our senior secured credit facility, $4.0 million of net borrowings under our revolving facility, and $5.0 million of repayments on our senior secured credit facilities.
Net cash used in iPayment and its consolidated subsidiaries’ financing activities was $1.4 million during 2012, consisting of $2.6 million of debt issuance costs, $10.3 million in dividends to Holdings, $8.0 million of repayments on our senior secured credit facilities, and $19.5 million of net borrowings under our revolving facility.
Net cash used in Holdings and its consolidated subsidiaries’ financing activities was $11.1 million during 2012, consisting of $2.6 million of debt issuance costs, $8.0 million of repayments on our senior secured credit facilities, $20.0 million for the purchase of 15.00%/15.00% Notes, and $19.5 million of net borrowings under our revolving facility.
Net cash used in iPayment and its consolidated subsidiaries’ financing activities was $15.1 million during 2011, consisting of proceeds from the issuance of long term debt of $785.1 million, net of discount, related to the Senior Secured Credit Facilities and the 10.25% Notes, offset by $22.1 million of debt issuance costs related to the Refinancing, $141.0 million in dividends to Holdings which mostly related to the consummation of the Equity Redemption, $629.6 million of net repayments on our senior secured credit facilities and previously existing senior subordinated notes, of which $615.1 million was paid under iPayment’s previously existing senior secured credit facilities and previously existing senior subordinated notes and $14.5 million under our term facility, and $7.5 million of net repayments under our revolving facility.
Net cash used in Holdings and its consolidated subsidiaries’ financing activities was $10.1 million during 2011, consisting of proceeds from the issuance of long term debt of $910.1 million, net of discount, related to the Senior Secured Credit Facilities, the 10.25% Notes and the 15.00%/15.00% Notes, offset by $25.4 million of debt issuance costs related to the Refinancing, $257.7 million paid as a dividend in connection with the consummation of the Equity Redemption, including $0.4 million paid as a dividend to iPayment Investors, $629.6 million of net repayments on our senior secured credit facilities and previously existing senior subordinated notes, of which $615.1 million was paid under iPayment’s previously existing senior secured credit facilities and previously existing senior subordinated notes and $14.5 million under our term facility, and $7.5 million of net repayments under our revolving facility.
Contractual Obligations
The following table of our material contractual obligations as of December 31, 2013 summarizes the aggregate effect that these obligations are expected to have on our cash flows in the periods indicated.
(1)
Future interest obligations are calculated using current interest rates on existing debt balances as of December 31, 2013, and assume no principal reduction other than mandatory principal repayments in accordance with the terms of the debt instruments as discussed in Note 8 to the consolidated financial statements.
(2)
Purchase obligations represent costs of contractually guaranteed minimum processing volumes with certain of our third-party transaction processors and other service-related obligations.
(3)
Assumes that (i) for all interest periods through and including May 15, 2015, Holdings will pay interest on 50% of the outstanding principal amount of its 15.00%/15.00% Notes in cash and 50% in kind and (ii) after May 15, 2015, Holdings will make all interest payments on the 15.00%/15.00% Notes entirely in cash.
We expect to be able to fund our operations, capital expenditures and the contractual obligations above (other than the repayment at maturity of the aggregate principal amount of (i) the term loans under the Senior Secured Credit Facilities and (ii) the Notes) using our cash from operations. We intend to use our revolving facility primarily to fund temporary working capital needs and additional acquisition opportunities as they arise. To the extent we are unable to fund our operations, capital expenditures and the contractual obligations above using cash from operations, we intend to use borrowings under our revolving facility or future debt or equity financings. In addition, we may seek to sell additional equity or arrange debt financing to give us financial flexibility to pursue attractive opportunities that may arise in the future. If we raise additional funds through the sale of equity or convertible debt securities, these transactions may dilute the value of our outstanding common stock. We may also decide to issue securities, including debt securities, which have rights, preferences and privileges senior to our common stock. If future financing is not available or is not available on acceptable terms, we may not be able to fund our future needs, which may prevent us from increasing our market share, capitalizing on new business opportunities or remaining competitive in our industry.
New Accounting Standards
None.
Effects of Inflation
Our monetary assets, consisting primarily of cash and receivables, are not significantly affected by inflation. Our non-monetary assets, consisting primarily of intangible assets and goodwill, are not affected by inflation. We believe that replacement costs of equipment, furniture and leasehold improvements will not materially affect our operations. However, the rate of inflation affects our expenses, such as those for employee compensation and other operating expenses, which may not be readily recoverable in the price of services offered by us. The rate of inflation can also affect our revenues by affecting our merchant charge volume and corresponding changes to processing revenue.
ITEM 7A.
ITEM 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In addition to the effects of inflation described above under “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Effects of Inflation,” the following is a description of additional market risks to which we may be exposed.
We transact business with merchants exclusively in the United States and receive payment for our services exclusively in United States dollars. As a result, our financial results are unlikely to be materially affected by factors such as changes in foreign currency exchange rates or weak economic conditions in foreign markets.
Our interest expense is sensitive to changes in the general level of interest rates in the credit markets because a significant amount of our indebtedness is subject to variable rates. As of December 31, 2013, we had $386.5 million of loans outstanding under our Senior Secured Credit Facilities, all of which were at a variable interest rate based on LIBOR, subject to a floor equal to 1.50%. Accordingly, a one percent increase in the applicable LIBOR above the floor would result in net additional annual interest expense on our outstanding borrowings as of December 31, 2013 of approximately $3.2 million.
We do not hold any derivative financial or commodity instruments, nor do we engage in any foreign currency denominated transactions, and all of our cash and cash equivalents are held in money market and checking funds.
ITEM 8.
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders of iPayment, Inc.
We have audited the accompanying consolidated balance sheets of iPayment, Inc. (the Company) as of December 31, 2013 (Successor) and 2012 (Successor), and the related consolidated statements of comprehensive loss, changes in stockholder’s equity, and cash flows for the years ended December 31, 2013 (Successor) and December 31, 2012 (Successor), the period May 24, 2011 through December 31, 2011 (Successor), and the period January 1, 2011 through May 23, 2011 (Predecessor). Our audits also included the financial statement schedule listed in the Index at Item 15(a)(2). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of iPayment, Inc. at December 31, 2013 (Successor) and 2012 (Successor), and the consolidated results of its operations and its cash flows for the years ended December 31, 2013 (Successor) and December 31, 2012 (Successor), the period May 24, 2011 through December 31, 2011 (Successor), and the period January 1, 2011 through May 23, 2011 (Predecessor), in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
/s/ ERNST & YOUNG LLP
Los Angeles, California
March 27, 2014
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders of iPayment Holdings, Inc.
We have audited the accompanying consolidated balance sheets of iPayment Holdings, Inc. (the Company) as of December 31, 2013 (Successor) and 2012 (Successor), and the related consolidated statements of comprehensive loss, changes in stockholder’s equity, and cash flows for the years ended December 31, 2013 (Successor) and December 31, 2012 (Successor), the period May 24, 2011 through December 31, 2011 (Successor), and the period January 1, 2011 through May 23, 2011 (Predecessor). These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of iPayment Holdings, Inc. at December 31, 2013 (Successor) and 2012 (Successor), and the consolidated results of its operations and its cash flows for the years ended December 31, 2013 (Successor) and December 31, 2012 (Successor), the period May 24, 2011 through December 31, 2011 (Successor), and the period January 1, 2011 through May 23, 2011 (Predecessor), in conformity with U.S. generally accepted accounting principles.
/s/ ERNST & YOUNG LLP
Los Angeles, California
March 27, 2014
iPAYMENT, INC.
CONSOLIDATED BALANCE SHEETS
See accompanying notes to consolidated financial statements.
iPAYMENT HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
See accompanying notes to Consolidated Financial Statements.
iPAYMENT, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
See accompanying notes to Consolidated Financial Statements.
iPAYMENT HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
See accompanying notes to Consolidated Financial Statements.
iPAYMENT, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER’S EQUITY
See accompanying notes to Consolidated Financial Statements.
iPAYMENT HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER’S EQUITY (DEFICIT)
See accompanying notes to Consolidated Financial Statements.
iPAYMENT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
See accompanying notes to Consolidated Financial Statements.
iPAYMENT HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
See accompanying notes to Consolidated Financial Statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization, Business and Basis of Presentation
Organization
We are a provider of credit and debit card payment processing services to small merchants across the United States. We conduct all of our operations through our operating company, iPayment, Inc. (“iPayment”), and its subsidiaries. iPayment and its direct parent, iPayment Holdings, Inc. (“Holdings”), are incorporated in Delaware. Holdings is a holding company that does not have any operations or material assets other than the direct and indirect ownership of all of the capital stock of iPayment and its subsidiaries, respectively. All of the capital stock of Holdings is owned by Carl A. Grimstad, iPayment’s Chairman and Chief Executive Officer, Harold H. Stream, III, and certain entities and family trusts affiliated with Mr. Grimstad or Mr. Stream.
As discussed further in Note 4, on May 23, 2011, iPayment Investors and its general partner, iPayment GP, LLC (the “iPayment GP”), completed the redemption (the “Equity Redemption”) of all of the direct and indirect equity interests in iPayment Investors and the iPayment GP of (i) Gregory Daily, iPayment’s former Chairman and Chief Executive Officer and (ii) the trusts for the benefit of, and other entities controlled by, members of Mr. Daily’s family that held equity interests in Investors. The Equity Redemption resulted in a change in control and accordingly has been accounted for as a business combination in accordance with ASC 805 “Business Combinations.” On August 28, 2012, iPayment Investors merged with and into Holdings, with Holdings as the surviving entity.
As used in these notes to the consolidated financial statements, the terms “we,” “us,” “our,” “the Company,” “our Company” or similar terms refer to iPayment Holdings, Inc. and its subsidiaries, unless otherwise stated or required by the context. The term “iPayment” refers to iPayment, Inc. and “Holdings” refers to iPayment Holdings, Inc., in each case, without their subsidiaries.
Business
Our payment processing services enable our merchants to accept credit cards as well as other forms of payment, including debit cards, checks, gift cards and loyalty programs in traditional card-present, or swipe transactions, as well as card-not-present transactions, such as those conducted over the phone or through the internet. We market and sell our services to merchants throughout the United States through various channels, including a network of ISGs, which are non-employee, external sales organizations with which we have contractual relationships and directly to merchants through our employee sales force, partnerships with various associations and agents banks, through the use of electronic media, telemarketing and other programs utilizing partnerships with other companies that market products and services to small businesses. In addition, we partner with banks such as Wells Fargo to sponsor us for membership in the Visa and MasterCard associations and to settle transactions with merchants. We perform core functions for small merchants such as application processing, underwriting, account set-up, risk management, fraud detection, merchant assistance and support, equipment deployment, and chargeback services at our main operating facility in Westlake Village, California.
In May 2011, iPayment completed an offering of $400.0 million in aggregate principal amount of 10.25% Senior Notes due 2018 (the “10.25% Notes”) and entered into its senior secured credit facilities consisting of (i) a $375.0 million term facility and (ii) a $75.0 million revolving facility (the “Senior Secured Credit Facilities”). The revolving facility matures on May 6, 2016, and the term facility matures on May 8, 2017. Also in May 2011, Holdings completed an offering of 125,000 units (the “Units”), consisting of $125.0 million in aggregate principal amount of 15.00%/15.00% Senior Notes due 2018 (the “15.00%/15.00% Notes”) and 125,000 warrants (the “Warrants”) to purchase common stock of Holdings. The Warrants represent an aggregate 2.5% of the outstanding common stock of Holdings on a fully diluted basis. The Senior Secured Credit Facilities, the 10.25% Notes and the 15.00%/15.00% Notes are discussed further in Note 8.
The majority of the proceeds from the offerings of the 10.25% Notes and the Units, together with borrowings under the Senior Secured Credit Facilities, were used to (i) permanently repay all of the outstanding indebtedness under iPayment’s then existing senior secured credit facilities; (ii) redeem and satisfy and discharge all of iPayment’s then existing senior subordinated notes; (iii) redeem, satisfy and discharge all of iPayment Investors’ then existing paid-in-kind (“PIK”) toggle notes and (iv) pay fees and expenses in connection with the offerings. All of the remainder of such proceeds and borrowings were used to consummate the Equity Redemption on May 23, 2011, including payment of the transaction fee and other related fees and expenses.
In these notes to the consolidated financial statements, we refer to the entry into the Senior Secured Credit Facilities, the offer and sale of the 10.25% Notes and the Units, including the application of the net proceeds of the 10.25% Notes and the Units and borrowings under the Senior Secured Credit Facilities as described above, as the “Refinancing.” In addition, as used in these notes to the consolidated financial statements, the term “Notes” refers collectively to the 10.25% Notes and the 15.00%/15.00% Notes.
As a result of the Refinancing, we had significant outstanding long-term debt as of December 31, 2013 and 2012. The terms of our long-term debt contain various nonfinancial and financial covenants as further discussed in Note 8. We currently do not
have available cash and similar liquid resources available to repay all of our debt obligations if they were to become due and payable. As of December 31, 2013, our Senior Secured Leverage Ratio, as defined in the Senior Secured Credit Facilities, was 3.43 to 1.00 compared to the allowed maximum of 4.00 to 1.00. As of December 31, 2013, our Consolidated Interest Coverage Ratio, as defined in the Senior Secured Credit Facilities, was 1.50 to 1.00 compared to the allowed minimum of 1.25 to 1.00. As described in detail in Note 8, on November 14, 2012, the Company and Holdings entered into a waiver, consent and amendment (the “Waiver”) to the credit agreement governing the Company’s Senior Secured Credit Facilities. Among other things, the Waiver waived (a) defaults arising from the restatement of certain of the Company’s financial statements (i) for the fiscal years ended December 31, 2008, 2009, 2010, and 2011, (ii) for the interim periods within such fiscal years and (iii) for the quarters ended March 31, 2012 and June 30, 2012 and (b) the Company’s failure to timely provide to the administrative agent for the Senior Secured Credit Facilities the Company’s financial statements for the quarterly period ended September 30, 2012.
Basis of Presentation
The accompanying consolidated financial statements of iPayment and Holdings have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) and reflect all adjustments, which are of a normal and recurring nature, that are, in the opinion of management, necessary for a fair presentation of the consolidated financial position and results of operations for the related periods. All significant intercompany transactions and balances have been eliminated in consolidation.
As a result of the Equity Redemption, as further discussed in Note 4, our results of operations, financial position and cash flows prior to the date of the Equity Redemption are presented as the “Predecessor.” The financial effects of the Equity Redemption and our results of operations, financial position and cash flows following the Equity Redemption are presented as the “Successor.” Accordingly, as used in these notes to the consolidated financial statements, the terms “during 2011” and “year ended December 31, 2011” refer to the combined results of the Predecessor and Successor entities for such period.
2. Restatement of Consolidated Financial Statements
In August 2012, as disclosed in the Company’s Current Reports on Form 8-K filed on September 12, 2012 and November 5, 2012 and in the Company’s amended Annual Report on Form 10-K/A filed on January 29, 2013, the Company and Holdings were presented with accusations from one of the Company’s employees that certain of the Company’s employees and outside contractors had engaged in financial misconduct. Following an initial inquiry into these accusations by the Company, the Board of Directors of the Company and management conducted an internal investigation of the alleged misconduct. During the course of the Company’s investigation, certain executives of the Company and Holdings were terminated or resigned.
The Company’s internal investigation revealed financial misconduct by certain former officers and employees of the Company and certain of its outside contractors. Such financial misconduct occurred in three principal areas: (i) creation of false obligations to make residual and other payments (which resulted in the Company making such payments in respect of merchant accounts that were not subject to legitimate payment obligations); (ii) overstatement of certain vendor invoices, principally in the information technology area; and (iii) falsification of certain employee expense reimbursements and other payments. Factors contributing to the ability of the individuals to engage in the misconduct were: (i) the failure to maintain an adequate control environment that set a proper ethical culture and (ii) the posting of manual journal entries without sufficient supporting documentation or adequate review and approval. The Company believes that the foregoing activities, which generally occurred over a period from the third quarter of 2008 through September 2012, involved a total loss of funds to the Company of approximately $12.1 million as set forth in the table below.
(1)
Adjustments to beginning retained earnings at January 1, 2009
Based on the results of the Company’s internal investigation, and the financial impact thereof on prior financial periods, on November 1, 2012, the Boards of Directors of the Company and Holdings determined that the Company’s financial statements (i) for the fiscal years ended December 31, 2009, 2010, and 2011, included in the Company’s Annual Reports on Form 10-K for the years then ended and Ernst & Young LLP’s reports thereon, (ii) for the interim periods within such fiscal years included in the Company’s Quarterly Reports on Form 10-Q, and (iii) for the quarters ended March 31, 2012, and June 30, 2012, included in the Company’s Quarterly Reports on Form 10-Q (the “Affected Financial Statements”), should no longer be relied upon. As a result, the Company restated the Affected Financial Statements to reflect the effect of such financial misconduct on the Affected Financial Statements. On January 29, 2013, the Company filed Amendment No.1 to Form 10-K for the year ended December 31, 2011 and on January 31, 2013, the Company filed Amendment No.1 to Form 10-Q for the period ended March 31, 2012 and Amendment No.1 to Form 10-Q for the period ended June 30, 2012 with such restated financial statements.
3. Summary of Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements of iPayment include the accounts of iPayment and its wholly-owned subsidiaries CardPayment Solutions, LLC, Petroleum Card Services, LLC, Cambridge Acquisition Sub, LLC, Flagship Merchant Services, LLC, CreditCardProcessing.com, LLC, and NBS Acquisition LLC. The consolidated financial statements of Holdings include the accounts of Holdings and the entities listed in the preceding sentence. All significant accounts, transactions and profits between the consolidated companies have been eliminated in consolidation. Significant accounts and transactions between the Company, including its subsidiaries, on the one hand, and their directors and officers on the other hand, are disclosed as related party transactions in Note 12 below.
In November and December 2013, the following wholly-owned subsidiaries of iPayment were merged into the Company, with, in each case, the Company as the surviving entity: iPayment of California, LLC, 1st National Processing, Inc., E-Commerce Exchange, Inc., iPayment of Maine, Inc., Online Data Corporation, CardSync Processing, Inc., TS Acquisition Sub, LLC, Quad City Acquisition Sub, Inc., NPMG Acquisition Sub, LLC, iFunds Cash Solutions, LLC, MSC Acquisition Sub, LLC, iPayment Acquisition Sub, LLC, iAdvantage, LLC, IPMT Transport, LLC and iPayment Sales, LLC.
Use of Estimates
The preparation of our financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of our financial statements. Estimates and assumptions also affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents
We consider all unrestricted highly liquid investments with an original maturity of three months or less to be cash and cash equivalents.
Restricted Cash
Restricted cash represents funds held-on-deposit with processing banks pursuant to agreements to cover potential merchant losses, and funds held by lending institutions pursuant to loan agreements to provide additional collateral.
Accounts Receivable, net
Accounts receivable are primarily amounts due from our clearing and settlement banks for revenues earned, net of related interchange and bank processing fees, on transactions processed during the month ending on the balance sheet date. Such balances are typically received from the clearing and settlement banks within 30 days days following the end of each month. The allowance for doubtful accounts as of December 31, 2013 and 2012 was $0.5 million and $0.9 million, respectively. We record allowances for doubtful accounts when it is probable that the accounts receivable balance will not be collected.
Property and Equipment, net
Property and equipment are stated at cost less accumulated depreciation. Depreciation is calculated using the straight-line method for financial reporting purposes and primarily accelerated methods for tax purposes. For financial reporting purposes, equipment is depreciated over two to five years. Leasehold improvements are amortized over the useful life of the asset. Depreciation expense for property and equipment for the years ended December 31, 2013, 2012 and 2011 was $1.9 million, $1.7 million, and $2.2 million, respectively. Maintenance and repairs are charged to expense as incurred. Expenditures for renewals and improvements that extend the useful life are capitalized.
Revenue and Cost Recognition
Substantially all of our revenues are generated from fees charged to merchants for payment processing services. We typically charge these merchants a bundled rate, primarily based upon each merchant’s monthly charge volume and risk profile. Our fees principally consist of discount fees, which are a percentage of the dollar amount of each transaction. We recognize discounts and other fees related to payment transactions at the time the merchant’s transactions are processed. Related interchange and assessment costs are also recognized at that time. We derive the balance of our revenues from a variety of fixed transaction or service fees, including fees for monthly minimum charge volume requirements, statement fees, annual fees, payment card industry compliance fees, ancillary products and fees for other miscellaneous services, such as handling chargebacks. We recognize revenues derived from service fees at the time the service is performed.
We follow the requirements included in the Revenue Recognition Topic of ASC 605, Reporting Revenue Gross as a Principal Versus Net as an Agent. Generally, where we have ultimate responsibility for the merchant, as evidenced by our liability for merchant losses or credit risk, or portability with respect to such merchant, revenues are reported at the time of sale on a gross basis equal to the full amount of the discount charged to the merchant. This amount includes interchange paid to card issuing banks and assessments paid to payment card associations pursuant to which such parties receive payments based primarily on processing volume for particular groups of merchants. Interchange fees are recognized at the time transactions are processed. Revenues generated from bank portfolios where we do not have liability for merchant losses or credit risk or rights of portability, such as certain bank portfolios we acquired from FDMS and certain of our other portfolios, are reported net of interchange, as required by ASC Topic 605.
Other Costs of Services
Other costs of services include costs directly attributable to our provision of payment processing and related services to our merchants and primarily includes residual payments to ISGs, which are commissions we pay to our ISGs based upon a percentage of the net revenues we generate from their merchant referrals, and assessment fees payable to card associations, which are a percentage of the charge volume we generate from Visa and MasterCard. In addition, other costs of services include telecommunications costs, personnel costs, occupancy costs, losses due to merchant defaults, other miscellaneous merchant supplies and services expenses, bank sponsorship costs and other third-party processing costs. Other costs of services also include depreciation expense, which is recognized on a straight-line basis over the estimated useful life of the assets, and amortization expense, which is recognized using an accelerated method over a 15-year period.
Amortization of Intangible Assets
The following table includes the components of our intangible assets by major class as of December 31, 2013:
Purchased merchant processing portfolios are recorded at cost and are evaluated by management for impairment at the end of each fiscal quarter through review of actual attrition and cash flows generated by the portfolios in relation to the expected attrition and cash flows and the recorded amortization expense. Amortization of intangible assets results from our acquisitions of portfolios of merchant contracts or acquisitions of a business where we allocated a portion of the purchase price to the existing merchant processing portfolios and other intangible assets. The estimated useful lives of our merchant processing portfolios are assessed by evaluating each portfolio to ensure that the recognition of the costs of revenues, represented by amortization of the intangible assets, approximate the distribution of the expected revenues from each processing portfolio. If, upon review, the actual costs of revenues differ from the expected costs of revenues, we will adjust amortization expense accordingly. During 2013, we experienced an average monthly volume attrition of approximately 1.5% to 2.2% of our total charge volume.
We utilize an accelerated method of amortization over a 15-year period, which we believe approximates the distribution of actual cash flows generated by our merchant processing portfolios. All other intangible assets are amortized using the straight-line method over an estimated life of three to seven years. For the years ended December 31, 2013, 2012 and 2011, amortization expense related to our merchant processing portfolios and other intangible assets were $44.6 million, $58.1 million and $57.1 million, respectively.
As of December 31, 2013, estimated amortization expense for each of the five succeeding years is expected to be as follows (in thousands):
In addition, we have implemented both quarterly and annual procedures to determine whether a significant change in the trend of the current attrition rates being used has occurred on a portfolio-by-portfolio basis. In reviewing the current attrition rate trends, we consider relevant benchmarks such as charge volume, revenues, number of merchant accounts, gross profit and
future expectations of the aforementioned factors compared to historical amounts and rates. If we identify any significant changes or trends in the attrition rate of any portfolio, we will adjust our current and prospective estimated attrition rates so that the amortization expense better approximates the distribution of actual cash flows generated by the merchant processing portfolios. Any adjustments made to the amortization schedules would be reported in the current consolidated statements of operations and on a prospective basis until further evidence becomes apparent.
Our intangible assets are amortized over their estimated lives, except the “iPayment, Inc.” and “Flagship Merchant Services” trade names, which were determined to have indefinite lives, as there are no legal, regulatory, contractual, economic or other factors that limit the useful lives of the intangible assets to us, and we have no plans to cease using such names. We believe the trade names have an inherent value due to brand strength. The “iPayment, Inc.” and “Flagship Merchant Services” trade names are subject to an annual impairment test. Based on the analysis we performed during the fourth quarter of 2013, we concluded that our "iPayment Inc." trade name was impaired by $5.0 million, which is reflected under "Selling, general and administrative" in our consolidated statements of comprehensive loss for the year ended December 31, 2013.
Goodwill
We follow ASC 350 “Intangibles - Goodwill and Other Topics,” which addresses financial accounting and reporting for acquired goodwill and other intangible assets, and requires that goodwill is subject to at least an annual assessment for impairment and in addition, if facts and circumstances indicate goodwill may be impaired, we perform a recoverability evaluation. In accordance with ASC 350, the recoverability analysis is based on fair value. The calculation of fair value includes a number of estimates and assumptions, including projections of future income and cash flows, the identification of appropriate market multiples of other publicly traded institutions in our industry, the current economic environment, and the choice of an appropriate discount rate. We engage, on a regular basis, an independent third party to aid management in determining the fair value of our goodwill, using the present value of future cash flows to determine whether the fair value of the reporting unit exceeded the carrying amount of the net assets, including goodwill. We performed a qualitative assessment of goodwill and trade name as of May 31, 2013. We determined based on relevant events and circumstances in our qualitative assessment that it is more likely than not that the fair value of the reporting unit is at least equal to its carrying value; therefore, the goodwill of the reporting unit is not impaired. Based on the analyses we performed during the fourth quarter of 2013, we determined that no impairment charge to goodwill was required as the fair value of our reporting unit sufficiently exceeded the carrying value.
Impairment of Long-Lived Assets
We periodically evaluate the carrying value of long-lived assets, in relation to the respective projected future undiscounted cash flows, to assess recoverability. An impairment loss is recognized if the sum of the expected net cash flows is less than the carrying amount of the long-lived assets being evaluated. The difference between the carrying amount of the long-lived assets being evaluated and the fair value, calculated as the sum of the expected cash flows discounted at a market rate, represents the impairment loss. Based on the analyses we performed during the fourth quarter of 2013, we concluded that our "iPayment Inc." trade name was impaired by $5.0 million and recognized the charge which is reflected under "Selling, general and administrative" in our consolidated statements of comprehensive loss for the year ended December 31, 2013.
Other Assets
Other assets at December 31, 2013 and 2012 include approximately $2.8 million and $0.6 million, respectively, of notes receivable (the current portions of $0.4 million and $0.2 million, are included in prepaid expenses and other current assets at December 31, 2013 and 2012, respectively), representing amounts advanced to sales agents. The notes bear interest at amounts ranging from 10.0% to 13.0%, and are payable back to us through 2018. We secure the loans by attaching the ISG’s assets, including the rights they have to receive residuals and the fees generated by the merchants they refer to us and any other accounts receivable and, in certain cases, by obtaining personal guarantees from the individuals who operate the ISGs.
Other assets at December 31, 2013 for Holdings and its consolidated subsidiaries include an investment of $0.9 million, which is carried at cost, and reflects a four-year option we acquired April 2013 to purchase a privately held company. The Company reviews this asset for impairment each reporting period and has not identified any events or changes in circumstances which we believe would have a significant adverse effect on the fair value of this investment nor do we believe it is practicable to estimate the fair value of the option at December 31, 2013 as the grantor of the option is only obligated under the parties' agreement to provide the information on its financial position and results of operations necessary to estimate fair value on the annual anniversary date of the contract.
Also included in other assets for iPayment and its consolidated subsidiaries at December 31, 2013 and 2012, are approximately $18.4 million and $19.8 million, of debt issuance costs (net of accumulated amortization of $9.0 million and $4.8 million, respectively), which are being amortized over the terms of the related debt agreements using the effective interest method. Included in other assets for Holdings and its consolidated subsidiaries at December 31, 2013 and 2012, are approximately $20.5
million, and $22.2 million, of debt issuance costs (net of accumulated amortization of $9.6 million and $5.1 million, respectively), which are being amortized over the terms of the related debt agreements using the effective interest method.
Reserve for Losses on Merchant Accounts
We maintain a reserve for merchant losses necessary to absorb chargeback and other losses for merchant transactions that have been previously processed and which have been recorded as revenue. We analyze the adequacy of our reserve for merchant losses each reporting period. The reserve for merchant losses is comprised of three components: (1) specifically identifiable reserves for merchant transactions for which losses are probable and estimable, (2) a calculated reserve based upon historical loss experience applied to the previously processed transactions, and (3) a management analysis component for concentration issues and general macroeconomic and other factors. The reserve for losses on merchant accounts is decreased by merchant losses (arising primarily from chargebacks) and is increased by provisions for merchant losses and recoveries of merchant losses. Provisions for merchant losses were $3.7 million, $3.9 million, and $3.8 million for the years ended December 31, 2013, 2012 and 2011, respectively. Provisions for merchant losses are included in other costs of services in the accompanying consolidated statements of operations. At December 31, 2013 and 2012, our reserve for losses on merchant accounts included in accrued liabilities and other totaled $1.2 million and $1.3 million, respectively.
Financial Instruments
ASC 820 “Fair Value Measurement and Disclosures” establishes a framework for measuring fair value and a three-level valuation hierarchy for disclosure of fair value measurement and enhances disclosure requirements for fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The three levels are defined as follows:
•
Level 1: Observable quoted prices in active markets for identical assets and liabilities.
•
Level 2: Observable quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market.
•
Level 3: Model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include use of option pricing models, discounted cash-flow models and similar techniques.
We believe the carrying amounts of financial instruments at December 31, 2013 approximate fair value. Due to the short maturities of cash and cash equivalents and accounts receivable, carrying amounts approximate their respective fair values. The carrying value of the 10.25% Notes was $400.0 million as of December 31, 2013. We estimate their fair value to be approximately $328.0 million, considering executed trades occurring around December 31, 2013. As of December 31, 2013, under the Senior Secured Credit Facilities, the carrying value of the term facility, net of a discount of $1.1 million, was $346.4 million and the carrying value of the revolver facility was $39.0 million. We estimate the fair value of the term facility to be approximately $337.9 million, considering executed trades occurring around December 31, 2013, and we believe that the fair value of the revolver facility approximates carrying value due to its short maturities. The carrying value of the 15.00%/15.00% Notes, net of discount of $0.8 million, was $125.5 million as of December 31, 2013. We estimate their fair value to be approximately $55.6 million, considering executed trades occurring around December 31, 2013. The fair value of the 10.25% Notes, the Senior Secured Credit Facilities, and the 15.00%/15.00%Notes are estimated using direct and indirect observable market information and are classified within Level 2 of the fair value hierarchy, as defined by ASC 820. We are contractually obligated to repay our borrowings in full and we do not believe the creditors under our borrowing arrangements are willing to settle these instruments with us at their estimated fair values indicated herein.
Income Taxes
We account for income taxes in accordance with ASC 740 “Income Taxes” (formerly known as SFAS No. 109, Accounting for Income Taxes). ASC 740 clarifies the accounting and reporting for uncertainties in income tax law by prescribing a comprehensive model for the financial statement recognition, measurement, presentation and disclosure for uncertain tax positions taken or expected to be taken in income tax returns. Under this method, deferred tax assets and liabilities are recorded to reflect the future tax consequences attributable to the effects of differences between the carrying amounts of existing assets and liabilities for financial reporting and for income tax purposes.
Deferred taxes are calculated by applying enacted statutory tax rates and tax laws to future years in which temporary differences are expected to reverse. The impact on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that the rate change is enacted. A deferred tax valuation reserve is established if it is more likely than not that a deferred tax asset will not be realized.
Advertising Costs
We recognize advertising costs as incurred. For the years ended December 31, 2013, 2012, and 2011, advertising costs were $4.7 million, $2.1 million and $0.2 million, respectively. Advertising costs are included in selling, general and administrative expenses.
Common Stock
iPayment and Holdings had 100 and 4,875,000 shares of common stock, respectively, issued and outstanding at December 31, 2013. The Company has elected not to present earnings per share data as management believes such presentation would not be meaningful. There is no established public trading market for our common stock or for the Warrants.
Stock-Based Compensation
We measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost is to be recognized over the period during which the employee is required to provide service in exchange for the award, which generally equals the vesting period. For the years ended December 31, 2013 and 2012, we recognized $5.7 million and $1.9 million, respectively, in expense related to vested service units. For performance stock units, we re-assess the probability of vesting at each reporting period and if the target is not attained, we do not recognize any expense. The performance condition is not considered in determining the grant date fair value. For the years ended December 31, 2013 and 2012, we did not recognize any expense for performance-based phantom stock units.
4. Equity Redemption, Refinancing and Change in Control
On April 12, 2011, iPayment Investors and iPayment GP entered into a redemption agreement (the “Redemption Agreement”) with Gregory Daily, iPayment's former Chairman and Chief Executive Officer, the trusts for the benefit of, and other entities controlled by, members of Mr. Daily’s family that held equity interests in iPayment Investors, and certain other persons or entities (collectively, the "Daily Parties"). Pursuant to the Redemption Agreement, iPayment Investors and iPayment GP agreed to redeem from the Daily Parties, and the Daily Parties agreed to transfer and surrender to iPayment Investors and iPayment GP, as applicable, all of the equity interests of the Daily Parties in iPayment Investors and iPayment GP, representing approximately 65.8% of the outstanding equity of iPayment Investors, for an aggregate price of $118.5 million. The interests redeemed pursuant to the Redemption Agreement constituted all of the direct and indirect equity interests of the Daily Parties in the Company.
On May 6, 2011, iPayment completed the offering of the 10.25% Notes and the closing of the Senior Secured Credit Facilities. Also on May 6, 2011, Holdings completed the offering of the Units. The majority of the proceeds from the offerings of the 10.25% Notes and the Units, together with borrowings under the Senior Secured Credit Facilities, were used to (i) permanently repay all of the outstanding indebtedness under iPayment’s then existing senior secured credit facilities; (ii) redeem and satisfy and discharge all of iPayment’s then existing senior subordinated notes; (iii) redeem and satisfy and discharge all of iPayment Investors’ then existing PIK toggle notes and (iv) pay fees and expenses in connection with the offerings. All of the remainder of such proceeds and borrowings were used to consummate the Equity Redemption on May 23, 2011, including payment of the transaction fee and other related fees and expenses.
Upon the closing of the Equity Redemption, Mr. Daily resigned as a director and officer, as applicable, of iPayment GP, iPayment Investors and each of iPayment Investors’ subsidiaries, including his former positions as iPayment’s Chairman and Chief Executive Officer. In connection with Mr. Daily’s resignation, Carl Grimstad became the new Chairman and Chief Executive Officer of iPayment and Mark Monaco, iPayment’s Chief Financial Officer, became a member of iPayment’s and Holdings’ boards of directors. The Redemption Agreement includes covenants on the part of Mr. Daily not to solicit employees, independent sales agents and independent sales organizations and merchants of iPayment and its affiliates at any time prior to May 23, 2014. On August 28, 2012, iPayment Investors merged with and into Holdings, with Holdings as the surviving entity.
The description set forth above is intended to be a summary only, is not complete and is qualified in its entirety by reference to the full and complete terms contained in the Redemption Agreement, a copy of which is included as Exhibit 99.1 to iPayment’s Current Report on Form 8-K filed with the Securities and Exchange Commission (the “SEC”) on April 13, 2011, which is incorporated herein by reference.
Change of Control
In accordance with ASC 805, “Business Combinations” the Company determined that a change of control occurred as a result of the Equity Redemption requiring assets and liabilities to be recorded at fair value. The following table presents the fair values of assets acquired and liabilities assumed and is based on information that was available to us as of the closing date of the Equity Redemption, subject to additional adjustments that we recorded during the “measurement period” (not to exceed one year as defined by ASC 805) in 2011, with corresponding increases or decreases to goodwill:
As part of the purchase accounting for the Equity Redemption for iPayment and its consolidated subsidiaries, approximately $273.7 million was assigned to merchant portfolios and other intangible assets and $669.6 million was assigned to goodwill. Of the amount assigned to merchant portfolios and other intangible assets, $205.8 million related to merchant portfolios, $65.5 million related to a trade name for iPayment and $2.4 million was primarily attributable to software development and other intangible assets. The aforementioned amounts resulted in increases over the historical basis prior to the Equity Redemption, of $132.6 million and $141.4 million in merchant portfolios and other intangible assets and goodwill, respectively. In addition, $32.7 million was assigned to deferred tax liabilities on the cumulative step-up of assets and liabilities that were adjusted to fair value using combined federal and state tax rates.
As part of the purchase accounting for the Equity Redemption for Holdings and its consolidated subsidiaries, approximately $273.7 million was assigned to merchant portfolios and other intangible assets and $670.4 million was assigned to goodwill. Of the amount assigned to merchant portfolios and other intangible assets, $205.8 million related to merchant portfolios, $65.5 million related to a trade name for iPayment and $2.4 million was primarily attributable to software development and other intangible assets. The aforementioned amounts resulted in increases over the historical basis prior to the Equity Redemption, of $132.6 million and $142.2 million in merchant portfolios and other intangible assets and goodwill, respectively. In addition, $32.7 million was assigned to deferred tax liabilities on the cumulative step-up of assets and liabilities that were adjusted to fair value using combined federal and state tax rates.
As previously discussed, iPayment Investors and iPayment GP redeemed all of the equity interests of the Daily Parties in iPayment Investors and iPayment GP, representing approximately 65.8% of the outstanding equity of iPayment Investors, for an aggregate price of $118.5 million, implying an unadjusted purchase price for 100.0% of the Company of approximately $180.1 million. This amount is adjusted by (i) total net dividends of $134.8 million primarily to Holdings that were used to redeem and satisfy and discharge all of iPayment Investors’ then existing PIK toggle notes and to pay fees and expenses in connection with the offerings of the 10.25% Notes and the Units, and (ii) the net equity of $122.5 million recorded at Holdings and reduction of (iii) $1.2 million of equity related to the Warrants and $0.8 million of issuance costs which are eliminated in consolidation at Holdings and its consolidated subsidiaries. These adjustments resulted in an adjusted purchase price of $165.8 million for iPayment and its consolidated subsidiaries.
For Holdings and its consolidated subsidiaries, the unadjusted purchase price previously discussed of $180.1 million is adjusted by (i) net dividends of $257.3 million primarily to iPayment Investors that was used by iPayment Investors to redeem and satisfy and discharge all of its then existing PIK toggle notes and to consummate the Equity Redemption, offset by (ii) $122.5 million of net equity from Holdings. These adjustments resulted in an adjusted purchase price of $45.3 million.
If the Equity Redemption had occurred on January 1, 2011, we would have recorded amortization expense on our merchant processing portfolios of approximately $56.1 million for the year ended December 31, 2011. The Company did not identify any
other changes that would have been made to the Consolidated Statements of Operations in the aforementioned periods as a result of the Equity Redemption.
We incurred $18.7 million of costs related to the Refinancing and the Equity Redemption, including $6.5 million of expenses attributable to the write off of the unamortized balance of debt issuance costs and discount for the then existing senior secured credit facilities and senior subordinated notes, $4.7 million for a premium paid for early redemption of iPayment’s senior subordinated notes and $7.5 million of strategic advisory fees.
5. Acquisitions
The effective date of each of the acquisitions discussed in this Note is the date the acquisition was recognized in our financial statements, unless otherwise noted. For the year ended December 31, 2013 amortization expense related to our merchant processing portfolios and other intangible assets was $44.6 million. For the year ended December 31, 2012, amortization expense related to our merchant processing portfolios and other intangible assets was $58.1 million. For the period from May 24 through December 31, 2011, amortization expense related to our merchant processing portfolios and other intangible assets was $41.7 million. For the period from January 1, 2011 through May 23, 2011 amortization expense related to our merchant processing portfolios and other intangible assets was $15.4 million.
On May 2, 2012, we entered into a definitive asset purchase agreement with CardServ, Inc., a Massachusetts corporation doing business as Flagship. Pursuant to the definitive agreement, one of our wholly owned subsidiaries agreed to purchase substantially all of the assets of Flagship for a purchase price of approximately $14.0 million. We funded the acquisition of Flagship through revolver borrowings and cash on hand and completed this transaction on May 23, 2012.
In accordance with ASC 805, the Company determined that the acquisition of Flagship constituted an acquisition of a business, thus requiring all assets and liabilities assumed to be recorded at fair value. The following table presents the fair values of assets acquired and liabilities assumed and is based on information that was available to us as of the closing date and may be subject to additional adjustments that can be recorded during the “measurement period” (not to exceed one year as defined by ASC 805), with corresponding increases or decreases to goodwill:
As part of the purchase accounting for the Flagship acquisition, approximately $3.1 million was assigned to merchant portfolios and other intangible assets, $1.5 million was assigned to the “Flagship Merchant Services” trade name, and $9.1 million was assigned to goodwill. The entire $9.1 million assigned to goodwill is expected to be deductible for tax purposes. In addition, we incurred $0.1 million of acquisition costs related to the Flagship acquisition primarily consisting of professional fees.
Our intangible assets are amortized over their estimated lives, except the “Flagship Merchant Services” trade name, which was determined to have an indefinite life as there are no legal, regulatory, contractual, economic or other factors that limit the useful life of the intangible asset to us, and we have no plans to cease using such name. We believe the trade name has an inherent value due to brand strength.
There were no acquisitions during 2013 that were significant enough to require pro forma disclosure.
In August 2011, we entered into a purchase and sale agreement with an existing ISG, whereby we acquired a portfolio of merchant accounts. Consideration at closing was $11.0 million in cash, which was funded at closing from borrowings under our revolving facility. The effect of the portfolio acquisition was included in our consolidated financial statements beginning August 1, 2011.
During 2013, 2012 and 2011, we made acquisitions totaling $4.9 million, $16.1 million, and $24.3 million, respectively. The Company accounted for all such acquisitions under the purchase method. For acquisitions of a business, the Company allocated the purchase price based in part on valuations of the assets acquired and liabilities assumed. For acquisitions of merchant portfolios, or the rights to receive residual payments related thereto, the Company allocated the purchase price to intangible assets.
Payments for Prepaid Residual Expenses
During 2013, 2012, and 2011, we made payments totaling $6.7 million, $13.1 million, and $1.6 million, respectively, to several ISGs in exchange for contract modifications which, among other provisions, lower our obligations for future payments of residuals to them. These payments have been assigned to intangible assets in the accompanying consolidated balance sheets and are amortized over their expected useful lives.
6. Property and Equipment
Property and equipment are stated at cost less accumulated depreciation. Depreciation is calculated using the straight-line method for financial reporting purposes and primarily accelerated methods for tax purposes. For financial reporting purposes, equipment is depreciated over two to five years. Leasehold improvements are amortized over the useful life of the asset. Our property and equipment balances are comprised of the following:
7. Commitments and Contingencies
Leases
Our facilities include locations in New York, New York; Westlake Village, California; Minden, Nevada; Charlestown, Massachusetts; and Novi, Michigan. Our future minimum lease commitments under noncancelable leases are as follows at December 31, 2013 (in thousands):
In May 2011, the Company amended the original lease executed in July 2009 to increase leasing space by 12,300 square feet at its principal operating facility in Westlake Village, California. Annual commitments under this lease will approximate $0.3 million.
In December 2011, the Company entered into a new lease through November 2021 for 3,800 square feet in New York, New York. In January 2012, the Company’s corporate headquarters moved from its former location in Nashville, Tennessee to its new location in New York, New York. Annual commitments under this lease will approximate $0.5 million.
For the year ended December 31, 2013, total rent expense was $2.2 million. For the year ended December 31, 2012, total rent expense was $2.2 million. For the period from May 24 through December 31, 2011 (Successor), total rent expense was $1.1 million. For the period from January 1 through May 23, 2011(Predecessor), total rent expense was $0.7 million.
Reserves on Merchant Accounts
We require some of our merchants to maintain reserves (cash deposits) that are used to offset chargebacks incurred. Our sponsoring banks hold these reserve cash deposits related to our merchant accounts as long as there is an exposure to loss resulting from a merchant’s processing activity. As of December 31, 2013, these reserve cash deposits totaled approximately $28.5 million. We have no legal title to the cash accounts maintained at the sponsor bank in order to cover potential chargeback and related losses under the applicable merchant agreements. We also have no legal obligation to these merchants with respect to these reserve cash accounts, and accordingly, we do not include these accounts and the corresponding obligation to the merchants in our consolidated balance sheets.
If a billing dispute between a merchant and a cardholder is not ultimately resolved in favor of the merchant, the disputed transaction is “charged back” to the merchant’s bank and credited to the account of the cardholder. After the chargeback occurs, we attempt to recover the chargeback either directly from the merchant or from the merchant’s reserve account. If we or our sponsoring banks are unable to collect the chargeback from the merchant’s account, or, if the merchant refuses or is financially unable due to bankruptcy or other reasons, to reimburse the merchant’s bank for the chargeback, we bear the loss for the amount of the refund paid to the cardholder’s bank. At December 31, 2013 and 2012, our reserve for losses on merchant accounts included in accrued liabilities and other totaled $1.2 million and $1.3 million, respectively.
Legal
We are party to certain legal proceedings and claims, either asserted or unasserted, which arise in the ordinary course of business. While the ultimate outcome of these matters cannot be predicted with certainty, based on information currently available, advice of counsel, and available insurance coverage, we do not believe that the outcome of any of these claims will have a material adverse effect on our business, financial condition or results of operations. However, the results of legal proceedings cannot be predicted with certainty, and in the event of unexpected future developments the ultimate resolution of one or more of these matters could be unfavorable. Should we fail to prevail in any of these legal matters or should several of these legal matters be resolved against us in the same reporting period, our consolidated financial position or operating results could be materially adversely affected. Regardless of the outcome, any litigation may require us to incur significant litigation expenses and may result in significant diversion of management’s attention. All litigation settlements are recorded within “other expense” on our consolidated statements of operations.
8. Long-Term Debt
Our long-term debt is comprised of the following:
On May 6, 2011, iPayment completed an offering of $400.0 million in aggregate principal amount of 10.25% Senior Notes due 2018 and Holdings completed an offering of 125,000 Units, consisting of $125.0 million in aggregate principal amount of 15.00%/15.00% Senior Notes due 2018 and Warrants to purchase 125,000 shares of Holdings’ common stock. iPayment also completed the closing of its $450.0 million Senior Secured Credit Facilities. The majority of the proceeds from the offerings of the 10.25% Notes and the Units, together with borrowings under the Senior Secured Credit Facilities, were used to (i) permanently repay all of the outstanding indebtedness under iPayment’s then existing senior secured credit facilities; (ii) redeem and satisfy and discharge all of iPayment’s then existing senior subordinated notes; (iii) redeem and satisfy and discharge all of iPayment Investors’ then existing PIK toggle notes and (iv) pay fees and expenses in connection with the offerings. All of the remainder of such proceeds and borrowings were used to consummate the Equity Redemption on May 23, 2011, including payment of the transaction fees discussed in Note 12 and other related fee and expenses.
The shares of iPayment’s common stock held by Holdings have been pledged by Holdings to secure the obligations of iPayment under the Senior Secured Credit Facilities.
10.25% Notes
The 10.25% Notes were issued pursuant to an indenture, dated as of May 6, 2011 (the “10.25% Notes Indenture”), among the Company, each of the guarantors identified therein and Wilmington Trust, National Association (as successor by merger to Wilmington Trust FSB), as trustee (the “Trustee”). iPayment will pay interest on the 10.25% Notes in cash on November 15 and May 15 of each year at a rate of 10.25% per annum. Interest on the 10.25% Notes will accrue from and including the issue date of the 10.25% Notes, and the first interest payment date was November 15, 2011. The 10.25% Notes will mature on May 15, 2018. The 10.25% Notes Indenture contains covenants that, among other things, restrict iPayment and its restricted subsidiaries’ ability to pay dividends, redeem stock or make other distributions or restricted payments, make certain investments, incur or guarantee additional indebtedness, create liens, agree to dividend and payment restrictions affecting restricted subsidiaries, consummate mergers, consolidations or other business combinations, designate subsidiaries as unrestricted, change its or their line of business, or enter into certain transactions with affiliates. The covenants in the 10.25% Notes Indenture generally permit iPayment to distribute funds to Holdings, to make interest payments on the 15.00%/15.00% Notes to the extent required to be paid in cash by the terms of the indenture governing such notes and for certain other operating expenses of Holdings.
The 10.25% Notes Indenture also provides for customary events of default including non-payment of principal, interest or premium, failure to comply with covenants, and certain bankruptcy or insolvency events.
The 10.25% Notes are fully and unconditionally guaranteed by all of iPayment’s subsidiaries. However, the guarantees of iPayment’s subsidiaries may be released and iPayment’s future subsidiaries may not be required to guarantee the 10.25% Notes upon occurrence of any of the following events, all pursuant to the provisions of the 10.25% Notes Indenture: (i) any direct or indirect sale or other disposition of any interest or participation, such as corporate stock, in a guarantor subsidiary, following which such guarantor subsidiary is no longer considered a restricted subsidiary of the Company; (ii) the designation of a guarantor subsidiary as an unrestricted subsidiary by the Company; (iii) the release, discharge or termination of the guarantee
which resulted in the creation of the notes’ guarantees, as defined by the 10.25% Notes Indenture; and (iv) the legal defeasance of the 10.25% Notes or satisfaction and discharge of the 10.25% Notes Indenture.
Senior Secured Credit Facilities
iPayment also entered into a Credit Agreement, dated May 6, 2011 (the “Credit Agreement”), with Holdings, the subsidiaries of iPayment identified therein as guarantors, JPMorgan Chase Bank, N.A. and the other lenders party thereto. The Senior Secured Credit Facilities consist of (i) a six-year, $375.0 million term facility and (ii) a five-year, $75.0 million revolving facility, which includes a swing line loan facility and letter of credit facility and is available from time to time until the fifth anniversary of the closing date of the Senior Secured Credit Facilities (or in the case of the letter of credit facility, five business days prior to the fifth anniversary). The terms of the Senior Secured Credit Facilities give iPayment the ability, subject to certain conditions, to request an increase in the amount of the revolving facility in an aggregate amount of up to $25.0 million. On July 20, 2012, concurrent with iPayment’s purchase of approximately $23.9 million principal amount of the 15.00%/15.00% Notes from a third party for $20.0 million in a privately negotiated transaction, we requested and obtained a $20.0 million increase in the aggregate revolving facility commitment. The aggregate commitment of the lenders under the revolving facility following such increase was $95.0 million.
The interest rates under the Senior Secured Credit Facilities (other than in respect to swing line loans, which will accrue interest at the base rate described below) are calculated, at iPayment’s option, at either the Eurodollar rate (which is the higher of BBA LIBOR, and in respect of the term facility, 1.50%) or the base rate (which is the highest of JPMorgan Chase Bank, N.A.’s prime rate, the Federal Funds effective rate plus 0.50%, the one-month Eurodollar rate plus 1.00%, and in respect of the term facility, 2.50%) plus, in each case, the applicable margin which differs for the term facility and the revolving facility (and, which in the case of the revolving facility is subject to adjustment based on a pricing grid set forth in the Credit Agreement). Overdue principal, interest, fees and other amounts bear interest at a rate that is 2.00% above the rate then borne by such borrowing or the base rate in respect of the term facility, as applicable. iPayment also pays a quarterly commitment fee equal to 0.625% on the unused portion of the revolving facility which can decline to 0.375% of such unused portion based upon our consolidated leverage ratio as determined in accordance with the related pricing grid set forth in the Credit Agreement.
The Credit Agreement contains certain customary covenants that, subject to certain exceptions, restrict iPayment and its subsidiaries’ ability to, among other things (i) declare dividends or redeem or repurchase equity interests by iPayment or its subsidiaries; (ii) prepay, redeem or purchase certain debt; (iii) incur liens and engage in sale-leaseback transactions; (iv) make loans and investments; (v) incur additional indebtedness; (vi) amend or modify specified debt and other material agreements; (vii) engage in mergers, acquisitions and asset sales; (viii) change accounting policies; (ix) become a general partner; (x) enter into speculative transactions; (xi) transact with affiliates; and (xii) engage in businesses that are not related to iPayment’s existing business. In addition, under the Credit Agreement, iPayment is required to comply (subject to a right to cure in certain circumstances) with specified financial ratios and tests, including a minimum consolidated interest coverage ratio and a maximum senior secured leverage ratio.
In addition, the Credit Agreement contains certain customary affirmative covenants, including requirements for financial reports and other notices from iPayment.
Events of default under the Credit Agreement, which are subject to certain grace periods and exceptions include, among others: (i) iPayment’s failure to pay principal or interest or any other amount when due under the Credit Agreement; (ii) any representation or warranty proving to have been materially incorrect; (iii) covenant defaults; (iv) judgment defaults; (v) customary ERISA defaults; (vi) invalidity of loan documents or impairment of collateral; (vii) events of bankruptcy; (viii) a change of control; (ix) cross-default to material debt; and (x) cancellation or termination of a material contract, in certain circumstances.
On July 25, 2013 (the "Amendment Date"), iPayment, Inc. entered into an amendment (the "Amendment") to the Credit Agreement. Pursuant to the Amendment, the applicable margin for the revolving facility was amended as follows: (i) if the consolidated leverage ratio as of the last test date is less than 4.0:1.0, 3.75% (for Eurodollar rate loans) or 2.75% (for base rate loans), (ii) if the consolidated leverage ratio as at the last test date is greater than or equal to 4.0:1.0 but less than 4.5:1.0, 4.25% (for Eurodollar rate loans) or 3.25% (for base rate loans), (iii) if the consolidated leverage ratio as at the last test date is greater than or equal to 4.5:1.0 but less than 5.0:1.0, 4.75% (for Eurodollar rate loans) or 3.75% (for base rate loans), and (iv) if the consolidated leverage ratio as at the last test date is greater than or equal to 5.0:1.0, 5.25% (for Eurodollar rate loans) or 4.25% (for base rate loans). The applicable margin for the term facility was increased to 5.25% (for Eurodollar rate loans) and4.25% (for base rate loans).
The financial covenants set forth in the Credit Agreement were amended as follows: (i) the minimum Consolidated Interest Coverage Ratio is required to be not less than (1) 1.25x as of the end of each fiscal quarter through December 31, 2015, (2) 1.30x for each fiscal quarter ending between January 1, 2016 and December 31, 2016, and (3) 1.35x for each fiscal quarter ending thereafter and (ii) the maximum Senior Secured Leverage Ratio is required to be less than (1) 4.00x as of the end of
each fiscal quarter through March 31, 2014, (2) 3.75x as of the end of each fiscal quarter ending between April 1, 2014 and March 31, 2015, (3) 3.50x as of the end of each fiscal quarter ending between April 1, 2015 and March 31, 2016, (4) 3.25x as of the end of each fiscal quarter ending between April 1, 2016 and March 31, 2017 and (5) 3.00x for each fiscal quarter ending thereafter.
Pursuant to the Amendment, certain voluntary prepayments made in connection with any modification of the Credit Agreement that reduces the applicable margin with respect to any Term Loans, or in connection with any refinancing of any Term Loans in whole or in part with proceeds of Indebtedness having lower applicable margins or applicable total yield than the applicable margin or applicable total yield for the Term Loans prior to the first year anniversary of the Amendment Date will be subject to a 1.00% prepayment penalty. In addition, the Amendment included certain other changes to the restricted payments and investments negative covenants in the Credit Agreement.
At December 31, 2013, iPayment had $346.4 million of term loans outstanding, net of discount of $1.1 million at a weighted average interest rate of 6.75% and $39.0 million of borrowings under its revolving facility at a weighted average interest rate of 5.45%. At December 31, 2012, iPayment had $351.1 million of term loans outstanding, net of discount of $1.4 million at a weighted average interest rate of 5.75% and $35.0 million of borrowings under its revolving facility at a weighted average interest rate of 4.60%.
15.00%/15.00% Notes
The 15.00%/15.00% Notes were issued pursuant to an indenture, dated as of May 6, 2011 (the “15.00%/15.00% Notes Indenture”), between Holdings and the Trustee. Interest on the 15.00%/15.00% Notes will accrue from and includes the issue date of the 15.00%/15.00% Notes. The first interest payment date was November 15, 2011. The 15.00%/15.00% Notes will mature on November 15, 2018. For any interest period through and including May 15, 2015, Holdings may elect to pay interest on the 15.00%/15.00% Notes (i) entirely in cash (“cash interest”) or (ii) pay interest on 50% of the outstanding principal amount of the 15.00%/15.00% Notes in cash interest and on 50% of the outstanding principal amount of the 15.00%/ 15.00% Notes by increasing the principal amount of the outstanding 15.00%/15.00% Notes or by issuing additional 15.00%/15.00% Notes (“PIK interest”). Notwithstanding the foregoing, Holdings will pay cash interest on the 15.00%/15.00% Notes to the extent that iPayment would, on the date notice of such election is required to be made, be permitted pursuant to its debt agreements to pay a dividend or distribution to Holdings in an amount sufficient to pay such cash interest on the relevant interest payment date. After May 15, 2015, Holdings will pay cash interest on the 15.00%/15.00% Notes, subject to certain rights to pay partial PIK interest for up to two additional interest periods.
Cash interest and PIK interest each accrue at a rate of 15.00% per annum. If Holdings’ leverage ratio exceeds 7.25 to 1.00 as of the most recent quarter end prior to an interest payment date, then for the interest period ending on such date, the interest rate will be retroactively increased by 2.00% in the form of PIK interest. For the quarters ended March 31, 2013, September 30, 2013 and December 31, 2013, we determined that our leverage ratio was 7.31 to 1.00, 7.59 to 1.00 and 8.17 to 1.00, respectively. As a result, we recognized additional interest expense during the year ended December 31, 2013 of $2.8 million and, for affected interest payment dates through December 31, 2013, have issued additional 15.00%/15.00% Notes with a face value $2.4 million in payment of the additional 2.00% interest. The 15.00%/15.00% Notes will bear interest on the increased principal amount thereof from and after the applicable interest payment date on which a payment of PIK interest is made. Holdings must elect the form of interest payment with respect to each interest period not later than the beginning of each interest period. In the absence of such an election, Holdings will pay interest according to the election for the previous interest period.
The 15.00%/15.00% Notes Indenture contains covenants that, among other things, restrict Holdings and its restricted subsidiaries’ ability to pay dividends, redeem stock or make other distributions or restricted payments, make certain investments, incur or guarantee additional indebtedness, create liens, agree to dividend and payment restrictions affecting restricted subsidiaries, consummate mergers, consolidations or other business combinations, designate subsidiaries as unrestricted, change its or their line of business, or enter into certain transactions with affiliates. The 15.00%/15.00% Notes Indenture also provides for customary events of default including non-payment of principal, interest or premium, failure to comply with covenants, and certain bankruptcy or insolvency events.
The 125,000 Units issued by Holdings on May 6, 2011, consists of $125.0 million in aggregate principal amount of 15.00%/15.00% Notes and Warrants to purchase 125,000 shares of common stock at $0.01 per share, subject to adjustment upon the occurrence of certain events described in the warrant agreement entered into by Holdings and Wilmington Trust, National Association (as successor by merger to Wilmington Trust FSB) (the “Warrant Agreement”). The proceeds from the issuance of the Units were allocated between the 15.00%/15.00% Notes and the Warrants based on the relative fair value of the items.
The fair value of the Warrants was computed using the following assumptions:
The total proceeds from the issuance of the Units were $121.7 million, net of issuance costs of $3.3 million. The valuation resulted in $1.2 million of the gross proceeds being allocated to the Warrants and accordingly, was recorded as a debt discount as of May 23, 2011.
In accordance with the terms of the Warrant Agreement, the 15.00%/15.00% Notes and the Warrants separated on November 2, 2011, which is 180 days after the issue date of the Units. The Warrants are exercisable until 5:00 p.m., New York City time, on November 15, 2018. Each Warrant not exercised on or prior to such date will become void and all rights thereunder and all rights in respect thereof under the Warrant Agreement will cease as of such time. No warrants were exercised as of December 31, 2013.
The descriptions set forth in this Note are intended to be summaries only, are not complete and are qualified in their entirety by reference to the full and complete terms contained in the 10.25% Notes Indenture (including the form of the notes attached thereto), the 15.00%/15.00% Notes Indenture (including the form of the notes attached thereto), the Credit Agreement and the Warrant Agreement. Copies of the 10.25% Notes Indenture and the Credit Agreement are included as Exhibits 4.1 and 10.1, respectively, to iPayment’s Report on Form 8-K filed with the SEC on May 12, 2011, and copies of the 15.00%/15.00% Notes Indenture and the Warrant Agreement are included as Exhibits 4.3 and 10.29, respectively, to the Company’s Registration Statement on Form S-4 filed with the SEC on October 11, 2011.
On July 20, 2012, iPayment purchased approximately $23.9 million principal amount of the 15.00%/15.00% Notes from a third party for $20.0 million in a privately negotiated transaction. The purchase of such 15.00%/15.00% Notes and the expenses associated therewith were funded with cash on hand and borrowings under the revolving facility under the Senior Secured Credit Facilities and are carried on our balance sheet at face value as they are considered held to maturity investments. As a result of the purchase of the 15.00%/15.00% Notes, Holdings recognized a gain of $3.3 million, net of the write-off of unamortized debt issuance costs of $0.6 million. Concurrent with the purchase of such 15.00%/15.00% Notes, we requested and obtained a $20.0 million increase in the aggregate revolving facility commitment. The aggregate commitment of the lenders under the revolving facility following such increase was $95.0 million.
iPayment and its consolidated subsidiaries had net capitalized debt issuance costs related to the Senior Secured Credit Facilities, the 10.25% Notes and the purchase of Holdings 15.00%/15.00% Notes of $10.0 million, $7.6 million and $0.8 million, respectively, as of December 31, 2013 and $9.5 million, $8.9 million and $1.4 million, respectively, as of December 31, 2012. Holdings and its consolidated subsidiaries had net capitalized debt issuance costs related to the 15.00%/15.00% Notes of $2.1 million and $2.4 million and a debt discount related to the Warrants of $0.8 million and $0.9 million as of December 31, 2013 and December 31, 2012, respectively.
These costs are being amortized to interest expense with amounts computed using an effective interest method over the life of the related debt instruments.
Amortization expense of iPayment and its consolidated subsidiaries related to the debt issuance costs for the Senior Secured Credit Facilities, the 10.25% Notes and the purchase of Holdings 15.00%/15.00% Notes was $2.3 million, $1.3 million and $0.6 million, respectively, for the year ended December 31, 2013 and $1.7 million, $1.2 million and $0.3 million, respectively, for the year ended December 31, 2012. Amortization expense of iPayment and its consolidated subsidiaries related to the debt issuance costs for the Senior Secured Credit Facilities and the 10.25% Notes was $1.0 million and $0.6 million, respectively, for the period from May 24 through December 31, 2011. Amortization expense of iPayment and its consolidated subsidiaries related to iPayment's previously existing senior secured credit facilities and senior subordinated notes were $0.4 million and $0.4 million, respectively, for the period from January 1 through May 23, 2011. Amortization expense of Holdings and its consolidated subsidiaries related to the debt issuance costs for the 15.00%/15.00% Notes was less than $0.3 million for the year ended December 31, 2013, less than $0.3 million for the year ended December 31, 2012, and less than $0.1 million for each of the periods from May 24 through December 31, 2011 and January 1 through May 23, 2011 .
The maturities of long-term debt (before unamortized discount) for iPayment Holdings, Inc. and its consolidated subsidiaries as of December 31, 2013 are as follows (in thousands):
The determination by the Boards of Directors of the Company and Holdings, at meetings held on November 1, 2012, that the Affected Financial Statements should no longer be relied upon resulted in a breach of certain representations, warranties and covenants set forth in the Senior Secured Credit Facilities, including but not limited to certain representations and warranties that the Affected Financial Statements (i) were prepared in accordance with GAAP consistently applied; and (ii) fairly presented the financial condition of the Company and its subsidiaries as of the date thereof and their results of operations for the periods covered thereby in accordance with GAAP. Further, as a result of the decision to restate the Affected Financial Statements, we were unable to comply with the covenant set forth in the Senior Secured Credit Facilities that we deliver our Third Quarter 2012 financial statements by no later than November 14, 2012. Finally, as a result of the foregoing breaches and defaults, we were unable to satisfy the conditions precedent for borrowing under the Senior Secured Credit Facilities’ revolving credit facility in order to borrow the funds necessary to make the scheduled interest payments due on November 15, 2012 under the indentures related to the Company’s 10.25% Notes and Holdings’ 15.00%/15.00% Notes.
On November 14, 2012, we entered into a waiver, consent and amendment (the “Waiver”) with a majority of the lenders under the Senior Secured Credit Facilities. Among other things, the Waiver waived (a) defaults arising from the restatement of our financial statements (i) for the fiscal years ended December 31, 2008, 2009, 2010 and 2011 included in the Company’s Annual Reports on Form 10-K for the years then ended, (ii) for the interim periods within such fiscal years included in the Company’s Quarterly Reports on Form 10-Q, and (iii) for the quarters ended March 31, 2012 and June 30, 2012 included in the Company’s Quarterly Reports on Form 10-Q and (b) the Company’s failure to timely provide to the Administrative Agent its Third Quarter 2012 financial statements.
Following receipt of the Waiver, the Company borrowed amounts under the Senior Secured Credit Facilities’ revolving credit facility so as to make the scheduled interest payments due on November 15, 2012 under the indentures related to the Company’s 10.25% Notes and Holdings’ 15.00%/15.00% Notes. Upon the Company’s filing of its restated financial statements for prior periods on January 29, 2013 and its Third Quarter 2012 financial statements on January 31, 2013, the Company had satisfied all conditions and obligations set forth in the Waiver.
9. Income Taxes
We account for income taxes pursuant to the provisions of ASC 740 “Income Taxes.” Under this method, deferred tax assets and liabilities are recorded to reflect the future tax consequences attributable to the effects of differences between the carrying amounts of existing assets and liabilities for financial reporting and for income tax purposes.
The provision for income tax expense (benefit) consists of the following:
iPAYMENT, INC.
PROVISION FOR INCOME TAXES AND LIABILITIES
iPAYMENT HOLDINGS, INC.
PROVISION FOR INCOME TAXES AND LIABILITIES
The reconciliation between the federal statutory income tax rates of 34% or 35% and our effective income tax rate is as follows:
iPAYMENT, INC.
EFFECTIVE TAX RATES
(1)
Percentage changed for these items due to a higher pre-tax book loss as compared to last year.
(2)
Changes in valuation allowance increased in 2013 due to the recording of a full valuation allowance against our net deferred tax assets.
iPAYMENT HOLDINGS, INC.
EFFECTIVE TAX RATES
(1)
Percentage changed for these items due to a higher pre-tax book loss as compared to last year.
(2)
Changes in valuation allowance increased in 2013 due to the recording of a full valuation allowance against our net deferred tax assets.
Deferred income taxes reflect the net effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of our deferred tax assets and liabilities are as follows:
(1)
Consistent with prior years, we have included in the long-term deferred tax liabilities, $17.5 million of deferred tax asset related to portfolios and other miscellaneous intangibles. This deferred tax asset is subject to a full valuation allowance.
Authoritative guidance requires the recording of a valuation allowance when it is more likely than not that some portion or all of the deferred tax assets will not be realized. Under this guidance, forming a conclusion that a valuation allowance is not needed is difficult when there is negative evidence, such as cumulative losses in recent years. Such objective evidence limits the ability to consider other evidence, such as our projections for future growth. If future events differ from management's estimates, the valuation allowance may change in the future.
We have reported a cumulative pretax book loss for 2013, 2012 and 2011. Considering the likelihood of realization of deferred tax assets, we reached the determination that a valuation allowance was appropriate. Management assesses the realizability of the deferred tax asset based on the criteria of authoritative guidance each reporting period.
As of December 31, 2013, we had federal and state net operating loss carryforwards of approximately $13.5 million and $41.8 million, respectively. If unused, these carryforwards will expire in varying amounts beginning in 2021 for federal and 2019 for state. The net operating loss carryforwards are subject to various annual limitations under Section 382 of the Internal Revenue Code and similar limitations under the tax laws of state jurisdictions.
ASC 740 clarifies the accounting and reporting for uncertainties in income tax law by prescribing a comprehensive model for the financial statement recognition, measurement, presentation and disclosure for uncertain tax positions taken or expected to be taken in income tax returns.
Our liabilities for unrecognized tax benefits are included in other long-term liabilities in our consolidated balance sheets. Interest and penalties related to income tax liabilities are included in income tax expense. We recognized less than $0.1 million of interest and penalties for the year ended December 31, 2013 and the balance of accrued interest and penalties recorded in the consolidated balance sheets as of December 31, 2013 was $0.3 million.
With limited exceptions, we are no longer subject to federal, state and local income tax audits by taxing authorities for the years prior to 2009.
Changes to our gross unrecognized tax benefits, excluding the related accrual for interest and penalties, are set forth below:
Our total unrecognized tax benefits that, if recognized, would affect our effective tax rate are $0.1 million and $0.5 million as of December 31, 2013 and 2012 respectively . The Company does not expect its unrecognized tax benefits to significantly change in the next twelve months.
10. Stock Based Compensation
On August 27, 2012, the board of directors of Holdings (the “Board”) adopted the iPayment Holdings, Inc. Equity Incentive Plan (the “Equity Plan”).
The Equity Plan is an omnibus equity incentive plan that provides for awards to executives and key employees of iPayment and its subsidiaries of restricted Holdings common stock, options to purchase Holdings common stock, and phantom units that settle into shares of Holdings common stock upon vesting. Options granted under the Equity Plan may either be incentive stock options within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended (the “Code”), or options that are not incentive stock options. Awards granted under the Equity Plan will be subject to vesting, forfeiture, and other terms and conditions (including terms related to voting rights with respect to restricted stock and the accrual and payment of dividends and dividend equivalents with respect to restricted stock and phantom units) as provided in individual award agreements.
The Equity Plan is administered by the Board and the Board retains the power to select eligible employees to participate in the Equity Plan. The Equity Plan authorizes the issuance of up to 1,250,000 shares of Holdings common stock pursuant to awards granted under the Equity Plan. Holdings currently intends to satisfy any need for shares of its common stock associated with the settlement of phantom units or exercise of options issued under the Equity Plan through those new shares available for issuance or any shares repurchased, forfeited or surrendered from participants in the Equity Plan.
In the event of a change in control (as defined in the Plan), and subject to any other provisions included in the applicable award agreements, (1) the vesting of service-based options will fully accelerate and (2) all vested options will be automatically cancelled for an amount equal to the consideration per share of Holdings common stock received in the change in control less the applicable exercise price. It is intended that the award agreements for performance-based awards, and service-based phantom units, will set forth the effect of a change in control on those awards. Any accelerated vesting of awards under the Equity Plan is subject to limitation to the extent necessary to prevent the participant from being subject to the excise tax under Section 4999 of the Code.
On November 15, 2012, the Board granted 494,212.96 phantom units under the Equity Plan to certain executives and key employees, with a grant date fair value of $34.53 per unit, which was equivalent to the then current fair value of Holdings’ common stock at the grant date. Each phantom unit represents a future right to a share of Holdings’ common stock, subject to its terms and conditions. In connection with these grants, Holdings entered into a phantom unit agreement with each of these individuals. Under each phantom unit agreement, 50% of phantom units are “service units” and the remaining 50% of the phantom units are “performance units.” 20% of the service units vested at the time of the grant, with the remaining service units vesting in equal increments on the first four anniversaries of the grant date, such that, subject to continued employment, all service units would be vested by the four year anniversary of the grant date. Performance units vest, if at all, upon the earlier to occur of a change in control (as defined in the phantom unit agreement) or a public offering (as defined therein). If neither a change in control nor a public offering has occurred by the seventh anniversary of the grant date, all unvested performance units will be forfeited. In addition, each phantom unit agreement also provides that all unvested service units will become fully vested upon a change in control, and all performance units will either vest or be forfeited in accordance with the performance criteria described above. Each vested unit will settle into one share of Holdings common stock on the earliest to occur of (a) 30 days following the seventh anniversary of the grant date, (b) 30 days after a change in control that is also a change in control event within the meaning of Section 409A of the Code and (c) the 30th day following the employee holder’s termination of employment. Upon an employee holder’s termination of employment for any reason, all outstanding unvested phantom units will be forfeited.
During the year ended December 31, 2013, the Board granted 164,452.37 phantom units under the Equity Plan to certain executives and key employees and 11,584.10 phantom units to non-employees, with a weighted-average grant date fair value of $32.97 per unit, which was equivalent to the then current fair value of Holdings' common stock at each grant date. Of the units granted to employees, 140,146.81 were service units and 24,305.56 were performance units. Units which were immediately vested on the grant date totaled 132,286.52, while the remainder will vest over time and under the conditions as described in the preceding paragraph.
A summary of the phantom unit activity under the Equity Plan as of December 31, 2013 is presented below:
Performance Based Phantom Units
The Company recognized no compensation expense related to performance based phantom units for the years ended December 31, 2013 and 2012, respectively. Achievement of the vesting events would result in 271,412.02 phantom units vesting. Unrecognized compensation expense related to nonvested performance based phantom units was $9.4 million at December 31, 2013. The Company may be required to adjust compensation cost in the future to the extent that any of the vesting events become probable.
Service Based Phantom Units
The Company recognized compensation expense related to service based phantom units of $5.7 million and $1.9 million for the years ended December 31, 2013 and 2012, respectively. Unrecognized compensation expense related to nonvested service based phantom units was $5.2 million at December 31, 2013 which is expected to be recognized as expense over the weighted-average period of 2.9 years.
11. Comprehensive Income
There was no other comprehensive income for the years ended December 31, 2013, 2012, or 2011.
12. Related Party Transactions
In November 2010, we entered into a sublease agreement with Fortis Payment Systems, LLC, an ISG owned by an employee of Cambridge Acquisition Sub, LLC, a wholly owned subsidiary of iPayment. The lease agreement expired on November 10, 2013, and the Company now subleases the premises on a month-to-month basis.
In December 2012, we entered into a purchase and sale agreement with Fortis Payment Systems, LLC, whereby we acquired a portfolio of merchant accounts for a purchase price of $8.0 million.
13. Significant Concentration
Our customers consist of a diverse portfolio of small merchants whose businesses frequently are newly established. As of December 31, 2013, we provided services to small business merchants located across the United States in a variety of industries. A substantial portion of our merchants’ transaction volume comes from card-not-present transactions, which subject us to a higher risk of merchant losses. No single customer accounted for more than 1% of revenues during any of the periods presented. We believe that the loss of any single merchant would not have a material adverse effect on our financial condition or results of operations.
The principal sponsoring bank through which we process the significant majority of our transactions is Wells Fargo.
14. Segment Information and Geographical Information
We consider our business activities to be in a single reporting segment. For years ended December 31, 2013, 2012, and 2011, we derived greater than 90%, 88%, and 87%, respectively, of our revenue and results of operations from processing revenues from card-based payments. Substantially all revenues are generated in the United States.
15. Employee Agreements and Employee Benefit Plans
We sponsor a defined contribution plan (the “401(k) Plan”) under Section 401(k) of the Internal Revenue Code, covering employees of iPayment, Inc. and certain of its subsidiaries. Under the 401(k) Plan, we may match contributions of up to 4% of a participant’s salary. For the years ended December 31, 2013 and 2012, the employer contribution was $0.4 million and $0.2 million, respectively. For the period from May 24 through December 31, 2011, employer contribution was $0.1 million. For the period from January 1 through May 23, 2011, employer contribution was $0.1 million.
See Note 10 “Stock Based Compensation” above for more information related to the Holdings Equity Incentive Plan.
16. Summarized Quarterly Financial Data
The following unaudited schedule indicates our quarterly results of operations for 2013 and 2012 (in thousands, except charge volume).
17. Supplemental Guarantor Financial Information
On May 6, 2011 the Company issued the 10.25% Notes pursuant to the 10.25% Notes indenture. The 10.25% Notes mature on May 15, 2018. As of December 31, 2013, the 10.25% Notes were fully and unconditionally guaranteed by all of iPayment's subsidiaries. However, the guarantees of iPayment's subsidiaries may be released and iPayment's future subsidiaries may not be required to guarantee the 10.25% Notes upon occurrence of any of the following events, all pursuant to the provisions of the 10.25% Notes Indenture (i) any direct or indirect sale or other disposition of any interest or participation, such as corporate stock, in a guarantor subsidiary, following which such guarantor subsidiary is no longer considered a restricted subsidiary of the Company; (ii) the designation of a guarantor subsidiary as an unrestricted subsidiary by the Company; (iii) the release, discharge or termination of the guarantee which resulted in the creation of the notes' guarantees as defined by the 10.25% Notes Indenture; and (iv) the legal defeasance of the 10.25% Notes or satisfaction and discharge of the 10.25% Notes Indenture.
In November and December 2013, the following wholly-owned subsidiaries of iPayment were merged into the Company, with, in each case, the Company as the surviving entity: iPayment of California, LLC, 1st National Processing, Inc., E-Commerce Exchange, Inc., iPayment of Maine, Inc., Online Data Corporation, CardSync Processing, Inc., TS Acquisition Sub, LLC, Quad City Acquisition Sub, Inc., NPMG Acquisition Sub, LLC, iFunds Cash Solutions, LLC, MSC Acquisition Sub, LLC, iPayment Acquisition Sub, LLC, iAdvantage, LLC, IPMT Transport, LLC and iPayment Sales, LLC.
The following supplemental financial information sets forth for the Company and its guarantor and non-guarantor subsidiaries: the condensed consolidating balance sheets as of December 31, 2013 and 2012 and the related consolidated statements of comprehensive income (loss) and cash flows for the years ended December 31, 2013 (Successor) and 2012 (Successor) and the periods May 24, 2011 through December 31, 2011 (Successor) and January 1, 2011 through May 23, 2011 (Predecessor).
As discussed above, during 2013 a number of subsidiaries which were guarantors of the 10.25% Notes were merged into iPayment, Inc. The effects of these mergers are reflected in the iPayment, Inc. column of the following condensed consolidating balance sheets and the related consolidated statements of comprehensive income (loss) and cash flows as of and for the year ended December 31, 2013 (Successor). The financial position and activities of the merged entities are reflected in the "Guarantor Subsidiaries" column of the following condensed consolidating balance sheets as of December 31, 2012 (Successor) and the related statements of comprehensive income (loss) and cash flows for the year ended December 31, 2012 (Successor) and the periods May 24, 2011 through December 31, 2011 (Successor) and January 1, 2011 through May 23, 2011 (Predecessor).
18. Subsequent Events
Kurt C. Metzler's employment with the Company and Holdings terminated on January 9, 2014. Mr. Metzler was formerly Senior Vice President, Strategic Development for the Company and Holdings. In connection with his separation, all 24,305.56 phantom units previously granted to Mr. Metzler were forfeited.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES
Restatement of Consolidated Financial Statements
As discussed in “Item 1A - Risk Factors,” the Company restated its financial statements for the years ended December 31, 2009, 2010 and 2011 (including all interim periods within such years) and for the first two quarters of 2012 and failed to file its Quarterly Report on Form 10-Q for the interim period ended September 30, 2012 on a timely basis. See also Note 2 to our consolidated financial statements “Restatement of Consolidated Financial Statements.”
Disclosure Controls and Procedures
Our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, maintains disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e)) that are designed to provide reasonable assurance that information required to be disclosed under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified and is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
Our management, under the supervision and with the participation of our Board of Directors, Chief Executive Officer and Chief Financial Officer, conducted an evaluation, pursuant to Rule 13a-15(c) and 15d-15(d) promulgated under the Exchange Act, of the effectiveness of our disclosure controls and procedures. In connection with the audit of our consolidated financial statements for 2013, the Board of Directors and management concluded that the implementation of the policies and procedures designed to address the material weaknesses that contributed to the restatement of the Company’s financial statements had been completed as of December 31, 2013, and that that the previously identified material weaknesses ceased to exist.
As a result, the Board of Directors and management concluded that our disclosure controls and procedures were effective as of December 31, 2013.
Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) promulgated under the Exchange Act. Internal control over financial reporting is a process designed by, or under the supervision of, the issuer's principal executive and principal financial officers, or persons performing similar functions, and effected by the issuer's board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures that:
(1) Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the issuer;
(2) Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the issuer are being made only in accordance with authorizations of management and directors of the issuer; and
(3) Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the issuer's assets that could have a material effect on the financial statements.
Our internal control system was designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation and fair presentation of published financial statements for external purposes in accordance with generally accepted accounting principles (“GAAP”). All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Our management, under the supervision and with the participation of our Board of Directors, Chief Executive Officer and Chief Financial Officer, conducted an evaluation, pursuant to Rule 13a-15(c) and 15d-15(d) promulgated under the Exchange Act, of the effectiveness of its internal control over financial reporting.
In connection with the audit of our consolidated financial statements for 2013, the Board of Directors and management concluded that the implementation of the policies and procedures designed to address the material weaknesses that contributed to the restatement of the Company’s financial statements had been completed as of December 31, 2013, and that that the previously identified material weaknesses ceased to exist.
As a result, the Board of Directors and management concluded that our internal control over financial reporting was effective as of December 31, 2013.
This Annual Report does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting. Management’s report is not subject to attestation by our registered public accounting firm pursuant to rules of the SEC that permit us to provide only management’s report in this Annual Report.
Changes in Internal Control over Financial Reporting
Except for the remediation efforts we have undertaken to address the material weaknesses that contributed to the restatement of the Company’s financial statements, there have not been any changes in our internal control over financial reporting for the quarter ended December 31, 2013 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B.
ITEM 9B. OTHER INFORMATION
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The following table provides information about our directors and executive officers as of December 31, 2013:
Name and Age
Principal Occupation, Business Experience, Directorships and Education
Carl A. Grimstad
Chairman and Chief Executive Officer of iPayment and Holdings
Age 46
Carl Grimstad co-founded iPayment and is the Company’s President and Chief Executive Officer. In 2003, Mr. Grimstad led iPayment in a successful IPO (NASDAQ: IPMT). Mr. Grimstad was instrumental in taking iPayment private in 2006. Mr. Grimstad has served since 1995 as the managing partner of GS Capital, LLC, a private investment company. Mr. Grimstad and his family are active supporters of various charities including the Nashville Zoo and the Sexual Assault Center. Mr. Grimstad currently serves as a board member of the Oasis Center, a safe haven for children in trouble. In the past, Mr. Grimstad has served as a trustee of the Cheekwood Botanical Gardens and as a board member of the Nashville Symphony. Mr. Grimstad graduated with a B.A. in Economics from Boston University.
Mark C. Monaco
Chief Financial Officer, Executive Vice President, Treasurer and Director of iPayment and Holdings
Age 48
Mark C. Monaco has served as iPayment’s Chief Financial Officer since October 2010 and as a member of iPayment’s board of directors since May 2011. From February 2007 to January 2009, Mr. Monaco served as Head of Principal Investments at Brooklyn NY Holdings, LLC, the investment organization of the Alfred Lerner Family. From June 1996 to January 2007, Mr. Monaco was a Managing Director at Windward Capital Management, LLC, a middle market private equity firm focused on financial and business services investments. During his tenure at Windward, Mr. Monaco served as Chairman of Retriever Payment Systems, Inc., a merchant acquiring organization, from 2000 to 2004, when it was acquired by National Processing Company. Prior to joining Windward Capital, Mr. Monaco was at Credit Suisse First Boston, serving as the Director of Finance and Corporate Development after several years in the financial institutions group with the firm’s investment banking department. Mr. Monaco earned his MBA in finance from The University of Pennsylvania, The Wharton Graduate School of Business, and received his undergraduate degree from Harvard University.
Philip J. Ragona
Senior Vice President, General Counsel and Secretary of iPayment and Holdings
Age 52
Philip J. Ragona has served as iPayment’s Senior Vice President, General Counsel, and Secretary since April 2012. From 2002 to 2012, Mr. Ragona served as Senior Vice President, General Counsel and Secretary of Atrium Corporation, a building products manufacturer. From 1995 to 2002, Mr. Ragona was with the law firm of Paul, Hastings, Janofsky & Walker LLP. From 1992 to 1995, Mr. Ragona was with the law firm of Cahill, Gordon & Reindel LLP. Mr. Ragona received his JD degree from the Columbia University School of Law and his undergraduate degree from the University of California, Los Angeles. Mr. Ragona is admitted to the state bars of New York and Texas.
Robert N. Purcell Vice President of Finance and Chief Accounting Officer of iPayment and Holdings
Age 44
Robert N. Purcell has served as iPayment's Vice President of Finance and Chief Accounting Officer since October 2012. Prior to joining iPayment, Mr. Purcell, a licensed CPA in California, was with Intuit, Inc. since 2010, serving as Vice President Finance, Intuit Financial Services. From 1997 to 2009, Mr. Purcell was with Amgen, Inc., a publicly traded company, where he served in various financial capacities of increasing responsibility, most recently as Executive Director, Finance - Global Operations. From 1993 to 1997, Mr. Purcell was at Deloitte &Touche LLP, serving as Audit Senior, Business Assurance and Advisory Services. Mr. Purcell received his MBA degree from the University of Southern California and a BS in Business Administration from California State University, Northridge.
Kurt C. Metzler
Senior Vice President - Strategic Development
Age 51
Kurt C. Metzler served as iPayment’s Senior Vice President - Strategic Development from May 2012 to January 2014. Prior to joining iPayment, Mr. Metzler founded SFMS Inc., a consulting firm providing executive sales force, marketing, and business development services to the financial services industry, and served as its President from 2009 to 2012. From 2006 to 2009, Mr. Metzler served as Executive Vice President and General Manager of RBS WorldPay, a global provider of payment processing solutions. From 2002 to 2005, Mr. Metzler served as Executive Vice President and General Manager of Chase Merchant Services, a provider of merchant services solutions. Mr. Metzler earned his undergraduate degree from the University of Virginia. Mr. Metzler's employment with the Company and Holdings terminated on January 9, 2014.
John A. Vickers
Director of iPayment and Holdings
Age 51
John A. Vickers has served as a member of iPayment’s and Holdings’ boards of directors since September 2011. Mr. Vickers is currently Chairman and Chief Executive Officer of Tishman Realty Corporation and the Tishman Hotel Corporation, having served the Tishman organization for 27 years in various positions. He is responsible for Tishman’s owned portfolio of hotels and for overseeing all of the firm’s service divisions. Mr. Vickers was also Vice Chairman and Principal of Tishman Construction Corporation prior to its sale to AECOM in July 2010.
Director Qualifications
When considering whether directors and nominees have the experience, qualifications, attributes or skills, taken as a whole, to enable our board of directors to satisfy its oversight responsibilities effectively in light of our business and structure, the board of directors focused primarily on each person’s background and experience as reflected in the information discussed in each of the directors’ individual biographies set forth above. We believe that our directors are committed to employing their skills and abilities to aid the long-term interests of the stakeholders of iPayment. Our directors are knowledgeable and experienced in multiple business endeavors which further qualifies them for service as members of the board of directors. In particular, the members of our board of directors considered the following important characteristics: (i) Mr. Grimstad has extensive knowledge of our business and the payment processing industry generally, having served as President of iPayment since its inception and having significant involvement in the day-to-day oversight of iPayment’s business operations, (ii) Mr. Monaco has more than 20 years of financial experience, as well as direct experience in the payment industry and (iii) Mr. Vickers has over 25 years of business experience in the hospitality and real estate industries and is currently Chairman and Chief Executive Officer of Tishman Realty Corporation and Tishman Hotel Corporation.
Code of Ethics
We have adopted a Code of Business Conduct and Ethics (the “Code of Ethics”), which applies to all directors, officers and employees of the Company. In addition, we have also adopted a code of ethics that contains supplementary obligations applicable to the Chief Executive Officer and all senior financial officers, including the Chief Financial Officer, the controller and persons performing similar functions. Copies of our codes of ethics are filed as exhibits to this Annual Report. We undertake to provide to any person without charge, upon request, copies of such codes of ethics. Any such requests may be addressed to our Senior Vice President of Human Resources or to our Senior Vice President and General Counsel at the address and phone number provided on the cover of this Annual Report.
Section 16(a) Beneficial Ownership Reporting Compliance
Neither Holdings nor iPayment has a class of equity securities registered pursuant to Section 12 of the Exchange Act, and therefore, their directors, officers and 10% shareholders are not required to make Section 16 filings.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Compensation Discussion and Analysis
The primary goals of our executive compensation program are to link the interests of management and stockholders, attract and retain a highly-skilled executive team, and base rewards on both personal and corporate performance.
As a privately-held company, we do not have a compensation committee. Each of iPayment’s and Holdings’ board of directors is currently composed of Messrs. Grimstad, Monaco and Vickers. The board of directors of iPayment and the board of directors of Holdings are collectively referred to in this section as the “board.” The board, in consultation with other executive officers, establishes policies and makes decisions regarding compensation of directors and executive officers. The executive compensation program currently contains two elements:
•
competitive base salaries, and
•
annual cash incentives based on the performance of each executive officer and the Company against established targets as determined by the board.
This compensation program is designed so that the combination of these two elements, assuming performance targets are met, will generally be comparable to similar positions with peer companies.
Base salaries. Base salaries for our executive officers are determined, in part, through (a) comparisons with peer companies with which we compete for personnel and (b) general geographic market conditions. Additionally, the board evaluates individual experience and performance and our overall performance during the period under consideration. The board reviews each executive officer’s salary on an annual basis and may increase salaries based on (i) the individual’s contribution to the Company compared to the preceding year, (ii) the individual’s responsibilities compared to the preceding year and (iii) any increase in median pay levels at peer companies.
Annual bonuses. The board’s policy is to award annual bonuses in order to motivate and reward the Company’s executive officers, as individuals and as a team, and to attain our annual financial goals and operating objectives. Annual bonuses typically reflect competitive industry practice and certain performance metrics. There is currently no formal bonus plan in place for executive officers.
Stock-based compensation. On August 27, 2012, the board of directors of Holdings (the “Board”) adopted the iPayment Holdings, Inc. Equity Incentive Plan (the “Equity Plan”). The Equity Plan is an omnibus equity incentive plan that provides for awards to executives and key employees of iPayment and its subsidiaries of restricted Holdings common stock, options to purchase Holdings common stock, and phantom units that settle into shares of Holdings common stock upon vesting. The Equity Plan is administered by the board and the board retains the power to select eligible employees to participate in the Equity Plan. We believe that awards under the Equity Plan motivate our executives to achieve long-term performance goals, which aligns their interests with Holdings’ stockholders, and provides competitive levels of total compensation for our executives.
On November 15, 2012, the board granted 324,074.47 phantom units to Mr. Monaco and 24,305.56 phantom units to each of Mr. Ragona, Mr. Metzler and Mr. Purcell. In determining the size of these grants, the Board considered a variety of factors, including each executive's responsibilities with the Company, whether such executive's performance had met or exceeded the Board's expectations, each executive's anticipated contributions to the Company's growth and performance in the future aligning such executive's performance with the interests of Holdings' stockholders, comparative market compensation factors for like executives at both privately-held and publicly-held companies, such executive's experience, compensation history and tenure with the Company, and retention of such executive. The board did not apply a formulaic process or any specific weight to these factors in granting these equity awards, but applied a subjective process that resulted from the Board's business judgment, which was informed by, among other things, the Board members' experience. With respect to Messrs. Monaco and Ragona, these awards were made pursuant to the terms of their employment agreements. Mr. Ragona's employment agreement provides that he would receive equity compensation with a value in a fixed range of $350,000 to $500,000. In the case of Mr. Monaco, his employment agreement provides for equity compensation "determined by the Board [which] shall be commensurate with the equity awards granted to other senior executives of the Company." This language was intended to set the minimum level of his equity participation in the Company, as at the time that his employment agreement was entered into the Board had not established the Equity Plan or the pool of equity that would be available to management under the Equity Plan. Mr. Monaco's employment agreement provided that the equity award would occur prior to June 30, 2011. However, the plan design was not finalized until November 2012. This delay could have given rise to a claim that Mr. Monaco could terminate his employment with "good reason," triggering severance obligations, although Mr. Monaco never made such a claim and actively participated in general discussions as to plan design during this period. The Board set an award designed to adequately incentivize Mr. Monaco and retain his services. The Board believed that if Mr. Monaco were to leave the Company it would have been difficult to find a replacement able to perform the full range of duties and responsibilities that Mr. Monaco
was performing for the Company at that time. All of these factors were taken into account by the Board in determining the size of Mr. Monaco's award. The Board believes that these awards are sufficient to retain and incentivize these executives in the near future because these awards are comprised of both service-based and performance-based units, which, as described in the Grants of Plan-Based Awards below, either vest over a four-year period (in the case of service-based units) or upon a change of control or public offering (in the case of performance-based units). Once vested, these phantom units will be settled on the first to occur of (i) a change in control, (ii) the seventh anniversary of the date of grant, and (iii) the executive's termination of employment. In connection with these grants, Holdings entered into phantom unit agreements with those individuals. The vesting terms of these phantom unit awards are described in the Grants of Plan-Based Awards below. Mr. Metzler agreed to forfeit all of his phantom units under a separation agreement in connection with his employment termination on January 9, 2014.
Retirement plans. Certain executive officers participate in iPayment’s defined contribution plan. iPayment’s contributions to its defined contribution plan on behalf of the named executive officers are shown in the “All Other Compensation” column of the Summary compensation table below.
Also, effective January 1, 2012, each of Messrs. Grimstad, Monaco, Ragona, Purcell, and Metzler (together with certain other Company executives) became eligible to participate in the iPayment Deferred Compensation Plan and the iPayment Executive Retention Plan (each, a “Deferred Compensation Plan”). Each Deferred Compensation Plan is comprised of the Executive Nonqualified Excess Plan Document and an Executive Nonqualified Excess Plan Adoption Agreement (collectively, the “Adoption Agreements”). Each Deferred Compensation Plan is a nonqualified, unfunded plan intended to comply with the requirements of Section 409A of the Internal Revenue Code of 1986, as amended.
Under the iPayment Deferred Compensation Plan, participants will have the option to defer up to 50% of their base salary and up to 100% of any non-performance-based bonus. The Company does not make contributions, matching or otherwise, under this Plan. Mr. Monaco deferred compensation payable in fiscal year 2013 in the iPayment Deferred Compensation Plan. For Mr. Monaco’s deferred amounts and other relevant details, see the Nonqualified Deferred Compensation table below.
Under the iPayment Executive Retention Plan, the Company may make discretionary contributions to the accounts of the participants in such Deferred Compensation Plan, in an amount determined each year by the Company. A participant will become fully vested in any contributions made by the Company to such participant’s account upon the first to occur of: (i) the participant reaching Normal Retirement Age and (ii) a Change of Control Event, in each case, as such terms are defined in the iPayment Executive Retention Plan Adoption Agreement. Participants will not have the option to defer any of their base salary or non-performance-based bonuses under the iPayment Executive Retention Plan. As of December 31, 2013, the Company had not made any discretionary contributions to the iPayment Executive Retention Plan.
Split-dollar agreements. On January 28, 2013, iPayment entered into split-dollar life insurance agreements providing coverage to each of Messrs. Grimstad and Monaco and their spouses that provide benefits to their designated beneficiaries in the amounts of $15,000,000 and $7,500,000, respectively. Each of these split-dollar life insurance policies is owned by a trust established by the insured named executive officer. For each of these insurance policies, iPayment has agreed to make all premium payments which are not paid by the applicable trust until the death of either the insured named executive officer or his wife or, if earlier, the termination of the agreements by the trust, at which time the trust shall repay to iPayment all amounts paid by iPayment on the insurance policy plus interest at the “applicable federal rate” since the inception of the policy. The Company paid premiums of $152,676 for Grimstad and $75,928 for Monaco for these policies during the 2013 fiscal year.
Summary. The board believes that the combination of competitive base salaries, annual incentives paid in cash, phantom equity awards and other employee benefits comprise a highly-effective and motivational executive compensation program, which works to attract and retain talented executives and strongly aligns the interests of senior management with those of the stockholders of the Company in seeking to optimize long-term performance. The board has reviewed the total compensation received by the executive officers during the year ended December 31, 2013, and has determined that those amounts were not excessive or unreasonable.
Report of the Board of Directors
The board has reviewed the Compensation Discussion and Analysis and discussed it with management, and, based on such review and discussions, has determined that the Compensation Discussion and Analysis should be included in this Annual Report on Form 10-K.
Carl A. Grimstad
Mark C. Monaco
John A. Vickers
Summary Compensation Table
The following table sets forth the compensation for the fiscal years 2013, 2012 and 2011 for our “named executive officers,” who consist of our principal executive officer, principal financial officer, and our other most highly compensated executive officers, for fiscal year 2013:
SUMMARY COMPENSATION TABLE
(1)
The amounts in this column reflect the aggregate grant date fair value of phantom units awarded. The assumptions used in the valuation of the phantom units are disclosed in the Stock-Based Compensation footnote in the audited financial statements for the fiscal year ended December 31, 2013 included in Item 8 of this Annual Report on Form 10-K. Because the Company recognized no compensation expense related to the performance based phantom units, the table does not include any value for these phantom units; however, unrecognized compensation expense at a maximum level of performance is currently estimated to be $6.9 million.
(2)
For Mr. Grimstad and Mr. Monaco, includes $12,500 each for Board of Directors fees for 2011 and $50,000 each for Board of Director fees for each of 2012 and 2013.
(3)
The amounts in this column include the aggregate incremental cost to iPayment of providing personal benefits. For Mr. Grimstad and Mr. Monaco, the figure in this column includes approximately $139,000 and $47,000, respectively, for personal use of iPayment’s aircraft in 2013, and approximately $113,000 and $40,000, respectively, for personal use of iPayment’s aircraft in 2012 in addition to approximately $71,000 and $10,000, respectively, for personal use of iPayment’s aircraft in 2011. This value is based on the variable cost per flight hour which consists of the hourly operating fee charged by the aircraft’s operator and other miscellaneous variable costs. The value excludes non-variable costs, such as management fees, fractional ownership commitment fees and any other costs not specifically related to trips. On certain occasions, the executive’s spouse or other family member may accompany the executive on a business flight. Typically, there are no additional incremental costs associated with such spousal or family travel.
(4)
Represents Mr. Ragona’s salary for the period commencing upon his hiring on April 16, 2012 and ending on December 31, 2012.
(5)
Represents Mr. Metzler’s salary for the period commencing upon his hiring on July 24, 2012 and ending on December 31, 2012.
(6)
Represents relocation reimbursements made to Mr. Ragona.
(7)
For Mr. Grimstad, the amount in this column for 2013 and 2012 includes $7,500 and $19,333 respectively of the Company’s 401(k) matching contribution. For Mr. Monaco, the amount in this column for 2013 and 2012 includes $7,500 and $3,000, respectively, of the Company’s 401(k) plan matching contribution in addition to $1,500 of the Company's 2011 401(k) plan matching contribution. For Mr. Ragona the amount in this column for 2013 includes $3,884 for the Company's 401(k) matching contribution. For Mr. Metzler, the amount in this column for 2013 and 2012 includes $7,500 and $4,487, respectively, of the Company's 401(k) plan matching contribution. For Mr. Purcell, the amount in this column includes $7,500 of the Company's 401(k) plan matching contribution.
(8)
For Mr. Grimstad, the amount in this column for 2013 includes a health premium of $29,026.68. For Mr. Monaco, the amount in this column for 2013 includes health a premium of $28,545.60. For Mr. Ragona, the amount in this column for 2013 includes a health premium of $18,299.76. For Mr. Metzler, the amount in this column for 2013 includes a health premium of $15,259.08. For Mr. Purcell, the amount in this column for 2013 and 2012 includes a health premium of $12,379.20 and $1481, respectively.
Grants of Plan-Based Awards
The Company did not grant any cash-based or equity-based awards to any executive officer during the fiscal year 2013.
On November 15, 2012, the Board granted 324,074.47, 24,305.56, 24,305.56, and 24,305.56 phantom units under the Equity Plan to Messrs. Monaco, Ragona, Purcell and Metzler, respectively. Each phantom unit represents a future right to a share of Holdings common stock, subject to the terms and conditions set forth in the phantom unit agreements that Holdings entered into with each of these individuals in connection with these grants. Under each phantom unit agreement, 50% of phantom units are “service units” and the remaining 50% of the phantom units are “performance units.” 20% of the service units vested at the time of the grant, with the remaining service units vesting in equal increments on the first four anniversaries of the grant date, such that, subject to continued employment, all service units would be vested by the four year anniversary of the grant date. Performance-based phantom units vest, if at all, upon the earlier to occur of a change in control (as defined in the phantom unit agreement) or a public offering (as defined therein) of Holdings. If neither a change in control nor a public offering has occurred by the seventh anniversary of the grant date, all unvested performance units will be forfeited. In addition, each phantom unit agreement also provides that all unvested service units will become fully vested upon a change in control, and all performance units will vest or be forfeited in accordance with the performance criteria described above. Each vested unit will settle into one share of Holdings common stock on the earliest to occur of (a) 30 days following the seventh anniversary of the grant date, (b) 30 days after a change in control that is also a change in control event within the meaning of Section 409A of the Code and (c) the 30th day following the individual holder’s termination of employment. Mr. Metzler agreed to forfeit all of his phantom units under a separation agreement in connection with his employment termination.
Employment contracts, termination of employment and change in control arrangements
Carl A. Grimstad
Mr. Grimstad does not currently have an employment agreement with the Company. Mr. Grimstad intends to continue to serve as our Chairman and Chief Executive Officer pursuant to an at-will employment arrangement. The board of iPayment determined to increase the annual base salary of Mr. Grimstad to $1.0 million as of June 1, 2010. In addition, Mr. Grimstad is entitled to receive those employee benefits generally provided to our executive employees.
Mark C. Monaco
On March 4, 2011, we entered into an employment agreement with our Chief Financial Officer, Mark C. Monaco. Mr. Monaco has served as iPayment’s Chief Financial Officer since October 15, 2010.
Mr. Monaco’s employment agreement provides for an initial employment period of three years, with automatic successive one-year extensions unless terminated by either party. As provided in the employment agreement, Mr. Monaco will receive (i) a minimum base salary of $600,000 per year; (ii) the potential to earn an annual bonus equal to 100% of his then-current base salary based on his achievements and certain corporate performance goals that may be established by the board of iPayment from time to time; (iii) the grant of equity awards when an equity compensation program is adopted, which was satisfied by the phantom unit grant to Mr. Monaco on November 15, 2012 (see the disclosure accompanying the Grants of Plan-Based Awards above); (iv) reimbursement of up to $21,000 for professional fees incurred in connection with the negotiation of the employment agreement and (v) other benefits, such as participation in the Company’s employee benefit plans, policies, programs and arrangements, as well as reimbursement of certain business and entertainment expenses and indemnification on the same basis as other executives of the Company.
The employment agreement further provides that, if Mr. Monaco’s employment is terminated due to death, mutual agreement, “cause,” “disability” or otherwise without “good reason,” as those terms are defined in the employment agreement,
Mr. Monaco will be entitled to receive (i) any accrued and unpaid base salary as of the termination date; (ii) all accrued and unpaid benefits under any benefit plans, policies, programs or arrangements; and (iii) any unpaid reasonable and necessary business expenses incurred by him in connection with his employment on or prior to the termination date (the “Accrued Compensation”). If Mr. Monaco’s employment is terminated without “cause” or “disability” or with “good reason,” as those terms are defined in the employment agreement, Mr. Monaco will be entitled to receive (i) the Accrued Compensation; (ii) severance payments equaling two times the highest base salary amount during his employment term, payable in 24 monthly installments following the date his employment is terminated and (iii) a number of monthly installments of cash equal to the monthly cost of COBRA continuation coverage, payable at the end of each month following the date his employment is terminated so long as he has not become actually covered by the medical plan of a subsequent employer during such month, up to a maximum of 18 monthly installments. To receive these severance and post-termination benefits, Mr. Monaco is required to execute a general release of claims in form and manner reasonably satisfactory to the Company.
Mr. Monaco’s employment agreement also contains restrictive covenants which generally prohibit Mr. Monaco from (a) disclosing the Company’s trade secrets and confidential information, (b) making disparaging statements about the Company and (c) during his employment term and for the 18-month period following termination of employment (1) soliciting on behalf of a competing business the Company’s customers, (2) soliciting the Company’s employees or (3) participating in any competing business.
Philip J. Ragona
On March 26, 2012, iPayment entered into an employment agreement with Philip J. Ragona, who began serving as our Senior Vice President and General Counsel of the Company effective April 16, 2012.
As provided in his employment agreement, Mr. Ragona’s compensation includes, among other things: (i) a minimum base salary of $285,000 per year; (ii) a performance-based annual bonus of up to 50% of his base salary; (iii) within one year of the effective date, the grant of an equity award expected to have a value of up to $500,000 upon a sale of the Company at the implied equity value of the Company specified in the employment agreement, which was satisfied by the phantom unit grant to Mr. Ragona on November 15, 2012 (see the disclosure accompanying the Grants of Plan-Based Awards above); (iv) reimbursement of certain business expenses and after tax reimbursement of at least $25,000 for relocation expenses; (v) participation in the Company’s executive retention and deferred compensation plans and the Company’s employee benefit plans and programs, including, but not limited to, full matching of contributions under the Company’s 401(k) plan (based on current plan terms and IRS contribution limits); and (vi) indemnification on substantially the same basis as set forth in the indemnification agreements entered into by the Company’s other executives.
Mr. Ragona’s employment with the Company will continue until terminated upon the earliest to occur of: (i) the mutual agreement of the Company and Mr. Ragona; (ii) Mr. Ragona’s death or “disability” (as defined in his employment agreement); (iii) termination by the Company for “cause” (as defined in his employment agreement), including, but not limited to, fraudulent or dishonest acts, certain criminal acts, or gross negligence or willful misconduct; (iv) termination by Mr. Ragona for “good reason” (as defined in his employment agreement), including, but not limited to, a material diminution of Mr. Ragona’s title, authority, duties or responsibilities; and (v) termination by the Company other than for “disability” or “cause,” or termination by Mr. Ragona other than for “good reason.”
Upon the termination of Mr. Ragona’s employment with the Company, he will be entitled to receive the Accrued Compensation. In addition to the Accrued Compensation, if Mr. Ragona’s employment is terminated by the Company other than for “cause” or “disability” or by Mr. Ragona for “good reason,” Mr. Ragona will also be entitled to severance pay equal either (x) to half of his base salary if he is terminated prior to the 18 month anniversary of April 6, 2012, payable in six monthly installments or (y) his base salary if he is terminated anytime thereafter, payable in 12 monthly installments; except that Mr. Ragona will not receive any severance pay if: (i) (a) his employment is terminated following a sale of the Company and (b) such sale results in cash payments to Mr. Ragona and other senior executives of the Company for equity awards held by them or (ii) Mr. Ragona does not execute a general release of claims in form and manner reasonably satisfactory to the Company.
In addition to the foregoing, Mr. Ragona’s employment agreement also contains customary restrictive covenants by him not to, among other things, disclose confidential information, disparage the Company, solicit employees or customers of the Company, or compete with the Company.
Robert N. Purcell
Mr. Purcell, who has served as our Vice President of Finance and Chief Accounting Officer since October 2012, does not currently have an employment agreement with the Company.
Kurt C. Metzler
Mr. Metzler served as our Senior Vice President - Strategic Development, pursuant to an at-will employment arrangement. Kurt C. Metzler's employment with the Company and Holdings terminated on January 9, 2014.
Outstanding Equity Awards at Fiscal Year-End 2013
(1)
Represents service-based phantom unit awards granted under the iPayment Holdings, Inc. Equity Incentive Plan. As noted above in the disclosure accompanying the Grants of Plan-Based Awards, 20% of the service-based phantom units that were granted to our named executive officers vested on the grant date, and 20% vested on the first anniversary of the grant date for Messrs. Monaco, Ragona, Metzler and Purcell.
(2)
Fair market value as of December 31, 2013 of $1.67 per share of Holdings common stock, in which the phantom units are denominated, was determined by the board.
(3)
Represents performance-based phantom unit awards granted under the iPayment Holdings, Inc. Equity Incentive Plan. As noted above, performance-based phantom units vest, if at all, upon the earlier of a change in control (as defined in the phantom unit agreement) or a public offering (as defined therein) of Holdings.
Stock Vested during Fiscal Year 2013
(1)
Represents service-based phantom unit awards that were vested in 2013 but are deferred. See Nonqualified Deferred Compensation table below.
Nonqualified Deferred Compensation
The table below sets forth information regarding the named executive officers’ deferred compensation for the fiscal year ended December 31, 2013.
(1)
The amounts in this column represent deferrals by Mr. Monaco under the iPayment Deferred Compensation Plan.
Beginning January 1, 2012, each of Messrs. Grimstad, Monaco, Ragona, Purcell, and Metzler (and certain other Company executives) became eligible to defer, at their option, up to 50% of their base salary and up to 100% of any non-performance-based bonus to the iPayment Deferred Compensation Plan. The Company has not, and will not, make contributions, matching or otherwise, under the iPayment Deferred Compensation Plan.
Under the iPayment Executive Retention Plan, the Company may make discretionary contributions to the accounts of the participants in such Plan, in an amount determined each year by the Company. A participant will become fully vested in any contributions made by the Company to such participant’s account upon the first to occur of: (i) the participant reaching normal retirement age and (ii) a change of control event (in each case, as such terms are defined in the iPayment Executive Retention Plan Adoption Agreement). Participants will not have the option to defer any of their base salary or non-performance-based bonuses under this plan. To date, no contributions have been made under the iPayment Executive Retention Plan.
The Deferred Compensation Plans provide for a range of fund investments, which may be selected by the participants. Deferred amounts are credited with earnings or losses resulting from the performance of the selected investment funds. Distributions will be paid at the times elected by the participants in accordance with the Deferred Compensation Plans.
The board of directors of iPayment has sole discretion in determining which employees of the Company are eligible for participation in the Deferred Compensation Plans. The board of directors of iPayment has formed a Deferred Compensation Committee to manage the Deferred Compensation Plans on behalf of the Company, which committee initially includes Mr. Monaco and David Cronin, iPayment’s Senior Vice President of Human Resources.
The chart above also includes the value of vested phantom units held by the named executive officers as of December 31, 2013.
Potential Payments upon Certain Terminations or a Change in Control
Subject to the assumptions set forth in the footnotes below, the following table sets forth information regarding the value of payments and other benefits payable by the Company to our named executive officers as of December 31, 2013 in the event of death, disability, qualifying termination or a change in control of Holdings. The table (in the column labeled “Acceleration of Phantom Units”) also includes the value of the unvested phantom units as of December 31, 2013, since those awards would become vested on a change of control in Holdings, whether or not the holder’s employment terminated. Except as otherwise noted below, the amounts shown assume termination or change in control effective as of December 31, 2013 and a fair market value of Holdings’ common stock on December 31, 2013 of $1.67 per share, as determined by the board.
(1)
Represents the amount the named executive would be entitled to receive as payout on his vested service-based phantom units in the event his employment was terminated on December 31, 2013, other than for "cause".
(2)
Represents the amounts the named executive officer would be entitled to receive if his employment was terminated without “cause” or with “good reason” on December 31, 2013.
(3)
Represents the payout amounts the named executive would be entitled to receive with respect to phantom units that accelerate upon a change in control. As noted above, upon a change in control of Holdings, all outstanding unvested phantom units, whether time-based or performance-based, become vested and all vested phantom units settle into shares of Holdings common stock (on a one-for-one basis), except that unvested performance-based phantom units will be forfeited on the seventh anniversary of the grant date if neither a change in control nor a public offering of Holdings has occurred. The values in this column of the table are based on a value of $1.67 per share of Holdings common stock, in which the phantom units are denominated. All unvested phantom units are automatically forfeited on a termination of employment for any reason.
(4)
Represents the maximum amount of COBRA payments that the named executive officer would be entitled to under his employment agreement.
Compensation of directors
All directors are paid a total annual retainer of $50,000, inclusive, for their service as a director on the boards of iPayment and Holdings.
The following table sets forth the compensation earned by the individuals serving as non-employee directors during 2013:
DIRECTOR COMPENSATION TABLE
Compensation Committee Interlocks and Insider Participation
As a private company, we do not have a compensation committee. The board, in consultation with the other executive officers, establishes policies and makes decisions regarding compensation of directors and executive officers.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
As of March 27, 2014, all of the issued and outstanding common stock of iPayment is owned by Holdings, and all of the issued and outstanding common stock of Holdings is owned by Carl A. Grimstad, iPayment’s Chairman and Chief Executive Officer, Harold H. Stream, III and certain entities and family trusts with respect to which Mr. Grimstad or Mr. Stream may be deemed to have or share beneficial ownership of securities owned by such entities and family trusts.
The following table sets forth information regarding the beneficial ownership of Holdings’ common stock as of March 27, 2014 by (i) each of our directors, (ii) each of our named executive officers, (iii) all of our directors and executive officers as a group and (iv) each person known to us to be the beneficial owner of more than five percent of Holdings’ common stock. We deem shares of Holdings’ common stock that may be acquired by an individual or group within 60 days of March 27, 2014, pursuant to the exercise or settlement of options, warrants, phantom units, or convertible securities, to be outstanding for the purpose of computing the percentage ownership of such individual or group, but these shares are not deemed to be outstanding for the purpose of computing the percentage ownership of any other person shown in the table.
Under SEC rules, a person is deemed to be a “beneficial owner” of a security if that person has or shares “voting power,” which includes the power to vote, or to direct the voting of, the security, or “investment power,” which includes the power to dispose of, or to direct the disposition of, the security. Under these rules, more than one person may be deemed a beneficial owner of the same securities and a person may be deemed to be a beneficial owner of securities as to which that person has no economic interest. To our knowledge, except as otherwise noted below, each of the security holders listed below has sole voting and investment power as to the securities shown unless otherwise noted and subject to community property laws where applicable.
(1)
Unless otherwise indicated, the business address of each person listed is 126 East 56th Street, New York, New York, 10022.
(2)
Includes (i) 2,191,830 shares held by Mr. Grimstad directly and (ii) 142,552 shares held by a limited liability company of which Mr. Grimstad is the sole member. In addition, includes, (a) 1,527,072 shares owned by a family trust of which Mr. Grimstad’s descendants are the beneficiaries and (b) 514,898 shares owned by a limited liability company created by Mr. Grimstad; Mr. Grimstad disclaims beneficial ownership of all such shares except to the extent of his pecuniary interests therein.
(3)
Includes 328,156 shares held by certain entities and family trusts of which Mr. Stream and/or members of his family are the beneficiaries. Mr. Stream disclaims beneficial ownership of all such shares except to the extent of his pecuniary interests therein. The business address for Mr. Stream is P.O. Box 40, Lake Charles, LA 70602.
(4)
Assumes the full exercise of all warrants that are exercisable within 60 days of March 27, 2014 and that are held by Adaero Holdings, LLC, an entity majority owned and controlled by Mr. Monaco.
(5)
Represents shares of common stock issuable in connection with the following phantom units awarded under the iPayment Holdings, Inc. Equity Incentive Plan which have vested as of March 27, 2014: Mark C. Monaco, 64,815; Philip J. Ragona, 4,861; and Robert Purcell 4,861. Does not include shares of common stock issuable in connection with the following phantom units awarded under the iPayment Holdings, Inc. Equity Incentive Plan which have not vested as of March 27, 2014: Mark C. Monaco, 259,260; Philip J. Ragona, 19,444; and Robert N. Purcell 19,444. For a description of the Equity Plan, please refer to Item 11, “Compensation Discussion and Analysis.”
Equity Compensation Plan Information
The following table contains information, as of December 31, 2013, about the amount of shares in Holdings to be issued upon the settlement of outstanding phantom units granted under the iPayment Holdings, Inc. Equity Incentive Plan.
(1)
The amount represents 670,249.43 phantom units granted to certain of our executives and key employees pursuant to the Equity Plan. For a description of the Equity Plan, please refer to Item 11, “Compensation Discussion and Analysis.”
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
In the ordinary course of business, the Company from time to time engages in transactions with other corporations or financial institutions whose officers or directors are also directors or officers of the Company. Transactions with such corporations and financial institutions are conducted on an arm’s-length basis and may not come to the attention of the directors or officers of the Company or of the other corporations or financial institutions involved. The boards of directors of Holdings and iPayment do not consider that any such transactions would interfere with the exercise of independent judgment in carrying out the responsibilities of a director and the boards of directors of Holdings and iPayment are not currently aware of any related party transactions other than those set forth below.
iPayment and Holdings do not have securities listed on a national securities exchange or inter-dealer quotation system with requirements that a majority of their board of directors be “independent.” Accordingly, iPayment and Holdings are not subject to rules requiring certain of its directors to be independent. The boards of directors of both iPayment and Holdings have determined that Messrs. Grimstad and Monaco are not, and Mr. Vickers is, independent under the listing standards of the Nasdaq Stock Market. However, if iPayment and Holdings were listed companies, we believe we would be eligible for the controlled company exception set forth in Nasdaq Listing Rule 5615(c) (if that were the exchange on which we were listed) from the rule that would ordinarily require that a majority of a listed issuer’s board of directors be independent and from certain other rules.
As discussed in Note 2 to our consolidated financial statements “Restatement of Consolidated Financial Statements,” which accompanies the financial statements in Item 8 of this report, the Company's internal investigation revealed financial misconduct by certain of the Company’s former officers and employees, along with family members, and through entities controlled by them, and certain of its outside contractors whereby such officers, family members and employees received improper reimbursements and other payments. Such financial misconduct occurred in three principal areas: (i) creation of false obligations to make residual and other payments (which resulted in the Company making such payments in respect of merchant accounts that were not subject to legitimate payment obligations, in certain cases to entities owned or controlled by certain of the Company's former officers and employees or their family members); (ii) overstatement of certain vendor invoices, principally in the information technology area (and subsequent payments from those vendors to certain of the Company's former officers); and (iii) falsification of certain employee expense reimbursements and other payments (resulting in payments to certain of the Company's former officers and employees). The Company believes that the foregoing activities, which generally occurred over a period from the third quarter of 2008 through September 2012, involved a total loss of funds to the Company of approximately $12.1 million.
The Company has entered into cooperation and restitution and/or settlement agreements with the following former executive officers: Robert Torino (former Chief Operating Officer and Executive Vice President of the Company and Chief Operating Officer and Assistant Secretary of Holdings), Nasir Shakouri (former Senior Vice President of Sales and Marketing of the Company), John Hong (former Vice President of Information Technology of the Company), and Bronson Quon (former Vice President and Corporate Controller of the Company). Robert Torino and Nasir Shakouri have agreed to repay, jointly, a total of $7.25 million, $4.3 million of which was paid as of March 27, 2014, and the remainder of which is expected to be repaid by July 1, 2016. John Hong has agreed to repay the Company a total of $550,000, $50,000 of which was paid as of March 27, 2014, and the remainder of which is expected to be repaid by July 1 2027. Bronson Quon, along with his wife, have agreed to repay the Company a total of $120,000, all of which was paid by March 27, 2014. Each of the agreements with Robert Torino, Nasir Shakouri, John Hong, and Bronson Quon and his wife, also contains the following provisions: (i) an agreement not to solicit the Company's merchants, agents or employees; (ii) a release of claims against the Company; and (iii) a mutual agreement not to disparage the other party. Each of the agreements with Robert Torino, Nasir Shakouri, and John Hong also includes deeds of trust in favor of the Company on various real properties owned by Messrs. Torino, Shakouri, and Hong, securing their outstanding obligations under such agreements. In addition, Robert Torino's and Nasir Shakouri's agreements include (i) a covenant by the Company not to commence any civil, administrative or other action against certain third parties; (ii) an agreement to return Company material, property and information; and (iii) a release of the Company's claims against Robert Torino and Nasir Shakouri, their families, and affiliated entities. The agreements with John Hong and Bronson Quon and his wife, also include (i) an agreement to cooperate with the Company's internal investigation and any future litigation or regulatory inquiries; (ii) an agreement to provide transition services to the Company; and (iii) an agreement by the Company not to commence any action against John Hong, Bronson Quon, their families, or affiliated entities.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
We do not have an audit committee. As a result, our board of directors performs the duties of an audit committee. Our board of directors evaluates and approves in advance the scope and cost of the engagement of an auditor before the auditor renders audit and non-audit services. The following table sets forth the aggregate fees billed to iPayment, Inc. for the years ended December 31, 2013 and 2012, by Ernst & Young LLP. Fees are presented in the period to which they relate rather than the period in which they were billed.
(1)
Audit Fees consist of professional service fees rendered for the audit of the Company’s annual financial statements and reviews of the Company’s quarterly financial statements included in our Form 10-K annual reports and in our From 10-Q quarterly reports. This category also includes professional service fees related to the restatement of the Company’s Affected Financial Statements.
(2)
Audit Related Fees principally include due diligence in connection with acquisitions, accounting consultations, audits in connection with proposed or consummated acquisitions and information systems.
(3)
Tax fees consist of U.S. tax compliance, tax planning and other U.S. tax-related consultations.
(4)
All Other Fees consist of professional service fees associated with due diligence engagements, regulatory requests related to the internal investigation conducted relating to the revealed financial misconduct as well as other advisory fees.
PART IV
ITEM 15.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) (1) Financial Statements
The Consolidated Financial Statements, together with the report thereon of Ernst & Young LLP dated March 27, 2014, are included as part of Item 8, Financial Statements and Supplementary Data, commencing on page above.
(2) “Schedule II - Valuation and Qualifying Accounts -” is included below. All other schedules have been omitted since the required information is not present or not present in amounts sufficient to require submission of the schedule, or because the information required is included in the respective financial statements or notes thereto.
Schedule II - Valuation and Qualifying Accounts
iPayment, Inc.
(1)
Write-off of previously reserved accounts receivables.
(2)
Write-off of previously reserved merchant losses.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on March 27, 2014.
Signature
Title
/s/ Carl A. Grimstad
Chairman and Chief Executive Officer
Carl A. Grimstad
(Principal Executive Officer)
/s/ Mark C. Monaco
Executive Vice President, Chief Financial Officer, Treasurer and Director
Mark C. Monaco
(Principal Financial Officer)
/s/ Robert N. Purcell
Vice President of Finance and Chief Accounting Officer
Robert N. Purcell
(Principal Accounting Officer)
/s/ John A. Vickers
Director
John A. Vickers
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on March 27, 2014.
Signature
Title
/s/ Carl A. Grimstad
Chairman and Chief Executive Officer
Carl A. Grimstad
(Principal Executive Officer)
/s/ Mark C. Monaco
Executive Vice President, Chief Financial Officer, Treasurer and Director
Mark C. Monaco
(Principal Financial Officer)
/s/ Robert N. Purcell
Vice President of Finance and Chief Accounting Officer
Robert N. Purcell
(Principal Accounting Officer)
/s/ John A. Vickers
Director
John A. Vickers
EXHIBIT INDEX
†
Filed herewith.
*
Portions of the exhibit omitted and filed separately with the SEC pursuant to a request for confidential treatment.
^
Pursuant to Rule 406T of Regulation S-T, the XBRL files contained in Exhibit 101 are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.