Attached files

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EX-31.1 - EX-31.1 - Affinion Group Holdings, Inc.aghi-ex311_6.htm
EX-32.2 - EX-32.2 - Affinion Group Holdings, Inc.aghi-ex322_9.htm
EX-32.1 - EX-32.1 - Affinion Group Holdings, Inc.aghi-ex321_8.htm
EX-31.2 - EX-31.2 - Affinion Group Holdings, Inc.aghi-ex312_7.htm
EX-10.3 - EX-10.3 - Affinion Group Holdings, Inc.aghi-ex103_182.htm

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

x

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

For the quarterly period ended September 30, 2015.

OR

¨

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

For the transition period from                      to                     .

Commission file number: 333-173105

 

AFFINION GROUP HOLDINGS, INC.

(Exact name of registrant as specified in its charter)

 

 

Delaware

 

16-1732155

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

6 High Ridge Park

Stamford, CT 06905

(Address, including zip code, of principal executive offices)

(203) 956-1000

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ¨    No  x

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer

 

¨

  

Accelerated filer

 

¨

 

 

 

 

 

 

 

Non-accelerated filer

 

x (Do not check if a smaller reporting company)

  

Smaller reporting company

 

¨

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

The number of shares outstanding of the registrant’s common stock, $0.01 par value, as of November 6, 2015 was 84,842,535.

 

 

 

 

 


TABLE OF CONTENTS

 

 

Page

Part I. FINANCIAL INFORMATION

 

Item 1.

1

Financial Statements

1

Unaudited Condensed Consolidated Balance Sheets as of September 30, 2015 and December 31, 2014

1

Unaudited Condensed Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended September 30, 2015 and 2014

2

Unaudited Condensed Consolidated Statements of Changes in Deficit for the Nine Months Ended September 30, 2015 and 2014

3

Unaudited Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2015 and 2014

4

Notes to Unaudited Condensed Consolidated Financial Statements

5

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

28

Item 3.

 

Quantitative and Qualitative Disclosures about Market Risk

50

Item 4.

 

Controls and Procedures

51

Part II. OTHER INFORMATION

 

Item 1.

 

Legal Proceedings

52

Item 1A.

 

Risk Factors

52

Item 2.

 

Unregistered Sales of Equity in Securities and Use of Proceeds

64

Item 3.

 

Defaults Upon Senior Securities

65

Item 4.

 

Mine Safety Disclosure

65

Item 5.

 

Other Information

65

Item 6.

 

Exhibits

66

SIGNATURES

S-1

 

 

i


PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

AFFINION GROUP HOLDINGS, INC.

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

AS OF SEPTEMBER 30, 2015 AND DECEMBER 31, 2014

(In millions, except share amounts)

 

 

 

 

September 30,

 

 

December 31,

 

 

 

2015

 

 

2014

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

60.1

 

 

$

32.3

 

Restricted cash

 

 

32.0

 

 

 

35.8

 

Receivables (net of allowances for doubtful accounts of $1.9 and $8.5, respectively)

 

 

112.2

 

 

 

119.3

 

Profit-sharing receivables from insurance carriers

 

 

24.4

 

 

 

28.7

 

Prepaid commissions

 

 

46.6

 

 

 

48.0

 

Income taxes receivable

 

 

1.1

 

 

 

1.3

 

Other current assets

 

 

117.2

 

 

 

104.6

 

Total current assets

 

 

393.6

 

 

 

370.0

 

Property and equipment, net

 

 

124.5

 

 

 

139.0

 

Contract rights and list fees, net

 

 

17.0

 

 

 

16.7

 

Goodwill

 

 

317.0

 

 

 

322.2

 

Other intangibles, net

 

 

64.1

 

 

 

103.3

 

Other non-current assets

 

 

75.8

 

 

 

68.4

 

Total assets

 

$

992.0

 

 

$

1,019.6

 

 

 

 

 

 

 

 

 

 

Liabilities and Deficit

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Current portion of long-term debt

 

$

42.6

 

 

$

43.1

 

Accounts payable and accrued expenses

 

 

404.5

 

 

 

426.0

 

Deferred revenue

 

 

81.6

 

 

 

89.9

 

Income taxes payable

 

 

2.3

 

 

 

3.2

 

Total current liabilities

 

 

531.0

 

 

 

562.2

 

Long-term debt

 

 

2,322.3

 

 

 

2,229.6

 

Deferred income taxes

 

 

36.6

 

 

 

33.0

 

Deferred revenue

 

 

9.4

 

 

 

10.0

 

Other long-term liabilities

 

 

26.0

 

 

 

31.3

 

Total liabilities

 

 

2,925.3

 

 

 

2,866.1

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Deficit:

 

 

 

 

 

 

 

 

Common stock, $0.01 par value, 540,000,000 shares authorized, 85,129,859 shares

    issued and 84,842,535 shares outstanding

 

 

0.9

 

 

 

0.9

 

Additional paid in capital

 

 

145.1

 

 

 

144.1

 

Warrants

 

 

124.8

 

 

 

124.8

 

Accumulated deficit

 

 

(2,200.1

)

 

 

(2,117.5

)

Accumulated other comprehensive income

 

 

(4.2

)

 

 

1.2

 

Treasury stock, at cost, 287,324 shares

 

 

(1.1

)

 

 

(1.1

)

Total Affinion Group Holdings, Inc. deficit

 

 

(1,934.6

)

 

 

(1,847.6

)

Non-controlling interest in subsidiary

 

 

1.3

 

 

 

1.1

 

Total deficit

 

 

(1,933.3

)

 

 

(1,846.5

)

Total liabilities and deficit

 

$

992.0

 

 

$

1,019.6

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

 

1


AFFINION GROUP HOLDINGS, INC.

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2015 AND 2014

(In millions)

  

 

 

 

For the Three Months Ended

 

 

For the Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2015

 

 

2014

 

 

2015

 

 

2014

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net revenues

 

$

291.3

 

 

$

303.0

 

 

$

888.6

 

 

$

928.2

 

Expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenues, exclusive of depreciation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

and amortization shown separately below:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Marketing and commissions

 

 

104.7

 

 

 

114.8

 

 

 

331.4

 

 

 

360.3

 

Operating costs

 

 

95.1

 

 

 

96.7

 

 

 

298.1

 

 

 

310.7

 

General and administrative

 

 

29.3

 

 

 

50.7

 

 

 

93.2

 

 

 

142.3

 

Facility exit costs

 

 

0.1

 

 

 

1.1

 

 

 

1.2

 

 

 

1.7

 

Depreciation and amortization

 

 

23.7

 

 

 

27.2

 

 

 

71.7

 

 

 

81.3

 

Total expenses

 

 

252.9

 

 

 

290.5

 

 

 

795.6

 

 

 

896.3

 

Income from operations

 

 

38.4

 

 

 

12.5

 

 

 

93.0

 

 

 

31.9

 

Interest income

 

 

1.7

 

 

 

0.1

 

 

 

1.8

 

 

 

0.2

 

Interest expense

 

 

(58.7

)

 

 

(50.4

)

 

 

(173.9

)

 

 

(166.1

)

Loss on extinguishment of debt

 

 

 

 

 

 

 

 

(14.6

)

Other income, net

 

 

0.6

 

 

 

 

 

1.2

 

 

 

Loss before income taxes and non-controlling interest

 

 

(18.0

)

 

 

(37.8

)

 

 

(77.9

)

 

 

(148.6

)

Income tax expense

 

 

(1.1

)

 

 

(2.6

)

 

 

(4.2

)

 

 

(10.9

)

Net loss

 

 

(19.1

)

 

 

(40.4

)

 

 

(82.1

)

 

 

(159.5

)

Less: net income attributable to non-controlling interest

 

 

(0.2

)

 

 

(0.2

)

 

 

(0.5

)

 

 

(0.4

)

Net loss attributable to Affinion Group Holdings, Inc.

 

$

(19.3

)

 

$

(40.6

)

 

$

(82.6

)

 

$

(159.9

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

$

(19.1

)

 

$

(40.4

)

 

$

(82.1

)

 

$

(159.5

)

Currency translation adjustment, net of tax of $0 for all periods

 

 

(2.2

)

 

 

(1.1

)

 

 

(5.7

)

 

 

(2.1

)

Comprehensive loss

 

 

(21.3

)

 

 

(41.5

)

 

 

(87.8

)

 

 

(161.6

)

Less: comprehensive income attributable to non-controlling interest

 

 

 

 

 

(0.2

)

 

 

(0.2

)

 

 

(0.4

)

Comprehensive loss attributable to Affinion Group Holdings, Inc.

 

$

(21.3

)

 

$

(41.7

)

 

$

(88.0

)

 

$

(162.0

)

See accompanying notes to the unaudited condensed consolidated financial statements.

 

 

2


AFFINION GROUP HOLDINGS, INC.

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN DEFICIT

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2015 AND 2014

(In millions)

 

 

 

 

Affinion Group Holdings, Inc. Deficit

 

 

 

 

 

 

 

 

 

 

 

Common Stock

and Additional

Paid-in Capital

 

 

Warrants

 

 

Accumulated

Deficit

 

 

Accumulated

Other

Comprehensive

Income (Loss)

 

 

Treasury

Stock

 

 

Non-

Controlling

Interest

 

 

Total Deficit

 

Balance, January 1, 2015

 

$

145.0

 

 

$

124.8

 

 

$

(2,117.5

)

 

$

1.2

 

 

$

(1.1

)

 

$

1.1

 

 

$

(1,846.5

)

Net income (loss)

 

 

 

 

 

 

(82.6

)

 

 

 

 

 

 

0.5

 

 

 

(82.1

)

Currency translation adjustment, net of tax

 

 

 

 

 

 

 

 

(5.4

)

 

 

 

 

(0.3

)

 

 

(5.7

)

Share-based compensation

 

 

1.0

 

 

 

 

 

 

 

 

 

 

 

 

 

1.0

 

Balance, September 30, 2015

 

$

146.0

 

 

$

124.8

 

 

$

(2,200.1

)

 

$

(4.2

)

 

$

(1.1

)

 

$

1.3

 

 

$

(1,933.3

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Affinion Group Holdings, Inc. Deficit

 

 

 

 

 

 

 

 

 

 

 

Common Stock

and Additional

Paid-in Capital

 

 

Warrants

 

 

Accumulated

Deficit

 

 

Accumulated

Other

Comprehensive

Income (Loss)

 

 

Treasury

Stock

 

 

Non-

Controlling

Interest

 

 

Total Deficit

 

Balance, January 1, 2014

 

$

137.5

 

 

$

25.8

 

 

$

(1,688.8

)

 

$

5.7

 

 

$

(1.1

)

 

$

1.1

 

 

$

(1,519.8

)

Net income (loss)

 

 

 

 

 

 

(159.9

)

 

 

 

 

 

 

0.4

 

 

 

(159.5

)

Currency translation adjustment, net of tax

 

 

 

 

 

 

 

 

(2.1

)

 

 

 

 

 

 

(2.1

)

Share-based compensation

 

 

6.0

 

 

 

 

 

 

 

 

 

 

 

 

 

6.0

 

Issuance of warrants

 

 

 

 

99.0

 

 

 

 

 

 

 

 

 

 

 

99.0

 

Balance, September 30, 2014

 

$

143.5

 

 

$

124.8

 

 

$

(1,848.7

)

 

$

3.6

 

 

$

(1.1

)

 

$

1.5

 

 

$

(1,576.4

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

 

3


AFFINION GROUP HOLDINGS, INC.

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2015 AND 2014

(In millions)

 

 

For the Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2015

 

 

2014

 

Operating Activities

 

 

 

 

 

 

 

 

Net loss

 

$

(82.1

)

 

$

(159.5

)

Adjustments to reconcile net loss to net cash provided by (used in) operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

71.7

 

 

 

81.3

 

Amortization of debt discount and financing costs

 

 

9.8

 

 

 

10.6

 

Financing costs

 

 

 

 

6.7

 

Recovery of accounts receivable loss provided for

 

 

(5.5

)

 

 

Loss on extinguishment of debt

 

 

 

 

14.6

 

Facility exit costs

 

 

1.2

 

 

 

1.7

 

Share-based compensation

 

 

1.4

 

 

 

6.8

 

Deferred income taxes

 

 

1.5

 

 

 

7.4

 

Net change in assets and liabilities:

 

 

 

 

 

 

 

 

Restricted cash

 

 

4.1

 

 

 

(2.9

)

Receivables

 

 

8.7

 

 

 

0.3

 

Receivables from related parties

 

 

4.0

 

 

 

Profit-sharing receivables from insurance carriers

 

 

4.3

 

 

 

35.3

 

Prepaid commissions

 

 

1.2

 

 

 

(7.3

)

Other current assets

 

 

(18.8

)

 

 

20.7

 

Contract rights and list fees

 

 

(0.4

)

 

 

1.3

 

Other non-current assets

 

 

(13.3

)

 

 

Accounts payable and accrued expenses

 

 

18.1

 

 

 

3.7

 

Payables to related parties

 

 

0.9

 

 

 

(0.1

)

Deferred revenue

 

 

(6.3

)

 

 

(13.9

)

Income taxes receivable and payable

 

 

(0.5

)

 

 

0.2

 

Other long-term liabilities

 

 

(5.7

)

 

 

(5.2

)

Other, net

 

 

3.2

 

 

 

5.2

 

Net cash provided by (used in) operating activities

 

 

(2.5

)

 

 

6.9

 

Investing Activities

 

 

 

 

 

 

 

 

Capital expenditures

 

 

(23.3

)

 

 

(36.3

)

Restricted cash

 

 

(1.1

)

 

 

(0.3

)

Acquisition-related payments, net of cash acquired

 

 

 

 

(19.4

)

Proceeds from sale of investment

 

 

1.5

 

 

 

Net cash used in investing activities

 

 

(22.9

)

 

 

(56.0

)

Financing Activities

 

 

 

 

 

 

 

 

Borrowings (repayments) under revolving credit facility, net

 

 

61.0

 

 

 

(34.0

)

Proceeds from issuance of debt

 

 

 

 

425.0

 

Financing costs

 

 

 

 

(23.0

)

Principal payments on borrowings

 

 

(6.6

)

 

 

(314.0

)

Proceeds from issuance of warrants

 

 

 

 

3.8

 

Net cash provided by financing activities

 

 

54.4

 

 

 

57.8

 

Effect of changes in exchange rates on cash and cash equivalents

 

 

(1.2

)

 

 

(1.1

)

Net increase in cash and cash equivalents

 

 

27.8

 

 

 

7.6

 

Cash and cash equivalents, beginning of period

 

 

32.3

 

 

 

20.1

 

Cash and cash equivalents, end of period

 

$

60.1

 

 

$

27.7

 

Supplemental Disclosure of Cash Flow Information:

 

 

 

 

 

 

 

 

Interest payments

 

$

139.9

 

 

$

126.9

 

Income tax payments, net of refunds

 

$

2.6

 

 

$

2.9

 

Non-cash investing and financing activities:

 

 

 

 

 

 

 

 

Accrued capital expenditures

 

$

0.4

 

 

$

0.3

 

Property and equipment acquired under capital lease

 

$

-

 

 

$

0.7

 

Contingent consideration for acquisitions

 

$

-

 

 

$

1.9

 

Payment of in-kind interest

 

$

16.4

 

 

$

22.4

 

Exchange of debt and accrued interest for warrants

 

$

-

 

 

$

95.1

 

See accompanying notes to the unaudited condensed consolidated financial statements.

4


 

AFFINION GROUP HOLDINGS, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unless otherwise noted, all dollar amounts are in millions, except per share amounts)

 

1. BASIS OF PRESENTATION AND BUSINESS DESCRIPTION

Basis of Presentation—On October 17, 2005, Cendant Corporation (“Cendant”) completed the sale of the Cendant Marketing Services Division to Affinion Group, Inc. (“Affinion”), a wholly-owned subsidiary of Affinion Group Holdings, Inc. (the “Company” or “Affinion Holdings”) and an affiliate of Apollo Global Management, LLC (“Apollo”), pursuant to a purchase agreement dated July 26, 2005 for approximately $1.8 billion (the “Apollo Transactions”).

All references to Cendant refer to Cendant Corporation, which changed its name to Avis Budget Group, Inc. in August 2006, and its consolidated subsidiaries, specifically in the context of its business and operations prior to, and in connection with, the Company’s separation from Cendant.

The accompanying unaudited condensed consolidated financial statements include the accounts and transactions of the Company. In presenting these unaudited condensed consolidated financial statements, management makes estimates and assumptions that affect reported amounts of assets and liabilities and related disclosures, and disclosure of contingent assets and liabilities, at the date of the financial statements, and reported amounts of revenues and expenses during the reporting periods. Estimates, by their nature, are based on judgments and available information at the time such estimate is made. As such, actual results could differ from those estimates. In management’s opinion, the unaudited condensed consolidated financial statements contain all normal recurring adjustments necessary for a fair presentation of interim results reported. The results of operations reported for interim periods are not necessarily indicative of the results of operations for the entire year or any subsequent interim period.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and following the guidance of Rule 10-01 of Regulation S-X for interim financial statements required to be filed with the U.S. Securities and Exchange Commission (the “SEC”). As permitted under such rules, certain notes and other financial information normally required by accounting principles generally accepted in the United States of America have been condensed or omitted; however, the unaudited condensed consolidated financial statements do include such notes and financial information sufficient so as to make the interim information presented not misleading. These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and related notes of the Company as of December 31, 2014 and 2013, and for the years ended December 31, 2014, 2013 and 2012, which are included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014 filed with the SEC on March 19, 2015 (the “Form 10-K”).

 

Business Description— The Company is one of the world’s leading customer engagement and loyalty solutions companies. The Company designs, markets and services programs that strengthen and extend customer relationships for many of the world’s largest and most respected companies. The Company’s programs and services include:

 

 

·

Loyalty programs that help reward, motivate and retain consumers,

 

·

Membership programs that help consumers save money and gain peace of mind,

 

·

Package programs that bundle valuable discounts, protection and other benefits to enhance customer relationships, and

 

·

Insurance programs that help protect consumers in the event of a covered accident, injury, illness, or death.

 

The Company designs customer engagement and loyalty solutions with an attractive suite of benefits and ease of usage that it believes are likely to interest and engage consumers based on their needs and interests. For example, the Company provides discount travel services, credit monitoring and identity-theft resolution, accidental death and dismemberment insurance, roadside assistance, various checking account and credit card enhancement services, loyalty program design and management, disaggregated loyalty points redemptions for gift cards, travel and merchandise, as well as other products and services.

The Company is a global leader in the designing, marketing and servicing of comprehensive customer engagement and loyalty solutions that enhances and extends the relationship of millions of consumers with many of the largest and most respected companies in the world. The Company generally partners with these leading companies in two ways: 1) by developing and supporting programs that are natural extensions of its partner companies’ brand image and that provide valuable services to their end-customers, and 2) by providing the back-end technological support and redemption services for points-based loyalty programs. Using its expertise in customer engagement, product development, creative design and data-driven targeted marketing, the Company develops and markets programs and services that enable the companies it partners with to generate significant, high-margin incremental revenue, enhance its partners’ brands among targeted consumers as well as strengthen and enhance the loyalty of their customer relationships. The enhanced loyalty can lead to increased acquisition of new customers, longer retention of existing customers, improved customer satisfaction rates, and greater use of other services provided by such companies. The Company refers to the leading companies that it

5


works with to provide customer engagement and loyalty solutions as marketing partners or clients. The Company refers to the consumers to whom it provides services directly under a contractual relationship as subscribers, insureds or members. The Company refers to those consumers that it services on behalf of a third party, such as one of its marketing partners, and with whom it has a contractual relationship as end-customers.

The Company utilizes its substantial expertise in a variety of direct engagement media to market valuable products and services to the customers of its marketing partners on a highly targeted, campaign basis. The selection of the media employed in a campaign corresponds to the preferences and expectations the targeted customers have demonstrated for transacting with its marketing partners, as the Company believes this optimizes response, thereby improving the efficiency of our marketing investment. Accordingly, the Company maintains significant capabilities to market through direct mail, point-of-sale, direct response television, the internet, inbound and outbound telephony and voice response unit marketing, as well as other media as needed.

The Company’s operating segments are as follows:

 

Membership Products. The Company designs, implements and markets subscription programs that provide its members with personal protection benefits and value-added services including credit monitoring and identity-theft resolution services, as well as access to a variety of discounts and shop-at-home conveniences in such areas as retail merchandise, travel, automotive and home improvement.

 

Insurance and Package Products. The Company markets AD&D and other insurance programs and designs and provides checking account enhancement programs to financial institutions. These programs allow financial institutions to bundle discounts, protection and other benefits with a standard checking account and offer these packages to customers for an additional monthly fee.

 

Global Loyalty Products. The Company designs, implements and administers points-based loyalty programs for financial, travel, auto and other companies. The Company provides its clients with solutions that meet the most popular redemption options desired by their program points holders, including travel services, gift cards, cash back and merchandise. The Company also provides enhancement benefits to major financial institutions in connection with their credit and debit card programs. In addition, the Company provides and manages turnkey travel services that are sold on a private label basis to provide its clients’ customers with direct access to the Company’s proprietary travel platform. A marketing partner typically engages the Company on a fee-for-services contractual basis, where the Company generates revenue in connection with the volume of redemption transactions.

 

International Products. The Company designs, implements and markets membership and package customer engagement businesses outside North America and operates a discrete loyalty program benefit provider. The Company expects to leverage its current international operational platform to expand its range of products and services, develop new marketing partner relationships in various industries and grow its geographical footprint. In 2012, the Company expanded into Turkey through the acquisition of existing marketing capabilities and also launched business operations in Brazil. In 2015, the Company undertook business activities in Australia.

Recently Issued Accounting Pronouncements

On May 28, 2014, the FASB and International Accounting Standards Board issued their final standard on revenue from contracts with customers. The standard outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The fundamental principles of the guidance are that companies should recognize revenue in a manner that reflects the timing of transfer of goods and services to customers and the amount of revenue recognized reflects the consideration that a company expects to receive for the goods and services provided. The guidance establishes a five-step approach for the recognition of revenue. In addition, the guidance will also require significantly expanded disclosures about revenue recognition. In July 2015, the FASB issued a new standard that, for public entities, defers the effective date of the standard on revenue from contracts with customers by one year, to annual reporting periods (including interim reporting periods within those periods) beginning after December 15, 2017. Entities have the option of using either a full retrospective or modified retrospective approach and early application is not permitted, other than entities may earlier adopt the new guidance as of the originally proposed effective date, which was for annual reporting periods (including interim reporting periods within those periods) beginning after December 15, 2016. The Company is in the process of performing an initial evaluation of the impact of the new guidance. Based on its preliminary assessment, the Company does not believe that adoption of the new guidance will have a material impact on the Company’s consolidated financial position, results of operations or cash flows.

On August 27, 2014, the FASB issued an Accounting Standards Update (“ASU”) that provides guidance on determining when and how reporting entities must disclose going concern uncertainties in their financial statements. The new standard requires management to perform interim and annual assessments of an entity’s ability to continue as a going concern within one year of the date of issuance of the financial statements (or within one year after the date on which the financial statements were available to be issued, when applicable). Further, an entity must provide certain disclosures if there is “substantial doubt about the entity’s ability to

6


continue as a going concern.”  The ASU is effective for annual periods ending after December 15, 2016, and interim periods thereafter, with early adoption permitted. When adopted, the new guidance is not expected to have a material impact on the Company’s consolidated financial position, results of operations or cash flows.

On April 7, 2015, the FASB issued an ASU that requires debt issuance costs to be presented in the balance sheet as a direct deduction from the carrying amount of the debt liability consistent with debt discounts and premiums, rather than as a separate asset. On August 16, 2015, the FASB issued an ASU clarifying the SEC staff’s position on presenting and measuring debt issuance costs incurred in connection with line-of-credit arrangements. The SEC staff announced that it would not object to the deferral and presentation of debt issuance costs as an asset and subsequently amortizing the deferred debt issuance costs ratably over the term of the line-of-credit arrangement. The new guidance is effective for financial statements issued for fiscal years beginning after December 31, 2015 and interim periods within those fiscal years. When adopted, the new guidance is not expected to have a material impact on the Company’s consolidated financial position, results of operations or cash flows. Had the new guidance been in effect, at December 31, 2014, other noncurrent assets and long-term debt would each have been reduced by $29.5 million and at September 30, 2015, other noncurrent assets and long-term debt would each have been reduced by $23.5 million.

 

2. ACQUISITIONS

On September 8, 2014, the Company entered into a Membership Interest Purchase Agreement (the “SkyMall Agreement”) that resulted in the acquisition on September 9, 2014 of SkyMall Ventures, LLC (“SkyMall”), a provider of merchandise, gift cards and experiential rewards for loyalty programs. In accordance with the SkyMall Agreement, the Company acquired all of the outstanding membership interests in SkyMall for an upfront cash payment of approximately $18.4 million, plus a working capital adjustment of $0.4 million, and contingent consideration of up to $3.9 million payable approximately one year after the acquisition date.

In addition to providing merchandise, gift cards and experiential rewards for loyalty programs, it provides services including strategy, creative, technology and fulfillment. The acquisition of SkyMall enhances the Company’s position as a leading loyalty program administrator and incentives provider, as well as solidifies the Company’s position within certain current verticals and provides access to certain new verticals.

The Company allocated the purchase price of $19.1 million, consisting of the upfront cash payment of $18.4 million, plus the working capital adjustment of $0.4 million, and the acquisition date fair value of the up to $3.9 million contingent consideration, based on an income approach and probability model, of $0.3 million (which was not achieved), among the assets acquired and liabilities assumed as follows (in millions):

 

Trade receivables

 

$

3.8

 

Other current assets, including gift card inventory

 

 

37.7

 

Intangible assets

 

 

11.9

 

Goodwill

 

 

14.3

 

Accounts payable and accrued liabilities

 

 

(48.5

)

Other current liabilities

 

 

(0.1

)

Consideration transferred

 

$

19.1

 

 

The intangible assets are comprised of affinity relationships, which are being amortized on an accelerated basis over a weighted-average useful life of eight years. The goodwill, which is expected to be deductible for income tax purposes, has been attributed to the Global Loyalty Products segment. In connection with the acquisition of SkyMall, the Company incurred $0.3 million of acquisition costs, which are included in general and administrative expense in the consolidated statement of comprehensive income for the three and nine months ended September 30, 2014. There were no acquisition costs incurred during the three and nine months ended September 30, 2015.

 

 

 

 

 


7


 

3. INTANGIBLE ASSETS

Intangible assets consisted of:

 

 

September 30, 2015

 

 

 

Gross Carrying

 

 

Accumulated

 

 

Net Carrying

 

 

 

Amount

 

 

Amortization

 

 

Amount

 

 

 

(in millions)

 

Amortizable intangible assets:

 

 

 

 

 

 

 

 

 

 

 

 

    Member relationships

 

$

937.6

 

 

$

(933.8

)

 

$

3.8

 

    Affinity relationships

 

 

642.0

 

 

 

(597.6

)

 

 

44.4

 

    Proprietary databases and systems

 

 

59.7

 

 

 

(57.6

)

 

 

2.1

 

    Trademarks and tradenames

 

 

32.3

 

 

 

(20.2

)

 

 

12.1

 

    Patents and technology

 

 

47.7

 

 

 

(46.2

)

 

 

1.5

 

    Covenants not to compete

 

 

2.5

 

 

 

(2.3

)

 

 

0.2

 

 

 

$

1,721.8

 

 

$

(1,657.7

)

 

$

64.1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2014

 

 

 

Gross Carrying

 

 

Accumulated

 

 

Net Carrying

 

 

 

Amount

 

 

Amortization

 

 

Amount

 

 

 

(in millions)

 

Amortizable intangible assets:

 

 

 

 

 

 

 

 

 

 

 

 

    Member relationships

 

$

939.8

 

 

$

(932.0

)

 

$

7.8

 

    Affinity relationships

 

 

649.1

 

 

 

(574.4

)

 

 

74.7

 

    Proprietary databases and systems

 

 

59.9

 

 

 

(57.4

)

 

 

2.5

 

    Trademarks and tradenames

 

 

33.5

 

 

 

(18.8

)

 

 

14.7

 

    Patents and technology

 

 

47.8

 

 

 

(44.6

)

 

 

3.2

 

    Covenants not to compete

 

 

2.6

 

 

 

(2.2

)

 

 

0.4

 

 

 

$

1,732.7

 

 

$

(1,629.4

)

 

$

103.3

 

 

Foreign currency translation resulted in a decrease in intangible assets and accumulated amortization of $10.9 million and $8.6 million, respectively, from December 31, 2014 to September 30, 2015.

Amortization expense relating to intangible assets was as follows:

 

 

 

For the Three Months Ended

 

 

For the Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2015

 

 

2014

 

 

2015

 

 

2014

 

 

 

(in millions)

 

Amortizable intangible assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    Member relationships

 

$

1.4

 

 

$

3.5

 

 

$

3.4

 

 

$

10.7

 

    Affinity relationships

 

 

9.5

 

 

 

10.2

 

 

 

29.2

 

 

 

30.0

 

    Proprietary databases and systems

 

 

0.1

 

 

 

0.1

 

 

 

0.3

 

 

 

0.3

 

    Trademarks and tradenames

 

 

0.5

 

 

 

0.7

 

 

 

1.8

 

 

 

2.0

 

    Patents and technology

 

 

0.4

 

 

 

0.8

 

 

 

2.0

 

 

 

2.4

 

    Covenants not to compete

 

 

0.1

 

 

 

-

 

 

 

0.2

 

 

 

0.2

 

 

 

$

12.0

 

 

$

15.3

 

 

$

36.9

 

 

$

45.6

 

 

Based on the Company’s amortizable intangible assets as of September 30, 2015, the Company expects the related amortization expense for fiscal year 2015 and the four succeeding fiscal years to be approximately $42.6 million in 2015, $13.3 million in 2016, $9.0 million in 2017, $8.1 million in 2018 and $6.9 million in 2019.

At January 1, 2015 and September 30, 2015, the Company had gross goodwill of $661.6 million and $656.4 million, respectively, and accumulated impairment losses of $339.4 million at both dates. The accumulated impairment losses represent the $15.5 million impairment loss recognized in 2006 impairing all of the goodwill assigned to the Global Loyalty Products segment related to the Apollo Transactions, the $31.5 million impairment loss recognized in 2012 impairing all of the goodwill assigned in connection with the acquisition of Prospectiv Direct, Inc. included in the Membership Products segment and the $292.4 million impairment loss recognized in 2014 impairing a portion of the goodwill assigned to the Membership Products segment.

8


The changes in the Company’s carrying amount of goodwill for the year ended December 31, 2014 and the nine months ended September 30, 2015 are as follows:

 

 

 

Balance at

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at

 

 

 

 

 

 

 

 

 

 

Balance at

 

 

 

January 1,

 

 

 

 

 

 

 

 

 

 

Currency

 

 

December 31,

 

 

 

 

 

 

Currency

 

 

September 30,

 

 

 

2014

 

 

Acquisition

 

 

Impairment

 

 

Translation

 

 

2014

 

 

Acquisition

 

 

Translation

 

 

2015

 

 

 

(in millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Membership products

 

$

382.0

 

 

$

-

 

 

$

(292.4

)

 

$

-

 

 

$

89.6

 

 

$

-

 

 

$

-

 

 

$

89.6

 

Insurance and package products

 

 

58.3

 

 

 

 

 

 

 

 

 

58.3

 

 

 

 

 

 

 

58.3

 

Global loyalty products

 

 

81.7

 

 

 

15.8

 

 

 

 

 

 

 

97.5

 

 

 

(0.3

)

 

 

 

 

97.2

 

International products

 

 

84.3

 

 

 

 

 

 

 

(7.5

)

 

 

76.8

 

 

 

 

 

(4.9

)

 

 

71.9

 

Total

 

$

606.3

 

 

$

15.8

 

 

$

(292.4

)

 

$

(7.5

)

 

$

322.2

 

 

$

(0.3

)

 

$

(4.9

)

 

$

317.0

 

 

In connection with the Company’s previously announced global reorganization and the Company’s stated intent to no longer materially invest in lines of business that it believes are not essential to its long-term growth prospects, the Company has been reviewing and refining its business strategy, including evaluating certain marketing opportunities and other initiatives. The Company is currently revising forecasts and analysis to assess the impact of the global reorganization and change in strategy, including the potential effects of no longer investing in lines of business that are not essential to the Company’s long-term growth prospects. The Company will continue to evaluate triggering events for the recoverability of its intangible assets during this process. No assurances can be given that the Company will not be required to record an impairment loss on goodwill or its other intangible assets during the quarter ended December 31, 2015 or in the future. 

4. CONTRACT RIGHTS AND LIST FEES, NET

Contract rights and list fees consisted of:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30, 2015

 

 

December 31, 2014

 

 

 

Gross Carrying

 

 

Accumulated

 

 

Net Carrying

 

 

Gross Carrying

 

 

Accumulated

 

 

Net Carrying

 

 

 

Amount

 

 

Amortization

 

 

Amount

 

 

Amount

 

 

Amortization

 

 

Amount

 

 

 

(in millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Contract rights

 

$

57.8

 

 

$

(57.6

)

 

$

0.2

 

 

$

59.1

 

 

$

(58.7

)

 

$

0.4

 

List fees

 

 

56.0

 

 

 

(39.2

)

 

 

16.8

 

 

 

51.7

 

 

 

(35.4

)

 

 

16.3

 

 

 

$

113.8

 

 

$

(96.8

)

 

$

17.0

 

 

$

110.8

 

 

$

(94.1

)

 

$

16.7

 

 

Amortization expense for the three months ended September 30, 2015 and 2014 was $1.3 million and $1.4 million, respectively, of which $1.3 million and $1.4 million, respectively, is included in marketing expense and less than $0.1 million and less than $0.1 million, respectively, is included in depreciation and amortization expense in the unaudited condensed consolidated statement of comprehensive income. Amortization expense for the nine months ended September 30, 2015 and 2014 was $4.0 million and $4.3 million, respectively, of which $3.8 million and $4.1 million, respectively, is included in marketing expense and $0.2 million and $0.2 million, respectively, is included in depreciation and amortization expense in the unaudited condensed consolidated statement of comprehensive income. Based on the Company’s contract rights and list fees as of September 30, 2015, the Company expects the related amortization expense for fiscal year 2015 and the four succeeding fiscal years to be approximately $5.3 million in 2015, $4.5 million in 2016, $3.3 million in 2017, $2.6 million in 2018 and $2.0 million in 2019.

 

9


 

5. LONG-TERM DEBT

Long-term debt consisted of:

 

 

September 30,

 

 

December 31,

 

 

 

2015

 

 

2014

 

 

 

(in millions)

 

First-lien term loan due 2018

 

$

763.4

 

 

$

769.2

 

Second-lien term loan due 2018

 

 

425.0

 

 

 

425.0

 

Revolving credit facility, expiring in 2018

 

 

66.0

 

 

 

5.0

 

7.875% senior notes due 2018, net of unamortized discount of $1.4

 

 

 

 

 

 

 

 

    million and $1.7 million, respectively, with an effective interest rate

 

 

 

 

 

 

 

 

    of 8.31%

 

 

473.6

 

 

 

473.3

 

13.50% senior subordinated notes due 2018, net of unamortized

 

 

 

 

 

 

 

 

    discount of $5.6 million and $6.7 million, respectively, with an

 

 

 

 

 

 

 

 

    effective interest rate of 14.31%

 

 

354.4

 

 

 

353.3

 

11 1/2% senior subordinated notes due 2015, with an effective

 

 

 

 

 

 

 

 

    interest rate of 12.25%

 

 

2.6

 

 

 

2.6

 

13.75%/ 14.50% senior PIK toggle notes, due 2018, net of

 

 

 

 

 

 

 

 

    unamortized discount of $12.8 million and $15.1 million, respectively

 

 

 

 

 

 

 

 

    with an effective interest rate of 17.69%

 

 

247.6

 

 

 

211.3

 

11.625% senior notes due 2015, with an effective interest rate of 11.63%

 

 

32.2

 

 

 

32.2

 

Capital lease obligations

 

 

0.1

 

 

 

0.8

 

Total debt

 

 

2,364.9

 

 

 

2,272.7

 

Less: current portion of long-term debt

 

 

(42.6

)

 

 

(43.1

)

Long-term debt

 

$

2,322.3

 

 

$

2,229.6

 

 

On April 9, 2010, Affinion, as Borrower, and Affinion Holdings entered into a $1.0 billion amended and restated senior secured credit facility with its lenders (“Affinion Credit Facility”). On November 20, 2012, Affinion, as Borrower, and Affinion Holdings entered into an amendment to the Affinion Credit Facility, which (i) increased the margins on LIBOR loans from 3.50% to 5.00% and on base rate loans from 2.50% to 4.00%, (ii) replaced the financial covenant requiring Affinion to maintain a maximum consolidated leverage ratio with a financial covenant requiring Affinion to maintain a maximum senior secured leverage ratio, and (iii) adjusted the ratios under the financial covenant requiring Affinion to maintain a minimum interest coverage ratio. On December 12, 2013, in connection with the refinancing of Affinion’s 11 ½ % senior subordinated notes due 2015 (Affinion’s “2006 senior subordinated notes”) and Affinion Holdings’ 11.625% senior notes due 2015 (“Affinion Holdings’ 2010 senior notes”), Affinion, as Borrower, and Affinion Holdings entered into an amendment to the Affinion Credit Facility, which (i) provided permission for the consummation of the exchange offers for Affinion’s 2006 senior subordinated notes and Affinion Holdings’ 2010 senior notes; (ii) removed the springing maturity provisions applicable to the term loan facility; (iii) modified the senior secured leverage ratio financial covenant in the Affinion Credit Facility; (iv) provided additional flexibility for Affinion to make dividends to the Company to be used to make certain payments with respect to the Company’s indebtedness and to repay, repurchase or redeem subordinated indebtedness of Affinion; and (v) increased the interest rate margins by 0.25%, to 5.25% on LIBOR loans and 4.25% on base rate loans. The amendment became effective upon the satisfaction of the conditions precedent set forth therein, including the payment by Affinion of the consent fee equal to 0.25% of the sum of (i) the aggregate principal amount of all term loans and (ii) the revolving loan commitments in effect, in each case, held by each lender that entered into the amendment on the date of effectiveness of the amendment. On May 20, 2014, Affinion, as Borrower, and Affinion Holdings entered into an amendment to the Affinion Credit Facility, which (i) extended the maturity to April 30, 2018 of $775.0 million in aggregate principal amount of existing senior secured term loans and existing senior secured revolving loans, which loans were designated as first lien term loans (the “First Lien Term Loans”), (ii) extended the maturity to October 31, 2018 of $377.9 million in aggregate principal amount of existing senior secured term loans on a second lien senior secured basis, which, together with additional borrowings obtained on the same terms, total $425.0 million (the “Second Lien Term Loans”), (iii) extended the maturity to January 29, 2018 of $80.0 million of the commitments (and related obligations) under the existing senior secured revolving credit facility on a first lien senior secured basis, (iv) reduced the commitments under the existing senior secured revolving credit facility by $85.0 million and (v) removed the existing financial covenant requiring Affinion to maintain a minimum interest coverage ratio.  

The revolving credit facility includes a letter of credit subfacility and a swingline loan subfacility. The First Lien Term Loan facility matures in April 2018 and the Second Lien Term Loan facility matures in October 2018. The First Lien Term Loan facility provides for quarterly amortization payments totaling 1% per annum, with the balance payable upon the final maturity date. The Second Lien Term Loan facility does not provide for quarterly amortization payments. The term loan facility also requires mandatory prepayments of the outstanding term loans based on excess cash flow (as defined), if any, and the proceeds from certain specified

10


transactions. The interest rates with respect to First Lien Term Loans and revolving loans under the amended Affinion Credit Facility are based on, at Affinion’s option, (a) the higher of (i) adjusted LIBOR and (ii) 1.50%, in each case plus 5.25%, or (b) the highest of (i) Deutsche Bank Trust Company Americas’ prime rate, (ii) the Federal Funds Effective Rate plus 0.5% and (iii) 2.50% (“ABR”), in each case plus 4.25%. The interest rates with respect to Second Lien Term Loans under the amended Affinion Credit Facility are based on, at Affinion’s option, (a) the higher of (i) adjusted LIBOR and (ii) 1.50%, in each case plus 7.00%, or (b) the highest of (i) Deutsche Bank Trust Company Americas’ prime rate, (ii) the Federal Funds Effective Rate plus 0.5% and (iii) 2.50% (“ABR”), in each case plus 6.00%. The weighted average interest rate on the term loan for the period from January 1, 2014 through May 20, 2014 was 6.75%. The weighted average interest rate on the First Lien Term Loan and Second Lien Term Loan for the three and nine months ended September 30, 2015 and for the period from May 20, 2014 through September 30, 2014 was 6.75% and 8.50%, respectively. The weighted average interest rate on revolving credit facility borrowings for the three and nine months ended September 30, 2015 was 7.2%, for both periods, and for the three and nine months ended September 30, 2014 was 7.5% and 7.1%, respectively. Affinion’s obligations under the credit facility are, and Affinion’s obligations under any interest rate protection or other hedging arrangements entered into with a lender or any of its affiliates will be, guaranteed by Affinion Holdings and by each of Affinion’s existing and subsequently acquired or organized domestic subsidiaries, subject to certain exceptions. The Affinion Credit Facility is secured to the extent legally permissible by substantially all of the assets of (i) Affinion Holdings, which consists of a pledge of all Affinion’s capital stock and (ii) Affinion and the subsidiary guarantors, including but not limited to: (a) a pledge of substantially all capital stock held by Affinion or any subsidiary guarantor and (b) security interests in substantially all tangible and intangible assets of Affinion and each subsidiary guarantor, subject to certain exceptions. The Affinion Credit Facility also contains financial, affirmative and negative covenants. The negative covenants in the Affinion Credit Facility include, among other things, limitations (all of which are subject to certain exceptions) on Affinion’s (and in certain cases, Affinion Holdings’) ability to: declare dividends and make other distributions, redeem or repurchase Affinion’s capital stock; prepay, redeem or repurchase certain of Affinion’s subordinated indebtedness; make loans or investments (including acquisitions); incur additional indebtedness (subject to certain exceptions); enter into agreements that would restrict the ability of Affinions subsidiaries to pay dividends; merge or enter into acquisitions; sell assets; and enter into transactions with affiliates. The Affinion Credit Facility also requires Affinion to comply with a financial maintenance covenant with a maximum ratio of senior secured debt (as defined) to EBITDA (as defined) of 4.25:1.00.

As of September 30, 2015 and December 31, 2014, there were outstanding borrowings of $66.0 million and $5.0 million, respectively, under the revolving credit facility. During the nine months ended September 30, 2015, Affinion had borrowings and repayments of $81.0 million and $20.0 million, respectively, under the revolving credit facility. During the nine months ended September 30, 2014, Affinion had borrowings and repayments of $133.0 million and $167.0 million, respectively, under the revolving credit facility. As of September 30, 2015, Affinion had $0.1 million available for borrowing under the Affinion Credit Facility after giving effect to the issuance of $13.9 million of letters of credit.

In December 2013, Affinion Holdings and Affinion completed exchange offers and consent solicitations pursuant to which, among other things, (i) $292.8 million principal amount of Affinion Holdings’ 2010 senior notes were exchanged by the holders thereof for $292.8 million principal amount of new 13.75%/14.50% senior secured PIK/toggle notes due 2018 (“Affinion Holdings’ 2013 senior notes”), 13.5 million Series A warrants and 70.2 million Series B warrants, (ii) $352.9 million principal amount of Affinion’s 2006 senior subordinated notes were exchanged by the holders thereof for $360.0 million principal amount of new 13.50% senior subordinated notes due 2018 (the “Investments senior subordinated notes”) issued by its wholly-owned subsidiary, Affinion Investments, LLC (“Affinion Investments”), (iii) Affinion issued $360.0 million principal amount of new 13.50% senior subordinated notes due 2018 (Affinion’s “2013 senior subordinated notes”) to Affinion Investments in exchange for all of Affinion’s 2006 senior subordinated notes received by Affinion Investments in the exchange offer, (iv) the Company entered into a supplemental indenture pursuant to which substantially all of the restrictive covenants were eliminated in the indenture governing Affinion Holdings’ 2010 senior notes and (v) Affinion entered into a supplemental indenture pursuant to which substantially all of the restrictive covenants were eliminated in the indenture governing its 2006 senior subordinated notes.

On December 12, 2013, Affinion Holdings completed a private offer to exchange Affinion Holdings’ 2010 senior notes for Affinion Holdings’ 2013 senior notes, pursuant to which $292.8 million aggregate principal amount of Affinion Holdings’ 2013 senior notes were issued in exchange for $292.8 million aggregate principal amount of Affinion Holdings’ 2010 senior notes. Under the terms of the exchange offer, for each $1,000 principal amount of Affinion Holdings’ 2010 senior notes tendered at or prior to the consent time, holders received (i) $1,000 principal amount of Affinion Holdings’ 2013 senior notes, (ii) Series A warrants to purchase 46.1069 shares of Affinion Holdings’ Class B common stock, and (iii) Series B warrants to purchase 239.8612 shares of Affinion Holdings’ Class B common stock. For each $1,000 principal amount of Affinion Holdings’ 2010 senior notes tendered during the offer period but after the consent period, holders received (i) $950 principal amount of Affinion Holdings’ 2013 senior notes, (ii) Series A warrants to purchase 46.1069 shares of Affinion Holdings’ Class B common stock, and (iii) Series B warrants to purchase 239.8612 shares of Affinion Holdings’ Class B common stock. Affinion Holdings’ 2013 senior notes bear interest at 13.75% per annum, payable semi-annually on March 15 and September 15 of each year, commencing on September 15, 2014. At Affinion Holdings’ option (subject to certain exceptions), it may elect to pay interest (i) entirely in cash (“Cash Interest”), (ii) entirely by increasing the outstanding principal amount of Affinion Holdings’ 2013 senior notes or by issuing PIK notes (“PIK Interest”), or (iii) 50% as Cash Interest and 50% as PIK Interest; provided that if (i) no Default or Event of Default (each as defined in the Affinion Credit Facility) shall have occurred and be continuing or would result from such interest payment, (ii) immediately after giving effect

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to such interest payment, on a pro forma basis, the Consolidated Leverage Ratio (as defined in the Affinion Credit Facility) of Affinion is less than or equal to 5.0:1.0 as of the last day of the most recently completed fiscal quarter preceding the interest payment date for which financial statements have been delivered to the agent under the Affinion Credit Facility and (iii) immediately after giving effect to such interest payment, on a pro forma basis, the Adjusted Consolidated Leverage Ratio (as defined in the note agreement governing Affinion’s 2013 senior subordinated notes) of Affinion is less than or equal to 5.0:1.0, then Affinion Holdings shall be required to pay interest on Affinion Holdings’ 2013  senior notes for such interest period in cash. PIK Interest accrues at 13.75% per annum plus 0.75%. For the interest periods ended September 15, 2014 and March 31, 2015, Affinion Holdings paid interest by increasing the principal amount of Affinion Holdings’ 2013 senior notes by $22.4 million and $16.4 million, respectively. Affinion Holdings’ 2013 senior notes will mature on September 15, 2018. Affinion Holdings may redeem some or all of Affinion Holdings’ 2013 senior notes at any time on or after December 12, 2016 at redemption prices (generally at a premium) set forth in the indenture governing Affinion Holdings’ 2013 senior notes. In addition, prior to December 12, 2016, up to 100% of Affinion Holdings’ outstanding 2013 senior notes are redeemable at the option of Affinion Holdings, with the net proceeds raised by Affinion Holdings in one or more equity offerings, at 113.75% of their principal amount. In addition, prior to December 12, 2016,  Affinion Holdings’ 2013  senior notes are redeemable, in whole or in part, at a redemption price equal to 100% of the principal amount of Affinion Holdings’ 2013 senior notes redeemed plus a “make-whole” premium. The indenture governing Affinion Holdings’ 2013 senior notes contains negative covenants which restrict the ability of Affinion Holdings and any restricted subsidiaries of Affinion Holdings to engage in certain transactions and also contains customary events of default. Affinion Holdings’ 2013 senior notes are senior secured obligations of Affinion Holdings and rank pari passu in right of payment to all existing and future senior indebtedness of Affinion Holdings, junior in right of payment to all secured indebtedness of Affinion Holdings secured by liens having priority to the liens securing Affinion Holdings’ 2013 senior notes up to the value of the assets subject to such liens, and senior in right of payment to unsecured indebtedness of Affinion Holdings to the extent of the security of the collateral securing Affinion Holdings’ 2013 senior notes and all future subordinated indebtedness of Affinion Holdings. The Series A warrants are exercisable at any time at the option of the holders at an exercise price of $0.01 per share of Class B common stock and will expire on the tenth anniversary of their issuance date. The Series B warrants will not become exercisable until and unless on the fourth anniversary of the exchange closing date, 5% or more in aggregate principal amount of the Affinion Holdings’ 2013 senior notes are then outstanding and unpaid whereupon, if it should occur, the Series B warrants will become exercisable until the tenth anniversary of the exchange closing date at an exercise price of $0.01 per share of Class B common stock.

In connection with the exchange, Affinion Holdings recognized a loss of $4.6 million, representing the write-off of unamortized debt issuance costs and discounts of $2.8 million and $1.8 million, respectively. In connection with the exchange offer and consent solicitation relating to Affinion Holdings’ 2010 senior notes and the issuance of Affinion Holdings’ 2013 senior notes, Affinion Holdings incurred financing costs of $4.7 million, which are included in other non-current assets on the accompanying unaudited condensed consolidated balance sheet and are being amortized over the term of Affinion Holdings’ 2013 senior notes.

On June 9, 2014, Affinion Holdings completed an offer to exchange Affinion Holdings’ 2013 senior notes for Affinion Holdings’ Series A warrants to purchase shares of Affinion Holdings’ Class B common stock.  In connection with the exchange offer, approximately $88.7 million aggregate principal amount of Affinion Holdings’ 2013 senior notes were exchanged for Series A warrants to purchase up to approximately 30.3 million shares of Affinion Holdings Class B common stock. In addition, on June 9, 2014, in connection with a pre-emptive rights offer, Affinion Holdings issued Series A warrants to purchase up to approximately 1.2 million shares of Affinion Holdings Class B common stock in exchange for cash proceeds of approximately $3.8 million. In connection with the debt exchange, Affinion Holdings recognized a loss on extinguishment of debt of $8.6 million, which represented the write off of a pro rata portion of the unamortized deferred financing costs and debt discount. In September 2014, the Company issued an additional $22.4 million aggregate principal amount of Affinion Holdings’ 2013 senior notes in connection with the interest payment in September 2014 and in March 2015, the Company issued an additional $16.4 million aggregate principal amount of Affinion Holdings’ 2013 senior notes in connection with the interest payment in March 2015.  

On December 12, 2013, Affinion completed a private offer to exchange Affinion’s 2006 senior subordinated notes for the Investments senior subordinated notes issued by Affinion Investments, pursuant to which $360.0 million aggregate principal amount of Investments senior subordinated notes were issued in exchange for $352.9 million aggregate principal amount of Affinion’s 2006 senior subordinated notes. Under the terms of the exchange offer, for each $1,000 principal amount of Affinion’s 2006 senior subordinated notes tendered at or prior to the consent time, holders received $1,020 principal amount of Investments senior subordinated notes. For each $1,000 principal amount of Affinion’s 2006 senior subordinated notes tendered during the offer period but after the consent period, holders received $1,000 principal amount of Investments senior subordinated notes. The Investments senior subordinated notes bear interest at 13.50% per annum, payable semi-annually on February 15 and August 15 of each year, commencing on February 15, 2014. The Investments senior subordinated notes will mature on August 15, 2018. Affinion Investments may redeem some or all of the Investments senior subordinated notes at any time on or after December 12, 2016 at redemption prices (generally at a premium) set forth in the indenture governing the Investments senior subordinated notes. In addition, prior to December 12, 2016, up to 35% of the outstanding Investments senior subordinated notes are redeemable at the option of Affinion Investments, with the net proceeds raised by Affinion or Affinion Holdings in one or more equity offerings, at 113.50% of their principal amount. In addition, prior to December 12, 2016, the Investments senior subordinated notes are redeemable, in whole or in part, at a redemption price equal to 100% of the principal amount of the Investments senior subordinated notes redeemed plus a

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“make-whole” premium. The indenture governing the Investments senior subordinated notes contains negative covenants which restrict the ability of Affinion Investments, any future restricted subsidiaries of Affinion Investments and one of the Company’s other wholly-owned subsidiaries that guarantees the Investments senior subordinated notes to engage in certain transactions and also contains customary events of default. Affinion Investments’ obligations under the Investments senior subordinated notes are guaranteed on an unsecured senior subordinated basis by Affinion Investments II. Each of Affinion Investments and Affinion Investments II is an unrestricted subsidiary of Affinion and guarantees Affinion’s indebtedness under its senior secured credit facility but does not guarantee Affinion’s other indebtedness. The Investments senior subordinated notes and guarantee thereof are unsecured senior subordinated obligations of Affinion Investments, as issuer, and  Affinion Investments II, as guarantor, and rank junior in right of payment to their respective guarantees of Affinion’s senior secured credit facility.  

On December 12, 2013, Affinion Investments exchanged with Affinion all of Affinion’s 2006 senior subordinated notes received by it in the exchange offer for Affinion’s 2013 senior subordinated notes. Affinion’s 2013 senior subordinated notes bear interest at 13.50% per annum payable semi-annually on February 15 and August 15 of each year, commencing on February 15, 2014. Affinion’s 2013 senior subordinated notes will mature on August 15, 2018. Affinion’s 2013 senior subordinated notes are redeemable at Affinion’s option prior to maturity. The indenture governing Affinion’s 2013 senior subordinated notes contains negative covenants which restrict the ability of Affinion and its restricted subsidiaries to engage in certain transactions and also contains customary events of default. Affinion’s obligations under its 2013 senior subordinated notes are jointly and severally and fully and unconditionally guaranteed on an unsecured senior subordinated basis by each of Affinion’s existing and future domestic subsidiaries that guarantee Affinion’s indebtedness under its senior secured credit facility (other than Affinion Investments and Affinion Investments II). Affinion’s 2013 senior subordinated notes and guarantees thereof are unsecured senior subordinated obligations of Affinion’s and rank junior to all of Affinion’s and the guarantors’ existing and future senior indebtedness, pari passu with Affinion’s 2006 senior subordinated notes and senior to Affinion’s and the guarantors’ future subordinated indebtedness. Although Affinion Investments is the only holder of  Affinion’s 2013 senior subordinated notes, the trustee for the Investments senior subordinated notes, and holders of at least 25% of the principal amount of the  Investments senior subordinated notes will have the right as third party beneficiaries to enforce the remedies available to Affinion Investments against Affinion, and Affinion Investments will not be able to amend the covenants in the note agreement governing Affinion’s 2013 senior subordinated notes in favor of Affinion unless it has received consent from the holders of a majority of the aggregate principal amount of the outstanding Investments senior subordinated notes.

On October 5, 2010, Affinion Holdings issued $325.0 million aggregate principal amount of Affinion Holdings’ 2010 senior notes. Affinion Holdings used a portion of the proceeds of $320.3 million (net of issue discount), along with proceeds from a cash dividend from Affinion in the amount of $115.3 million, to repay its senior unsecured term loan. A portion of the remaining proceeds from the offering of Affinion Holdings’ 2010 senior notes were utilized to pay related fees and expenses of approximately $6.7 million, with the balance retained for general corporate purposes. The fees and expenses were capitalized and were being amortized over the term of the Affinion Holdings’ 2010 senior notes. On August 24, 2011, pursuant to the registration rights agreement entered into in connection with the issuance of Affinion Holdings’ 2010 senior notes, Affinion Holdings completed a registered exchange offer and exchanged all of its then-outstanding Affinion Holdings’ 2010 senior notes for a like principal amount of Affinion Holdings’ 2010 senior notes that have been registered under the Securities Act.

On November 19, 2010, Affinion completed a private offering of $475.0 million aggregate principal amount of 7.875% senior notes due 2018 (“Affinion’s 2010 senior notes”). Affinion’s 2010 senior notes bear interest at 7.875% per annum payable semi-annually on June 15 and December 15 of each year, commencing on June 15, 2011. Affinion’s 2010 senior notes will mature on December 15, 2018. Affinion’s 2010 senior notes are redeemable at Affinion’s option prior to maturity. The indenture governing Affinion’s 2010 senior notes contains negative covenants which restrict the ability of Affinion and its restricted subsidiaries to engage in certain transactions and also contains customary events of default. Affinion’s obligations under Affinion’s 2010 senior notes are jointly and severally and fully and unconditionally guaranteed on a senior unsecured basis by each of Affinion’s existing and future domestic subsidiaries that guarantee Affinion’s indebtedness under the Affinion Credit Facility, other than Affinion Investments and Affinion Investments II. Affinion’s 2010 senior notes and guarantees thereof are senior unsecured obligations of Affinion and rank equally with all of Affinion’s and the guarantors’ existing and future senior indebtedness and senior to Affinion’s and the guarantors’ existing and future subordinated indebtedness. Affinion’s 2010 senior notes are therefore effectively subordinated to Affinion’s and the guarantors’ existing and future secured indebtedness, including Affinion’s obligations under the Affinion Credit Facility, to the extent of the value of the collateral securing such indebtedness. Affinion’s 2010 senior notes are structurally subordinated to all indebtedness and other obligations of each of Affinion’s existing and future subsidiaries that are not guarantors, including the Investments senior subordinated notes. On August 24, 2011, pursuant to the registration rights agreement entered into in connection with the issuance of Affinion’s 2010 senior notes, Affinion completed a registered exchange offer and exchanged all of Affinion’s then-outstanding 2010 senior notes for a like principal amount of Affinion’s 2010 senior notes that have been registered under the Securities Act of 1933, as amended (the “Securities Act”).

On April 26, 2006, Affinion issued $355.5 million aggregate principal amount of its 2006 senior subordinated notes and applied the gross proceeds of $350.5 million to repay $349.5 million of outstanding borrowings under a then-outstanding $383.6 million senior subordinated loan facility (the “Bridge Loan”), plus accrued interest, and used cash on hand to pay fees and expenses associated with such issuance. Affinion’s 2006 senior subordinated notes bear interest at 11 1/2% per annum, payable semi-annually on April 15

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and October 15 of each year. Affinion’s 2006 senior subordinated notes mature on October 15, 2015. Affinion may redeem some or all of its 2006 senior subordinated notes at any time on or after October 15, 2010 at redemption prices (generally at a premium) set forth in the indenture governing Affinion’s 2006 senior subordinated notes. Affinion’s 2006 senior subordinated notes are unsecured obligations of Affinion and rank junior in right of payment with Affinion’s existing and future senior obligations and senior to Affinion’s future subordinated indebtedness. At September 30, 2015, Affinion’s 2006 senior subordinated notes were guaranteed by the same subsidiaries of Affinion that guarantee the Affinion senior secured credit facility (other than Affinion Investments, Affinion Investments II, Propp Corp., SkyMall and Connexions SMV, LLC). On December 12, 2013, $352.9 million aggregate principal amount of Affinion’s 2006 senior subordinated notes were exchanged for $360.0 million of Investments senior subordinated notes.    

On September 13, 2006, Affinion completed a registered exchange offer and exchanged all of its then-outstanding 2006 senior subordinated notes for a like principal amount of its 2006 senior subordinated notes that have been registered under the Securities Act.

The amended Affinion Credit Facility, Affinion’s 2010 senior notes and Affinion’s 2013 senior subordinated notes all contain restrictive covenants related primarily to Affinion’s ability to distribute dividends, redeem or repurchase capital stock, sell assets, issue additional debt or merge with or acquire other companies. Under the Affinion Credit Facility, Affinion generally may pay dividends of up to approximately $13.8 million in the aggregate, provided that no default or event of default has occurred or is continuing, or would result from the dividend. Under the Affinion Credit Facility, payment of additional dividends requires the satisfaction of various conditions, including meeting defined leverage ratios and a defined fixed charge coverage ratio, and the total dividend paid cannot exceed a calculated amount of defined available free cash flow, or requires availability under specified baskets. The covenants in the Affinion Credit Facility also require compliance with a senior secured leverage ratio. During the nine months ended September 30, 2015 and 2014, Affinion did not pay any cash dividends to Affinion Holdings. Affinion was in compliance with the covenants referred to above as of September 30, 2015. Payment under each of the debt agreements may be accelerated in the event of a default. Events of default include the failure to pay principal and interest when due, covenant defaults (unless cured within applicable grace periods, if any), events of bankruptcy and, for the amended Affinion Credit Facility, a material breach of representation or warranty and a change of control.

Subsequent Events - On November 9, 2015, (a) Affinion Holdings completed a private offer to exchange Affinion Holdings’ outstanding 2013 senior notes for shares of new Common Stock, par value $0.01 per share (the “New Common Stock”), of Affinion Holdings, (b) Affinion Investments completed a private offer to exchange its outstanding Investments senior subordinated notes for shares of New Common Stock, and (c) Affinion Holdings and Affinion International Holdings Limited (“Affinion International”), a wholly-owned subsidiary of Affinion, jointly completed a rights offering giving holders of Affinion Holdings’ 2013 senior notes and the Investments senior subordinated notes the right to purchase an aggregate principal amount of $110.0 million of 7.5% Cash/PIK Senior Notes due 2018 (the “International Notes”) of Affinion International and 2,483,333 shares of New Common Stock for an aggregate cash purchase price of $110.0 million. Under the terms of Affinion Holdings’ exchange offer, for each $1,000 principal amount of Affinion Holdings’ 2013 senior notes tendered during the offer period, holders received 7.15066 shares of Affinion Holdings’ New Common Stock. Under the terms of Affinion Investments’ exchange offer, for each $1,000 principal amount of the Investments senior subordinated notes tendered during the offer period, holders received 15.52274 shares of Affinion Holdings’ New Common Stock. Under certain circumstances, certain holders received non-participating penny warrants (the “Limited Warrants”) of Affinion Holdings that are convertible into shares of New Common Stock upon certain conditions. Pursuant to Affinion Holdings’ exchange offer, approximately $247.4 million of Affinion Holdings’ 2013 senior notes were exchanged for 1,769,104 shares of New Common Stock and pursuant to Affinion Investments’ exchange offer, approximately $337.3 million of Investments senior subordinated notes were exchanged for 5,236,517 shares of New Common Stock.

Concurrently with the exchange offers, Affinion Holdings and Affinion Investments successfully solicited consents from holders to certain amendments to (a) the indenture governing Affinion Holdings’ 2013 senior notes to remove substantially all of the restrictive covenants and certain of the default provisions and to release the collateral securing Affinion Holdings’ 2013 senior notes, (b) the indenture governing the Investments senior subordinated notes to remove substantially all of the restrictive covenants and certain of the default provisions, and (c) the note agreement governing Affinion’s 2013 senior subordinated notes to remove substantially all of the restrictive covenants and certain of the default provisions and to permit the repurchase and cancellation of Affinion’s 2013 senior subordinated notes by Affinion in the same aggregate principal amount as the aggregate principal amount of the Investments senior subordinated notes repurchased or redeemed by Affinion Investments at any time, including pursuant to Affinion Investments’ exchange offer.

In connection with the exchange offers, Affinion Holdings and Affinion International jointly conducted a rights offering for International Notes and shares of Affinion Holdings’ New Common Stock. The rights offering was for an aggregate principal amount of $110.0 million of International Notes and 2,483,333 shares of New Common Stock. Each unit sold in the rights offering consisted of (1) $1,000 principal amount of International Notes and (2) 22.57576 shares of Affinion Holdings’ New Common Stock, and was sold at a purchase price per unit of $1,000. Each holder that properly tendered for exchange, and did not validly withdraw, all of their Affinion Holdings’ 2013 senior notes and the Investments senior subordinated notes in the exchange offers received non-certificated rights to subscribe for rights offering units. In connection with the rights offering, Empyrean Capital Partners, L.P. agreed to purchase any rights offering units that were unpurchased in the rights offering (the “Backstop”). Pursuant to Affinion Holdings’ and Affinion

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International’s rights offering and the Backstop, Affinion International received cash of approximately $110.0 million in exchange for $110.0 million aggregate principal amount of International Notes and 2,113,033 shares of New Common Stock and Limited Warrants to purchase up to 370,275 shares of New Common Stock. The net cash proceeds from the rights offering will be used for working capital purposes of Affinion International and the Foreign Guarantors (as defined below) and to repay certain intercompany loans owed by Affinion International to Affinion and its domestic subsidiaries. Affinion will use such intercompany loan repayment proceeds for general corporate purposes, including to repay borrowings under its revolving credit facility and to pay fees and expenses related to the exchange offers and rights offering. The International Notes bear interest at 7.5% per annum, of which 3.5% per annum will be payable in cash (“Cash Interest”) and 4.0% per annum will be payable by increasing the principal amount of the outstanding International Notes or by issuing International Notes (“International PIK Interest”); provided, that all of the accrued interest on the International Notes from the issue date to, but not including, May 1, 2016 will be payable on May 1, 2016 entirely as International PIK Interest. Interest on the International Notes is payable semi-annually on May 1 and November 1 of each year, commencing on May 1, 2016. The International Notes will mature on July 30, 2018. The International Notes are redeemable at Affinion International’s option prior to maturity. The indenture governing the International Notes contains negative covenants which restrict the ability of Affinion International, Affinion and their respective restricted subsidiaries to engage in certain transactions and also contains customary events of default. Affinion International’s obligations under the International Notes are jointly and severally and fully and unconditionally guaranteed on an unsecured senior basis by each of Affinion’s existing and future domestic subsidiaries that guarantee Affinion’s indebtedness under its senior secured credit facility (other than Affinion Investments and Affinion Investments II, and additionally including (such additional guarantors, the “Foreign Guarantors”) Affinion International Limited, Affinion International Travel HoldCo Limited, Webloyalty International Limited, Loyalty Ventures Limited, Bassae Holding B.V., Webloyalty Holdings Coöperatief U.A. and Webloyalty International S.à r.l.). The International Notes and guarantees thereof are unsecured senior obligations of Affinion International’s and rank equally with all of Affinion International’s and the guarantors’ existing and future senior indebtedness and senior to Affinion International’s and the guarantors existing and future subordinated indebtedness.    

Upon consummation of the exchange offers, consent solicitations and rights offering, Affinion Holdings effected a reclassification (the “Reclassification”) as follows.  Affinion Holdings’ existing Class A Common Stock (including Class A Common Stock issued as a result of a mandatory cashless exercise of all of its Series A Warrants) was converted into (i) shares of Affinion Holdings’ new Class C Common Stock, that upon conversion will represent 5% of the outstanding shares of New Common Stock on a fully diluted basis, and (ii) shares of Affinion Holdings’ new Class D Common Stock, that upon conversion will represent 5% of the outstanding shares of New Common Stock on a fully diluted basis. In addition, Affinion Holdings’ Series A Warrants and Affinion Holdings’ Class B Common Stock were eliminated from Affinion Holdings’ certificate of incorporation and Affinion Holdings’ Series B Warrants were cancelled for no additional consideration.

Upon consummation of the exchange offers, Apollo and investment funds affiliated with General Atlantic LLC (“General Atlantic”) ceased to have beneficial ownership of any New Common Stock.

 

 

6. INCOME TAXES

The income tax provision is determined under the asset and liability approach, under which deferred tax assets and liabilities are calculated based upon the temporary differences between the financial statements and income tax bases of assets and liabilities using currently enacted tax rates. Deferred tax assets are recorded net of a valuation allowance when, based on the weight of available evidence, it is more likely than not that some portion, or all, of the recorded deferred tax assets will not be realized in future periods. Decreases to the valuation allowance are recorded as reductions to the income tax provision, while increases to the valuation allowance result in additional income tax provision. The realization of deferred tax assets is primarily dependent on estimated future taxable income. As of September 30, 2015 and December 31, 2014, the Company has recorded a full valuation allowance for its U.S. federal net deferred tax assets. As of September 30, 2015 and December 31, 2014, the Company has also recorded valuation allowances against the deferred tax assets related to certain state and foreign tax jurisdictions.

The Company’s effective income tax rates for the three and nine months ended September 30, 2015 were (6.3)% and (5.4)%, respectively. The Company’s effective income tax rates for the three and nine months ended September 30, 2014 were (7.0)% and (7.4)%, respectively. The difference in the effective tax rates for the three months ended September 30, 2015 and 2014 is primarily a result of the decrease from loss before income taxes and non-controlling interest of $37.8 million for the three months ended September 30, 2014 to $18.0 million for the three months ended September 30, 2015 and a decrease in the income tax provision from $2.6 million for the three months ended September 30, 2014 to $1.1 million for the three months ended September 30, 2015. The difference in the effective tax rates for the nine months ended September 30, 2015 and 2014 is primarily a result of the decrease from loss before income taxes and non-controlling interest of $148.6 million for the nine months ended September 30, 2014 to $77.9 million for the nine months ended September 30, 2015 and a decrease in the income tax provision from $10.9 million for the nine months ended September 30, 2014 to $4.2 million for the nine months ended September 30, 2015.The Company’s tax rate is affected by recurring items, such as tax rates in foreign jurisdictions and the relative amount of income it earns in those jurisdictions. It is also affected by discrete items that may occur in any given year, but are not consistent from year to year. In addition to state and foreign income taxes, the requirement to maintain valuation allowances had the most significant impact on the difference between the Company’s effective tax rate and the statutory U.S. federal income tax rate of 35%.

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The Company recognizes interest and penalties related to uncertain tax positions in income tax expense. The Company recognized less than $0.1 million and $0.2 million of interest related to uncertain tax positions for the three and nine months ended September 30, 2015, respectively. The Company recognized less than $0.1 million and $0.2 million of interest related to uncertain tax positions for the three and nine months ended September 30, 2014, respectively. The interest has been included in income tax expense for the current period. The Company’s gross unrecognized tax benefits for the nine months ended September 30, 2015 decreased by $2.6 million as a result of tax positions taken during the current period, which was offset by a valuation allowance.

The Company’s income tax returns are periodically examined by various tax authorities. In connection with these and future examinations, certain tax authorities, including the Internal Revenue Service, may raise issues and impose additional assessments. The Company regularly evaluates the likelihood of additional assessments resulting from these examinations and establishes liabilities, through the provision for income taxes, for potential amounts that may result therefrom. The recognition of uncertain tax benefits are not expected to have a material impact on the Company’s effective tax rate or results of operations. Federal, state and local jurisdictions are subject to examination by the taxing authorities for all open years as prescribed by applicable statute. For significant foreign jurisdictions, tax years in Germany, France, Turkey, Switzerland and the United Kingdom remain open as prescribed by applicable statute. During 2015, income tax waivers were executed in certain states that extend the period subject to examination beyond the period prescribed by statute. There are no significant changes anticipated in accordance with the extension of the income tax statutes in these jurisdictions. The Company does not believe that it is reasonably possible that the total amount of unrecognized tax benefits will change significantly within the next 12 months.

 

7. COMMITMENTS AND CONTINGENCIES

Litigation

In the ordinary course of business, the Company is involved in claims, governmental inquiries and legal proceedings related to employment matters, contract disputes, business practices, trademark and copyright infringement claims and other commercial matters. The Company is also a party to lawsuits which were brought against it and its affiliates and which purport to be a class action in nature and allege that the Company violated certain federal or state consumer protection statutes (as described below). The Company intends to vigorously defend itself against such lawsuits.

On June 17, 2010, a class action complaint was filed against the Company and Trilegiant Corporation (“Trilegiant”) in the United States District Court for the District of Connecticut. The complaint asserts various causes of action on behalf of a putative nationwide class and a California-only subclass in connection with the sale by Trilegiant of its membership programs, including claims under the Electronic Communications Privacy Act (“ECPA”), the Connecticut Unfair Trade Practices Act (“CUTPA”), the Racketeer Influenced Corrupt Organizations Act (“RICO”), the California Consumers Legal Remedies Act, the California Unfair Competition Law, the California False Advertising Law, and for unjust enrichment. On September 29, 2010, the Company filed a motion to compel arbitration of all of the claims asserted in this lawsuit. On February 24, 2011, the court denied the Company’s motion. On March 28, 2011, the Company and Trilegiant filed a notice of appeal in the United States Court of Appeals for the Second Circuit, appealing the district court’s denial of their motion to compel arbitration. On September 7, 2012, the Second Circuit affirmed the decision of the district court denying arbitration. While that issue was on appeal, the matter proceeded in the district court. There was written discovery and depositions. Previously, the court had set a briefing schedule on class certification that called for the completion of class certification briefing on May 18, 2012. However, on March 28, 2012, the court suspended the briefing schedule on the motion due to the filing of two other overlapping class actions in the United States District Court for the District of Connecticut. The first of those cases was filed on March 6, 2012, against the Company, Trilegiant, Chase Bank USA, N.A., Bank of America, N.A., Capital One Financial Corp., Citigroup, Inc., Citibank, N.A., Apollo Global Management, LLC, 1-800-Flowers.Com, Inc., United Online, Inc., Memory Lane, Inc., Classmates Int’l, Inc., FTD Group, Inc., Days Inn Worldwide, Inc., Wyndham Worldwide Corp., People Finderspro, Inc., Beckett Media LLC, Buy.com, Inc., Rakuten USA, Inc., IAC/InteractiveCorp., and Shoebuy.com, Inc. The second of those cases was filed on March 25, 2012, against the same defendants as well as Adaptive Marketing, LLC, Vertrue, Inc., Webloyalty.com, Inc., and Wells Fargo & Co. These two cases assert similar claims as the claims asserted in the earlier-filed lawsuit in connection with the sale by Trilegiant of its membership programs. On April 26, 2012, the court consolidated these three cases. The court also set an initial status conference for May 17, 2012. At that status conference, the court ordered that Plaintiffs file a consolidated amended complaint to combine the claims in the three previously separate lawsuits. The court also struck the class certification briefing schedule that had been set previously. On September 7, 2012, the Plaintiffs filed a consolidated amended complaint asserting substantially the same legal claims. The consolidated amended complaint added Priceline, Orbitz, Chase Paymentech, Hotwire, and TigerDirect as Defendants and added three new Plaintiffs; it also dropped Webloyalty and Rakuten as Defendants. On December 7, 2012, all Defendants filed motions seeking to dismiss the consolidated amended complaint and to strike certain portions of the complaint. Plaintiff’s response brief was filed on February 7, 2013, and Defendants’ reply briefs were filed on April 5, 2013. On September 25, 2013, the court held oral argument on the motions to dismiss. On March 28, 2014, the court ruled on the motions to dismiss, granting them in part and denying them in part. The court dismissed the Plaintiffs’ RICO claims and claims under the California Automatic Renewal Statute as to all defendants. The court also dismissed certain named Plaintiffs as their claims were barred either by the statute of limitations and/or a prior settlement agreement. Certain Defendants were also dismissed from the case. The court also struck certain allegations from the consolidated amended complaint, including certain of Plaintiffs’ class action

16


allegations under CUTPA. As to the Company and Trilegiant, the court denied the motion to dismiss certain Plaintiffs’ claims under ECPA and for unjust enrichment, as well as certain other claims of Plaintiffs under CUTPA.

Also, on December 5, 2012, the Plaintiffs’ law firms in these consolidated cases filed an additional action in the United States District Court for the District of Connecticut. That case is identical in all respects to this case except that it was filed by a new Plaintiff (the named Plaintiff from the class action complaint previously filed against the Company, Trilegiant, 1-800-Flowers.com, and Chase Bank USA, N.A., in the United States District Court for the Eastern District of New York on November 10, 2010). On January 23, 2013, Plaintiff filed a motion to consolidate that case into the existing set of consolidated cases.  On June 13, 2013, the court entered an order staying the date for all Defendants to respond to the Complaint until 21 days after the court ruled on the motion to consolidate. On March 28, 2014, the court entered an order granting the motion to consolidate.

On May 12, 2014, remaining Defendants in the consolidated cases filed answers in which they denied the material allegations of the consolidated amended complaint.  On April 28, 2014, Plaintiffs filed a motion seeking interlocutory appellate review of portions of the court’s order of March 28, 2014.  Briefing on the motion was completed on June 5, 2014.  On March 26, 2015, the court denied Plaintiff’s motion for interlocutory appeal.  On May 29, 2015, the court issued a scheduling order indicating that discovery was to commence immediately and be completed by December 31, 2015.  On May 29, 2015, the court also set deadlines for dispositive motions, which are due February 29, 2016.  If no dispositive motions are filed, a joint trial memorandum would be due by April 1, 2016, and jury selection would take place on May 3, 2016.  If dispositive motions are filed, the joint trial memorandum would be due by October 3, 2016, and jury selection would take place on November 1, 2016.  On June 16, 2015, the court set a schedule for class certification, with plaintiffs’ motion for class certification due on September 15, 2015, and with briefing to be completed by November 30, 2015. Plaintiffs filed their motion for class certification on September 15, 2015, and Defendants’ opposition brief is due on November 16, 2015.

On August 27, 2010, a class action lawsuit was filed against Webloyalty, one of its former clients and one of the credit card associations in the United States District Court for the District of Connecticut alleging, among other things, violations of the Electronic Fund Transfer Act, Electronic Communications Privacy Act, unjust enrichment, civil theft, negligent misrepresentation, fraud and Connecticut Unfair Trade Practices Act violation (the “Connecticut Action”). This lawsuit relates to Webloyalty’s alleged conduct occurring on and after October 1, 2008. On November 1, 2010, the defendants moved to dismiss the initial complaint, which plaintiff then amended on November 19, 2010. On December 23, 2010, Webloyalty filed a second motion to dismiss this lawsuit. On May 15, 2014, the court heard oral argument on plaintiff’s motion to strike the Company’s request for judicial notice of the plaintiff’s membership enrollment documents filed in support of the Company’s second motion to dismiss. On July 17, 2014, the court denied plaintiff’s motion to strike.  The court, at the same time, dismissed those claims grounded in fraud, but reserved until further proceedings the determination as to whether all of plaintiff’s claims are grounded in fraud and whether those claims not grounded in fraud are dismissible.  The court permitted the plaintiff until August 15, 2014 to amend his complaint and allowed the parties the opportunity to conduct limited discovery, to be completed by September 26, 2014, concerning the issues addressed in its dismissal order. All other discovery is currently stayed in the case. The July 17, 2014 order indicated that the court will set a further motion to dismiss briefing schedule following the conclusion of this limited discovery. The plaintiff amended his complaint as scheduled, and the parties conducted limited discovery as ordered. After this limited discovery, the parties proposed a motion to dismiss briefing schedule calling for the defendants to file their opening briefs on January 9, 2015.  The plaintiff filed his opposition brief on March 24, 2015, and on April 24, 2015, the defendants filed their reply briefs in response to that opposition.  On October 15, 2015, the court entered a judgment dismissing all of the plaintiff’s claims with prejudice and without further leave to amend.

On June 7, 2012, another class action lawsuit was filed in the U.S. District Court for the Southern District of California against Webloyalty that was factually similar to the Connecticut Action. The action claims that Webloyalty engaged in unlawful business practices in violation of California Business and Professional Code § 17200, et seq. and in violation of the Connecticut Unfair Trade Practices Act. Both claims are based on allegations that in connection with enrollment and billing of the plaintiff, Webloyalty charged plaintiff’s credit or debit card using information obtained through a data pass process and without obtaining directly from plaintiff his full account number, name, address, and contact information, as purportedly required under Restore Online Shoppers’ Confidence Act. On September 25, 2012, Webloyalty filed a motion to dismiss the complaint in its entirety and the court scheduled a hearing on the motion for January 14, 2013. Webloyalty also sought judicial notice of the enrollment page and related enrollment and account documents. Plaintiff filed his opposition on December 12, 2012, and Webloyalty filed its reply submission on January 7, 2013. Thereafter, on January 10, 2013, the court cancelled the previously scheduled January 14, 2013 hearing and indicated that it would rule based on the parties’ written submissions without the need for a hearing. On August 28, 2013, the court sua sponte dismissed plaintiff’s complaint without prejudice with leave to amend by September 30, 2013. The plaintiff filed his amended complaint on September 30, 2013, adding purported claims under the Electronic Communications Privacy Act and for unjust enrichment, money had and received, conversion, civil theft, and invasion of privacy. On December 2, 2013, the Company moved to dismiss plaintiff’s amended complaint. Plaintiff responded to the motion on January 27, 2014. On February 6, 2014, the court indicated that it would review the submissions and issue a decision on plaintiff’s motion without oral argument. On September 29, 2014, the court dismissed the plaintiff’s claims on substantive grounds and/or statute of limitations grounds. The court has allowed the plaintiff 28 days to file a motion demonstrating why a further amendment of the complaint would not be futile. On October 27, 2014, the plaintiff filed a motion for leave to amend the complaint and attached a proposed amended complaint. The Company responded to the motion on November

17


10, 2014. On June 22, 2015, the court entered a final order and judgment denying plaintiff’s motion to amend, dismissing all federal claims with prejudice, and dismissing all state claims without prejudice.  On July 10, 2015, plaintiff filed a notice appealing the dismissal decision and denial of his request to further amend his complaint to the U.S. Court of Appeals for the Ninth Circuit. The plaintiff’s opening appeal brief is due on October 19, 2015, and the Company’s responsive brief is due on November 19, 2015.

On February 7, 2014 a class action lawsuit was filed against the Company and one of its clients in the United States District Court for the District of Massachusetts alleging, among other things, violations of the Electronic Fund Transfer Act and Electronic Communications Privacy Act, unjust enrichment, money had and received, conversion, misrepresentation, violation of the Massachusetts Consumer Protection Act and equitable relief.  Claims are based on allegations that plaintiff was enrolled and billed for a package program without plaintiff’s proper consent and knowledge.  On April 4, 2014, the Company filed a motion to dismiss. A hearing on that motion was held on July 24, 2014.  On March 11, 2015, the magistrate judge to whom the motion was referred by the district court judge issued a report and recommendation granting in part and denying in part the motion to dismiss.  The magistrate judge granted the motion to dismiss on the fraud claim, which was dismissed as time-barred, but denied the remainder of the motion.  On March 25, 2015, the Company filed objections to the magistrate judge’s report and recommendation.  Briefing on the objections concluded on April 9, 2015.  On June 4, 2015, the court accepted and adopted the report and recommendation of the magistrate judge over the Company’s objections.  The Company filed its answer to the complaint on July 2, 2015.  A scheduling conference was held with the court on August 11, 2015. The court entered an order providing that fact discovery is to be completed by March 31, 2016. On October 2, 2015, plaintiff’s counsel filed a motion to withdraw as counsel. On October 20, 2015, the court granted the motion of plaintiff’s counsel to withdraw as counsel. On October 21, 2015, plaintiff and the Company agreed to settle plaintiff’s claims on an individual, non-class basis for a payment of less than $0.1 million. In connection with such settlement, plaintiff released the Company and its affiliates from all claims that plaintiff had against such parties related to such lawsuit.

Other Contingencies

From time to time, the Company receives inquiries from federal and state agencies which may include the Federal Trade Commission, the Federal Communications Commission, the Consumer Financial Protection Bureau (the “CFPB”), state attorneys general and other state regulatory agencies, including state insurance regulators. The Company responds to these matters and requests for documents, some of which may lead to further investigations and proceedings.

From time to time, our international operations also receive inquiries from consumer protection, insurance or data protection agencies. The Company responds to these matters and requests for documents, some of which may lead to further investigations and proceedings. On January 27, 2015, following voluntary discussions with the Financial Conduct Authority in the United Kingdom (the “FCA”), Affinion International Limited (“AIL”), one of our UK subsidiaries, and 11 UK retail banks and credit card issuers, announced a proposed joint arrangement, which allows eligible consumers to make claims for compensation in relation to a discontinued benefit in one of AIL’s products. The proposed arrangement has been approved by a majority of those affected consumers who voted at a creditors’ meeting held on June 30, 2015, and has also been approved by the High Court in London at a hearing held on July 9, 2015.  The proposed arrangement, which will not result in the imposition of any fines on AIL or the Company, became effective on August 17, 2015 and eligible customers have until March 18, 2016 to claim compensation (and, in exceptional circumstances, until September 18, 2016). Based on the information currently available, the Company has recorded an estimated liability that represents potential consumers’ refunds to be paid by the Company as part of such arrangement.

On April 18, 2014, Bank of America, N.A. (“Bank of America”) and FIA Card Services, N.A. (“FIA Card Services”) commenced an arbitration proceeding against Trilegiant and Affinion pursuant to the terms of the parties’ servicing agreements. In the arbitration proceeding, Bank of America asserted various causes of action and requests for monetary and other relief, including a demand for contractual indemnification of the losses and costs, including in particular customer refunds and reasonable attorneys’ fees that Bank of America incurred related to consent orders entered into by Bank of America with the Office of the Comptroller of the Currency on April 7, 2014 and with the CFPB on April 9, 2014. On May 16, 2014, Trilegiant commenced two separate arbitration proceedings against Bank of America, asserting that Bank of America breached the parties’ servicing agreements. On July 7, 2014, the parties agreed to stay one of the arbitrations initiated by Trilegiant and to dismiss the other arbitrations without prejudice, pending mediation. On September 22, 2014, Bank of America and Trilegiant participated in a mediation to attempt to resolve their outstanding disputes. The mediation process was ultimately unsuccessful in resolving the parties’ disputes. As such, the parties have resumed the arbitration process. The arbitration hearing commenced on October 12, 2015 and has not yet concluded. The arbitration hearing is expected to be concluded by the end of 2015. The parties intend to submit post-hearing memoranda, such that a decision is not expected until early 2016.

In September 2014, the Company received a Notice and Opportunity to Respond and Advise ("NORA") letter indicating that the CFPB was considering taking legal action against the Company for violations of Sections 1031 and 1036 of the Consumer Financial Protection Act relating to the Company’s identity theft protection products. In July 2015, the Company entered into a Stipulated Final Judgment and Order (“Consent Order”) settling allegations regarding unfair billing practices related to certain of the Company’s protection products and deceptive retention practices related to these same products. The Consent Order was approved by the court on October 27, 2015. The Consent Order requires a payment by the Company of $1.9 million to the CFPB’s civil penalty fund and

18


approximately $6.75 million in consumer restitution, as well as injunctive provisions against the Company related to certain of its billing and retention practices, which are not expected to have a material effect on the Company. 

The Company believes that the amount accrued for the above litigation and contingencies matters is adequate, and the reasonably possible loss beyond the amounts accrued will not have a material effect on its consolidated financial statements, taken as a whole, based on information currently available. However, litigation is inherently unpredictable and, although the Company believes that accruals are adequate and it intends to vigorously defend itself against such matters, unfavorable resolution could occur, which could have a material effect on the Company’s consolidated financial statements, taken as a whole.

Surety Bonds and Letters of Credit

In the ordinary course of business, the Company is required to provide surety bonds to various state authorities in order to operate its membership, insurance and travel agency programs. As of September 30, 2015, the Company provided guarantees for surety bonds totaling approximately $10.7 million and issued letters of credit totaling $15.5 million.

 

 

8. STOCK-BASED COMPENSATION

In connection with the closing of the Apollo Transactions on October 17, 2005, Affinion Holdings adopted the 2005 Stock Incentive Plan (the “2005 Plan”). The 2005 Plan authorizes the Board of Directors (the “Board”) of Affinion Holdings to grant non-qualified, non-assignable stock options and rights to purchase shares of Affinion Holdings’ common stock to directors and employees of, and consultants to, Affinion Holdings and its subsidiaries. Options granted under the 2005 Plan have an exercise price no less than the fair market value of a share of the underlying common stock on the date of grant. Stock awards have a purchase price determined by the Board. The Board was authorized to grant up to 4.9 million shares of Affinion Holdings’ common stock under the 2005 Plan over a ten year period. As discussed below, no additional grants may be made under Affinion Holdings’ 2005 Plan on or after November 7, 2007, the effective date of the 2007 Plan, as defined below.

In November 2007, Affinion Holdings adopted the 2007 Stock Award Plan (the “2007 Plan”). The 2007 Plan authorizes the Board to grant awards of non-qualified stock options, incentive stock options, stock appreciation rights, restricted stock awards, restricted stock units, stock bonus awards, performance compensation awards (including cash bonus awards) or any combination of these awards to directors and employees of, and consultants to, Affinion Holdings and its subsidiaries. Unless otherwise determined by the Board of Directors, options granted under the 2007 Plan will have an exercise price no less than the fair market value of a share of the underlying common stock on the date of grant. Stock awards have a purchase price determined by the Board. The Board was authorized to grant up to 10.0 million shares of Affinion Holdings’ common stock under the 2007 Plan over a ten year period. As of September 30, 2015, there were 2.6 million shares available under the 2007 Plan for future grants.

In connection with the acquisition of Webloyalty in January 2011, the Company assumed the Webloyalty Holdings, Inc. 2005 Equity Award Plan (the “Webloyalty 2005 Plan”). The Webloyalty 2005 Plan, adopted by Webloyalty’s board of directors in May 2005, authorized Webloyalty’s board of directors to grant awards of incentive stock options, nonqualified stock options, stock appreciation rights, restricted stock, restricted stock units, stock bonuses and performance compensation awards or any combination of these awards to directors and employees of, and consultants to, Webloyalty. Unless otherwise determined by Webloyalty’s board of directors, incentive stock options granted under the Webloyalty 2005 Plan were to have an exercise price no less than the fair market value of a share of the underlying common stock on the date of grant and nonqualified stock options granted under the Webloyalty 2005 Plan were to have an exercise price no less than the par value of a share of Webloyalty’s common stock on the date of grant. The Webloyalty board of directors was authorized to grant shares of Webloyalty’s common stock under the Webloyalty 2005 Plan over a ten year period. As of September 30, 2015, after conversion of the outstanding options under the Webloyalty 2005 Plan into options to acquire shares of Affinion Holdings’ common stock, there were options to acquire 0.5 million shares of Affinion Holdings’ common stock. On March 28, 2014, the Company modified approximately 0.5 million of the outstanding options under the Webloyalty 2005 Plan, adjusting the exercise price to $1.14 per common share and extending the contractual life of the modified options until April 1, 2024. At September 30, 2015, the outstanding options had exercise prices ranging from $1.14 to $7.32. All of the outstanding options were vested as of September 30, 2015 and expire between December 2016 and April 2024.

For employee stock awards, the Company recognizes compensation expense, net of estimated forfeitures, over the requisite service period, which is the period during which the employee is required to provide services in exchange for the award. The Company has elected to recognize compensation cost for awards with only a service condition and have a graded vesting schedule on a straight-line basis over the requisite service period for the entire award.

19


Stock Options

During the three and nine months ended September 30, 2015 and 2014, there were no stock options granted to employees from the 2005 Plan. All options previously granted were granted with an exercise price equal to the estimated fair market value of a share of the underlying common stock on the date of grant.

Stock options granted to employees from the 2005 Plan are comprised of three tranches with the following terms:

 

 

 

Tranche A

 

Tranche B

 

Tranche C

Vesting

 

Ratably over 5 years*

 

100% after 8 years**

 

100% after 8 years**

Initial option term

 

10 years

 

10 years

 

10 years

 

*

In the event of a sale of the Company, vesting for tranche A occurs 18 months after the date of sale.

**

Tranche B and C vesting would be accelerated upon specified realized returns to Apollo.

 

On March 28, 2014, the Company modified approximately 1.9 million of the outstanding options under the 2005 Plan, adjusting the exercise price to $1.14 per common share and extending the contractual life of the modified options until April 1, 2024.

During the three and nine months ended September 30, 2015, there were no stock options granted to employees from the 2007 Plan. During the nine months ended September 30, 2014, 1.4 million stock options were granted to employees from the 2007 Plan. There were no stock options granted to employees from the 2007 Plan during the three months ended September 30, 2014. All options granted were granted with an exercise price equal to the estimated fair market value of a share of the underlying common stock on the date of grant.

The stock options granted to employees from the 2007 Plan have the following terms:

Vesting period

 

Ratably over 4 years

Initial option term

 

10 years

 

On March 28, 2014, the Company modified approximately 2.4 million of the outstanding options under the 2007 Plan, adjusting the exercise price to $1.14 per common share and extending the contractual life of the modified options until April 1, 2024.

 

During the three and nine months ended September 30, 2015, there were no stock options granted to members of the Board of Directors. During the nine months ended September 30, 2014, there were 0.1 million stock options granted to members of the Board of Directors. During the three months ended September 30, 2014, there were no stock options granted to members of the Board of Directors. Generally, options granted to members of the Board of Directors fully vest on the date of grant and have an initial option term of 10 years. On March 28, 2014, the Company modified approximately 0.2 million of the outstanding options granted to members of the Board of Directors, adjusting the exercise price to $1.14 per common share and extending the contractual life of the modified options until April 1, 2024.

The fair value of each option award from the 2007 Plan was estimated on the date of grant using the Black-Scholes option-pricing model based on the assumptions noted in the following table. Expected volatilities are based on historical volatilities of comparable companies.

The expected term of the options granted represents the period of time that options are expected to be outstanding, and is based on the average of the requisite service period and the contractual term of the option.

 

 

 

2014 Grants

 

 

 

 

 

 

Expected volatility

 

 

85

%

Expected life (in years)

 

6.25

 

Risk-free interest rate

 

 

2.04

%

Expected dividends

 

 

20


 

A summary of option activity for the nine months ended September 30, 2015 is presented below (number of options in thousands):

 

 

2005 Plan

 

 

2005 Plan

 

 

2005 Plan

 

 

 

 

 

 

 

 

 

 

Grants to

 

 

Grants to

 

 

Grants to

 

 

Grants to

 

 

2007 Plan

 

 

Employees -

 

 

Employees -

 

 

Employees -

 

 

Board of

 

 

Grants to

 

 

Tranche A

 

 

Tranche B

 

 

Tranche C

 

 

Directors

 

 

Employees

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Outstanding options at January 1, 2015

 

1,109

 

 

 

554

 

 

 

554

 

 

 

383

 

 

 

4,003

 

Granted

 

 

 

 

 

 

 

 

 

Exercised

 

 

 

 

 

 

 

 

 

Forfeited or expired

 

(21

)

 

 

(11

)

 

 

(11

)

 

 

 

 

(430

)

Outstanding options at September 30, 2015

 

1,088

 

 

 

543

 

 

 

543

 

 

 

383

 

 

 

3,573

 

Vested or expected to vest at September 30, 2015

 

1,088

 

 

 

543

 

 

 

543

 

 

 

383

 

 

 

3,573

 

Exercisable options at September 30, 2015

 

1,088

 

 

 

543

 

 

 

543

 

 

 

383

 

 

 

2,420

 

Weighted average remaining contractual term (in years)

7.3

 

 

7.3

 

 

7.3

 

 

5.6

 

 

 

8.5

 

Weighted average grant date fair value per option

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    granted in 2015

$

-

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

-

 

Weighted average exercise price of exercisable options

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    at September 30, 2015

$

1.18

 

 

$

1.18

 

 

$

1.18

 

 

$

1.57

 

 

$

2.57

 

Weighted average exercise price of outstanding options

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    at September 30, 2015

$

1.18

 

 

$

1.18

 

 

$

1.18

 

 

$

1.57

 

 

$

2.14

 

 

Based on the estimated fair values of options granted, stock-based compensation expense for the three and nine months ended September 30, 2015 totaled $0.2 million and $1.1 million, respectively. Based on the estimated fair values of options granted, stock-based compensation expense for the three and nine months ended September 30, 2014 totaled $0.8 million and $5.4 million, respectively. The stock-based compensation expense recognized during the nine months ended September 30, 2014 included $3.4 million of stock-based compensation expense recognized during the three months ended March 31, 2014 related to the modification of certain stock options held by approximately 200 employees. As of September 30, 2015, there was $1.1 million of unrecognized compensation cost related to unvested stock options, which will be recognized over a weighted average period of approximately 1.1 years.

Restricted Stock Units

On March 30, 2012, the Board’s Compensation Committee approved the 2012 Retention Award Program (the “2012 RAP”), which provides for awards of RSUs under the 2007 Stock Award Plan. During the year ended December 31, 2012, the Company granted approximately 1.4 million RSUs to key employees. The RSUs awarded under the 2012 RAP have an aggregate cash election dollar value of approximately $11.3 million and are subject to time-based vesting conditions that generally ran through December 31, 2014. Generally, the number of RSUs awarded to each participant is equal to the quotient of (i) the dollar value of the award, divided by (ii) $8.16, the value per share of Affinion Holdings’ common stock as of the grant date. Upon vesting of the RSUs, participants are able to settle the RSUs in shares of common stock or elect to receive cash in lieu of shares of common stock upon any of the three vesting dates for such RSUs. Due to the ability of the participants to settle their awards in cash, the Company accounts for these RSUs as a liability award.

21


A summary of restricted stock unit activity for the nine months ended September 30, 2015 is presented below (number of restricted stock units in thousands):

 

 

Number of

 

 

Weighted Average

 

 

 

Restricted

 

 

Grant Date

 

 

 

Stock Units

 

 

Fair Value

 

 

 

 

 

 

 

 

 

 

Outstanding restricted unvested awards at January 1, 2015

 

 

522

 

 

$

1.14

 

Granted

 

 

 

 

 

 

Vested

 

 

(261

)

 

1.14

 

Forfeited

 

 

 

 

 

 

Outstanding restricted unvested awards at September 30, 2015

 

 

261

 

 

$

1.14

 

Weighted average remaining contractual term (in years)

 

 

0.3

 

 

 

 

 

 

Based on the estimated fair value of the restricted stock units granted, stock-based compensation expense for the three and nine months ended September 30, 2015 was $0.1 million and $0.3 million, respectively. Based on the estimated fair value of the restricted stock units granted, stock-based compensation expense for the three and nine months ended September 30, 2014 was an expense reduction of $0.3 million and expense of $0.7 million. As of September 30, 2015, there was $0.1 million of unrecognized compensation cost related to the remaining vesting period of restricted stock units granted under the 2007 Plan. This cost will be recorded in future periods as stock-based compensation expense over a weighted average period of approximately 0.2 years.

Incentive Awards

On April 1, 2014, the Compensation Committee of the Board approved the terms of the Affinion Group Holdings, Inc. 2014 Performance Incentive Award Program (the “2014 Performance Program”), an equity and cash incentive award program intended to foster retention of key employees of the Company. The awards to key employees consisted of performance incentive units (“PIUs”) and a cash incentive award (“CIA”) and the aggregate cash value of awarded PIUs and CIA comprise the Award Value. The number of PIUs awarded to a participant, which will be awarded from the 2007 Plan, will be equal to the quotient of (i) 50% of the Award Value divided by (ii) the fair market value per share of common stock as of the grant date, which was determined to be $1.14. The amount of the CIA granted to a participant was equal to 50% of the Award Value. Each of the two components of an award was subject to adjustment based on the achievement of performance goals. The awards were subject to certain performance and time-based vesting factors. The maximum number of PIUs and the maximum amount of the CIA into which a participant would be eligible to vest would be determined based on the achievement of certain overall corporate and business unit performance goals, as applicable, during the 2014 calendar year. A participant’s maximum amount of PIUs and the maximum amount of a participant’s CIA would vest in three substantially equal installments on March 15, 2015, 2016 and 2017, subject to that participant’s continued service with the Company on each applicable vesting date. Each PIU that would have vested on a vesting date would be settled for a share of common stock and for the portion of the CIA that vested on a vesting date the Company would have paid the participant an amount equal to the vested portion of the CIA. The aggregate award value granted to participants under the 2014 Performance Program was approximately $9.6 million, subject to adjustment as described above. In March 2015, the Compensation Committee determined that the performance goals established under the 2014 Performance Program had not been achieved and therefore the PIUs and CIA were not eligible to vest and were terminated. During the nine months ended September 30, 2015, the Company recognized an expense reduction related to the 2014 Performance Program of $2.2 million, of which $1.1 million related to the common stock portion of the 2014 Performance Program awards. During the three and nine months ended September 30, 2015, there was no expense recognized related to the 2014 Performance Program. During the three and nine months ended September 30, 2014, stock-based compensation expense of $0.9 million and $1.3 million, respectively, was recognized related to the 2014 Performance Program.

On March 16, 2015, the Compensation Committee of the Board approved the terms of (i) the Affinion Group Holdings, Inc. 2015 Retention Award Program (the “2015 Retention Program”), an equity and cash incentive award program intended to foster retention of key employees of Affinion Holdings and its subsidiaries, and (ii) the awards (the “Retention Awards”) to each such key employee consisting of retention units (“RUs”) and a cash retention award (“CRA”) to be made by Affinion Holdings under the 2015 Retention Program. Each Retention Award will entitle the employee to one share of Affinion Holdings’ common stock for each RU and a cash payment in respect of the CRA, in each case, subject to applicable withholding taxes, when the applicable vesting conditions for the Retention Awards are met. The Retention Awards are subject to time-based vesting conditions. An employee’s RUs and CRA will vest in two substantially equal installments on each of March 15, 2016 and March 15, 2017 (each, a “Vesting Date”), subject to that employee’s continued service with Affinion Holdings and its subsidiaries on each applicable Vesting Date. An employee’s RUs and the portion of his or her CRA that become vested as of a given Vesting Date in accordance with the above vesting criteria will be settled as follows: (i) for each RU that vests on such Vesting Date, Affinion Holdings will deliver to the employee on the Settlement Date one share of common stock and (ii) for the portion of the CRA that vests on such Vesting Date, Affinion Holdings will pay to the employee on the Settlement Date an amount in cash equal to such vested portion of the CRA, in

22


each case, subject to applicable tax withholding. An employee’s RUs and the portion of his or her CRA that become vested on a given Vesting Date will be settled as soon as practicable following such Vesting Date but in no event later than the sixtieth (60th) day following such Vesting Date (the “Settlement Date”). Upon termination of employment for any reason, an employee will forfeit the entire unvested portion of his or her Retention Award. The aggregate award value granted to participants under the 2015 Retention Program outstanding as of September 30, 2015 was approximately $8.0 million, net of forfeitures of $0.4 million. During the three and nine months ended September 30, 2015, the Company recognized expense related to the 2015 Retention Program of $1.0 million and $2.2 million, respectively, of which $0.5 million and $1.1 million, respectively, related to the common stock portion of the 2015 Retention Program awards.

Subsequent Events – In connection with the Reclassification, existing option awards under the Webloyalty 2005 Plan and the 2007 Plan have been cancelled with no consideration due to option holders, and existing option awards under the 2005 Plan have been adjusted in accordance with their terms. Generally, existing options for Class A Common Stock under the 2005 Plan have been converted into options for shares of Class C Common Stock and Class D Common Stock, and both the exercise price and the number of shares of Class C Common Stock and Class D Common Stock underlying such options have been adjusted. Outstanding restricted stock unit awards and Retention Awards under the 2015 Retention Plan are unchanged, other than awards that called for vesting of Class A Common Stock will now vest in an adjusted number of shares of Class C Common Stock and Class D Common Stock. On November 9, 2015, the Board of Directors adopted the 2015 Equity Incentive Plan, which authorizes the Compensation Committee to grant stock options, restricted stock, restricted stock units and other equity-based awards. Under the 2015 Equity Incentive Plan, 10% of the outstanding of shares of New Common Stock have been reserved for issuance pursuant to awards. As of November 9, 2015, no further grants may be awarded under the 2005 Plan, the 2007 Plan and the Webloyalty 2005 Plan.

 

9. RELATED PARTY TRANSACTIONS

Post-Closing Relationships with Cendant

Cendant has agreed to indemnify the Company, Affinion and the Company’s affiliates (collectively the “indemnified parties”) for breaches of representations, warranties and covenants made by Cendant, as well as for other specified matters, certain of which are described below. Affinion and the Company have agreed to indemnify Cendant for breaches of representations, warranties and covenants made in the purchase agreement, as well as for certain other specified matters. Generally, all parties’ indemnification obligations with respect to breaches of representations and warranties (except with respect to the matters described below) (i) are subject to a $0.1 million occurrence threshold, (ii) are not effective until the aggregate amount of losses suffered by the indemnified party exceeds $15.0 million (and then only for the amount of losses exceeding $15.0 million), and (iii) are limited to $275.1 million of recovery. Generally, subject to certain exceptions of greater duration, the parties’ indemnification obligations with respect to representations and warranties survived until April 15, 2007 with indemnification obligations related to covenants surviving until the applicable covenant has been fully performed.

In connection with the purchase agreement, Cendant agreed to specific indemnification obligations with respect to the matters described below.

Excluded Litigation. Cendant has agreed to fully indemnify the indemnified parties with respect to any pending or future litigation, arbitration, or other proceeding relating to accounting irregularities in the former CUC International, Inc. announced on April 15, 1998.

Certain Litigation and Compliance with Law Matters. Cendant has agreed to indemnify the indemnified parties up to specified amounts for: (a) breaches of its representations and warranties with respect to legal proceedings that (1) occur after the date of the purchase agreement, (2) relate to facts and circumstances related to the business of Affinion Group, LLC or Affinion International Holdings Limited (“Affinion International”), and (3) constitute a breach or violation of its compliance with law representations and warranties and (b) breaches of its representations and warranties with respect to compliance with laws to the extent related to the business of Affinion Group LLC or Affinion International.

Cendant, Affinion and the Company have agreed that losses up to $15.0 million incurred with respect to these matters will be borne solely by the Company and losses in excess of $15.0 million will be shared by the parties in accordance with agreed upon allocations. The Company has the right at all times to control litigation related to shared losses and Cendant has consultation rights with respect to such litigation.

Prior to 2009, Cendant (i) distributed the equity interests it previously held in its hospitality services business (“Wyndham”) and its real estate services business (“Realogy”) to Cendant stockholders and (ii) sold its travel services business (“Travelport”) to a third party. Cendant continues as a re-named publicly traded company which owns the vehicle rental business (“Avis Budget,” together with Wyndham and Realogy, the “Cendant Entities”). Subject to certain exceptions, Wyndham and Realogy have agreed to share Cendant’s contingent and other liabilities (including its indemnity obligations to the Company described above and other liabilities to the Company in connection with the Apollo Transactions) in specified percentages. If any Cendant Entity defaults in its payment,

23


when due, of any such liabilities, the remaining Cendant Entities are required to pay an equal portion of the amounts in default. Wyndham held a portion of the preferred stock issued in connection with the Apollo Transactions until the preferred stock was redeemed in 2011, and a portion of the warrants issued in connection with the Apollo Transactions until the warrants expired in 2011, while Realogy was subsequently acquired by an affiliate of Apollo and remained an affiliate of Apollo until July 2013. Therefore, for the three and nine months ended September 30, 2015 and 2014, none of the Cendant Entities is a related party.

Other Agreements

On October 17, 2005, Apollo entered into a consulting agreement with the Company for the provision of certain structuring and advisory services. The consulting agreement allows Apollo and its affiliates to provide certain advisory services for a period of twelve years or until Apollo owns less than 5% of the beneficial economic interests of the Company, whichever is earlier. The agreement could be terminated earlier by mutual consent. The Company was required to pay Apollo an annual fee of $2.0 million for these services commencing in 2006. On January 14, 2011, the Company and Apollo entered into an Amended and Restated Consulting Agreement (“Consulting Agreement”), pursuant to which Apollo and its affiliates will continue to provide Affinion with certain advisory services on substantially the same terms as the previous consulting agreement, except that the annual fee paid by Affinion increased to $2.6 million from $2.0 million, commencing January 1, 2012, with an additional one-time fee of $0.6 million which was paid in January 2011 in respect of calendar year 2011. In connection with the December 2013 refinancing of Affinion’s 2006 senior subordinated notes and Affinion Holdings’ 2010 senior notes, Apollo and the Company further amended the consulting agreement, pursuant to which Apollo will not be paid any fees due under the consulting agreement until such time as none of Affinion Holdings’ 2013 senior notes remain outstanding. The amounts expensed related to this consulting agreement were $0.7 million for each of the three month periods ended September 30, 2015 and 2014 and $2.0 million for each of the nine month periods ended September 30, 2015 and 2014, which are included in general and administrative expenses in the accompanying unaudited condensed consolidated statements of comprehensive income. If a transaction is consummated involving a change of control or an initial public offering, then, in lieu of the annual consulting fee and subject to certain qualifications, Apollo may elect to receive a lump sum payment equal to the present value of all consulting fees payable through the end of the term of the consulting agreement.

In addition, the Company will be required to pay Apollo a transaction fee if it engages in any merger, acquisition or similar transaction. The Company will also indemnify Apollo and its affiliates and their directors, officers and representatives for potential losses relating to the services to be provided under the consulting agreement.

Subsequent Event - In connection with the exchange offers and rights offering consummated on November 9, 2015, each of the parties to the Consulting Agreement entered into a termination agreement for no additional consideration. As a result of the termination of the consulting agreement, the Company has no obligations to pay Apollo any previously accrued and unpaid amounts for prior services rendered under the consulting agreement.

In July 2014, Novitex Enterprise Solutions (“Novitex”), a document outsourcing provider owned by affiliates of Apollo, commenced providing administrative services to the Company. In addition, in June 2015, Novitex assumed responsibility for the performance and management of the Company’s domestic print and mailing operations. During the three and nine months ended September 30, 2015, the Company recognized expenses of $2.5 million and $3.5 million, respectively, which are included in general and administrative expenses in the accompanying unaudited condensed consolidated statement of comprehensive income for the three and nine months ended September 30, 2015. In connection with the transfer of responsibility for performance and management of the Company’s domestic print and mailing operations, the Company also recognized a reduction of operating expense of $0.6 million and $0.8 million, respectively, for the three and nine months ended September 30, 2015 for usage of certain equipment by Novitex and for the nine months ended September 30, 2015 also sold certain assets to Novitex for $0.1 million and recognized a gain of less than $0.1 million.  

SkyMall, which was acquired by the Company in September 2014, provides fulfillment services to Caesar’s Entertainment Corporation, which is owned by an affiliate of Apollo. During the three and nine months ended September 30, 2015, the Company recognized revenues, net of the cost to acquire the merchandise and gift cards, of $0.1 million and $0.9 million, respectively, which are included in net revenues in the accompanying unaudited condensed consolidated statement of comprehensive income for the three and nine months ended September 30, 2015.

During the three and nine months ended September 30, 2015, the Company sold its investment in Prospectiv Direct, LLC for cash proceeds of $0.1 million, shares of common stock of the buyer valued at $0.2 million and receivables of $0.7 million, which has been recorded at its estimated net realizable value of $0.4 million. In connection with the sale, the Company recognized a gain of $0.7 million which is included in other income, net in the accompanying unaudited condensed consolidated statement of comprehensive income for the three and nine months ended September 30, 2015 and also recognized revenue of $0.2 million related to the settlement of future royalty income due to the Company.

On January 28, 2010, the Company acquired an ownership interest of approximately 5%, subsequently reduced to approximately 2.9%, in Alclear Holdings, LLC (“Alclear”) for $1.0 million. A family member of one of the Company’s directors

24


controls and partially funded Alclear and serves as its chief executive officer. In March 2015, the Company sold its ownership interest in Alclear to certain existing members of Alclear who are not related parties or otherwise affiliated with the Company for $1.5 million, and the related gain of $0.5 million is included in other income, net in the accompanying unaudited condensed consolidated statement of comprehensive income for the nine months ended September 30, 2015. The Company continues to provide support services to Alclear and recognized revenue of $0.1 million and $0.3 million, respectively, for the three and nine months ended September 30, 2015 and $0.1 million and $0.4 million, respectively, for the three and nine months ended September 30, 2014.

On May 8, 2013, in connection with his resignation as Chief Executive Officer of Global Retail Services and Co-President of Affinion, Mr. Richard J. Fernandes entered into a consulting agreement with Trilegiant Corporation, a wholly owned subsidiary of the Company, effective May 13, 2013, pursuant to which he would continue working with the Company until the one-year anniversary of such resignation. The contract was subsequently amended to extend the term on a month-to-month basis and the contract may be terminated by either party upon thirty days written notice.  Mr. Fernandes provides certain consulting services to the Company on a part-time basis and receives a fee of $7,500 per month, subject to increase depending on the level of consulting services provided. The agreement also provides for reimbursement of Mr. Fernandes’ out-of-pocket business and travel expenses and for his healthcare insurance costs during the contract period. The consulting agreement was terminated during the fourth quarter of 2015.

 

 

10. FINANCIAL INSTRUMENTS, DERIVATIVES AND FAIR VALUE MEASURES

As a matter of policy, the Company does not use derivatives for trading or speculative purposes.

The following table provides information about the Company’s financial instruments that are sensitive to changes in interest rates. The table presents principal cash flows and related weighted-average interest rates by expected maturity for the Company’s long-term debt as of September 30, 2015:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value At

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2020 and

 

 

 

 

 

 

September 30,

 

 

 

2015

 

 

2016

 

 

2017

 

 

2018

 

 

2019

 

 

Thereafter

 

 

Total

 

 

2015

 

 

 

(in millions)

 

Fixed rate debt

 

$

35.0

 

 

$

0.3

 

 

$

 

 

$

1,206.9

 

 

$

 

 

$

 

 

$

1,242.2

 

 

$

704.2

 

Average interest rate

 

 

11.26

%

 

 

11.36

%

 

 

11.47

%

 

 

11.05

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Variable rate debt

 

$

1.9

 

 

$

7.8

 

 

$

7.7

 

 

$

1,237.0

 

 

$

 

 

$

 

 

$

1,254.4

 

 

$

1,156.9

 

Average interest rate (a)

 

 

7.37

%

 

 

7.37

%

 

 

7.37

%

 

 

7.84

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Average interest rate is based on rates in effect at September 30, 2015.

Foreign Currency Forward Contracts

On a limited basis the Company has entered into 30 day foreign currency forward contracts, and upon expiration of the contracts, entered into successive 30 day foreign currency forward contracts. The contracts have been entered into to mitigate the Company’s foreign currency exposures related to intercompany loans which are not expected to be repaid within the next twelve months and that are denominated in Euros and British pounds. At September 30, 2015, the Company had in place contracts to sell EUR 10.0 million and receive $11.2 million and to sell GBP 13.9 million and receive $21.1 million.

During the three and nine months ended September 30, 2015, the Company recognized a realized gain on the forward contracts of $0.7 million and $3.4 million, respectively, and during the three and nine months ended September 30, 2014, the Company recognized a realized gain on the forward contracts of $3.5 million and $2.8 million, respectively. As of September 30, 2015, the Company had a de minimis unrealized loss on the foreign currency forward contracts.

Credit Risk and Exposure

Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of receivables, profit-sharing receivables from insurance carriers, prepaid commissions and interest rate swaps. The Company manages such risk by evaluating the financial position and creditworthiness of such counterparties. Receivables and profit-sharing receivables from insurance carriers are from various marketing, insurance and business partners and the Company maintains an allowance for losses, based upon expected collectability. Commission advances are periodically evaluated as to recovery.

25


Fair Value

The Company determines the fair value of financial instruments as follows:

 

a.

Cash and Cash Equivalents, Restricted Cash, Receivables, Profit-Sharing Receivables from Insurance Carriers and Accounts Payable—Carrying amounts approximate fair value at September 30, 2015 and December 31, 2014 due to the short-term maturities of these assets and liabilities.

 

b.

Long-Term Debt—The Company’s estimated fair value of its long-term fixed-rate debt at September 30, 2015 and December 31, 2014 is based upon available information for debt having similar terms and risks. The fair value of the publicly-traded debt is the published market price per unit multiplied by the number of units held or issued without consideration of transaction costs. The fair value of the non-publicly-traded debt, substantially all of which is variable-rate debt, is based on third party indicative valuations and estimates prepared by the Company after consideration of the creditworthiness of the counterparties.

 

c.

Foreign Currency Forward Contracts—At September 30, 2015 and December 31, 2014, the Company’s estimated fair value of its foreign currency forward contracts is based upon available market information. The fair value of the foreign currency forward contracts is based on significant other observable inputs, adjusted for contract restrictions and other terms specific to the foreign currency forward contracts. The fair value has been determined after consideration of foreign currency exchange rates and the creditworthiness of the parties to the foreign currency forward contracts. The counterparty to the foreign currency forward contracts is a major financial institution. The Company does not expect any losses from non-performance by the counterparty.

Current accounting guidance establishes a fair value hierarchy that distinguishes between (1) market participant assumptions developed based on market data obtained from sources independent of the reporting entity (observable inputs) and (2) the reporting entity’s own assumptions about market participant assumptions developed based on the best information available in the circumstances (unobservable inputs). The fair value hierarchy prioritizes the inputs to valuation techniques used to measure fair value into three broad levels, giving the highest priority to Level 1 inputs and the lowest priority to Level 3 inputs. Level 1 inputs to a fair value measurement are quoted market prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted market prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability.

There were no financial instruments measured at fair value on a recurring basis as of September 30, 2015 and December 31, 2014, other than foreign currency forward contracts. Such contracts have historically had a term of approximately thirty days and have been held to maturity. The fair value of the foreign currency forward contracts is measured based on significant observable inputs (Level 2).

The following table summarizes assets measured at fair value using Level 3 inputs on a nonrecurring basis subsequent to initial recognition:

 

 

 

Fair Value Measurements at December 31, 2014

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Impairment

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Losses

 

 

 

Fair Value at

 

 

Quoted Prices in Active

 

 

Significant Other

 

 

Significant

 

 

Year

 

 

 

December 31,

 

 

Markets for Identical

 

 

Observable

 

 

Unobservable

 

 

Ended

 

 

 

2014

 

 

Assets (Level 1)

 

 

Inputs (Level 2)

 

 

Inputs (Level 3)

 

 

December 31, 2014

 

 

 

(in millions)

 

Goodwill - Membership Products

 

$

89.6

 

 

$

 

 

$

 

 

$

89.6

 

 

$

(292.4

)

 

 

 

 

11. SEGMENT INFORMATION

Management evaluates the operating results of each of its reportable segments based upon several factors, of which the primary factors are revenue and “Segment EBITDA,” which the Company defines as income from operations before depreciation and amortization. The presentation of Segment EBITDA may not be comparable to similarly titled measures used by other companies.

The Segment EBITDA of the Company’s four reportable segments does not include general corporate expenses. General corporate expenses include costs and expenses that are of a general corporate nature or managed on a corporate basis, including primarily stock-based compensation expense and consulting fees payable to Apollo. General corporate expenses have been excluded from the presentation of the Segment EBITDA for the Company’s four reportable segments because they are not reported to the chief operating decision maker for purposes of allocating resources among operating segments or assessing operating segment performance.

26


The accounting policies of the reportable segments are the same as those described in Note 2—Summary of Significant Accounting Policies in the Company’s Form 10-K for the year ended December 31, 2014.

 

Net Revenues

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the Three Months Ended

 

 

For the Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2015

 

 

2014

 

 

2015

 

 

2014

 

 

 

(in millions)

 

    Membership products

 

$

102.5

 

 

$

113.0

 

 

$

307.5

 

 

$

342.5

 

    Insurance and package products

 

 

64.3

 

 

 

59.1

 

 

 

199.9

 

 

 

187.3

 

    Global loyalty products

 

 

38.7

 

 

 

40.3

 

 

 

126.1

 

 

 

124.5

 

    International products

 

 

86.1

 

 

 

91.0

 

 

 

256.1

 

 

 

275.3

 

    Eliminations

 

 

(0.3

)

 

 

(0.4

)

 

 

(1.0

)

 

 

(1.4

)

 

 

$

291.3

 

 

$

303.0

 

 

$

888.6

 

 

$

928.2

 

 

Segment EBITDA

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the Three Months Ended

 

 

For the Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2015

 

 

2014

 

 

2015

 

 

2014

 

 

 

(in millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    Membership products

 

$

20.9

 

 

$

13.9

 

 

$

40.6

 

 

$

46.4

 

    Insurance and package products

 

 

20.1

 

 

 

9.6

 

 

 

61.3

 

 

 

37.6

 

    Global loyalty products

 

 

14.0

 

 

 

18.8

 

 

 

44.2

 

 

 

50.9

 

    International products

 

 

14.3

 

 

 

1.5

 

 

 

28.3

 

 

 

(2.5

)

        Total products

 

 

69.3

 

 

 

43.8

 

 

 

174.4

 

 

 

132.4

 

    Corporate

 

 

(7.2

)

 

 

(4.1

)

 

 

(9.7

)

 

 

(19.2

)

 

 

$

62.1

 

 

$

39.7

 

 

$

164.7

 

 

$

113.2

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the Three Months Ended

 

 

For the Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2015

 

 

2014

 

 

2015

 

 

2014

 

 

 

(in millions)

 

Segment EBITDA

 

$

62.1

 

 

$

39.7

 

 

$

164.7

 

 

$

113.2

 

Depreciation and amortization

 

 

(23.7

)

 

 

(27.2

)

 

 

(71.7

)

 

 

(81.3

)

Income from operations

 

$

38.4

 

 

$

12.5

 

 

$

93.0

 

 

$

31.9

 

 

 

 

 

 

27


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

This Quarterly Report on Form 10-Q (this “Form 10-Q”) is prepared by Affinion Group Holdings, Inc. Unless otherwise indicated or the context otherwise requires, in this Form 10-Q all references to “Affinion Holdings,” the “Company,” “we,” “our” and “us” refer to Affinion Group Holdings, Inc. and its subsidiaries on a consolidated basis; and all references to “Affinion” refer to Affinion Group, Inc., our wholly-owned subsidiary.

The following discussion and analysis of our results of operations and financial condition should be read in conjunction with our audited consolidated financial statements as of December 31, 2014 and 2013, and for the years ended December 31, 2014, 2013 and 2012, included in our Annual Report on Form 10-K for the year ended December 31, 2014 (the “Form 10-K”) and with the unaudited condensed consolidated financial statements and related notes thereto presented in this Form 10-Q.

Disclosure Regarding Forward-Looking Statements

Our disclosure and analysis in this Form 10-Q may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, and the Private Securities Litigation Reform Act of 1995, that are subject to risks and uncertainties. Forward-looking statements give our current expectations and projections relating to our financial condition, results of operations, plans, objectives, future performance and business. You can identify these statements by the fact that they do not relate strictly to historical or current facts. These statements may include words such as “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe” and other words and terms of similar meaning in connection with any discussion of the timing or nature of future operating or financial performance or other events. All statements other than statements of historical facts included in this Form 10-Q that address activities, events or developments that we expect, believe or anticipate will or may occur in the future are forward-looking statements.

These forward-looking statements are largely based on our expectations and beliefs concerning future events, which reflect estimates and assumptions made by our management. These estimates and assumptions reflect our best judgment based on currently known market conditions and other factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control.

Although we believe our estimates and assumptions to be reasonable, they are inherently uncertain and involve a number of risks and uncertainties that are beyond our control. In addition, management’s assumptions about future events may prove to be inaccurate. Management cautions all readers that the forward-looking statements contained in this Form 10-Q are not guarantees of future performance, and we cannot assure any reader that those statements will be realized or the forward-looking events and circumstances will occur. Actual results may differ materially from those anticipated or implied in the forward-looking statements due to the factors listed under “Item 1A. Risk Factors” in our Form 10-K and this Form 10-Q and this “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section, or MD&A. All forward-looking statements speak only as of the date of this Form 10-Q. We do not intend to publicly update or revise any forward-looking statements as a result of new information, future events or otherwise, except as required by law. These cautionary statements qualify all forward-looking statements attributable to us or persons acting on our behalf.

Introduction

The MD&A is provided as a supplement to the unaudited condensed consolidated financial statements and the related notes thereto included elsewhere herein to help provide an understanding of our financial condition, results of our operations and changes in our financial condition. The MD&A is organized as follows:

 

Overview. This section provides a general description of our business and operating segments, as well as recent developments that we believe are important in understanding our results of operations and financial condition and in anticipating future trends.

 

Results of operations. This section provides an analysis of our results of operations for the three and nine months ended September 30, 2015 and 2014. This analysis is presented on both a consolidated basis and on an operating segment basis.

 

Financial condition, liquidity and capital resources. This section provides an analysis of our cash flows for the nine months ended September 30, 2015 and 2014 and our financial condition as of September 30, 2015, as well as a discussion of our liquidity and capital resources.

 

Critical accounting policies. This section discusses certain significant accounting policies considered to be important to our financial condition and results of operations and which require significant judgment and estimates on the part of management in their application. In addition, we refer you to our audited consolidated financial statements as of December 31, 2014 and 2013, and for the years ended December 31, 2014, 2013 and 2012, included in the Form 10-K for a summary of our significant accounting policies.

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Overview

Description of Business

We are one of the world’s leading customer engagement and loyalty solutions companies. We design, market and service programs that strengthen and extend customer relationships for many of the world’s largest and most respected companies. Our programs and services include:

 

 

·

Loyalty programs that help reward, motivate and retain consumers,

 

·

Membership programs that help consumers save money and gain peace of mind,

 

·

Package programs that bundle valuable discounts, protection and other benefits to enhance customer relationships, and

 

·

Insurance programs that help protect consumers in the event of a covered accident, injury, illness, or death.

 

We design customer engagement and loyalty solutions with an attractive suite of benefits and ease of usage that we believe are likely to interest and engage consumers based on their needs and interests. For example, we provide discount travel services, credit monitoring and identity-theft resolution, accidental death and dismemberment insurance (“AD&D”), roadside assistance, various checking account and credit card enhancement services, loyalty program design and management, disaggregated loyalty points redemptions for gift cards, travel and merchandise, as well as other products and services.

We are a global leader in the designing, marketing and servicing of comprehensive customer engagement and loyalty solutions that enhance and extend the relationship of millions of consumers with many of the largest and most respected companies in the world. We generally partner with these leading companies in two ways: 1) by developing and supporting programs that are natural extensions of our partner companies’ brand image and that provide valuable services to their end-customers, and 2) by providing the back-end technological support and redemption services for points-based loyalty programs. Using our expertise in customer engagement, product development, creative design and data-driven targeted marketing, we develop and market programs and services that enable the companies we partner with to generate significant, high-margin incremental revenue, enhance our partners’ brands among targeted consumers as well as strengthen and enhance the loyalty of their customer relationships. The enhanced loyalty can lead to increased acquisition of new customers, longer retention of existing customers, improved customer satisfaction rates, and greater use of other services provided by such companies. We refer to the leading companies that we work with to provide customer engagement and loyalty solutions as our marketing partners or clients. We refer to the consumers to whom we provide services directly under a contractual relationship as subscribers, insureds or members. We refer to those consumers that we service on behalf of a third party, such as one of our marketing partners, and with whom we have a contractual relationship as end-customers.

We utilize our substantial expertise in a variety of direct engagement media to market valuable products and services to the customers of our marketing partners on a highly targeted, campaign basis. The selection of the media employed in a campaign corresponds to the preferences and expectations the targeted customers have demonstrated for transacting with our marketing partners, as we believe this optimizes response, thereby improving the efficiency of our marketing investment. Accordingly, we maintain significant capabilities to market through direct mail, point-of-sale, direct response television, the internet, inbound and outbound telephony and voice response unit marketing, as well as other media as needed.

We believe our portfolio of the products and services that are embedded in our engagement solutions is the broadest in the industry. Our scale, combined with the industry’s largest proprietary database, proven marketing techniques and strong marketing partner relationships developed over our 40 year operating history, position us to deliver consistent results in a variety of market conditions.

As of December 31, 2014, we had approximately 59 million subscribers and end-customers enrolled in our membership, insurance and package programs worldwide and approximately 62 million customers who received credit or debit card enhancement services or loyalty points-based management services.

We organize our business into four business segments:

 

Membership Products. We design, implement and market subscription programs that provide our members in North America with personal protection benefits and value-added services including credit monitoring and identity-theft resolution services as well as access to a variety of discounts and shop-at-home conveniences in such areas as retail merchandise, travel, automotive and home improvement.

 

Insurance and Package Products. We market AD&D and other insurance programs and design and provide checking account enhancement programs to financial institutions in North America. These programs allow financial institutions to bundle valuable discounts, protection and other benefits with a standard checking account and offer these packages to customers for an additional monthly fee.

 

Global Loyalty Products. We design, implement and administer points-based loyalty programs and, as of December 31, 2014, managed programs representing an aggregate estimated redemption value of approximately $2.85 billion for financial, travel, auto and other companies. We provide our clients with solutions that meet the

29


 

most popular redemption options desired by their program points holders, including travel services, gift cards, cash back and merchandise, and, in 2014, we facilitated approximately $2.0 billion in redemption volume. We also provide enhancement benefits to major financial institutions in connection with their credit and debit card programs. In addition, we provide and manage turnkey travel services that are sold on a private label basis to provide our clients’ customers with direct access to our proprietary travel platform. A marketing partner typically engages us on a fee-for-service contractual basis, where we generate revenue in connection with the volume of redemption transactions.

 

International Products. International Products comprises our Membership and Package customer engagement businesses outside North America and also includes a discrete loyalty program benefit provider. We expect to leverage our current international operational platform to expand our range of products and services, develop new marketing partner relationships in various industries and grow our geographical footprint. In 2012, we expanded into Turkey through the acquisition of existing marketing capabilities and also launched business operations in Brazil. In 2015, we undertook business activities in Australia.

We offer our products and services through both retail and wholesale arrangements with our marketing partners as well as through direct-to-consumer marketing. Currently, we primarily provide wholesale services and benefits derived from our credit card registration, credit monitoring and identity-theft resolution products. In the majority of our retail arrangements, we incur the marketing solicitation expenses to acquire new customers for our subscription-based membership, insurance and package enhancement products with the objective of building a base of highly profitable and predictable recurring future revenue streams and cash flows. For our membership, insurance and package enhancement products, these upfront marketing costs are expensed when the costs are incurred in support of a launched campaign.

Our membership programs are offered under a variety of terms and conditions. Prospective members are usually offered incentives (e.g. free credit reports or other premiums) and one to three month risk-free trial periods to encourage them to evaluate and use the benefits of membership before the first billing period takes effect. We do not recognize any revenue during the trial period and expense the cost of all incentives and program benefits and servicing costs as incurred.

Customers of our membership programs typically pay their subscription fees either annually or monthly. Our membership products may have significant timing differences between the receipt of membership fees for annual members and revenue recognition. Historically, memberships were offered primarily under full money back terms whereby a member could receive a full refund upon cancellation at any time during the current membership term. These revenues were recognized upon completion of the membership term when they were no longer refundable. Depending on the length of the trial period, this revenue may not have been recognized for up to 16 months after the related marketing spend was incurred and expensed. Currently, annual memberships are primarily renewed under pro-rata arrangements in which the member is entitled to a prorated refund for the unused portion of their membership term. This allows us to recognize revenue ratably over the annual membership term. Upon completion of the subscription term, the membership renews under generally the same billing terms in which it originated. Given that we had historically offered a significant amount of subscriptions offering annual terms, our existing base continues to reflect a blend of both monthly and annual terms, and will continue doing so for as long as a substantial percentage of the annual subscribers renew. However, the majority of our recent solicitation activity has been for subscriptions offering monthly terms, and during the nine months ended September 30, 2015 and the year ended December 31, 2014, in excess of 95% of our new member and end-customer enrollments were in monthly payment programs. Revenue is recognized monthly under both annual pro rata and monthly memberships, allowing for a better matching of revenues and related servicing and benefit costs when compared to annual full money back memberships.

When marketing with a marketing partner, we generally utilize the brand names and customer contacts of the marketing partner in our marketing campaigns. We usually compensate our marketing partners either through commissions based on revenues we receive from members (which we expense in proportion to the revenue we recognize) or up-front marketing payments, commonly referred to as “bounties” (which we expense when incurred). In addition, we enter into arrangements with certain marketing partners where we pay the marketing partners advance commissions which provide the potential for recovery from the marketing partners if certain targets are not achieved. These payments are capitalized and amortized over the expected life of the acquired members. The commission rates that we pay to our marketing partners differ depending on the arrangement we have with the particular marketing partner and the type of media we utilize for a given marketing campaign.

In a direct-to-consumer campaign, we invest in a variety of media to generate consumer awareness of our programs and services and stimulate responses from our targeted markets. The media channels we employ in direct-to-consumer include television advertising as well as Internet marketing, such as search engine optimization and related techniques. When marketing directly to the consumer, we generally use our proprietary brands and avoid incurring any commission expense.

We serve as an agent and third-party administrator on behalf of a variety of underwriters for the marketing of AD&D and our other insurance products. Free trial periods and incentives are generally not offered with our insurance programs. Insurance program participants typically pay their insurance premiums either monthly or quarterly. We earn revenue in the form of commissions collected

30


on behalf of the insurance carriers and participate in profit-sharing relationships with certain of the carriers that underwrite the insurance policies that we market, where profit is measured by the excess amount of premium remitted to the carrier less the cost for claim activities and any related expenses. In 2014, we transitioned a significant portion of our AD&D business from our former primary insurance carrier to new carriers that receive a fixed distribution of collected premiums rather than participating in the profit-sharing arrangement. As a result of the substantial completion of this transition, a significant portion of the business is no longer subject to profit-sharing arrangements. Our estimated share of profits from these arrangements is reflected as profit-sharing receivables from insurance carriers on the accompanying unaudited condensed consolidated balance sheets and any changes in estimated profit sharing in connection with the actual claims activities are periodically recorded as an adjustment to net revenue. Insurance revenues are recognized ratably over the insurance period for which a policy is in effect and there are no significant differences between cash flows and related revenue recognition. Revenue from insurance programs is reported net of insurance costs in the accompanying unaudited condensed consolidated statements of comprehensive income.

In our wholesale arrangements, we provide our products and services as well as customer service and fulfillment related to such products and services to support programs that our marketing partners offer to their customers. In such arrangements, our marketing partners are typically responsible for customer acquisition, retention and collection and generally pay us one-time implementation fees and on-going monthly service fees based on the number of members enrolled in their programs. Implementation fees are recognized ratably over the contract period while monthly service fees are recognized in the month earned. Wholesale revenues also include revenues from transactional activities associated with our programs, such as the sales of additional credit reports, discount shopping or travel purchases by members. The revenues from such transactional activities are recognized in the month earned.

We have a highly variable-cost structure because the majority of our expenses are either discretionary in nature or tied directly to the generation of revenue. In addition, we have achieved meaningful operating efficiencies by combining similar functions and processes, consolidating facilities and outsourcing a significant portion of our call center and other back-office processing, particularly with respect to previously acquired businesses. This added flexibility better enables us to deploy our discretionary marketing expenditures globally across our operations to maximize returns.

Factors Affecting Results of Operations and Financial Condition

Competitive Environment

As a leader in the affinity direct marketing industry, we compete with many other organizations, including certain of our marketing partners as well as other benefit providers, to obtain a share of the end-consumer’s spending in each of our respective product categories. As an affinity direct marketer, we derive our leads from a marketing partner’s contacts, which our competitors also seek access to, and we must therefore generate sufficient earnings per lead for our marketing partners to compete effectively for access to their end-customers.

As direct-to-consumer marketers, we compete with any company who offers comparable benefits and services to what we market from our own product portfolio.

We compete with companies of varying size, financial strength and availability of resources. Our competitors include marketing solutions providers, financial institutions, insurance companies, consumer goods companies, internet companies and others, as well as direct marketers offering similar programs. Some of our competitors are larger than we are, have greater financial and other resources and are able to deploy more resources in their pursuit of the limited target market for our products.

We expect these competitive environments to continue in the foreseeable future.

Acquisitions

On September 8, 2014, the Company entered into a Membership Interest Purchase Agreement (the “SkyMall Agreement”) that resulted in the acquisition on September 9, 2014 of SkyMall Ventures, LLC (“SkyMall”), a provider of merchandise, gift cards and experiential rewards for loyalty programs. In accordance with the SkyMall Agreement, the Company acquired all of the outstanding membership interests in SkyMall for an upfront cash payment of approximately $18.4 million, plus a working capital adjustment of $0.4 million, and contingent consideration of up to $3.9 million payable approximately one year after the acquisition date (which was not achieved).

In addition to providing merchandise, gift cards and experiential rewards for loyalty programs, SkyMall provides services including strategy, creative, technology and fulfillment. The acquisition of SkyMall enhances the Company’s position as a leading loyalty program administrator and incentives provider, as well as solidifies the Company’s position within certain current verticals and provides access to certain new verticals.

31


Financial Industry Trends

Historically, financial institutions have represented a significant majority of our marketing partner base. Consumer banking is a highly regulated industry, with various federal, state and international authorities governing various aspects of the marketing and servicing of the products we offer through our financial institution partners.

For instance, the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) mandates the most wide-ranging overhaul of financial industry regulation in decades. Dodd-Frank created the Consumer Financial Protection Bureau (the “CFPB”) which became operational on July 21, 2011, and has been given authority to regulate all consumer financial products sold by banks and non-bank companies. These regulations have imposed additional reporting, supervisory, and regulatory requirements on our financial institution marketing partners which have adversely affected our business, financial condition and results of operations. In addition, even an inadvertent failure of our financial institution marketing partners to comply with these laws and regulations, as well as rapidly evolving social expectations of corporate fairness, could adversely affect our business or our reputation going forward. Some of our marketing partners have become involved in governmental inquiries that include our products or marketing practices. As a result, certain financial institution marketing partners have, and others could, delay or cease marketing with us, terminate their agreements with us, require us to cease providing services to members or end-consumers, or require changes to our products or services to consumers that could also have a material adverse effect on our business. Partially as a result of these factors, we have experienced a decline in our domestic membership customer base and domestic membership revenues, and we anticipate this trend will continue.

In certain circumstances, our financial marketing partners have sought to source and market their own in-house programs, most notably programs that are analogous to our credit card registration, credit monitoring and identity-theft resolution services. As we have sought to maintain our market share in these areas and to continue these programs with our marketing partners, in some circumstances, we have shifted from a retail marketing arrangement to a wholesale arrangement which results in lower net revenue, but unlike our retail arrangement, has no related commission expense, thereby preserving our ability to earn a suitable rate of return on the campaign. During periods of increased interest from our marketing partners for wholesale activity, partially as a result of this trend, we have experienced a revenue reduction in our membership business.

Internationally, our package products have been primarily offered by some of the largest financial institutions in Europe. As these banks attempt to increase their own net revenues and margins, we have experienced significant price reductions when our agreements come up for renewal from what we had previously been able to charge these institutions for our programs. We expect this pricing pressure on our international package offerings to continue in the future.

Regulatory Environment

We are subject to federal and state regulation as well as regulation by foreign authorities in other jurisdictions. Certain laws and regulations that govern our operations include: federal, state and foreign marketing and consumer protection laws and regulations; federal, state and foreign privacy and data protection laws and regulations; federal, state and foreign insurance and insurance mediation laws and regulations; and federal, state and foreign travel laws and regulations. Federal regulations are primarily enforced by the Federal Trade Commission, the Federal Communications Commission and the CFPB. State regulations are primarily enforced by individual state attorneys general and insurance departments. Foreign regulations are enforced by a number of regulatory bodies in the relevant jurisdictions.

These regulations primarily impact the means we use to market our programs, which can reduce the acceptance rates of our solicitation efforts, impact our ability to obtain information from our members and end-customers and impact the benefits we provide and how we service our members and end-customers. In addition, new and contemplated regulations enacted by, or marketing partner settlement agreements or existing and any future consent orders with, the CFPB could impose additional reporting, supervisory and regulatory requirements on, as well as result in inquiries of, us and our marketing partners that could delay or terminate marketing campaigns with certain marketing partners, impact the services and products we provide to consumers, and adversely affect our business, financial condition and results of operations.

We incur significant costs to ensure compliance with these regulations; however, we are party to lawsuits, including class action lawsuits, and regulatory investigations involving our business practices which also increase our costs of doing business. See Note 7 to our unaudited condensed consolidated financial statements in “Item 1. Financial Statements.”

Seasonality

Historically, seasonality has not had a significant impact on our business. Our revenues are more affected by the timing of marketing programs that can change from year to year depending on the opportunities available and pursued. More recently, in connection with the growth in our loyalty business, we have experienced increasing seasonality in the timing of our cash flows, particularly with respect to working capital. This has been due primarily to the consumer’s increasing acceptance and use of certain categories for points redemptions, such as travel services and gift cards. These categories typically present a delay from the time we

32


incur a cash outlay to provision the redemption until we are reimbursed by the client for the activity, and in certain instances, these delays may extend across multiple reporting periods. Redemptions for some categories, such as gift cards, have been weighted more heavily to the end of the year due to consumers’ increasing usage of points in connection with seasonal gift giving.

Results of Operations

Supplemental Data

We manage our business using a portfolio approach, meaning that we allocate and reallocate our marketing investments in the ongoing pursuit of the highest and best available returns, allocating our resources to whichever products, geographies and programs offer the best opportunities. With the globalization of our clients, the continued evolution of our programs and services and the ongoing refinement and execution of our marketing allocation strategy, we have developed the following table that we believe captures the way we look at the businesses (subscriber and insured amounts in thousands except per average subscriber and insured amounts).

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

Nine Months Ended

 

 

September 30,

September 30,

 

 

2015

 

 

2014

 

 

2015

 

 

2014

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Global Average Subscribers, excluding Basic Insureds

 

 

36,932

 

 

 

38,905

 

 

 

37,759

 

 

 

39,557

 

 

Annualized Net Revenue Per Global Average Subscriber, excluding Basic Insureds (1)

 

$

27.25

 

 

$

26.93

 

 

$

26.74

 

 

$

26.80

 

 

Global Membership Subscribers

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Average Global Retail Subscribers (2)

 

 

6,709

 

 

 

7,457

 

 

 

7,117

 

 

 

7,665

 

 

Annualized Net Revenue Per Global Average Subscriber (1)

 

$

91.91

 

 

$

89.97

 

 

$

85.97

 

 

$

87.09

 

 

Global Package Subscribers and Wholesale

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Average Global Package Subscribers and Wholesale (2)

 

 

26,733

 

 

 

27,712

 

 

 

27,075

 

 

 

28,116

 

 

Annualized Net Revenue Per Global Average Package and Wholesale Subscriber (1)

 

$

6.25

 

 

$

6.57

 

 

$

6.22

 

 

$

6.61

 

 

Global Insureds

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Average Supplemental Insureds (2)

 

 

3,490

 

 

 

3,736

 

 

 

3,567

 

 

 

3,776

 

 

Annualized Net Revenue Per Supplemental Insured (1)

 

$

63.78

 

 

$

52.11

 

 

$

64.25

 

 

$

54.75

 

 

Global Average Subscribers, including Basic Insureds

 

 

55,706

 

 

 

59,015

 

 

 

56,932

 

 

 

59,767

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(1)

Annualized Net Revenue Per Global Average Subscriber and Supplemental Insured are all calculated by taking the revenues as reported for the period and dividing it by the average subscribers or insureds, as applicable, for the period. Quarterly periods are then multiplied by four to annualize this amount for comparative purposes. Upon cancellation of a subscriber or an insured, as applicable, the subscriber’s or insured’s, as applicable, revenues are no longer recognized in the calculation.

(2)

Average Global Subscribers and Average Supplemental Insureds for the period are all calculated by determining the average subscribers or insureds, as applicable, for each month in the period (adding the number of subscribers or insureds, as applicable, at the beginning of the month with the number of subscribers or insureds, as applicable, at the end of the month and dividing that total by two) and then averaging that result for the period. A subscriber’s or insured’s, as applicable, account is added or removed in the period in which the subscriber or insured, as applicable, has joined or cancelled.

Wholesale members include end-customers where we typically receive a monthly service fee to support programs offered by our marketing partners. Certain programs historically offered as retail arrangements have switched to wholesale arrangements with lower annualized price points and no commission expense.

Basic insureds typically receive $1,000 of AD&D coverage at no cost to the consumer since the marketing partner pays the cost of this coverage. Supplemental insureds are customers who have elected to pay premiums for higher levels of coverage.

Segment EBITDA

Segment EBITDA consists of income from operations before depreciation and amortization. Segment EBITDA is the measure management uses to evaluate segment performance, and we present Segment EBITDA to enhance your understanding of our operating

33


performance. We use Segment EBITDA as one criterion for evaluating our performance relative to that of our peers. We believe that Segment EBITDA is an operating performance measure, and not a liquidity measure, that provides investors and analysts with a measure of operating results unaffected by differences in capital structures, capital investment cycles and ages of related assets among otherwise comparable companies. However, Segment EBITDA is not a measurement of financial performance under accounting principles generally accepted in the United States (“U.S. GAAP”), and Segment EBITDA may not be comparable to similarly titled measures of other companies. You should not consider Segment EBITDA as an alternative to operating or net income determined in accordance with U.S. GAAP, as an indicator of operating performance or as an alternative to cash flows from operating activities determined in accordance with U.S. GAAP, or as an indicator of cash flows, or as a measure of liquidity.

Three Months Ended September 30, 2015 Compared to Three Months Ended September 30, 2014

The following table summarizes our consolidated results of operations for the three months ended September 30, 2015 and 2014:

 

 

 

Three Months Ended

 

 

Three Months Ended

 

 

 

 

 

 

 

September 30,

 

 

September 30,

 

 

Increase

 

 

 

2015

 

 

2014

 

 

(Decrease)

 

 

 

(in millions)

 

Net revenues

 

$

291.3

 

 

$

303.0

 

 

$

(11.7

)

Expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenues, exclusive of depreciation and amortization shown separately below:

 

 

 

 

 

 

 

 

 

 

 

 

Marketing and commissions

 

 

104.7

 

 

 

114.8

 

 

 

(10.1

)

Operating costs

 

 

95.1

 

 

 

96.7

 

 

 

(1.6

)

General and administrative

 

 

29.3

 

 

 

50.7

 

 

 

(21.4

)

Facility exit costs

 

 

0.1

 

 

 

1.1

 

 

 

(1.0

)

Depreciation and amortization

 

 

23.7

 

 

 

27.2

 

 

 

(3.5

)

Total expenses

 

 

252.9

 

 

 

290.5

 

 

 

(37.6

)

Income from operations

 

 

38.4

 

 

 

12.5

 

 

 

25.9

 

Interest income

 

 

1.7

 

 

 

0.1

 

 

 

1.7

 

Interest expense

 

 

(58.7

)

 

 

(50.4

)

 

 

(8.3

)

Other income, net

 

 

0.6

 

 

 

 

 

0.6

 

Loss before income taxes and non-controlling interest

 

 

(18.0

)

 

 

(37.8

)

 

 

19.9

 

Income tax expense

 

 

(1.1

)

 

 

(2.6

)

 

 

1.5

 

Net loss

 

 

(19.1

)

 

 

(40.4

)

 

 

21.4

 

Less: net income attributable to non-controlling interest

 

 

(0.2

)

 

 

(0.2

)

 

 

-

 

Net loss attributable to Affinion Group Holdings, Inc.

 

$

(19.3

)

 

$

(40.6

)

 

$

21.4

 

Summary of Operating Results for the Three Months Ended September 30, 2015

The following is a summary of changes affecting our operating results for the three months ended September 30, 2015.

Net revenues decreased $11.7 million, or 3.9%, for the three months ended September 30, 2015 as compared to the same period of the prior year primarily as lower retail revenues from a decline in retail member volumes in Membership Products and lower revenue in International Products primarily from an unfavorable foreign exchange impact were partially offset by higher net revenues in Insurance and Package Products principally from a lower cost of insurance.

         Segment EBITDA increased $22.4 million as the impact of the lower net revenues was more than offset by lower marketing and commissions and lower general and administrative expense.

Three Months Ended September 30, 2015 Compared to Three Months Ended September 30, 2014

The following section provides an overview of our consolidated results of operations for the three months ended September 30, 2015 as compared to the three months ended September 30, 2014.

34


Net Revenues. During the three months ended September 30, 2015 we reported net revenues of $291.3 million, a decrease of $11.7 million, or 3.9%, as compared to net revenues of $303.0 million in the comparable period of 2014.  Net revenues in Membership Products decreased $10.5 million primarily due to the continued attrition of legacy members, including those from our large financial institution partners along with the absence of a favorable reserve adjustment of $6.0 million recorded in 2014. These decreases were partially offset by increased revenues from new joins acquired through partners with whom we are actively marketing.  Insurance and Package Products revenues increased $5.2 million primarily due to a lower cost of insurance principally from an acceleration of claims in 2014 as a result of the conversion to a new primary insurance carrier and the impact of lower average Package members. Global Loyalty Products net revenues decreased $1.6 million as growth with existing and new clients was more than offset by lower revenue from the loss of a key client. International Products net revenues decreased $4.9 million. On a currency consistent basis, International Products net revenues increased $8.3 million due to higher retail membership revenue in both our online and offline channels associated with increased members and higher price points along with growth in the wholesale sector. These increases were more than offset by an unfavorable foreign exchange impact of $13.2 million.

Marketing and Commissions Expense. Marketing and commissions expense decreased by $10.1 million, or 8.8%, to $104.7 million for the three months ended September 30, 2015 from $114.8 million for the three months ended September 30, 2014. Marketing and commissions expense decreased in International Products by $7.5 million primarily due to the favorable impact of foreign exchange. Costs decreased $3.2 million in Insurance and Package Products primarily due to lower commissions.

Operating Costs. Operating costs decreased by $1.6 million, or 1.7%, to $95.1 million for the three months ended September 30, 2015 from $96.7 million for the three months ended September 30, 2014. Operating costs decreased $2.9 million in International Products primarily due to the favorable impact of foreign exchange partially offset by increased costs of $2.6 million in Global Loyalty Products primarily from the negative impact of adjustments related to redemption activity for one of our loyalty programs.

General and Administrative Expense. General and administrative expense decreased by $21.4 million, or 42.2% to $29.3 million for the three months ended September 30, 2015 from $50.7 million for the three months ended September 30, 2014.  Costs decreased $16.1 million in Membership Products primarily due to a charge of $12.0 million recorded in the third quarter of 2014 for legal reserves related to the CFPB matter.  Costs decreased $7.3 million in our International Products business primarily due to a decrease in charges of $6.4 million for legal reserves and fees related to the FCA inquiry. Corporate costs increased by $3.1 million primarily from higher professional fees of $5.1 million principally from costs related to the debt exchange launched on September 29, 2015 partially offset by a favorable exchange impact of $2.0 million related to intercompany financing arrangements.  

Depreciation and Amortization Expense. Depreciation and amortization expense decreased by $3.5 million for the three months ended September 30, 2015 to $23.7 million from $27.2 million for the three months ended September 30, 2014, primarily from lower amortization expense recorded in 2015 as compared to 2014 in the amount of $2.7 million related to intangible assets acquired in various acquisitions, principally member relationships which are amortized on an accelerated basis.

Interest Expense. Interest expense increased $8.3 million, or 16.3% to $58.7 million for the three months ended September 30, 2015 from $50.4 million for the three months ended September 30, 2014, primarily from higher interest expense associated with higher principal amount of borrowings in 2015 associated with our revolving credit facility, the absence in 2015 of a favorable reserve adjustment recorded in the third quarter of 2014 and higher expense on our senior secured PIK toggle notes due to the increase in the principal amount from the PIK election.

Income Tax Expense. Income tax expense decreased by $1.5 million for the three months ended September 30, 2015 as compared to the three months ended September 30, 2014, primarily due to a decrease in the deferred state and federal tax provisions for the three months ended September 30, 2015, partially offset by an increase in the current state and foreign tax provisions and deferred foreign tax provision for the same period.

The Company’s effective income tax rates for the three months ended September 30, 2015 and 2014 were (6.3)% and (7.0)%, respectively. The difference in the effective tax rates for the three months ended September 30, 2015 and 2014 is primarily a result of a decrease in loss before income taxes and non-controlling interest from $37.8 million for the three months ended September 30, 2014 to $18.0 million for the three months ended September 30, 2015 and a decrease in the income tax provision from $2.6 million for the three months ended September 30, 2014 to $1.1 million for the three months ended September 30, 2015. The Company’s tax rate is affected by recurring items, such as tax rates in foreign jurisdictions and the relative amount of income it earns in those jurisdictions. It is also affected by discrete items that may occur in any given year, but are not consistent from year to year. In addition to state and foreign income taxes, the requirement to maintain valuation allowances had the most significant impact on the difference between the Company’s effective tax rate and the statutory U.S. federal income tax rate of 35%.

35


Operating Segment Results

Net revenues and Segment EBITDA by operating segment are as follows:

 

 

 

Three Months Ended September 30,

 

 

 

Net Revenues

 

 

Segment EBITDA (1)

 

 

 

 

 

 

 

 

 

 

 

Increase

 

 

 

 

 

 

 

 

 

 

Increase

 

 

 

2015

 

 

2014

 

 

(Decrease)

 

 

2015

 

 

2014

 

 

(Decrease)

 

 

 

(in millions)

 

Membership Products

 

$

102.5

 

 

$

113.0

 

 

$

(10.5

)

 

$

20.9

 

 

$

13.9

 

 

$

7.0

 

Insurance and Package Products

 

 

64.3

 

 

 

59.1

 

 

 

5.2

 

 

 

20.1

 

 

 

9.6

 

 

 

10.5

 

Global Loyalty Products

 

 

38.7

 

 

 

40.3

 

 

 

(1.6

)

 

 

14.0

 

 

 

18.8

 

 

 

(4.8

)

International Products

 

 

86.1

 

 

 

91.0

 

 

 

(4.9

)

 

 

14.3

 

 

 

1.5

 

 

 

12.8

 

Eliminations

 

 

(0.3

)

 

 

(0.4

)

 

 

0.1

 

 

 

-

 

 

 

-

 

 

 

-

 

Total products

 

 

291.3

 

 

 

303.0

 

 

 

(11.7

)

 

 

69.3

 

 

 

43.8

 

 

 

25.5

 

Corporate

 

 

 

 

 

 

 

 

-

 

 

 

(7.2

)

 

 

(4.1

)

 

 

(3.1

)

Total

 

$

291.3

 

 

$

303.0

 

 

$

(11.7

)

 

 

62.1

 

 

 

39.7

 

 

 

22.4

 

Depreciation and amortization

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(23.7

)

 

 

(27.2

)

 

 

3.5

 

Income from operations

 

 

 

 

 

 

 

 

 

 

 

 

 

$

38.4

 

 

$

12.5

 

 

$

25.9

 

 

(1)

See Segment EBITDA above and Note 11 to the unaudited condensed consolidated financial statements for a discussion of Segment EBITDA and a reconciliation of Segment EBITDA to income from operations.

 

Membership Products. Membership Products net revenues decreased by $10.5 million, or 9.3%, to $102.5 million for the three months ended September 30, 2015 as compared to $113.0 million for the three months ended September 30, 2014. Net revenues decreased primarily due to the continued attrition of legacy members, including those from our large financial institution partners, along with the absence of a favorable reserve adjustment of $6.0 million recorded in 2014. These decreases were partially offset by increased revenues from new joins acquired through partners with whom we are actively marketing.  

Segment EBITDA increased by $7.0 million, or 50.4%, for the three months ended September 30, 2015 as compared to the three months ended September 30, 2014. Segment EBITDA increased as the impact of the lower net revenues of $10.5 million was more than offset by lower general and administrative costs of $16.1 million. The lower general and administrative costs were primarily due to a charge of $12.0 million recorded in the third quarter of 2014 for legal reserves related to the CFPB matter.

Insurance and Package Products. Insurance and Package Products net revenues increased by $5.2 million, or 8.8%, to $64.3 million for the three months ended September 30, 2015 as compared to $59.1 million for the three months ended September 30, 2014. Insurance revenue increased approximately $7.0 million primarily due to a lower cost of insurance principally from an acceleration of claims in 2014 as a result of the conversion to a new primary insurance carrier. Package revenue decreased approximately $1.8 million primarily due to the impact of lower average Package members.

Segment EBITDA increased by $10.5 million, or 109.4%, for the three months ended September 30, 2015 as compared to the three months ended September 30, 2014 primarily from the impact of higher net revenues of $5.2 million and a decrease in operating expenses totaling $5.3 million primarily the result of lower marketing and commissions and lower employee related costs.

Global Loyalty Products. Revenues from Global Loyalty Products decreased by $1.6 million, or 4.0%, for the three months ended September 30, 2015 to $38.7 million as compared to $40.3 million for the three months ended September 30, 2014 as increased revenues from growth with new and existing clients was more than offset by lower revenue from the loss of a key client.

Segment EBITDA decreased by $4.8 million, or 25.5%, for the three months ended September 30, 2015 as compared to the three months ended September 30, 2014, as the increased contribution associated with new and existing clients was more than offset by the loss of a key client and the negative impact of adjustments related to redemption activity for one of our loyalty programs.

International Products. International Products net revenues decreased by $4.9 million, or 5.4%, to $86.1 million for the three months ended September 30, 2015 as compared to $91.0 million for the three months ended September 30, 2014. Net revenues increased $8.3 million on a currency consistent basis primarily from higher retail membership revenue in both our online and offline acquisition channels associated with increased members and higher price points along with growth in the wholesale sector. These increases were more than offset by the unfavorable impact from foreign exchange of $13.2 million.

Segment EBITDA increased $12.8 million, or 853.3%, for the three months ended September 30, 2015 as compared to the three months ended September 30, 2014 as the lower net revenue of $4.9 million was more than offset by lower marketing and commissions of $7.5 million, lower operating costs of $2.9 million and lower general and administrative costs of $7.3 million. The lower marketing and commissions and lower operating costs were primarily attributable to the favorable impact of foreign exchange. The lower general

36


and administrative costs were primarily due to a decrease in charges of $6.4 million for legal reserves and fees related to the FCA inquiry.

Corporate

Corporate costs increased by $3.1 million for the three months ended September 30, 2015 as compared to the three months ended September 30, 2014 primarily from higher professional fees of $5.1 million principally from costs related to the debt exchange launched on September 29, 2015 partially offset by a favorable foreign exchange impact of $2.0 million related to intercompany financing arrangements.  

Nine Months Ended September 30, 2015 Compared to Nine Months Ended September 30, 2014

The following table summarizes our consolidated results of operations for the nine months ended September 30, 2015 and 2014:  

 

 

Nine Months Ended

 

 

Nine Months Ended

 

 

 

 

 

 

 

September 30,

 

 

September 30,

 

 

Increase

 

 

 

2015

 

 

2014

 

 

(Decrease)

 

 

 

(in millions)

 

Net revenues

 

$

888.6

 

 

$

928.2

 

 

$

(39.6

)

Expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenues, exclusive of depreciation and amortization shown separately below:

 

 

 

 

 

 

 

 

 

 

 

 

Marketing and commissions

 

 

331.4

 

 

 

360.3

 

 

 

(28.9

)

Operating costs

 

 

298.1

 

 

 

310.7

 

 

 

(12.6

)

General and administrative

 

 

93.2

 

 

 

142.3

 

 

 

(49.1

)

Facility exit costs

 

 

1.2

 

 

 

1.7

 

 

 

(0.5

)

Depreciation and amortization

 

 

71.7

 

 

 

81.3

 

 

 

(9.6

)

Total expenses

 

 

795.6

 

 

 

896.3

 

 

 

(100.7

)

Income from operations

 

 

93.0

 

 

 

31.9

 

 

 

61.1

 

Interest income

 

 

1.8

 

 

 

0.2

 

 

 

1.6

 

Interest expense

 

 

(173.9

)

 

 

(166.1

)

 

 

(7.8

)

Loss on extinguishment of debt

 

 

 

 

(14.6

)

 

 

14.6

 

Other income, net

 

 

1.2

 

 

 

 

 

1.2

 

Loss before income taxes and non-controlling interest

 

 

(77.9

)

 

 

(148.6

)

 

 

70.7

 

Income tax expense

 

 

(4.2

)

 

 

(10.9

)

 

 

6.7

 

Net loss

 

 

(82.1

)

 

 

(159.5

)

 

 

77.4

 

Less: net income attributable to non-controlling interest

 

 

(0.5

)

 

 

(0.4

)

 

 

(0.1

)

Net loss attributable to Affinion Group Holdings, Inc.

 

$

(82.6

)

 

$

(159.9

)

 

$

77.3

 

Summary of Operating Results for the Nine Months Ended September 30, 2015

The following is a summary of changes affecting our operating results for the nine months ended September 30, 2015.

Net revenues decreased $39.6 million, or 4.3%, for the nine months ended September 30, 2015 as compared to the same period of the prior year as lower retail revenues from a decline in retail member volumes in Membership Products and lower revenue in International Products primarily from an unfavorable foreign exchange impact were partially offset by an increase in Insurance and Package Products net revenue principally from a lower cost of insurance.

         Segment EBITDA increased $51.5 million as the impact of the lower net revenues was more than offset by lower marketing and commissions, lower operating costs and lower general and administrative expense.

Nine Months Ended September 30, 2015 Compared to Nine Months Ended September 30, 2014

The following section provides an overview of our consolidated results of operations for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014.

37


Net Revenues. During the nine months ended September 30, 2015 we reported net revenues of $888.6 million, a decrease of $39.6 million, or 4.3%, as compared to net revenues of $928.2 million in the comparable period of 2014.  Net revenues in Membership Products decreased $35.0 million primarily due to the continued attrition of legacy members, including those from our large financial institution partners along with the absence of a favorable reserve adjustment of $6.0 million recorded in 2014. These decreases were partially offset by increased revenues from new joins acquired through partners with whom we are actively marketing.  Insurance and Package Products revenues increased $12.6 million primarily due to a lower cost of insurance, principally from an acceleration of claims in 2014 as a result of the conversion to a new primary insurance carrier, partially offset by lower supplemental insureds and the impact of lower average Package members. Global Loyalty Products net revenues increased $1.6 million as growth with existing clients was partially offset by lower revenue from the loss of a key client. International Products net revenues decreased $19.2 million. On a currency consistent basis, International Products net revenues increased $23.3 million due to higher retail membership revenue in both our online and offline channels associated with increased members and higher price points along with growth in the wholesale sector. These increases were more than offset by an unfavorable foreign exchange impact of $42.5 million.

Marketing and Commissions Expense. Marketing and commissions expense decreased by $28.9 million, or 8.0%, to $331.4 million for the nine months ended September 30, 2015 from $360.3 million for the nine months ended September 30, 2014. Marketing and commissions expense decreased in International Products by $21.0 million primarily due to the favorable impact of foreign exchange. Costs decreased in Membership Products by $3.3 million primarily attributable to the migration of certain partner compensation arrangements from traditional bounty to advance commissions whereby the partner has the potential for additional revenue sharing. Costs decreased $5.8 million in Insurance and Package Products primarily from lower commissions.

Operating Costs. Operating costs decreased by $12.6 million, or 4.1%, to $298.1 million for the nine months ended September 30, 2015 from $310.7 million for the nine months ended September 30, 2014. Operating costs decreased $10.9 million in International Products primarily due to the favorable impact of foreign exchange and $5.1 million in Membership Products primarily from lower product and servicing costs associated with the lower retail member volumes along with lower costs from cost savings initiatives. Costs increased $4.5 million in Global Loyalty Products primarily due to one-time integration expenses incurred in the first quarter of 2015 and the negative impact of adjustments related to redemption activity for one of our loyalty programs.

General and Administrative Expense. General and administrative expense decreased by $49.1 million, or 34.5% to $93.2 million for the nine months ended September 30, 2015 from $142.3 million for the nine months ended September 30, 2014. Costs decreased $18.1 million in International Products primarily due to a decrease in charges of $17.3 million for legal reserves and fees related to the FCA inquiry.  Costs decreased $20.3 million in Membership Products primarily due to a $12.0 million charge incurred in 2014 related to the CFPB matter. In addition, as a result of a settlement reached with the CFPB in July 2015, we recorded a $3.3 million favorable adjustment to our legal reserve in the second quarter of 2015. Corporate costs decreased by $9.5 million primarily from lower stock compensation costs of $5.4 million, principally due to an adjustment in 2014 to modify a portion of the outstanding stock options by adjusting their exercise price and extending their contractual life, along with a favorable foreign exchange impact of $2.2 million related to intercompany financing arrangements.  

Depreciation and Amortization Expense. Depreciation and amortization expense decreased by $9.6 million for the nine months ended September 30, 2015 to $71.7 million from $81.3 million for the nine months ended September 30, 2014, primarily from lower amortization expense recorded in 2015 as compared to 2014 in the amount of $6.8 million related to intangible assets acquired in various acquisitions, principally member relationships which are amortized on an accelerated basis.

Interest Expense. Interest expense increased $7.8 million, or 4.7% to $173.9 million for the nine months ended September 30, 2015 from $166.1 million for the nine months ended September 30, 2014, primarily from higher interest expense associated with higher interest rates and increased principal amount of term loan borrowings associated with the May 2014 amendment of our senior secured credit facility and the absence in 2015 of a favorable reserve adjustment recorded in the third quarter of 2014. These increases were partially offset by lower interest expense from reduced senior secured PIK toggle note borrowings from the debt exchange completed in June 2014.

Loss on Extinguishment of Debt. Loss on extinguishment of debt in 2014 includes $14.6 million of the pro rata portion of the unamortized deferred financing costs and debt discount associated with the May 2014 amendment to our senior secured credit facility and debt exchange completed in the second quarter of 2014.

Income Tax Expense. Income tax expense decreased by $6.7 million for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014, primarily due to a decrease in the current state and foreign and deferred federal and state tax provisions for the nine months ended September 30, 2015, partially offset by an increase in the deferred foreign tax provision for the same period.

The Company’s effective income tax rates for the nine months ended September 30, 2015 and 2014 were (5.4)% and (7.3)%, respectively. The difference in the effective tax rates for the nine months ended September 30, 2015 and 2014 is primarily a result of a decrease in loss before income taxes and non-controlling interest from $148.6 million for the nine months ended September 30, 2014 to $77.9 million for the nine months ended September 30, 2015 and a decrease in the income tax provision from $10.9 million for the

38


nine months ended September 30, 2014 to $4.2 million for the nine months ended September 30, 2015. The Company’s tax rate is affected by recurring items, such as tax rates in foreign jurisdictions and the relative amount of income it earns in those jurisdictions. It is also affected by discrete items that may occur in any given year, but are not consistent from year to year. In addition to state and foreign income taxes, the requirement to maintain valuation allowances had the most significant impact on the difference between the Company’s effective tax rate and the statutory U.S. federal income tax rate of 35%.

Operating Segment Results

Net revenues and Segment EBITDA by operating segment are as follows:

 

 

 

Nine Months Ended September 30,

 

 

 

Net Revenues

 

 

Segment EBITDA (1)

 

 

 

 

 

 

 

 

 

 

 

Increase

 

 

 

 

 

 

 

 

 

 

Increase

 

 

 

2015

 

 

2014

 

 

(Decrease)

 

 

2015

 

 

2014

 

 

(Decrease)

 

 

 

(in millions)

 

Membership Products

 

$

307.5

 

 

$

342.5

 

 

$

(35.0

)

 

$

40.6

 

 

$

46.4

 

 

$

(5.8

)

Insurance and Package Products

 

 

199.9

 

 

 

187.3

 

 

 

12.6

 

 

 

61.3

 

 

 

37.6

 

 

 

23.7

 

Global Loyalty Products

 

 

126.1

 

 

 

124.5

 

 

 

1.6

 

 

 

44.2

 

 

 

50.9

 

 

 

(6.7

)

International Products

 

 

256.1

 

 

 

275.3

 

 

 

(19.2

)

 

 

28.3

 

 

 

(2.5

)

 

 

30.8

 

Eliminations

 

 

(1.0

)

 

 

(1.4

)

 

 

0.4

 

 

 

-

 

 

 

-

 

 

 

-

 

Total products

 

 

888.6

 

 

 

928.2

 

 

 

(39.6

)

 

 

174.4

 

 

 

132.4

 

 

 

42.0

 

Corporate

 

 

 

 

 

 

 

 

-

 

 

 

(9.7

)

 

 

(19.2

)

 

 

9.5

 

Total

 

$

888.6

 

 

$

928.2

 

 

$

(39.6

)

 

 

164.7

 

 

 

113.2

 

 

 

51.5

 

Depreciation and amortization

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(71.7

)

 

 

(81.3

)

 

 

9.6

 

Income from operations

 

 

 

 

 

 

 

 

 

 

 

 

 

$

93.0

 

 

$

31.9

 

 

$

61.1

 

 

(1)

See Segment EBITDA above and Note 11 to the unaudited condensed consolidated financial statements for a discussion of Segment EBITDA and a reconciliation of Segment EBITDA to income from operations.

 

Membership Products. Membership Products net revenues decreased by $35.0 million, or 10.2%, to $307.5 million for the nine months ended September 30, 2015 as compared to $342.5 million for the nine months ended September 30, 2014. Net revenues decreased primarily due to the continued attrition of legacy members, including those from our large financial institution partners along with the absence of a favorable reserve adjustment of $6.0 million recorded in 2014. These decreases were partially offset by increased revenues from new joins acquired through partners with whom we are actively marketing.  

Segment EBITDA decreased by $5.8 million, or 12.5%, for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014. Segment EBITDA decreased as the impact of the lower net revenues of $35.0 million was partially offset by lower marketing and commissions of $3.3 million, lower operating costs of $5.1 million and lower general and administrative expenses of $20.3 million. The lower marketing and commissions were primarily the result of the migration of certain partner compensation arrangements from traditional bounty to advance commissions whereby the partner has the potential for additional revenue sharing. The lower operating costs were primarily from lower product and servicing costs associated with the lower retail member volumes along with lower costs from cost savings initiatives. The lower general and administrative costs were primarily due to a $12.0 million charge incurred in 2014 related to the CFPB matter. In addition, as a result of a settlement reached with the CFPB in July 2015, we recorded a $3.3 million favorable adjustment to our legal reserve in the second quarter of 2015.

Insurance and Package Products. Insurance and Package Products net revenues increased by $12.6 million, or 6.7%, to $199.9 million for the nine months ended September 30, 2015 as compared to $187.3 million for the nine months ended September 30, 2014. Insurance revenue increased approximately $16.9 million primarily due to a lower cost of insurance principally from an acceleration of claims in 2014 as a result of the conversion to a new primary insurance carrier partially offset by the impact from lower average supplemental insureds. Package revenue decreased approximately $4.3 million primarily due to the impact of lower average Package members.

Segment EBITDA increased by $23.7 million, or 63.0%, for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014 primarily from the impact of higher net revenues of $12.6 million along with lower operating expenses of $11.1 million primarily the result of lower employee related costs and lower marketing and commissions.

Global Loyalty Products. Revenues from Global Loyalty Products increased by $1.6 million, or 1.3%, for the nine months ended September 30, 2015 to $126.1 million as compared to $124.5 million for the nine months ended September 30, 2014 primarily from increased revenues related to growth with existing clients partially offset by lower revenue from the loss of a key client.

Segment EBITDA decreased by $6.7 million, or 13.2%, for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014, as the increased contribution associated with existing clients was more than offset by the loss of a

39


key client, additional costs from one-time integration expenses incurred in the first quarter of 2015 and the negative impact of adjustments related to redemption activity for one of our loyalty programs.

International Products. International Products net revenues decreased by $19.2 million, or 7.0%, to $256.1 million for the nine months ended September 30, 2015 as compared to $275.3 million for the nine months ended September 30, 2014. Net revenues increased $23.3 million on a currency consistent basis primarily from higher retail membership revenue in both our online and offline acquisition channels associated with increased members and higher price points along with growth in the wholesale sector. These increases were more than offset by the unfavorable impact from foreign exchange of $42.5 million.

Segment EBITDA increased $30.8 million for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014 as the lower net revenue of $19.2 million was more than offset by lower general and administration costs of $18.1 million, lower marketing and commissions of $21.0 million and lower operating costs of $10.9 million. General and administrative costs decreased primarily due to a decrease in charges of $17.3 million for legal reserves and fees related to the FCA inquiry.  The lower marketing and commissions and lower operating costs were primarily attributable to the favorable impact of foreign exchange.

Corporate

Corporate costs decreased by $9.5 million for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014 primarily from lower stock compensation costs of $5.4 million as 2014 included an adjustment to modify a portion of the outstanding stock options by adjusting their exercise price and extending their contractual life, and a favorable foreign exchange impact of $2.2 million related to intercompany financing arrangements.  

.

Financial Condition, Liquidity and Capital Resources

Financial Condition—September 30, 2015 and December 31, 2014

 

 

 

September 30,

 

 

December 31,

 

 

Increase

 

 

 

2015

 

 

2014

 

 

(Decrease)

 

 

 

(in millions)

 

Total assets

 

$

992.0

 

 

$

1,019.6

 

 

$

(27.6

)

Total liabilities

 

 

2,925.3

 

 

 

2,866.1

 

 

 

59.2

 

Total deficit

 

 

(1,933.3

)

 

 

(1,846.5

)

 

 

(86.8

)

Total assets decreased by $27.6 million principally due to (i) a decrease in other intangibles, net of $39.2 million, principally due to amortization expense of $36.9 million, and (ii) a decrease in property and equipment of $14.5 million, principally due to depreciation expense of $34.7 million, partially offset by additions of $24.0 million. These decreases were partially offset by an increase in cash and cash equivalents of $27.8 million.

 

Total liabilities increased by $59.2 million, principally due to an increase in long-term debt of $92.2 million, principally due to an increase in outstanding borrowings under Affinion’s revolving credit facility of $61.0 million and a $16.4 million increase in our 2013 senior notes due to payment-in-kind interest. This increase was partially offset by a decrease in account payables and accrued expenses of $21.5 million due to a reduction in accrued legal and professional fees principally in International Products and lower accrued interest due to the timing of interest payments on our debt instruments.

Total deficit increased by $86.8 million, due to a net loss of $82.1 million and foreign currency translation effect of $5.7 million.

Liquidity and Capital Resources

Our primary sources of liquidity on both a short-term and long-term basis are cash on hand and cash generated through operating and financing activities. Our primary cash needs are to service our indebtedness and for working capital, capital expenditures and general corporate purposes. Many of the Company’s significant costs are variable in nature, including marketing and commissions. The Company has a great degree of flexibility in the amount and timing of marketing expenditures and focuses its marketing expenditures on its most profitable marketing opportunities. Commissions correspond directly with revenue generated and have been decreasing as a percentage of revenue over the last several years. We believe that, based on our current operations and anticipated growth, coupled with our flexibility in the amount and timing of marketing expenditures, our cash on hand, cash flows from operating activities and borrowing availability under Affinion’s revolving credit facility will be sufficient to meet our liquidity needs for the next twelve months and in the foreseeable future, including quarterly amortization payments on Affinion’s first lien term loan facility under Affinion’s $1.3 billion amended and restated senior secured credit facility. The first lien term loan facility also requires mandatory prepayments based on excess cash flows as defined in Affinion’s amended and restated senior secured credit facility.

40


Affinion Holdings is a holding company, with no direct operations and no significant assets other than the ownership of 100% of the stock of Affinion. Because we conduct our operations through our subsidiaries, our cash flows and our ability to service our indebtedness is dependent upon cash dividends and distributions or other transfers from our subsidiaries. The terms of Affinion’s amended and restated senior secured credit facility and the indentures governing Affinion’s 2010 senior notes and Affinion’s 2013 senior subordinated notes significantly restrict our subsidiaries from paying dividends and otherwise transferring assets to us. The terms of each of these debt instruments provide Affinion with “baskets” that can be used to make certain types of “restricted payments,” including dividends or other distributions to us. If Affinion does not have sufficient payment capacity in the baskets with respect to its existing debt agreements in order to make payments to us, we may be unable to service any cash payments on Affinion Holdings 2010 senior notes or 2013 senior notes. Affinion did not pay any cash dividends to us during the nine months ended September 30, 2015 and years ended December 31, 2014 or 2013. On November 13, 2013, Affinion loaned $18.9 million to Affinion Holdings to be utilized by us to make the November 2013 interest payments on our 2010 senior notes. On December 11, 2013, Affinion loaned $2.6 million to Affinion Holdings to be utilized by us to make interest payments on our 2010 senior notes to tendering debt holders participating in Affinion Holdings’ debt exchange. On May 13, 2014 and November 14, 2014, Affinion loaned $1.9 million to Affinion Holdings to be utilized by us to make interest payments on our 2010 senior notes. On May 14, 2015, Affinion loaned $1.9 million to Affinion Holdings to be utilized by us to make interest payments on our 2010 senior notes.

Although we historically have a working capital deficit, a major factor included in this deficit is deferred revenue resulting from the cash collected from annual memberships that is deferred until the appropriate refund period has concluded. In spite of our historical working capital deficit, we have been able to operate effectively primarily due to our cash flows from operations and Affinion’s available revolving credit facility. However, as the membership base continues to shift away from memberships billed annually to memberships billed monthly, it will have a negative effect on our operating cash flow. We anticipate that our working capital deficit will continue for the foreseeable future.

Cash Flows—Nine Months Ended September 30, 2015 and 2014

At September 30, 2015, we had $60.1 million of cash and cash equivalents on hand, an increase of $32.4 million from $27.7 million at September 30, 2014. The following table summarizes our cash flows and compares changes in our cash and cash equivalents on hand to the same period in the prior year.

 

 

 

Nine Months Ended September 30,

 

 

 

2015

 

 

2014

 

 

Change

 

 

 

(in millions)

 

Cash provided by (used in):

 

 

 

 

 

 

 

 

 

 

 

 

Operating activities

 

$

(2.5

)

 

$

6.9

 

 

$

(9.4

)

Investing activities

 

 

(22.9

)

 

 

(56.0

)

 

 

33.1

 

Financing activities

 

 

54.4

 

 

 

57.8

 

 

 

(3.4

)

Effect of exchange rate changes

 

 

(1.2

)

 

 

(1.1

)

 

 

(0.1

)

Net change in cash and cash equivalents

 

$

27.8

 

 

$

7.6

 

 

$

20.2

 

Operating Activities

During the nine months ended September 30, 2015, we used $9.4 million more cash for operating activities than during the nine months ended September 30, 2014. Segment EBITDA increased by $51.5 million for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014 (see “—Results of Operations”). In addition, other current assets generated cash flows during the nine months ended September 30, 2015 that were $39.5 million less favorable than the cash flows generated during the nine months ended September 30, 2014 primarily due to timing of prepayments for gift card purchases and profit-sharing receivables from insurance carriers generated cash flows during the nine months ended September 30, 2015 that were $31.0 million less favorable than the cash flows generated during the nine months ended September 30, 2014 as the profit-sharing arrangement with the Company’s former primary insurance carrier continues to wind down.

Investing Activities

We used $33.1 million less cash in investing activities during the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014. During the nine months ended September 30, 2015, we used $23.3 million for capital expenditures and received $1.5 million in connection with the sale of an investment. During the nine months ended September 30, 2014, we used $36.3 million for capital expenditures and $19.4 million for acquisition-related payments, net of cash acquired.

Financing Activities

We provided $3.4 million less cash from financing activities during the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014. During the nine months ended September 30, 2015, we had net borrowings under

41


Affinion’s revolving credit facility of $61.0 million and made principal payments on our debt of $6.6 million. During the nine months ended September 30, 2014, we had net repayments under Affinion’s revolving credit facility of $34.0 million, refinanced a portion of Affinion’s debt resulting in Affinion’s new second-lien term loan borrowings of $425.0 million and repayments of Affinion’s term loan debt of $311.6 million, paid financing costs of $23.0 million and made other principal payments on our debt of $2.4 million.

Credit Facilities and Long-Term Debt

As a result of the Apollo Transactions, we became a highly leveraged company, and we have incurred additional indebtedness and refinancing indebtedness since the Apollo Transactions. In April 2010, Affinion, our wholly owned subsidiary, entered into an amended and restated senior secured credit facility comprised of an $875.0 million term loan and a $125.0 million revolving credit facility. In December 2010, Affinion entered into an agreement with two of its lenders resulting in an increase in the revolving credit facility to $165.0 million. In February 2011, Affinion incurred incremental borrowings of $250.0 million under its term loan facility. In May 2014, Affinion entered into an amendment to its senior secured credit facility that resulted in decreasing the revolving credit facility to $80.0 million and increasing the term loan borrowings to approximately $1.2 billion.

In December 2013, we and Affinion completed exchange offers and consent solicitations pursuant to which, among other things, (i) $292.8 million principal amount of our 2010 senior notes were exchanged by the holders thereof for $292.8 million principal amount of our 2013 senior notes, 13.5 million Series A warrants and 70.2 million Series B warrants, (ii) $352.9 million principal amount of Affinion’s 2006 senior subordinated notes were exchanged by the holders thereof for $360.0 million principal amount of the Investments 2013 senior subordinated notes issued by its wholly-owned subsidiary, Affinion Investments, LLC (“Affinion Investments”), (iii) Affinion issued $360.0 million principal amount of Affinion’s 2013 senior subordinated notes to Affinion Investments in exchange for all of Affinion’s 2006 senior subordinated notes received by it in the exchange offer, (iv) we entered into a supplemental indenture pursuant to which substantially all of the restrictive covenants were eliminated in the indenture governing our 2010 senior notes, and (v) Affinion entered into a supplemental indenture pursuant to which substantially all of the restrictive covenants were eliminated in the indenture governing Affinion’s 2006 senior subordinated notes.

As of September 30, 2015, we had approximately $2.4 billion in indebtedness. Payments required to service this indebtedness have substantially increased our liquidity requirements as compared to prior years due to higher principal amounts and higher interest rates associated with the new indebtedness incurred in December 2013 and the related amendment to Affinion’s senior secured credit facility that increased the applicable margins and the May 2014 amendment to Affinion’s senior secured credit facility that included the issuance of second lien term debt as well as first lien term debt.

As part of the Apollo Transactions, Affinion, our wholly owned subsidiary, (a) issued $270.0 million principal amount of 10 1/8% senior notes due October 15, 2013 ($266.4 million net of discount) on October 17, 2005 and an additional $34.0 million aggregate principal amount of follow on senior notes on May 3, 2006 (collectively, the “Affinion 2005 senior notes”), (b) entered into a senior secured credit facility, consisting of a term loan facility in the principal amount of $860.0 million (which amount does not reflect the $231.0 million in principal prepayments that Affinion made prior to amendment and restatement of the senior secured credit facility in April 2010) and a revolving credit facility in an aggregate amount of up to $100.0 million and (c) entered into a senior subordinated bridge loan facility in the principal amount of $383.6 million.

Affinion’s senior subordinated bridge loan facility was refinanced in part with the proceeds from the offering of Affinion’s 2006 senior subordinated notes. On April 26, 2006, Affinion issued $355.5 million aggregate principal amount of Affinion’s 2006 senior subordinated notes and applied the gross proceeds of $350.5 million to repay $349.5 million of outstanding borrowings under Affinion’s senior subordinated loan facility, plus accrued interest, and used cash on hand to pay fees and expenses associated with such issuance. The interest on Affinion’s 2006 senior subordinated notes is payable semi-annually. Affinion may redeem some or all of Affinion’s 2006 senior subordinated notes at the redemption prices (generally at a premium) set forth in the agreement governing Affinion’s 2006 senior subordinated notes. Affinion’s 2006 senior subordinated notes are unsecured obligations. At September 30, 2015, Affinion’s 2006 senior subordinated notes were guaranteed by the same subsidiaries that guarantee the Affinion senior secured credit facility (other than Affinion Investments, Affinion Investments II, Propp Corp., SkyMall and Connexions SMV, LLC). In December 2013, Affinion Investments exchanged $352.9 million face amount of Affinion’s outstanding 2006 senior subordinated notes for $360.0 million face amount Investments 2013 senior subordinated notes. Affinion Investments then exchanged with Affinion all of Affinion’s 2006 senior subordinated notes received by it in the exchange offer for Affinion’s 2013 senior subordinated notes.

On January 31, 2007, we entered into a five-year $350.0 million senior unsecured term loan with certain banks at an initial interest rate of LIBOR, as defined, plus 6.25% (the “Senior Unsecured Term Loan”). In October 2010, the senior unsecured term loan was repaid utilizing the proceeds from our 2010 senior notes (see below).

On April 9, 2010, Affinion, as borrower, and Affinion Holdings, as a guarantor, entered into a $1.0 billion amended and restated senior secured credit facility with its lenders, amending its senior secured credit facility. We refer to Affinion’s amended and restated senior secured credit facility, as amended from time to time, including by the Incremental Assumption Agreements (as defined below)

42


and the May 2014 amendment as “Affinion’s senior secured credit facility.” Affinion’s senior secured credit facility initially consisted of a five-year $125.0 million revolving credit facility and an $875.0 million term loan facility.

On October 5, 2010, the Company issued $325.0 million aggregate principal amount of its 2010 senior notes. The interest on its 2010 senior notes is payable semi-annually on May 15 and November 15 of each year. At any time prior to November 15, 2012, the Company may redeem its 2010 senior notes, at its option, in whole or in part, at a redemption price equal to the principal amount plus an applicable premium. On or after November 15, 2012, the Company may redeem some or all of its 2010 senior notes at any time at the redemption prices (generally at a premium) set forth in the indenture governing the Notes. The Company’s 2010 senior notes contain restrictive covenants related primarily to the Company’s ability to pay dividends, redeem or repurchase capital stock, sell assets, issue additional debt or merge with or acquire other companies. The Company used a portion of the net proceeds of $320.3 million, along with proceeds from a cash dividend from Affinion in the amount of $115.3 million, to repay the Senior Unsecured Term Loan. A portion of the remaining proceeds from the offering of the Company’s 2010 senior notes were utilized to pay related fees and expenses, with the balance retained for general corporate purposes. The fees and expenses were capitalized and are being amortized over the term of the Company’s 2010 senior notes. In October, 2010, the Company recognized a loss of $2.8 million, representing the write-off of unamortized balances of the debt discount and deferred financing costs associated with the Senior Unsecured Term Loan, in connection with the repayment of the Senior Unsecured Term Loan. On August 24, 2011, pursuant to the registration rights agreement entered into in connection with the issuance of the Company’s 2010 senior notes, the Company completed a registered exchange offer and exchanged all of the Company’s then-outstanding 2010 senior notes for a like principal amount of its 2010 senior notes that have been registered under the Securities Act. In December 2013, the Company exchanged $292.8 million face amount of its 2010 senior notes for $292.8 million face amount of its 2013 senior notes and Series A warrants and Series B warrants to purchase up to approximately 13.5 million shares and approximately 70.2 million shares, respectively, of Affinion Holdings Class B common stock.

On December 13, 2010, Affinion, as borrower, Affinion Holdings and certain of Affinion’s subsidiaries entered into an Incremental Assumption Agreement with two of Affinion’s lenders (the “Revolver Incremental Assumption Agreement,” and together with the Term Loan Incremental Assumption Agreement, the “Incremental Assumption Agreements”) which resulted in an increase in the revolving credit facility from $125.0 million to $160.0 million, with a further increase to $165.0 million in January 2011. On February 11, 2011, Affinion, as borrower, and Affinion Holdings, and certain of Affinion’s subsidiaries entered into, and simultaneously closed under, the Term Loan Incremental Assumption Agreement, which resulted in an increase in the term loan facility from $875.0 million to $1.125 billion. On November 20, 2012, Affinion, as Borrower, and Affinion Holdings entered into an amendment to Affinion’s senior secured credit facility, which (i) increased the margins on LIBOR loans from 3.50% to 5.00% and on base rate loans from 2.50% to 4.00%, (ii) replaced the financial covenant requiring Affinion to maintain a maximum consolidated leverage ratio with a financial covenant requiring Affinion to maintain a maximum senior secured leverage ratio, and (iii) adjusted the ratios under the financial covenant requiring Affinion to maintain a minimum interest coverage ratio. On December 12, 2013, in connection with the refinancing of Affinion’s 2006 senior subordinated notes and our 2010 senior notes, Affinion, as Borrower, and the Company, entered into an amendment to Affinion’s senior secured credit facility, which (i) provided permission for the consummation of the exchange offers for Affinion’s 2006 senior subordinated notes and our 2010 senior notes, (ii) removed the springing maturity provisions applicable to the term loan facility, (iii) modified the senior secured leverage ratio financial covenant in Affinion’s senior secured credit facility, (iv) provided additional flexibility for Affinion to make dividends to the Company to be used to make certain payments with respect to the Company’s indebtedness and to repay, repurchase or redeem subordinated indebtedness of Affinion, and (v) increased the interest margins by 0.25% to 5.25% on LIBOR loans and 4.25% on base rate loans. The amendment became effective upon the satisfaction of the conditions precedent set forth therein, including the payment by Affinion of the consent fee equal to 0.25% of the sum of (i) the aggregate principal amount of all term loans and (ii) the revolving loan commitments in effect, in each case, held by each lender that entered into the amendment on the date of effectiveness of the amendment.

On May 20, 2014, Affinion, as borrower, and the Company entered into an amendment to Affinion’s senior secured credit facility, which (i) extended the maturity to April 30, 2018 of $775.0 million in aggregate principal amount of existing senior secured term loan and existing senior secured revolving loans, which loans were designated as first lien term loans (the “First Lien Term Loans”), (ii) extended the maturity to October 31, 2018 of $377.9 million in aggregate principal amount of existing senior secured term loans on a second lien senior secured basis, which, together with additional borrowings obtained on the same terms, total $425.0 million (the “Second Lien Term Loans”) , (iii) extended the maturity to January 29, 2018 of $80.0 million of the commitments (and related obligations) under the existing senior secured revolving credit facility on a first lien senior secured basis, (iv) reduced the commitments under the existing senior secured revolving credit facility by $85.0 million and (v) removed the existing financial covenant requiring the Company to maintain a minimum interest coverage ratio.

Affinion’s revolving credit facility includes a letter of credit subfacility and a swingline loan subfacility. Affinion’s First Lien Term Loan facility matures in April 2018 and Affinion’s Second Lien Term Loan facility matures in October 2018. Affinion’s First Lien Term Loan facility provides for quarterly amortization payments totaling 1% per annum, with the balance payable upon the final maturity date. Affinion’s Second Lien Term Loan facility does not provide for quarterly amortization payments. Affinion’s senior secured credit facility also requires mandatory prepayments of the outstanding term loans based on excess cash flow (as defined), if any, and the proceeds from certain specified transactions. The interest rates with respect to Affinion’s First Lien Term Loans and

43


revolving loans under the amended Affinion Credit Facility are based on, at Affinion’s option, (a) the higher of (i) adjusted LIBOR and (ii) 1.50%, in each case plus 5.25%, or (b) the highest of (i) Deutsche Bank Trust Company Americas’ prime rate, (ii) the Federal Funds Effective Rate plus 0.5% and (iii) 2.50% (“ABR”), in each case plus 4.25%. The interest rates with respect to Affinion’s Second Lien Term Loans under the amended Affinion Credit Facility are based on, at Affinion’s option, (a) the higher of (i) adjusted LIBOR and (ii) 1.50%, in each case plus 7.00%, or (b) the highest of (i) Deutsche Bank Trust Company Americas’ prime rate, (ii) the Federal Funds Effective Rate plus 0.5% and (iii) 2.50%, in each case plus 6.00%. The weighted average interest rate on the term loan for the period from April 1, 2014 through May 20, 2014 and for the period from January 1, 2014 through May 20, 2014 was 6.75% per annum. The weighted average interest rate on the First Lien Term Loan and Second Lien Term Loan for the three and nine months ended September 30, 2015 and for the period from May 20, 2014 through September 30 2014 was 6.75% and 8.50%, respectively. The weighted average interest rate on revolving credit facility borrowings for the three and nine months ended September 30, 2015 was 7.2% per annum for both periods, and for the three and nine months ended September 30, 2014 was 7.5% and 7.1%, respectively. Affinion’s obligations under its senior secured credit facility are, and Affinion’s obligations under any interest rate protection or other hedging arrangements entered into with a lender or any of its affiliates will be, guaranteed by Affinion Holdings and by each of Affinion’s existing and subsequently acquired or organized domestic subsidiaries, subject to certain exceptions. Affinion’s senior secured credit facility is secured to the extent legally permissible by substantially all the assets of (i) Affinion Holdings, which consists of a pledge of all Affinion’s capital stock and (ii) Affinion and the subsidiary guarantors, including but not limited to: (a) a pledge of substantially all capital stock held by Affinion or any subsidiary guarantor and (b) security interests in substantially all tangible and intangible assets of Affinion and each subsidiary guarantor, subject to certain exceptions. Affinion’s senior secured credit facility also contains financial, affirmative and negative covenants. The negative covenants in Affinion’s senior secured credit facility include, among other things, limitations (all of which are subject to certain exceptions) on Affinion’s (and in certain cases, Affinion Holdings’) ability to declare dividends and make other distributions, redeem or repurchase its capital stock; prepay, redeem or repurchase certain of Affinion’s subordinated indebtedness; make loans or investments (including acquisitions); incur additional indebtedness (subject to certain exceptions); enter into agreements that would restrict the ability of Affinion’s subsidiaries to pay dividends; merge or enter into acquisitions; sell Affinion’s assets; and enter into transactions with its affiliates. Affinion’s senior secured credit facility also requires Affinion to comply with a financial maintenance covenant with a maximum ratio of senior secured debt (as defined in Affinion’s senior secured credit facility) to EBITDA (as defined in Affinion’s senior secured credit facility) of 4.25:1.00. A portion of the April 2010 proceeds of the term loan under Affinion’s senior secured credit facility were utilized to repay the outstanding balance of its then existing senior secured term loan, including accrued interest, of $629.7 million and pay fees and expenses of approximately $27.0 million. Any borrowings under the revolving credit facility are available to fund Affinion’s working capital requirements, capital expenditures and for other general corporate purposes.

On November 19, 2010, Affinion completed a private offering of $475.0 million aggregate principal amount of Affinion’s 2010 senior notes providing net proceeds of $471.5 million. Affinion’s 2010 senior notes bear interest at 7.875% per annum payable semi-annually on June 15 and December 15 of each year, commencing on June 15, 2011. Affinion’s 2010 senior notes will mature on December 15, 2018. Affinion’s 2010 senior notes are redeemable at Affinion’s option prior to maturity. The indenture governing Affinion’s 2010 senior notes contains negative covenants which restrict the ability of Affinion and its restricted subsidiaries to engage in certain transactions and also contains customary events of default. Affinion’s obligations under Affinion’s 2010 senior notes are jointly and severally and fully and unconditionally guaranteed on a senior unsecured basis by each of Affinion’s existing and future domestic subsidiaries that guarantee Affinion’s indebtedness under Affinion’s senior secured credit facility (other than Affinion Investments and Affinion Investments II). Affinion’s 2010 senior notes and guarantees thereof are senior unsecured obligations of Affinion and rank equally with all of Affinion’s and the guarantors’ existing and future senior indebtedness and senior to Affinion’s and the guarantors’ existing and future subordinated indebtedness. Affinion’s 2010 senior notes are therefore effectively subordinated to Affinion’s and the guarantors’ existing and future secured indebtedness, including Affinion’s obligations under Affinion’s senior secured credit facility, to the extent of the value of the collateral securing such indebtedness. Affinion’s 2010 senior notes are structurally subordinated to all indebtedness and other obligations of each of Affinion’s existing and future subsidiaries that are not guarantors, including the Investments 2013 senior subordinated notes. On August 24, 2011, pursuant to the registration rights agreement entered into in connection with the issuance of Affinion’s 2010 senior notes, Affinion completed a registered exchange offer and exchanged all of Affinion’s then-outstanding 2010 senior notes for a like principal amount of Affinion’s 2010 senior notes that have been registered under the Securities Act.

On December 12, 2013, the Company completed a private offer to exchange its 2010 senior notes for its 2013 senior notes, pursuant to which $292.8 million aggregate principal amount of its 2013 senior notes were issued in exchange for $292.8 million aggregate principal amount of its 2010 senior notes. Under the terms of the exchange offer, for each $1,000 principal amount of its 2010 senior notes tendered at or prior to the consent time, holders received (i) $1,000 principal amount of its 2013 senior notes, (ii) Series A warrants to purchase 46.1069 shares of the Company’s Class B common stock, and (iii) Series B warrants to purchase 239.8612 shares of the Company’s Class B common stock. For each $1,000 principal amount of its 2010 senior notes tendered during the offer period but after the consent period, holders received (i) $950 principal amount of its 2013 senior notes, (ii) Series A warrants to purchase 46.1069 shares of the Company’s Class B common stock, and (iii) Series B warrants to purchase 239.8612 shares of the Company’s Class B common stock. The Company’s 2013 senior notes bear interest at 13.75% per annum, payable semi-annually on March 15 and September 15 of each year, commencing on September 15, 2014. At the Company’s option (subject to certain exceptions), it may elect to pay interest (i) entirely in cash (“Cash Interest”), (ii) entirely by increasing the outstanding principal

44


amount of its 2013 senior notes or by issuing PIK notes (“PIK Interest”), or (iii) 50% as Cash Interest and 50% as PIK Interest; provided that if (i) no Default or Event of Default (each as defined in the Affinion Credit Facility) shall have occurred and be continuing or would result from such interest payment, (ii) immediately after giving effect to such interest payment, on a pro forma basis, the Consolidated Leverage Ratio (as defined in the Affinion Credit Facility) of Affinion is less than or equal to 5.0:1.0 as of the last day of the most recently completed fiscal quarter preceding the interest payment date for which financial statements have been delivered to the agent under the Affinion Credit Facility and (iii) immediately after giving effect to such interest payment, on a pro forma basis, the Adjusted Consolidated Leverage Ratio (as defined in the note agreement governing the Investments senior subordinated notes) of Affinion is less than or equal to 5.0:1.0, then Affinion Holdings shall be required to pay interest on its 2013 senior notes for such interest period in cash. PIK Interest accrues at 13.75% per annum plus 0.75%. For the first interest period ending September 15, 2014, Affinion Holdings will pay interest by increasing the principal amount of its 2013 senior notes. The Company’s 2013 senior notes will mature on September 15, 2018. The Company may redeem some or all of its 2013 senior notes at any time on or after December 12, 2016 at redemption prices (generally at a premium) set forth in the indenture governing its 2013 senior notes. In addition, prior to December 12, 2016, up to 100% of the Company’s outstanding 2013 senior notes are redeemable at the option of the Company, with the net proceeds raised by the Company in one or more equity offerings, at 113.75% of their principal amount. In addition, prior to December 12, 2016, the Company’s 2013 senior notes are redeemable, in whole or in part, at a redemption price equal to 100% of the principal amount of its 2013 senior notes redeemed plus a “make-whole” premium. The indenture governing the Company’s 2013 senior notes contains negative covenants which restrict the ability of the Company and any restricted subsidiaries of the Company to engage in certain transactions and also contains customary events of default. The Company’s 2013 senior notes are senior secured obligations of the Company and rank pari passu in right of payment to all existing and future senior indebtedness of the Company, junior in right of payment to all secured indebtedness of the Company secured by liens having priority to the liens securing its 2013 senior notes up to the value of the assets subject to such liens, and senior in right of payment to unsecured indebtedness of the Company to the extent of the security of the collateral securing its 2013 senior notes and all future subordinated indebtedness of the Company. The Company’s 2013 senior notes are secured by (i) second-priority security interests in 100% of the capital stock of Affinion, which security interests are junior to the first priority security interests granted to the lenders under Affinion’s senior secured credit facility and (ii) first-priority security interests in all other assets of Affinion Holdings, including 100% of the capital stock of Affinion Net Patents, Inc. The Series A warrants are exercisable at any time at the option of the holders at an exercise price of $0.01 per share of Class B common stock and will expire on the tenth anniversary of their issuance date. The Series B warrants will be not become exercisable until and unless on the fourth anniversary of the exchange closing date, 5% or more in aggregate principal amount of Affinion Holdings’ 2013 senior notes are then outstanding and unpaid, whereupon, if it should ever occur, the Series B warrants will become exercisable until the tenth anniversary of the exchange closing date at an exercise price of $0.01 per share of Class B common stock.

In connection with the exchange, the Company recognized a loss of $4.6 million, representing the write-off of unamortized debt issuance costs and discounts of $2.8 million and $1.8 million, respectively. In connection with the exchange offer and consent solicitation relating to the Company’s 2010 senior notes and the issuance of the Company’s 2013 senior notes, the Company incurred financing costs of $4.7 million.

On June 9, 2014, Affinion Holdings completed an offer to exchange Affinion Holdings’ 2013 senior notes for Affinion Holdings’ Series A warrants to purchase shares of Affinion Holdings’ Class B common stock.  In connection with the exchange offer, approximately $88.7 million aggregate principal amount of Affinion Holdings’ 2013 senior notes were exchanged for Series A warrants to purchase up to approximately 30.3 million shares of Affinion Holdings Class B common stock. In addition, on June 9, 2014, in connection with a pre-emptive rights offer, Affinion Holdings issued Series A warrants to purchase up to approximately 1.2 million shares of Affinion Holdings Class B common stock in exchange for cash proceeds of approximately $3.8 million.

On December 12, 2013, Affinion completed a private offer to exchange Affinion’s 2006 senior subordinated notes for Investments 2013 senior subordinated notes, pursuant to which $360.0 million aggregate principal amount of Investments 2013 senior subordinated notes were issued in exchange for $352.9 million aggregate principal amount of Affinion’s 2006 senior subordinated notes. Under the terms of the exchange offer, for each $1,000 principal amount of Affinion’s 2006 senior subordinated notes tendered at or prior to the consent time, holders received $1,020 principal amount of Investments 2013 senior subordinated notes. For each $1,000 principal amount of Affinion’s 2006 senior subordinated notes tendered during the offer period but after the consent period, holders received $1,000 principal amount of Investments 2013 senior subordinated notes. The Investments 2013 senior subordinated notes bear interest at 13.50% per annum, payable semi-annually on February 15 and August 15 of each year, commencing on February 15, 2014. The Investments 2013 senior subordinated notes will mature on August 15, 2018. Affinion Investments may redeem some or all of the Investments 2013 senior subordinated notes at any time on or after December 12, 2016 at redemption prices (generally at a premium) set forth in the indenture governing the Investments 2013 senior subordinated notes. In addition, prior to December 12, 2016, up to 35% of the outstanding Investments 2013 senior subordinated notes are redeemable at the option of Affinion Investments, with the net proceeds raised by Affinion or the Company in one or more equity offerings, at 113.50% of their principal amount. In addition, prior to December 12, 2016, the Investments 2013 senior subordinated notes are redeemable, in whole or in part, at a redemption price equal to 100% of the principal amount of the Investments 2013 senior subordinated notes redeemed plus a “make-whole” premium. The indenture governing the Investments 2013 senior subordinated notes contains negative covenants which restrict the ability of Affinion Investments, any future restricted subsidiaries of Affinion Investments and one of Affinion’s

45


other wholly-owned subsidiaries that guarantees the Investments 2013 senior subordinated notes to engage in certain transactions and also contains customary events of default. Affinion Investments obligations under the Investments 2013 senior subordinated notes are guaranteed on an unsecured senior subordinated basis by Affinion Investments II. Each of Affinion Investments and Affinion Investments II is an unrestricted subsidiary of Affinion and guarantees Affinion’s indebtedness under its senior secured credit facility but does not guarantee Affinion’s other indebtedness. The Investments 2013 senior subordinated notes and guarantee thereof are unsecured senior subordinated obligations of Affinion Investments, as issuer, and Affinion Investments II, as guarantor, and rank junior in right of payment to their respective guarantees of Affinion’s senior secured credit facility.

On December 12, 2013, Affinion Investments exchanged with Affinion all of Affinion’s 2006 senior subordinated notes received by it in the exchange offer for Affinion’s 2013 senior subordinated notes. Affinion’s 2013 senior subordinated notes bear interest at 13.50% per annum payable semi-annually on February 15 and August 15 of each year, commencing on February 15, 2014. Affinion’s 2013 senior subordinated notes will mature on August 15, 2018. Affinion’s 2013 senior subordinated notes are redeemable at Affinion’s option prior to maturity. The indenture governing Affinion’s 2013 senior subordinated notes contains negative covenants which restrict the ability of Affinion and its restricted subsidiaries to engage in certain transactions and also contains customary events of default. Affinion’s obligations under Affinion’s 2013 senior subordinated notes are jointly and severally and fully and unconditionally guaranteed on an unsecured senior subordinated basis by each of Affinion’s existing and future domestic subsidiaries that guarantee Affinion’s indebtedness under its senior secured credit facility (other than Affinion Investments and Affinion Investments II). Affinion’s 2013 senior subordinated notes and guarantees thereof are unsecured senior subordinated obligations of Affinion’s and rank junior to all of Affinion’s and the guarantors’ existing and future senior indebtedness, pari passu with Affinion’s 2006 senior subordinated notes and senior to Affinion’s and the guarantors’ future subordinated indebtedness. Although Affinion Investments is the only holder of Affinion’s 2013 senior subordinated notes, the trustee for the Investments 2013 senior subordinated notes, and holders of at least 25% of the principal amount of the Investments 2013 senior subordinated notes will have the right as third party beneficiaries to enforce the remedies available to Affinion Investments against Affinion, and Affinion Investments will not be able to amend the covenants in the note agreement governing Affinion’s 2013 senior subordinated notes in favor of Affinion unless it has received consent from the holders of a majority of the aggregate principal amount of the outstanding Investments 2013 senior subordinated notes.

In connection with the exchange offer and consent solicitation relating to Affinion’s 2006 senior subordinated notes and the issuance of Affinion’s 2013 senior subordinated notes, Affinion incurred financing costs of $5.9 million, which are included in other non-current assets on the accompanying consolidated balance sheet and are being amortized over the term of Affinion’s 2013 senior subordinated notes.

Affinion’s senior secured credit facility and the indentures governing Affinion’s 2010 senior notes, the Investments 2013 senior subordinated notes, and Affinion’s 2013 senior subordinated notes contain various restrictive covenants that apply to Affinion. As of September 30, 2015, Affinion was in compliance with the restrictive covenants under Affinion’s debt agreements.

At September 30, 2015, on a consolidated basis, the Company had $763.4 million outstanding under Affinion’s First Lien Term Loans, $425.0 million outstanding under Affinion’s Second Lien Term Loans, $260.4 million ($247.6 million net of discount) outstanding under the Company’s 2013 senior notes, $32.2 million outstanding under the Company’s 2010 senior notes, $475.0 million ($473.6 million net of discount) outstanding under Affinion’s 2010 senior notes, $2.6 million outstanding under Affinion’s 2006 senior subordinated notes and $360.0 million ($354.4 million net of discount) outstanding under Affinion’s 2013 senior subordinated notes. At September 30, 2015, there was $66.0 million outstanding under Affinion’s revolving credit facility and Affinion had $0.1 million available under the revolving credit facility after giving effect to the issuance of $13.9 million of letters of credit.

On November 9, 2015, (a) Affinion Holdings completed a private offer to exchange its outstanding 2013 senior notes for shares of new Common Stock, par value $0.01 per share (the “New Common Stock”), of Affinion Holdings, (b) Affinion Investments completed a private offer to exchange its outstanding Investments senior subordinated notes for shares of New Common Stock, and (c) Affinion Holdings and Affinion International Holdings Limited (“Affinion International”), a wholly-owned subsidiary of Affinion, jointly completed a rights offering giving holders of Affinion Holdings’ 2013 senior notes and the Investments senior subordinated notes the right to purchase an aggregate principal amount of $110.0 million of 7.5% Cash/PIK Senior Notes due 2018 (the “International Notes”) of Affinion International and 2,483,333 shares of New Common Stock for an aggregate cash purchase price of $110.0 million. Under the terms of Affinion Holdings’ exchange offer, for each $1,000 principal amount of Affinion Holdings’ 2013 senior notes tendered during the offer period, holders received 7.15066 shares of Affinion Holdings’ New Common Stock. Under the terms of Affinion Investments’ exchange offer, for each $1,000 principal amount of the Investments senior subordinated notes tendered during the offer period, holders received 15.52274 shares of Affinion Holdings’ New Common Stock. Under certain circumstances, certain holders received non-participating penny warrants (the “Limited Warrants”) of Affinion Holdings that are convertible into shares of New Common Stock upon certain conditions. Pursuant to Affinion Holdings’ exchange offer, approximately $247.4 million of Affinion Holdings’ 2013 senior notes were exchanged for 1,769,104 shares of New Common Stock and pursuant to Affinion Investments’ exchange offer, approximately $337.3 million of Investments senior subordinated notes were exchanged for 5,236,517 shares of New Common Stock.

46


Concurrently with the exchange offers, Affinion Holdings and Affinion Investments successfully solicited consents from holders to certain amendments to (a) the indenture governing Affinion Holdings’ 2013 senior notes to remove substantially all of the restrictive covenants and certain of the default provisions and to release the collateral securing Affinion Holdings’ 2013 senior notes, (b) the indenture governing the Investments senior subordinated notes to remove substantially all of the restrictive covenants and certain of the default provisions, and (c) the note agreement governing Affinion’s 2013 senior subordinated notes to remove substantially all of the restrictive covenants and certain of the default provisions and to permit the repurchase and cancellation of Affinion’s 2013 senior subordinated notes by Affinion in the same aggregate principal amount as the aggregate principal amount of the Investments senior subordinated notes repurchased or redeemed by Affinion Investments at any time, including pursuant to Affinion Investments’ exchange offer.

In connection with the exchange offers, Affinion Holdings and Affinion International jointly conducted a rights offering for International Notes and shares of Affinion Holdings’ New Common Stock. The rights offering was for an aggregate principal amount of $110.0 million of International Notes and 2,483,333 shares of New Common Stock. Each unit sold in the rights offering consisted of (1) $1,000 principal amount of International Notes and (2) 22.57576 shares of Affinion Holdings’ New Common Stock, and was sold at a purchase price per unit of $1,000. Each holder that properly tendered for exchange, and did not validly withdraw, all of their Affinion Holdings’ 2013 senior notes and the Investments senior subordinated notes in the exchange offers received non-certificated rights to subscribe for rights offering units. In connection with the rights offering, Empyrean Capital Partners, L.P. agreed to purchase any rights offering units that were unpurchased in the rights offering (the “Backstop”). Pursuant to Affinion Holdings’ and Affinion International’s rights offering and the Backstop, Affinion International received cash of approximately $110.0 million exchange for $110.0 million aggregate principal amount of International Notes and 2,113,033 shares of New Common Stock and Limited Warrants to purchase up to 370,275 shares of New Common Stock. The net cash proceeds from the rights offering will be used for working capital purposes of Affinion International and the Foreign Guarantors (as defined below) and to repay certain intercompany loans owed by Affinion International to Affinion and its domestic subsidiaries. Affinion will use such intercompany loan repayment proceeds for general corporate purposes, including to repay borrowings under its revolving credit facility and to pay fees and expenses related to the exchange offers and rights offering. The International Notes bear interest at 7.5% per annum, of which 3.5% per annum will be payable in cash (“Cash Interest”) and 4.0% per annum will be payable by increasing the principal amount of the outstanding International Notes or by issuing International Notes (“International PIK Interest”); provided, that all of the accrued interest on the International Notes from the issue date to, but not including, May 1, 2016 will be payable on May 1, 2016 entirely as International PIK Interest. Interest on the International Notes is payable semi-annually on May 1 and November 1 of each year, commencing on May 1, 2016. The International Notes will mature on July 30, 2018. The International Notes are redeemable at Affinion International’s option prior to maturity. The indenture governing the International Notes contains negative covenants which restrict the ability of Affinion International, Affinion and their respective restricted subsidiaries to engage in certain transactions and also contains customary events of default. Affinion International’s obligations under the International Notes are jointly and severally and fully and unconditionally guaranteed on an unsecured senior basis by each of Affinion’s existing and future domestic subsidiaries that guarantee Affinion’s indebtedness under its senior secured credit facility (other than Affinion Investments and Affinion Investments II, and additionally including (such additional guarantors, the “Foreign Guarantors”) Affinion International Limited, Affinion International Travel HoldCo Limited, Webloyalty International Limited, Loyalty Ventures Limited, Bassae Holding B.V., Webloyalty Holdings Coöperatief U.A. and Webloyalty International S.à r.l.). The International Notes and guarantees thereof are unsecured senior obligations of Affinion International’s and rank equally with all of Affinion International’s and the guarantors’ existing and future senior indebtedness and senior to Affinion International’s and the guarantors’ existing and future subordinated indebtedness.    

Upon consummation of the exchange offers, consent solicitations and rights offering, Affinion Holdings effected a reclassification (the “Reclassification”) as follows.  Affinion Holdings’ existing Class A Common Stock (including Class A Common Stock issued as a result of a mandatory cashless exercise of all of its Series A Warrants) was converted into (i) shares of Affinion Holdings’ new Class C Common Stock, that upon conversion will represent 5% of the outstanding shares of New Common Stock on a fully diluted basis, and (ii) shares of Affinion Holdings’ new Class D Common Stock, that upon conversion will represent 5% of the outstanding shares of New Common Stock on a fully diluted basis. In addition, Affinion Holdings’ Series A Warrants and Affinion Holdings’ Class B Common Stock were eliminated from Affinion Holdings’ certificate of incorporation and Affinion Holdings’ Series B Warrants were cancelled for no additional consideration.

Upon consummation of the exchange offers, Apollo and General Atlantic ceased to have beneficial ownership of any New Common Stock.

Covenant Compliance

The indenture governing our 2013 senior notes, among other things: (a) limits our ability and the ability of our subsidiaries to incur additional indebtedness, incur liens, pay dividends or make certain other restricted payments and enter into certain transactions with affiliates; (b) limits our ability to enter into agreements that would restrict the ability of our subsidiaries to pay dividends or make certain payments to us; and (c) places restrictions on our ability and the ability of our subsidiaries to merge or consolidate with any other person or sell, assign, transfer, convey or otherwise dispose of all or substantially all of our assets. However, all of these

47


covenants are subject to significant exceptions. As of September 30, 2015, the Company was in compliance with the restrictive covenants under its debt agreements and expects to be in compliance over the next twelve months.

We have the ability to incur additional debt, subject to limitations imposed by the indenture governing our 2013 senior notes. Under the indenture governing our 2013 senior notes, in addition to specified permitted indebtedness, we will be able to incur additional indebtedness on an unconsolidated basis as long as on a pro forma basis our fixed charge coverage ratio (the ratio of Adjusted EBITDA to consolidated fixed charges as computed under such indenture) is at least 2.0 to 1.0.

Reconciliation of Non-GAAP Financial Measures to GAAP Financial Measures

Adjusted EBITDA consists of income from operations before depreciation and amortization further adjusted to exclude non-cash and unusual items and other adjustments permitted in our debt agreements to test the permissibility of certain types of transactions, including debt incurrence. We believe that the inclusion of Adjusted EBITDA is appropriate as a liquidity measure. Adjusted EBITDA is not a measurement of liquidity or financial performance under U.S. GAAP, and Adjusted EBITDA may not be comparable to similarly titled measures of other companies. You should not consider Adjusted EBITDA as an alternative to cash flows from operating activities determined in accordance with U.S. GAAP, as an indicator of cash flows, as a measure of liquidity, as an alternative to operating or net income determined in accordance with U.S. GAAP or as an indicator of operating performance.

Set forth below is a reconciliation of our consolidated net cash provided by operating activities for the twelve months ended September 30, 2015 to Adjusted EBITDA.

 

 

 

For the Twelve

 

 

 

Months Ended

 

 

 

September 30, 2015 (a)

 

 

 

(in millions)

 

Net cash provided by operating activities

 

$

27.6

 

Interest expense, net

 

 

229.6

 

Income tax expense (benefit)

 

 

(45.2

)

Amortization of debt discount and financing costs

 

 

(13.0

)

Provision for loss on accounts receivable

 

 

5.2

 

Deferred income taxes

 

 

49.3

 

Changes in assets and liabilities

 

 

(21.9

)

Effect of purchase accounting, reorganizations,

   certain legal costs and net cost savings (b)

 

 

30.0

 

Other, net (c)

 

 

16.4

 

Adjusted EBITDA, excluding pro forma adjustments (d)

 

 

278.0

 

Effect of the pro forma adjustments (e)

 

 

5.0

 

Adjusted EBITDA, including pro forma adjustments (f)

 

$

283.0

 

 

(a)

Represents consolidated financial data for the year ended December 31, 2014, minus consolidated financial data for the nine months ended September 30, 2014, plus consolidated financial data for the nine months ended September 30, 2015.

(b)

Eliminates the effect of purchase accounting related to the Apollo Transactions, legal costs for certain legal matters and costs associated with severance incurred.

(c)

Eliminates (i) net changes in certain reserves, (ii) foreign currency gains and losses related to unusual, non-recurring intercompany transactions, (iii) costs associated with certain strategic and corporate development activities, including business optimization, (iv) consulting fees payable to Apollo, and (v) the impact of an adjustment related to the recognition of International Products retail revenue.

(d)

Adjusted EBITDA, excluding pro forma adjustments, does not give pro forma effect to the projected annualized benefits of restructurings and other cost savings initiatives. However, we do make such accretive pro forma adjustments as if such restructurings and cost savings initiatives had occurred on October 1, 2014 in calculating the Adjusted EBITDA under Affinion’s amended and restated senior secured credit facility and the indentures governing the Affinion 2010 senior notes, the Affinion 2013 senior subordinated notes and the 2013 senior notes.

(e)

Gives effect to the projected annualized benefits of the restructurings and other cost savings initiatives as if such restructurings and cost savings initiatives had occurred on October 1, 2014.

(f)

Adjusted EBITDA, including pro forma adjustments, gives pro forma effect to the adjustments discussed in (e) above.

48


Set forth below is a reconciliation of our consolidated net loss attributable to Affinion Group Holdings, Inc. for the twelve months ended September 30, 2015 to Adjusted EBITDA as required by our indenture governing the Company’s 2013 senior subordinated notes.

 

 

 

For the Twelve

 

 

 

Months Ended

 

 

 

September 30, 2015 (a)

 

 

 

(in millions)

 

Net loss attributable to Affinion Group Holdings, Inc.

 

$

(351.4

)

Interest expense, net

 

 

229.6

 

Income tax expense

 

 

(45.2

)

Non-controlling interest

 

 

0.6

 

Other income, net

 

 

(1.2

)

Depreciation and amortization

 

 

100.1

 

Effect of purchase accounting, reorganizations

   and non-recurring revenues and gains (b)

 

 

0.2

 

Certain legal costs (c)

 

 

7.5

 

Net cost savings (d)

 

 

22.3

 

Other, net (e)

 

 

315.5

 

Adjusted EBITDA, excluding pro forma adjustments (f)

 

 

278.0

 

Effect of the pro forma adjustments (g)

 

 

5.0

 

Adjusted EBITDA, including pro forma adjustments (h)

 

$

283.0

 

(a)

Represents consolidated financial data for the year ended December 31, 2014, minus consolidated financial data for the nine months ended September 30, 2014, plus consolidated financial data for the nine months ended September 30, 2015.

(b)

Eliminates the effect of purchase accounting related to the Apollo Transactions.

(c)

Represents the elimination of legal costs for certain legal matters.

(d)

Represents the elimination of costs associated with severance incurred.

(e)

Eliminates (i) net changes in certain reserves, (ii) share-based compensation expense, (iii) foreign currency gains and losses related to unusual, non-recurring intercompany transactions, (iv) costs associated with certain strategic and corporate development activities, including business optimization, (v) consulting fees payable to Apollo, (vi) facility exit costs, (vii) the impairment charge related to the goodwill of Membership Products, (viii) the impact of an adjustment related to the recognition of International Products retail revenue and (ix) debt refinancing expenses.

(f)

Adjusted EBITDA, excluding pro forma adjustments, does not give pro forma effect to the projected annualized benefits of restructurings and other cost savings initiatives. However, we do make such accretive pro forma adjustments as if such restructurings and cost savings initiatives had occurred on October 1, 2014 in calculating the Adjusted EBITDA under Affinion’s  amended and restated senior secured credit facility and the indentures governing the Affinion 2010 senior notes, the Affinion 2013 senior subordinated notes and the 2013 senior notes.

(g)

Gives effect to the projected annualized benefits of the restructurings and other cost savings initiatives as if such restructurings and cost savings initiatives had occurred on October 1, 2014.

(h)

Adjusted EBITDA, including pro forma adjustments, gives pro forma effect to the adjustments discussed in (g) above.

Debt Repurchases

We or our affiliates have, in the past, and may, from time to time in the future, purchase any of our or Affinion Holdings’ indebtedness. Any such future purchases may be made through open market or privately negotiated transactions with third parties or pursuant to one or more tender or exchange offers or otherwise, upon such terms and at such prices as we or any such affiliates may determine.

Critical Accounting Policies

In presenting our unaudited condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, we are required to make estimates and assumptions that affect the amounts reported therein. We believe that the estimates, assumptions and judgments involved in the accounting policies related to revenue recognition, accounting for marketing costs, stock-based compensation, valuation of goodwill and intangible assets, and valuation of tax assets and liabilities could potentially affect our reported results and as such, we consider these to be our critical accounting policies. Several of the estimates and assumptions we are required to make relate to matters that are inherently uncertain, as they pertain to future events. However, certain events outside our control cannot be predicted and, as such, they cannot be contemplated in evaluating such estimates and assumptions. We believe that the estimates and assumptions used when preparing our unaudited condensed consolidated financial statements were the most appropriate at the time. Significant estimates include accounting for profit sharing receivables from insurance carriers, accruals and income tax valuation allowances, litigation accruals, estimated fair value of stock based compensation,

49


estimated fair values of assets and liabilities acquired in business combinations and estimated fair values of financial instruments. In addition, we refer you to our audited consolidated financial statements as of December 31, 2014 and 2013, and for the years ended December 31, 2014, 2013 and 2012, included in our Form 10-K for a summary of our significant accounting policies.

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

We do not use derivative instruments for trading or speculative purposes.

The following table provides information about the Company’s financial instruments that are sensitive to changes in interest rates. The table presents principal cash flows and related weighted-average interest rates by expected maturity for the Company’s long-term debt as of September 30, 2015 (dollars are in millions unless otherwise indicated):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value At

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2020 and

 

 

 

 

 

 

September 30,

 

 

 

2015

 

 

2016

 

 

2017

 

 

2018

 

 

2019

 

 

Thereafter

 

 

Total

 

 

2015

 

 

 

(in millions)

 

Fixed rate debt

 

$

35.0

 

 

$

0.3

 

 

$

 

 

$

1,206.9

 

 

$

 

 

$

 

 

$

1,242.2

 

 

$

704.2

 

Average interest rate

 

 

11.26

%

 

 

11.36

%

 

 

11.47

%

 

 

11.05

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Variable rate debt

 

$

1.9

 

 

$

7.8

 

 

$

7.7

 

 

$

1,237.0

 

 

$

 

 

$

 

 

$

1,254.4

 

 

$

1,156.9

 

Average interest rate (a)

 

 

7.37

%

 

 

7.37

%

 

 

7.37

%

 

 

7.84

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Average interest rate is based on rates in effect at September 30, 2015.

Foreign Currency Forward Contracts

On a limited basis the Company has entered into 30 day foreign currency forward contracts, and upon expiration of the contracts, entered into successive 30 day foreign currency forward contracts. The contracts have been entered into to mitigate the Company’s foreign currency exposures related to intercompany loans which are not expected to be repaid within the next twelve months and that are denominated in Euros and British pounds. At September 30, 2015, the Company had in place contracts to sell EUR 10.0 million and receive $11.2 million and to sell GBP 13.9 million and receive $21.1 million.

During the three and nine months ended September 30, 2015, the Company recognized a realized gain on the forward contracts of $0.7 million and $3.4 million, respectively, and during the three and nine months ended September 30, 2014, the Company recognized a realized gain on the forward contracts of $3.5 million and $2.8 million, respectively. As of September 30, 2015, the Company had a de minimis unrealized loss on the foreign currency forward contracts.

At September 30, 2015, the Company’s estimated fair values of its foreign currency forward contracts are based upon available market information. The fair value of a foreign currency forward contract is based on significant other observable inputs, adjusted for contract restrictions and other terms specific to the foreign currency forward contracts. The fair values have been determined after consideration of foreign currency exchange rates and the creditworthiness of the parties to the foreign currency forward contracts. The counterparty to the foreign currency forward contracts is a major financial institution. The Company does not expect any losses from non-performance by the counterparty.

Credit Risk and Exposure

Financial instruments that potentially subject us to concentrations of credit risk consist primarily of receivables, profit-sharing receivables from insurance carriers and prepaid commissions. We manage such risk by evaluating the financial position and creditworthiness of such counterparties. Receivables and profit-sharing receivables from insurance carriers are from various marketing, insurance and business partners and we maintain an allowance for losses, based upon expected collectability. Commission advances are periodically evaluated as to recovery.

 

50


Item 4. Controls and Procedures.

Evaluation of Disclosure Control and Procedures. The Company, under the direction of the Chief Executive Officer and the Chief Financial Officer, has established disclosure controls and procedures (“Disclosure Controls”) that are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. The Disclosure Controls are also intended to ensure that such information is accumulated and communicated to the Company’s management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.

Our management, including the Chief Executive Officer and Chief Financial Officer, does not expect that our Disclosure Controls or our “internal controls over financial reporting” (“Internal Controls”) will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. Notwithstanding the foregoing, our disclosure controls and procedures are designed to provide reasonable assurance of achieving their objectives.

As of September 30, 2015, an evaluation was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Rule 13a-15 under the Securities Exchange Act of 1934. Based upon their evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that as of September 30, 2015, the Company’s disclosure controls and procedures are effective at the reasonable assurance level.

Changes in Internal Control over Financial Reporting. There have not been any changes in the Company’s internal control over financial reporting that occurred during the last fiscal quarter that have materially affected, or are reasonably likely to materially affect, internal control over financial reporting.

 

 

51


PART II. OTHER INFORMATION

Item 1. Legal Proceeding.

Information required by this Item is contained in Note 7 to our unaudited condensed consolidated financial statements within Part I of this Form 10-Q.

 

Item 1A. Risk Factors

 

Our substantial indebtedness could adversely affect our ability to raise additional capital to fund our operations, limit our ability to react to changes in the economy or our industry and prevent us from servicing our debt.

We are a highly leveraged company.  As of September 30, 2015, we had approximately $2.4 billion principal amount of outstanding indebtedness.  Our annual debt service payment obligations, exclusive of capital lease obligations, require quarterly principal payments on Affinion’s first lien term loan equal to 1% per annum and annual required repayments based on excess cash flow.  As of September 30, 2015, our estimated annual 2015 principal and interest payments on our debt will be approximately $228.2 million, which includes a $2.6 million principal payment due on October 15, 2015 on Affinion’s 11.5% Senior Subordinated Notes due 2015 (Affinion’s “2006 senior subordinated notes”) and includes a $32.2 million principal payment due on November 15, 2015 on Affinion Holdings’ 11.625% Senior Notes due 2015 (Affinion Holdings’ “2010 senior notes”). The private exchange offers and related transactions completed on November 9, 2015 did not affect our estimated annual 2015 principal and interest payments. Our ability to generate sufficient cash flow from operations to make scheduled payments on our debt will depend on a range of economic, competitive and business factors, many of which are outside our control.  Our business may not generate sufficient cash flow from operations to meet our debt service and other obligations.  If we are unable to meet our expenses, debt service obligations and other obligations, we may need to refinance all or a portion of our indebtedness on or before maturity, sell assets and/or raise equity.  We may not be able to refinance any of our indebtedness, sell assets or raise equity on commercially reasonable terms or at all, which could cause us to default on our obligations.

Our substantial indebtedness could have important consequences, including the following:  

 

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it may materially limit our ability to borrow money or sell stock for our working capital, capital expenditures, debt service requirements, strategic initiatives or other purposes, such as marketing expenditures;

 

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a substantial portion of our cash flow from operations will be dedicated to the repayment of our indebtedness and will not be available for other purposes;

 

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it may materially limit our flexibility in planning for, or reacting to, changes in our operations or business;

 

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we are more highly leveraged than some of our competitors, which may place us at a material competitive disadvantage and may have a negative impact on our ability to attract and retain clients;

 

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it may make us more vulnerable to downturns in our business or the economy or requests from our clients and vendors for more favorable business terms;

 

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it may materially restrict us from making strategic acquisitions, introducing new technologies or exploiting business opportunities; and

 

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it may materially limit, along with the financial and other restrictive covenants in our indebtedness, among other things, our ability to borrow additional funds or dispose of assets.

 

All of the debt under Affinion’s senior secured credit facility is variable-rate debt, subject to a minimum LIBOR floor.

The terms of Affinion’s senior secured credit facility and the indentures governing Affinion’s7.875% senior notes due 2018 (Affinion’s “2010 senior notes”) and Affinion International’s 7.5% Cash/PIK Senior Notes due 2018 (the “International Notes”) may restrict our current and future operations, particularly our ability to respond to changes in our business or to take certain actions.

The terms of Affinion’s senior secured credit facility, and the indentures governing Affinion’s 2010 senior notes and the International Notes contain a number of restrictive covenants that impose significant operating and financial restrictions on us, including restrictions on our ability to, among other things:  

 

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incur or guarantee additional debt;

 

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sell preferred stock of a restricted subsidiary;

 

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pay dividends and make other restricted payments (including payments of certain junior debt);

 

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create or incur certain liens;

 

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make certain investments;

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·

engage in sales of assets and subsidiary stock;

 

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enter into transactions with affiliates; and

 

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transfer all or substantially all of our assets or enter into merger or consolidation transactions.

 

In addition, Affinion’s senior secured credit facility requires Affinion to maintain a maximum senior secured leverage ratio.  As a result of these covenants, Affinion will be limited in the manner in which it conducts its business and we may be unable to engage in favorable business activities or finance future operations or capital needs.

If we fail to comply with the covenants contained in Affinion’s senior secured credit facility, an event of default, if not cured or waived, could result under Affinion’s senior secured credit facility, and the lenders thereunder:  

 

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will not be required to lend any additional amounts to Affinion;

 

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could elect to declare all borrowings outstanding, together with accrued and unpaid interest and fees, to be due and payable and could proceed against the collateral securing Affinion’s senior secured credit facility; and

 

·

could require Affinion to apply all of its available cash to repay these borrowings;

 

any of which could result in an event of default under Affinion’s 2010 senior notes and the International Notes.

If the indebtedness under Affinion’s senior secured credit facility, Affinion’s 2010 senior notes and the International Notes were to be accelerated, there can be no assurance that our assets would be sufficient to repay such indebtedness in full.

Despite our substantial indebtedness, we may still be able to incur significantly more debt.  This could intensify the risks described above.

The terms of the indentures governing Affinion’s 2010 senior notes and the International Notes and Affinion’s senior secured credit facility contain restrictions on the applicable issuer’s ability and that of any of its subsidiaries to incur additional indebtedness.  However, these restrictions are subject to a number of important qualifications and exceptions and the indebtedness incurred in compliance with these restrictions could be substantial.  Accordingly, we or our subsidiaries could incur significant additional indebtedness in the future, much of which could constitute secured or senior indebtedness.  As of September 30, 2015, we had $0.1 million available for additional borrowing under the revolving loan commitments under Affinion’s senior secured credit facility, after giving effect to $13.9 million of outstanding letters of credit.  In addition, the covenants under our existing debt agreements would allow us to borrow a significant amount of additional debt.  

The more we become leveraged, the more we, and in turn our security holders, become exposed to the risks described above under “—Our substantial indebtedness could adversely affect our ability to raise additional capital to fund our operations, limit our ability to react to changes in the economy or our industry and prevent us from servicing our debt.”

We may not be able to generate sufficient cash to service all of our indebtedness and may be forced to take other actions to satisfy our obligations under our indebtedness that may not be successful.

Our ability to satisfy our debt obligations will depend upon, among other things:  

 

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our future financial and operating performance, which will be affected by prevailing economic conditions and financial, business, regulatory and other factors, many of which are beyond our control; and

 

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the future availability of borrowings under Affinion’s senior secured credit facility, the availability of which depends on, among other things, Affinion complying with the covenants in its senior secured credit facility.

 

We cannot assure you that our business will generate sufficient cash flow from operations, or that future borrowings will be available to us under Affinion’s senior secured credit facility or otherwise, in an amount sufficient to fund our liquidity needs.  

If our cash flows and capital resources are insufficient to service our indebtedness, we may be forced to reduce or delay marketing spend and/or capital expenditures, sell assets, seek additional capital or restructure or refinance our indebtedness.  These alternative measures may not be successful and may not permit us to meet our scheduled debt service obligations.  In addition, the terms of existing or future debt agreements, including Affinion’s senior secured credit facility and the indentures governing Affinion’s 2010 senior notes and the International Notes may restrict us from adopting some of these alternatives.  In the absence of sufficient operating results and resources, we could face substantial liquidity problems and might be required to dispose of material assets or operations and/or reduce or delay marketing spend and/or capital expenditures to meet our debt service and other obligations.  In the

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case of dispositions, we may not be able to consummate them for fair market value or at all.  Furthermore, any proceeds that we could realize from any such dispositions may not be adequate to meet our debt service obligations then due.  Furthermore, none of Affinion Holdings’ equityholders have any continuing obligation to provide us with debt or equity financing.

Affinion Holdings is a holding company with no direct operations and no significant assets other than the direct and indirect ownership of its subsidiaries and all of its net revenues are earned by its direct and indirect subsidiaries.  Affinion Holdings’ ability to service its indebtedness depends upon the performance of these subsidiaries and their ability to make distributions.

Affinion Holdings is a holding company and all of its operations are conducted by its subsidiaries.  Therefore, Affinion Holdings’ cash flows and its ability to service indebtedness will be dependent upon cash dividends and distributions or other transfers from its subsidiaries.  Payments to Affinion Holdings by its subsidiaries will be contingent upon its subsidiaries’ earnings.

The terms of Affinion’s senior secured credit facility and the terms of the indenture governing Affinion’s 2010 senior notes significantly restrict Affinion Holdings’ subsidiaries from paying dividends and otherwise transferring assets to Affinion Holdings.  The terms of each of those debt instruments provide Affinion and its subsidiaries with “baskets” that can be used to make certain types of “restricted payments,” including dividends or other distributions to Affinion Holdings.  The terms of any future indebtedness incurred by Affinion or any of its subsidiaries may include additional restrictions on their ability to make funds available to Affinion Holdings, which may be more restrictive than those contained in the terms of Affinion’s senior secured credit facility and the terms of the indenture governing Affinion’s 2010 senior notes.

Affinion Holdings’ subsidiaries are separate and distinct legal entities and they will have no obligation, contingent or otherwise, to pay amounts due under Affinion Holdings’ indebtedness or to make any funds available to pay those amounts, whether by dividend, distribution, loan or other payments.

We have historically experienced net losses and negative working capital.

Since the consummation on October 17, 2005 of the acquisition (the “Acquisition”) by Affinion of Affinion Group, LLC (known as Cendant Marketing Group, LLC prior to the consummation of the Acquisition) and Affinion International Holdings Limited (known as Cendant International Holdings Limited prior to the consummation of the Acquisition), we have had a history of net losses and negative working capital.  For the years ended December 31, 2014, 2013 and 2012, we had net losses attributable to us of $428.7 million, $135.5 million and $139.6 million, respectively.  For the nine months ended September 30, 2015, we had a net loss attributable to us of $82.6 million.  We cannot assure you that we will not continue to report net losses in future periods.  Our working capital deficit as of December 31, 2014, 2013 and 2012 was $192.2 million, $138.4 million and $111.9 million, respectively.

Our ability to utilize our net operating loss carryforwards and certain other tax attributes will be limited.

Affinion has substantial “net operating losses” for U.S. federal income taxes.  As of our taxable year ended December 31, 2014, we had $1,060,000,000 of “net operating losses.”  In general, we would expect our “net operating losses” to reduce our cash taxes in the future.  However, the consummation of the exchange offers and the rights offering will result in an “ownership change” for Affinion pursuant to Section 382 of the Internal Revenue Code.  This will substantially limit our ability to use our pre-change net operating loss carryforwards (including those attributable to the Acquisition) and certain other pre-change tax attributes to offset our post-change income.  Similar rules and limitations may apply for state tax purposes as well.  Further, if we undergo an “ownership change” in the future, we could experience additional limitations on our ability to utilize our “net operating losses” and other attributes.

We provide periodic reports as a “voluntary filer” pursuant to our contractual obligations in the indentures governing Affinion’s 2010 senior notes, which contractual obligations may be amended without your consent.

Our obligation to file periodic reports pursuant to Section 15(d) of the Exchange Act was automatically terminated when Affinion’s 2010 senior notes were held by fewer than 300 persons on January 1, 2014 and Affinion’s 2013 senior subordinated notes have not been, and are not required to be, registered under the Securities Act.  Notwithstanding this automatic suspension of our reporting obligations pursuant to Section 15(d) of the Exchange Act, we intend to continue filing periodic reports with the SEC and to provide holders of Affinion’s 2010 senior notes and the International Notes with copies of any filed reports as a “voluntary filer” in compliance with the indentures governing Affinion’s 2010 senior notes and the International Notes.  Affinion Investments and Affinion International do not separately file reports with the SEC, but information about Affinion Investments and Affinion International are included in the reports filed by Affinion Holdings.  We expect that such periodic reports filed by us as a voluntary filer will comply fully with all applicable rules and regulations of the SEC.  However, we could eliminate the periodic reporting covenant in the indentures governing Affinion’s 2010 senior notes and the International Notes with the consent of the holders of at least a majority of Affinion’s 2010 senior notes and the International Notes, respectively, in which case we would no longer be obligated to file periodic reports with the SEC and may cease doing so.

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We must replace the clients, including marketing partners, and customers we lose in the ordinary course of business and if we fail to do so our revenue may decline and our client and customer base will decline, resulting in material adverse effects to our financial condition.

We lose a substantial number of our customers each year in the ordinary course of business.  The loss of clients, including marketing partners, or customers has occurred historically, and in the future may occur, due to numerous factors, including:

 

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changing customer preferences;

 

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competitive price pressures;

 

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general economic conditions;

 

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customer dissatisfaction;

 

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credit or debit card holder turnover; and

 

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client and customer turnover.

 

Further, we also have experienced a net loss of members and end-customers due to the regulatory issues at our financial institution marketing partners, which have and may continue to cause, such partners to cancel the membership of certain members and end-customers.  Partially as a result of these factors, we have experienced a decline in our domestic membership customer base and domestic membership revenues, and we anticipate this trend will continue.  Additionally, we expect to continue to see a net loss of members and end-customers as we continue our ongoing strategy to focus on overall profitability and generating higher revenue from each member rather than the size of our member base and as we increase our level of marketing investment with non-financial clients and in media where we have less response history from prior marketing efforts, which could result in lower overall consumer response and longevity than what we historically observed from our financial clients or through direct mail.  Failure to obtain new customers who produce revenue at least equivalent to the revenue from the lost customers would result in a reduction in our revenue as well as a decrease in the number of our customers.  Because of the large number of customers we need to replace each year, there can be no assurance that we can successfully replace them.  In addition, even if we are successful in adding new customers to replace lost revenues, our profitability may still decline.

If we fail to implement our business strategy successfully, our financial performance could be harmed.

Our future financial performance and success are dependent in large part upon our ability to implement our business strategy successfully.  Our business strategy is to pursue initiatives that maintain and enhance our position as a global leader in the designing, marketing and servicing of comprehensive customer engagement and loyalty solutions that enhance and extend the relationship of millions of consumers with our marketing partners by creating and/or delivering valuable products and services that generate incremental loyalty and to focus on attractive opportunities that will increase our profitability and cash flows.  We may not be able to implement our business strategy successfully or achieve the anticipated benefits.  If we are unable to do so, our long-term growth, profitability and ability to service our debt may be materially adversely affected.  Even if we are able to implement some or all of the key elements of our business plan successfully, our operating results may not improve to the extent we anticipate, or at all.  Implementation of our business strategy could also be affected by a number of factors beyond our control, such as legal developments, government regulation, general economic conditions or increased operating costs or expenses.

We derive a substantial amount of our revenue from the members and end-customers we obtain through only a few of our marketing partners.  If one or more of our agreements with our marketing partners were to be terminated or expire, or one or more of our marketing partners were to reduce the marketing of our services, we would lose access to prospective members and end-customers and could lose sources of revenue.

We derive a substantial amount of our net revenue from the customers we obtain through only a few of our marketing partners.  In 2014, we derived approximately 35% of our net revenues from members and end-customers we obtained through the 10 largest marketing partners of our more than 5,500 marketing partners.

Many of our key marketing partner relationships are governed by agreements that may be terminated at any time without cause by our marketing partners upon notice of as few as 90 days without penalty.  Some of our agreements may be terminated at any time by our marketing partners upon notice of as few as 30 days without penalty.  Our marketing partners are not subject to minimum marketing commitments that are material, individually or in the aggregate.  Moreover, under many of these agreements, our marketing partners may cease or reduce their marketing of our services without terminating or breaching our agreements.  Further, in the ordinary course of business, at any given time, one or more of our contracts with key marketing partners may be selected for bidding through a request for proposal process.  As a result of the regulatory supervisory audits and inquiries of certain of our financial institution marketing partners, certain partners have terminated their agreements with us or ceased marketing our services to, or ceased billing, their customers.  The loss of such marketing partners, the cessation of their marketing of our services or the billing of their customers or a decline in their businesses could have a material adverse effect on our future revenue from existing services of which

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such marketing partner’s customers are customers of ours and could adversely affect our ability to further market new or existing services through such marketing partner to prospective customers.  There can be no assurance that more of our or other marketing partners will not terminate their relationship with us, cease or reduce their marketing of our services, cease the billing of their customers or suffer a decline in their business.  If other marketing partners terminate or do not renew their relationships with us and we are required to cease providing our services to, or cease billing, their customers, then we could lose significant sources of revenue and there can be no assurances that we will be able to replace such lost revenue, which could have a material adverse effect on our revenues and profitability.

Our typical membership products agreements with marketing partners provide that after termination of the contract we may continue to provide our services to existing members under the same economic arrangements that existed before termination.  However, in some cases, our marketing partners have violated, and others may in the future nonetheless violate, their contractual obligations and cease facilitating the billing of such existing members.  Under certain of our insurance products agreements, however, marketing partners may require us to cease providing services to existing customers after time periods ranging from 90 days to five years after termination of the agreement.  Also, under agreements with our marketing partners for which we market under a wholesale arrangement and have not incurred any marketing expenditures, our marketing partners generally may require us to cease providing services to existing customers upon termination of the wholesale arrangement.  Further, marketing partners under certain agreements also have required, and may continue to require, us to cease providing services to their customers under existing arrangements if the contract is terminated for material breach by us or due to a change in the law or regulations.  If more of these marketing partners were to terminate our agreements with them, and require us to cease providing our services to, or cease billing, their customers, then we could continue to lose significant sources of revenue and there can be no assurances that we will be able to replace such lost revenue, which could have a material adverse effect on our revenues and profitability.

Our profitability depends on members and end-customers continuing their relationship with us.  Increased loss of customers could impair our profitability.

We generally incur losses and negative cash flow during the initial year of an individual member or end-customer relationship, as compared to renewal years.  This is due primarily to the fact that the costs associated with obtaining and servicing a new retail member and end-customer often exceed the fee paid to us for the initial year.  In addition, we experience a higher percentage of cancellations during the initial membership period compared to renewal periods.  Members and end-customers may cancel their arrangement at any time during the program period and, for our annual bill customers, we are typically obligated to refund the unused portion of their annual program fee.  Additionally, an increase in cancellations of our members’ credit and debit cards by their card issuers as a result of payment delinquencies or for any other reason could result in a loss of members and end-customers and reduce our revenue and profitability.  Accordingly, our profitability depends on recurring and sustained renewals and an increase in the loss of members or end-customers could result in a loss of significant revenues and reduce our profitability.

We depend on various third-party vendors to supply certain products and services that we market and to market certain of our products and services on our behalf.  The failure of these vendors for any reason to provide these products or services or market these products and services in accordance with our requirements could result in customer dissatisfaction, expose us to increased liability and harm our business, financial condition and reputation.

We depend on various third-party vendors, including travel and hospitality suppliers, credit content providers, and insurance carriers, to supply the products and services that we market, and the quality of service they provide is not entirely within our control.  If any third-party vendor were to cease operations, or terminate, breach or not renew its contract with us, we may not be able to substitute a comparable third-party vendor on a timely basis or on terms as favorable to us.  Additionally, if any third party vendor suffers interruptions, delays or quality problems, it could result in negative publicity and customer dissatisfaction which could reduce our revenues and profitability.  With respect to the insurance programs that we offer, we are dependent on the insurance carriers that underwrite the insurance to obtain appropriate regulatory approvals and maintain compliance with insurance regulations.  If such carriers do not obtain appropriate state regulatory approvals or comply with such changing regulations, we may be required to use an alternative carrier or change our insurance products or cease marketing certain insurance related products in certain states, as a result of which our revenue and profitability could be adversely affected.  If we are required to use an alternative insurance carrier or change our insurance related products, it may materially increase the time required to bring an insurance related product to market.  As we are generally obligated to continue providing our products and services to our customers even if we lose a third-party vendor, any disruption in our product offerings could harm our reputation and result in customer dissatisfaction.

Furthermore, we utilize third-party vendors to market certain of our products and services on our behalf.  The failure of any of our third party vendors to satisfy our contractual or other requirements, including the failure to comply with applicable laws or regulations, could subject us to private lawsuits or governmental investigations or proceedings, may result in our liability for damages and fines, and/or harm our reputation.  If any third party vendor marketing our products and services on our behalf suffers interruptions, delays or quality problems, it could reduce our revenues and profitability.  

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With respect to both vendors that supply certain products and services and vendors that market certain of our products and services, replacing existing third-party vendors with more expensive third-party vendors could increase our costs and reduce our profitability.  Additionally, if third-party vendors increase their prices for their services, it would increase our costs and could result in a reduction of our profitability.

We depend, in part, on payment processors to obtain payments for us.  If our payment processors are interrupted or negatively affected in any way it could result in delays in collecting payments or loss of future business and negatively impact our revenues and profitability.

We depend, in part, on payment processors to obtain payments for us.  The payment processors operate pursuant to agreements that may be terminated with limited prior notice.  In the event a payment processor ceases operations or terminates its agreement with us, there can be no assurance a replacement payment processor could be retained on a timely basis, if at all.  Any service interruptions, delays or quality problems could result in delays in our collection of payments, which would reduce our revenues and profitability.  Changes to the Visa and MasterCard Rules, the American Express Rules, or other rules and regulations governing card issuers or our marketing partners that negatively impact payment processors’ operations or ability to obtain payments for us, could adversely affect our revenues and profitability.  Further, to the extent payment processors or issuing banks suffer a loss of revenues or business as a result of internal policy changes or any future enacted regulations or legislation, our revenues and profitability may be adversely affected.

The increase in the share of monthly payment programs in our program mix may adversely affect our cash flows.

We have traditionally marketed membership programs which have up-front annual membership fees.  However, over the last six years, we expanded our marketing of membership programs for which membership fees are payable in monthly installments.  In excess of 95% of our domestic new member and end-customer enrollments for the nine months ended September 30, 2015 were in monthly payment programs.  Our increased emphasis on monthly payment programs adversely affects our cash flow in the short term because the membership fee is collected over the course of the year rather than at the beginning of the membership term as with annual billing.

We have experienced recent declines in our Adjusted EBITDA and may be unable to achieve annual Adjusted EBITDA growth in future periods.

In 2014, we experienced a decline in our Adjusted EBITDA compared to 2013. We may not be able to achieve annual Adjusted EBITDA growth in future periods and our Adjusted EBITDA may continue to decline.  A variety of risks and uncertainties could cause us to not achieve Adjusted EBITDA growth, including, among others, business, economic and competitive risks and uncertainties.  In order to achieve Adjusted EBITDA growth in future periods, we must continue to implement our business strategy, achieve our target minimum returns on investment for our marketing expenditures, maintain or exceed the renewal rate and profitability of our customer base, retain key marketing partners and loyalty clients and expand those relationships, develop relationships with new key marketing partners and loyalty clients, grow our loyalty and international operations, and experience no material adverse developments that would impact our cost structure, or material adverse developments in the regulatory environment in which we operate, among other things.  Accordingly, we cannot assure you that we will be able to achieve Adjusted EBITDA growth for any future period.

Increases in insurance claim costs will negatively impact the revenues and profitability of our Insurance business.

Our commission revenue from insurance programs is reported net of insurance cost.  The major component of insurance cost represents claim costs, which are not within our control.  While we seek to limit our exposure on any single insured and to recover a portion of benefits paid by ceding reinsurance to reinsurers, significant unfavorable claims experience will reduce our revenues and profitability.

Our business is highly competitive.  We may be unable to compete effectively with other companies in our industry that have financial or other advantages and increased competition could lead to reduced market share, a decrease in margins and a decrease in revenue.

We believe that the principal competitive factors in our industry include the ability to identify, develop and offer innovative membership, insurance, package enhancement and loyalty programs, products and services, the quality and breadth of the programs, products and services offered, competitive pricing and in-house marketing expertise.  Our competitors offer programs, products and services similar to, or which compete directly with, those offered by us.  These competitors include, among others, Experian, Equifax, TransUnion, Intersections, Sisk, Epsilon, Assurant and Card Protection Plan.  In addition, we could face competition if our current marketing partners were to develop and market their own in-house programs, products and services similar to ours.  Furthermore, certain of our marketing partners (who may have greater financial resources and less debt than we do) have attempted, or are

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attempting, to market and/or provide certain competitive products to their customers, the marketing and servicing of which historically were provided by us.

Some of these existing and potential competitors have substantially larger customer bases and greater financial and other resources than we do.  There can be no assurance that:  

 

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our competitors will not increase their emphasis on programs similar to those we offer;

 

·

our competitors will not provide programs comparable or superior to those we provide at lower costs to customers;

 

·

our competitors will not adapt more quickly than we do to evolving industry trends or changing market requirements;

 

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new competitors will not enter the market; or

 

·

other businesses (including our current marketing partners) will not themselves introduce in-house programs similar to those we offer.

 

In order to compete effectively with all of these competitors, we must be able to provide superior programs and services at competitive prices.  In addition, we must be able to adapt quickly to evolving industry trends, a changing market, and increased regulatory requirements.  Our ability to grow our business may depend on our ability to develop new programs and services that generate consumer interest.  Failure to do so could result in our competitors acquiring additional market share in areas of consumer interest.  Any increase in competition could result in price reductions, reduced gross margin and loss of market share.

Additionally, because contracts between marketing partners and program providers are often exclusive with respect to a particular program, potential marketing partners may be prohibited for a period of time from contracting with us to promote a new program if the benefits and services included in our program are similar to, or overlap with, the programs and services provided by an existing program of a competitor.

Internationally, package programs similar to ours are offered by some of the largest financial institutions in Europe.  As these banks attempt to increase their own net revenues and margins by offering such programs in-house, we have been required to significantly reduce our prices when our agreements with these financial institutions come up for renewal in order to remain competitive.  This pricing pressure on our international package offerings may continue in the future, thereby lowering the contribution to our operating results from such programs in the future.

Our business is increasingly subject to U.S. and foreign government regulation, which could impede our ability to market and provide our programs and services and reduce our profitability.

We market our programs and services through various distribution media, including direct mail, point-of-sale marketing, telemarketing, online marketing and other methods.  These media are regulated by state, federal and foreign laws and we believe that these media will be subject to increasing regulation.  Such regulation may limit our ability to solicit or sign up new customers or to provide products or services to existing customers.

Our U.S. programs and services are subject to extensive regulation and oversight by the Federal Trade Commission (“FTC”), the Federal Communications Commission (“FCC”), the Consumer Financial Protection Bureau (“CFPB”), state attorneys general and/or other state regulatory agencies, including state insurance regulators. Our programs and services involve the use of non-public personal information that is subject to federal consumer privacy laws, such as the Financial Modernization Act of 1999, also known as the Gramm-Leach-Bliley Act, and various state laws governing consumer privacy, such as California’s SB 1, SB 1386 and others.  Additionally, telemarketing related to our programs and services is subject to federal and state telemarketing regulations, including the FTC’s Telemarketing Sales Rule, the FCC’s Telephone Consumer Protection Act and related regulations, as well as various state telemarketing laws and regulations. Furthermore, our insurance products are subject to various state laws and regulations governing the business of insurance, including, without limitation, laws and regulations governing the administration, underwriting, marketing, solicitation or sale of insurance programs. Our travel products and services are subject to regulation by the U.S. Department of Transportation, as well as other U.S. laws and regulations governing the offer and sale thereof.  The gift cards that we provide to our clients, their customers and members are subject to the Credit Card Accountability Responsibility and Disclosure Act of 2009 and similar state laws, which contain specific disclosure requirements, prohibitions or limitations on the use of expiration dates and the ability to impose certain fees.  Additional federal or state laws, including subsequent amendments to existing laws, could impede our ability to market and/or provide our programs and services and reduce our revenues and profitability.

Similarly our operations in the European Economic Area are also often subject to strict regulation and oversight by regulatory agencies, including the Financial Conduct Authority (“FCA”) in the U.K.  These laws include, in particular, restrictions on our insurance intermediary activities as a regulated financial service requiring prior authorization and adherence to various rules on management and controls, documentation, complaints handling, minimum financial resources and the contracting process with

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consumers.  In addition, our European and international business, as a whole, is subject to regulation including data protection legislation requiring notification and obtaining consent for certain marketing limitations on the transfer of personal data from and within the European Economic Area and advertising rules regarding the content of marketing.  “Distance selling” information and cancellation rules must also be followed in the European Union and other international countries when we contract with consumers at a distance including via post, phone, email, text or website.  In the latter case, electronic commerce rules also come into play.  In the European Union, these distance selling and e-commerce rules had to be implemented by each member state no later than June 13, 2014, and which include requirements regarding the purchase of goods and services on the internet or by phone.  Some of our products in the U.K. also involve the provision of services classified as consumer credit and therefore require additional licenses to be applied for and maintained.  Additionally, individuals in the U.K. and other European countries have rights to prevent direct marketing to them by telephone, fax or email.  Other rules to which we are subject in the European Economic Area include restrictions on what are considered to be unfair or misleading commercial practices and general rules on providing services involving information and basic complaint handling rules to be followed.  While many of these rules are based on European Directives, different member states have varying implementation and enforcement approaches which can be difficult to navigate.  New rules or changes in existing ones at a European or Member State level in countries where we operate could restrict our current practices resulting in a reduction in our revenues and profitability.

Our global operations are also subject to trade sanctions administered by the U.S. Department of the Treasury’s Office of Foreign Assets Control.  These trade sanctions generally prohibit U.S. persons, including our controlled international subsidiaries, from engaging in certain types of transactions, such as travel bookings, with designated foreign countries, nationals, organizations, and others, which prohibitions may conflict with laws of other jurisdictions in which we operate.  We are also subject to U.S. and international anti-corruption laws and regulations, including the U.S. Foreign Corrupt Practices Act, the U.K. Bribery Act and other laws in other jurisdictions that prohibit the making, receiving or offering of improper payments or other benefits for the purpose of influencing decisions, obtaining or retaining business, or obtaining preferential treatment and require us to maintain adequate record-keeping and internal controls to ensure that our books and records accurately reflect our transactions.  We have implemented policies, training and compliance programs designed to prevent such prohibited practices and transactions, as well as detect such prohibited practices and transactions if they were to occur. However, there can be no assurance that our policies, training and compliance programs will effectively prevent violation of such laws and regulations.  Any such violation may subject us to criminal and/or civil penalties, prohibit or limit the conduct of our business in such jurisdictions, and/or disrupt our operations as we develop new compliance procedures, any of which could adversely affect our business, our reputation and our profitability.

Some of our products, including our insurance products, require us to apply for, renew, and maintain licenses issued by state, federal or foreign regulatory authorities.  Such regulatory authorities have relatively broad discretion to grant, renew and revoke such licenses.  Accordingly, any failure by us to comply with the then current licensing requirements, which may include any determination of financial instability by such regulatory authorities, could result in such regulators denying our initial or renewal applications for such licenses, modifying the terms of licenses or revoking licenses we currently possess, which could severely inhibit our ability to market and/or provide these products.

Our marketing partners are subject to a wide variety of federal, state and foreign laws and regulations, including banking, insurance and privacy laws and supervisory audits and inquiries.  Changes in the laws or regulations applicable to our marketing partners or the failure of our marketing partners to comply with such laws and regulations or the outcome of supervisory audits and inquiries have resulted in some of our financial institution marketing partners terminating, and may cause others in the future to terminate, their contracts with us, to cease facilitating payment processing or to cease marketing our services to their members or end-consumers, all of which could have a material adverse impact on our business.  In addition, our marketing partners are subject to various federal and state consumer protection laws designed to ensure that consumers are protected from unfair and deceptive marketing practices.  Moreover, our financial institution marketing partners are subject to oversight by the Office of the Comptroller of the Currency (the “OCC”), Federal Deposit Insurance Corporation, the CFPB and the FCA as described below.  Pursuant to such oversight, the financial institutions are required to oversee their service providers, vendors or products sold to customers of such financial institutions.  As a result, our financial institution marketing partners may impose requirements and processes that could impede our ability to market our programs and services and reduce our revenues and profitability.

The enactment of the Dodd Frank Wall Street Reform and Consumer Protection Act and the regulations promulgated thereunder, including those implemented by the CFPB, have imposed additional reporting, supervisory and regulatory requirements on, as well as resulted in inquiries of, us and our marketing partners.  In addition, the CFPB or other bank oversight federal agencies, such as the OCC and FCA, have issued and may continue to issue rulings or findings or enter into a settlement or consent orders with one or more of our financial institution marketing partners that relate to the products or services we provide to such financial institution, which could adversely affect our marketing with those marketing partners or require changes to our products or services to consumers and could have a material adverse effect on our business, financial condition and results of operations.  Moreover, other financial institutions may view such existing or future rulings, findings, settlements or consent orders as imposing a standard they will comply with.  As a result of these regulations, supervisory audits and inquiries, settlements and consent orders, certain financial institution marketing partners have, and others could, delay or cease marketing with us, terminate their agreements with us, require us to cease providing services to members or end-consumers, or require changes to our products or services to consumers that could have a

59


material adverse effect on our business, financial condition and results of operations.  In addition, even an inadvertent failure to comply with these laws and regulations, as well as rapidly evolving expected standards, could adversely affect our business or our reputation.

Compliance with these federal, state and foreign regulations is generally our responsibility, and we could be subject to a variety of enforcement and/or private actions for any failure to comply with such regulations.  Consumer complaints with respect to our industry have resulted in, and may in the future result in, state, federal and foreign regulatory and other investigations.  Any changes to applicable regulations could materially increase our compliance costs.  The risk of our noncompliance with any rules and regulations enforced by a federal or state consumer protection authority or an enforcement agency in a foreign jurisdiction may subject us (and in some cases our management) to fines, consumer restitution, or various forms of civil or criminal prosecution, any of which could impede our ability to market our programs and services and reduce our revenues and profitability.  Certain types of noncompliance may also result in giving our marketing partners the right to terminate certain of our contracts or assert claims under our contracts.  Also, the media often publicizes perceived noncompliance with consumer protection regulations and violations of notions of fair dealing with customers, and our industry is susceptible to peremptory charges by the media and others of regulatory noncompliance and unfair dealing.  For further discussion of current legal and regulatory actions against us, see “—We are subject to legal actions and governmental investigations that could require us to incur significant expenses and, if resolved adversely to us, could impede our ability to market our programs and services, result in a loss of members and end-customers, reduce revenues and profitability and damage our reputation.”

Over the past several years, there has also been proposed legislation in several states and the European Economic Area that may impact our business.  For example, various state insurance commissions are reviewing the various health insurance model acts and regulations, which could change the manner in which certain supplemental insurance products may be offered to consumers.  Several bills also have been proposed in Congress that could restrict the collection and dissemination of personal information for marketing purposes.  If such legislation is passed in one or more states or by Congress, it could impede our ability to market our programs and services and reduce our revenues and profitability.  Legislation relating to consumer privacy may also affect our ability to collect data that we use in providing our services, which, among other things, could negatively affect our ability to satisfy our clients’ needs.

We are subject to legal actions and governmental investigations that could require us to incur significant expenses and, if resolved adversely to us, could impede our ability to market our programs and services, result in a loss of members and end-customers, reduce revenues and profitability and damage our reputation.  

We are, or have been, involved in claims, legal proceedings and state, federal and foreign governmental inquiries related to employment matters, contract disputes, business and marketing practices, trademark and copyright infringement claims and other commercial matters.  Additionally, certain of our marketing partners have become, and others may become, involved in legal proceedings or governmental inquiries relating to our products or marketing practices.  As a result, we may be subject to indemnification obligations under our marketing agreements.  For example, on April 7, 2014 and April 9, 2014, Bank of America, N.A. and FIA Card Services, N.A. entered into consent orders (the “OCC and CFPB Consent Orders”) with the OCC and the CFPB, respectively, relating to their credit protection products and identity theft protection products (which included certain of our identity theft protection products).  On April 18, 2014, Bank of America, N.A. and FIA Card Services, N.A. notified us that they have commenced an arbitration proceeding against us seeking, among other things, indemnification for losses, costs, and liabilities that Bank of America and FIA Card Services, N.A. incurred relating to our identity theft protection products that were the subject of the OCC and CFPB Consent Orders, which losses include customer refunds and reasonable attorneys’ fees and expenses. On May 16, 2014, we commenced two separate arbitration proceedings against Bank of America, asserting that Bank of America breached the parties’ servicing agreements. On July 7, 2014, the parties agreed to stay one of the arbitrations initiated by us and to dismiss the other arbitrations without prejudice, pending mediation. On September 22, 2014, Bank of America and the Company participated in a mediation to attempt to resolve their outstanding disputes. The mediation process was ultimately unsuccessful in resolving the parties’ disputes.  As such, the parties have resumed the arbitration process. The arbitration hearing commenced on October 12, 2015 and has not yet concluded.  The arbitration hearing is expected to be completed by the end of 2015. The parties intend to submit post-hearing memoranda, such that a decision is not expected until early 2016.

The Company has received in the past, and may receive in the future, inquiries from numerous state attorneys general and U.S. federal agencies and U.K. regulatory agencies relating to the marketing of its membership programs and its compliance with consumer protection statutes.  The Company responded to these regulatory bodies’ requests for documents and information and is in active discussions with them regarding their investigations and, in some cases, the resolution of these matters.  For example, in September 2014, the Company received a Notice and Opportunity to Respond and Advise (“NORA”) letter indicating that the CFPB was considering taking legal action against the Company for violations of Sections 1031 and 1036 of the Consumer Financial Protection Act relating to the Company’s identity theft protection products.  In July 2015, the Company entered into a Stipulated Final Judgment and Order (“Consent Order”) settling allegations regarding unfair billing practices related to certain of the Company’s protection products and deceptive retention practices related to these same products.  The Consent Order was approved by the court on October 27, 2015. The Consent Order requires a payment by the Company of $1.9 million to the CFPB’s civil penalty fund and approximately $6.75 million in consumer restitution, as well as injunctive provisions against the Company related to certain of its billing and

60


retention practices, which are not expected to have a material effect on the Company. By way of further example, in January 2015, following voluntary discussions with the FCA, Affinion International Limited (“AIL”), one of our U.K. subsidiaries, and 11 U.K. retail banks and credit card issuers, announced a proposed joint arrangement, which is allowing eligible consumers to make claims for compensation in relation to a discontinued benefit in one of AIL’s products.  The proposed arrangement has been approved by a majority of affected consumers who voted at a creditors’ meeting held on June 30, 2015, and has also been approved by the High Court in London on July 9, 2015.  The proposed arrangement, which will not result in the imposition of any fines on AIL or the Company, became effective on August 17, 2015 and customers affected are now able to submit their claims until March 18, 2016 (and in exceptional circumstances, until September 18, 2016).  Based on the information currently available, the Company has recorded an estimated liability that represents potential consumers’ refunds to be paid by the Company as part of such arrangement.  Settlement or other final resolution of other such governmental regulatory matters may include payment by the Company of the costs of the investigation, restitution to consumers and injunctive relief.  For example, as reported in our Current Report on Form 8-K filed with the SEC on October 10, 2013, we entered into a settlement agreement with 47 state attorneys general with respect to the legacy marketing practices in our membership business known as “online data pass” and “live-check marketing.”

While we cannot predict the outcome of pending suits, claims, investigations and inquiries, the cost of responding to and defending such suits, as well as the ultimate resolution of any of these matters, could require us to incur significant expenses and, if resolved adversely to us, could impede our ability to market our programs and services, result in a loss of members and end-customers, reduce revenues and profitability and damage our reputation and otherwise have a material effect on our business, financial condition and results of operations.  There can be no assurance that our accruals for legal actions or governmental investigations will be sufficient to satisfy all related claims and expenses.

We rely on our marketing partners to provide limited customer information to us for certain marketing purposes and to approve our marketing materials.  If our marketing partners make significant changes to the materials that decrease results or if they limit the information that they provide to us, our ability to generate new customers may be adversely affected.

Certain of our marketing efforts depend in part on certain limited customer information being made available to us by our marketing partners.  There can be no assurance that our marketing partners will, or will be able to, continue to provide us with the use of such customer information.

Our marketing efforts are largely dependent on obtaining approval of the solicitation materials from our marketing partners.  We market our programs and services based on tested marketing materials, and any significant changes to those materials that are required by our marketing partners could negatively affect our results.  The material terms of each marketing campaign must be mutually agreed upon by the parties.  There can be no assurance that we will obtain approvals of our marketing materials from our marketing partners, and the failure to do so could impede our ability to market our programs and services, result in a loss of members and end-customers, and reduce our revenues and profitability.

A significant portion of our business is conducted with financial institution marketing partners.  A prolonged downturn in the financial institution industry may have an adverse impact on our business.

Our future success is dependent on continued demand for our programs and services within our marketing partners’ industries.  In particular, the customers of our financial institution marketing partners accounted for a significant amount of our members and end-customers and revenues in 2014.  A significant and prolonged downturn in the financial institution industry, or the continued trend in that industry to reduce or eliminate its use of our programs, products and services, could result in a further loss of members and end-customers and could continue to reduce our revenues and profitability.  Additionally, our financial institution marketing partners are subject to extensive regulations, such as Dodd-Frank.  The Dodd-Frank regulatory framework included the creation of the CFPB which has the authority to regulate all consumer financial products sold by banks and non-bank companies.  These regulations have subjected our financial institution marketing partners to increased regulatory oversight and scrutiny regarding their compliance with consumer laws and regulations that could adversely affect our business, financial condition and results of operations.  In addition, even an inadvertent failure of our financial institution marketing partners to comply with these laws and regulations, as well as rapidly evolving social expectations of corporate fairness, could adversely affect our business or our reputation.  

We may lose members or end-customers and significant revenue if we reduce our planned expenditures to grow our business, our existing services become obsolete, or if we fail to introduce new services with broad consumer appeal or fail to do so in a timely or cost-effective manner.

Our growth depends upon investing in our business.  Although revenue from our existing customer base has historically generated approximately 80% of our next twelve months net revenue, we cannot assure you that this will continue.  Accordingly, our growth will depend on our developing and successfully introducing new products and services that generate member and end-customer interest.  Our failure to invest in our business, introduce these products or services or to develop new products or services, or the introduction or announcement of new products or services by competitors, could render our existing offerings non-competitive or obsolete.  There can be no assurance that we will be successful in developing or introducing new products and services.  Our failure to develop, introduce

61


or expand our products and services or to make other investments in our business, such as marketing or capital expenditures, could result in a material loss of members and end-customers and materially reduce our revenues, cash flow from operations and profitability.

We have recently recorded a significant impairment to goodwill and may record future impairment charges that could materially adversely impact our consolidated financial statements.

We perform our annual impairment assessment of goodwill as of December 1, or more frequently if impairment indicators exist.  We determine the estimated fair value of each reporting unit utilizing a combination of the income and market approaches and incorporate assumptions that we believe marketplace participants would utilize.  Based on the impairment test, which utilized a combination of the income and market approaches and incorporated assumptions that we believe marketplace participants would utilize to determine the fair value of our Membership Products segment, we recorded an impairment loss during the fourth quarter of 2014 of $292.4 million, representing approximately 76.6% of the goodwill ascribed to our Membership Products segment.

We have experienced a net loss of members and end-customers due to the regulatory issues at our financial institution marketing partners and we anticipate this trend will continue.  We may not be successful in adding new members from our large financial institutional marketing partners or retail marketing partners as estimated, or even if we do add new members as estimated, that such new members will be as profitable as estimated.  To the extent that net revenues in our Membership Products segment continue to deteriorate in the near future, or we do not meet our expected performance in our Membership Products segment or our other reporting units, additional goodwill impairment charges may be required in future periods.  If we are required to record additional impairment charges in the future, this could have a material adverse impact on our consolidated financial statements.

Our failure to protect private data could damage our reputation and cause us to expend capital and other resources to protect against future security breaches.

Certain of our services are based upon the collection, distribution and protection of sensitive private data.  Such data is maintained by the Company, as well as by certain of our third-party vendors that provide components for our products and services or assist in the billing for membership programs.  Although we maintain a global risk management program to minimize the risks of a data breach, including conducting periodic audits of the security risk programs of our third-party vendors, unauthorized users might access or disrupt that data, and human error or technological failures might cause the wrongful dissemination or disruption of that data.  If we experience a security breach, the integrity of certain of our services may be affected and such a breach could violate certain of our marketing partner agreements.  We have incurred, and may incur in the future, significant costs to protect against the threat of a security breach.  Although we maintain insurance coverage for certain computer network security and privacy-related risks, we may also incur significant costs to alleviate problems that may be caused by future breaches.  Any breach or perceived breach could subject us to legal claims from marketing partners or customers under laws (such as California’s SB 1386 and regulations promulgated by the FCA and European data protection regimes) that govern breaches of electronic data systems containing non-public personal information.  There is no assurance that we would prevail in such litigation.  Moreover, any public perception that we have engaged in the unauthorized release of, or have failed to adequately protect, private information could adversely affect our ability to attract and retain marketing partners, members and end-customers.  In addition, unauthorized third parties might alter information in our databases, which would adversely affect both our ability to market our services and the credibility of our information.

Our success and growth depends to a significant degree upon intellectual property rights.

We have a significant intellectual property portfolio and have allocated considerable resources toward intellectual property maintenance, prosecution and enforcement.  We may be unable to deter infringement or misappropriation of our data and other proprietary information, detect unauthorized use or take appropriate steps to enforce our intellectual property rights.  Any unauthorized use of our intellectual property could make it more expensive for us to do business and consequently harm our business.  Failure to protect our existing intellectual property rights may result in the loss of valuable technologies or having to pay other companies for infringing on their intellectual property rights.  We rely on patent, trade secret, trademark and copyright law as well as judicial enforcement to protect such technologies.  Some of our technologies are not covered by any patent or patent application.  In addition, our patents could be successfully challenged, invalidated, circumvented or rendered unenforceable.  Furthermore, pending patent applications may not result in an issued patent, or if patents are issued to us, such patents may not provide meaningful protection against competitors or against competitive technologies.  We also license patent rights from third parties.  To the extent that such third parties cannot protect and enforce the patents underlying such licenses or, to the extent such licenses are cancelled or not renewed, our competitive position and business prospects may be harmed.

We could face patent infringement claims from our competitors or others alleging that our processes or programs infringe on their proprietary technology.  If we were subject to an infringement suit, we may be required to (1) incur significant costs to license the use of proprietary technology, (2) change our processes or programs or (3) stop using certain technologies or offering the infringing program entirely.  Even if we ultimately prevail in an infringement suit, the existence of the suit could cause our customers to seek other programs that are not subject to infringement suits.  Any infringement suit could result in significant legal costs and damages,

62


impede our ability to market or provide existing programs or create new programs, reduce our revenues and profitability and damage our reputation.

In addition, effective patent, trademark, copyright and trade secret protection may be unavailable or limited in some foreign countries.  In some countries we do not apply for patent, trademark, or copyright protection.  We also rely upon unpatented proprietary expertise, continuing technological innovation and other trade secrets to develop and maintain our competitive position.  While we generally enter into confidentiality agreements with our employees and third parties to protect our intellectual property, such confidentiality agreements could be breached and may not provide meaningful protection for our trade secrets or proprietary expertise.  Adequate remedies may not be available in the event of an unauthorized use or disclosure of our trade secrets and expertise.  In addition, others may obtain knowledge of our trade secrets through independent development or other access by legal means.  The failure of our patents or confidentiality agreements to protect our processes, apparatuses, technology, trade secrets and proprietary expertise and methods could jeopardize our critical intellectual property, which could give our competitors an advantage in the marketplace, reduce our revenues and profitability and damage our reputation.

Our business is highly dependent on our existing computer, billing, communications and other technological systems.  Any temporary or permanent loss of any of our systems could have a negative effect on our business, financial condition and results of operations.

Our business depends upon ongoing investments in advanced computer database and telecommunications technology as well as our ability to protect our telecommunications and information technology systems against damage or system interruptions from natural disasters, technical failures and other events beyond our control.  In order to compete effectively and to meet our marketing partners’ and customers’ needs, we must maintain our systems as well as invest in improved technology.  A temporary or permanent loss of any of our systems or networks could cause significant damage to our reputation and could result in a loss of revenue.

In addition, we receive data electronically, and this delivery method is susceptible to damage, delay or inaccuracy.  A significant portion of our business involves telephonic customer service as well as mailings, both of which depend upon the data generated from our computer systems.  Unanticipated problems with our telecommunications and information technology systems may result in a significant system outage or data loss, which could interrupt our operations.  Our infrastructure may also be vulnerable to computer viruses, hackers or other disruptions entering our systems from the credit reporting agencies, our marketing partners and members and end-customers or other authorized or unauthorized sources.  Any damage to our telecommunications and information technology systems, failure of communication links or other loss that causes interruption in, or damage to, our operations could impede our ability to market our programs and services, result in a loss of members and end-customers and reduce our revenues and profitability.

If we are unable to meet the rapid changes in technology, our services and proprietary technology and systems may become obsolete.

Due to the cost and management time required to introduce new services and enhancements, we may not be able to respond in a timely manner to avoid becoming uncompetitive.  To remain competitive, we must meet the challenges of the introduction by our competitors of new services using new technologies or the introduction of new industry standards and practices.  Additionally, the vendors we use to support our technology may not provide the level of service we expect or may not be able to provide their product or service on commercially reasonable terms or at all.

We depend, in part, on the postal and telephone services we utilize to market and service our programs.  An interruption of, or an increase in the billing rate for, such services could adversely affect our business.

We depend, in part, on the postal and telephone services we utilize to market and service our programs.  An interruption of, or an increase in the billing rate for, such services could increase our costs and expenses and reduce our profitability.

We market and service our programs by various means, including through mail and via telephone.  Accordingly, our business is dependent on the postal and telephone services provided by the U.S. Postal Service and international postal service, and various local and long distance telephone companies.  Any significant interruption of such services or any limitations in their ability to provide us with increased capacity could impede our ability to market our programs and services, result in a loss of members and end-customers and reduce our revenues and profitability.  In addition, the U.S. Postal Service and international postal service increase rates periodically and significant increases in rates could adversely impact our business.

We may not realize anticipated benefits from recent or future acquisitions or have the ability to complete future acquisitions.

From time to time, we pursue acquisitions as a means of enhancing our scale and market share.  In general, the success of our acquisition strategy will depend upon our ability to find suitable acquisition candidates on favorable terms and to finance and complete these transactions.  In addition, upon completion of an acquisition, we may encounter a variety of difficulties, including trouble integrating the acquired business into our operations, the possible defection of key employees or of a significant number of

63


employees, the loss in value of acquired intangibles, the diversion of management’s attention and unanticipated problems or liabilities.  These difficulties may adversely affect our ability to realize anticipated cost savings and revenue growth from our acquisitions.  In addition, acquisitions we have made in the past such as Prospectiv Direct, Inc. and any future acquisitions may not be as accretive to our earnings as we expect or at all, and may negatively impact our results of operations through, among other things, the incurrence of debt to finance any acquisition, non-cash write-offs of goodwill or intangibles and increased amortization expenses in connection with intangible assets.  Acquisition integration activities can also put further demands on management, which could negatively impact operating results.

We expect to realize cancellation of indebtedness income for tax purposes and may incur U.S. federal income tax liability as a result.

As a result of consummation of the exchange offers, we expect to realize cancellation of indebtedness income for tax purposes.  Cancellation of indebtedness income may be excluded from taxable income, if, and to the extent, the relevant obligor is insolvent immediately before consummation of the exchange offers, in which case, certain tax attributes of Affinion will nonetheless be reduced. Even if the exchange offers give rise to taxable cancellation of indebtedness income, we believe that our net operating losses available to be carried forward as of the taxable year ended December 31, 2014, together with the losses we may recognize in 2015, will significantly reduce our tax liabilities resulting from the transaction, although we may incur federal alternative minimum tax liability in connection with the cancellation of indebtedness income.  

Our international operations are subject to additional risks not encountered when doing business in the U.S., and our exposure to these risks will increase as we expand our international operations.

We have a limited history of conducting certain of our international operations, which involve risks that may not exist when doing business in the U.S.  In order to achieve widespread acceptance in each country we enter, we must tailor our services to the unique customs and cultures of that country.  Learning the customs and cultures of various countries, particularly with respect to consumer preferences, is a difficult task and our failure to do so could slow our growth in international markets.

In addition, we are subject to certain risks as a result of having international operations, and from having operations in multiple countries generally, including:  

 

·

fluctuations in foreign currency exchange rates;

 

·

delays in the development of the Internet as a broadcast, advertising and commerce medium in overseas markets;

 

·

difficulties in staffing and managing operations due to distance, time zones, language and cultural differences, including issues associated with establishing management systems infrastructure in various countries;

 

·

differences and unexpected changes in regulatory requirements and exposure to local economic conditions;

 

·

preference of local populations for local providers;

 

·

restrictions on the withdrawal of non-U.S. investment and earnings, including potentially substantial tax liabilities if we repatriate any of the cash generated by our international operations back to the U.S.;

 

·

diminished ability to legally enforce our contractual rights;

 

·

currency exchange restrictions;

 

·

withholding and other taxes on remittances and other payments by subsidiaries; and

 

·

changes to tax laws or regulations in countries where our international businesses operate.

 

We cannot assure you that one or more of these factors will not have a material adverse effect on our international operations and consequently on our business, financial condition and results of operations.

Our future success depends on our ability to retain our key employees.

We are dependent on the services of Todd H. Siegel, our Chief Executive Officer, and other members of our senior management team to remain competitive in our industry.  The loss of Mr. Siegel or any other member of our senior management team could have an adverse effect on us.  There is a risk that we will not be able to retain or replace these key employees.  All of our current executive officers are subject to employment conditions or arrangements that contain post-employment non-competition provisions.  However, these arrangements permit the employees to terminate their employment.

 

 

Item 2. Unregistered Sales of Equity in Securities and Use of Proceeds.

None.

 

64


Item 3. Defaults Upon Senior Securities.

None.

 

Item 4. Mine Safety Disclosure.

Not applicable.

 

Item 5. Other Information.

None.


65


 

Item 6. Exhibits.

 

Exhibit

Number

 

Description

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

10.1

 

Backstop Agreement, dated as of September 29, 2015, among Affinion Group Holdings, Inc., Affinion International Holdings Limited and Empyrean Capital Partners, L.P. (incorporated by reference to Exhibit 10.1 to Affinion Group, Inc.’s Quarterly Report on Form 10-Q for the period ended September 30, 2015, File No. 333-173105).

 

 

 

10.2

 

Amendment, dated as of October 27, 2015, to Backstop Agreement, dated as of September 29, 2015, among Affinion Group Holdings, Inc., Affinion International Holdings Limited and Empyrean Capital Partners, L.P. (incorporated by reference to Exhibit 10.2 to Affinion Group, Inc.’s Quarterly Report on Form 10-Q for the period ended September 30, 2015, File No. 333-173105)..

 

 

 

10.3*

 

Amendment, dated as of September 29, 2015, to the Warrantholder Rights Agreement, dated as of December 12, 2013, among Affinion Group Holdings, Inc., Affinion Group Holdings, LLC, General Atlantic Partners 79, L.P., GAP-W Holdings, L.P., GapStar, LLC, GAPCO GMBH & Co. KG, GAP Coinvestments III, LLC, GAP Coinvestments IV, LLC and the holders of Warrants from time to time party thereto.

 

 

 

31.1*

 

Certification of the Chief Executive Officer Pursuant to Rule 13a-14(a) or 15d-14(a).

 

 

 

31.2*

 

Certification of the Chief Financial Officer Pursuant to Rule 13a-14(a) or 15d-14(a).

 

 

 

32.1**

 

Certification of the Chief Executive Officer Pursuant to 18 U.S.C. Section 1350.

 

 

 

32.2**

 

Certification of the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350.

 

 

 

101.INS XBRL*

 

Instance Document

 

 

 

101.SCH XBRL*

 

Taxonomy Extension Schema

 

 

 

101.CAL XBRL*

 

Taxonomy Extension Calculation Linkbase

 

 

 

101.DEF XBRL*

 

Taxonomy Extension Definition Linkbase

 

 

 

101.LAB XBRL*

 

Taxonomy Extension Label Linkbase

 

 

 

101.PRE XBRL*

 

Taxonomy Extension Presentation Linkbase

 

*

Filed herewith.

**

Furnished herewith.

 

 

 

66


SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

AFFINION GROUP HOLDINGS, INC.

 

Date:

November 12, 2015

By:

    /S/  Gregory S. Miller        

 

 

 

     Gregory S. Miller

 

 

 

     Executive Vice President and Chief Financial Officer

 

 

 

 

S-1


EXHIBIT INDEX

 

Exhibit

Number

 

Description

 

 

 

 

 

 

 

 

 

 

 

 

10.1

 

 

 

Backstop Agreement, dated as of September 29, 2015, among Affinion Group Holdings, Inc., Affinion International Holdings Limited and Empyrean Capital Partners, L.P. (incorporated by reference to Exhibit 10.1 to Affinion Group, Inc.’s Quarterly Report on Form 10-Q for the period ended September 30, 2015, File No. 333-173105)

 

10.2

 

Amendment, dated as of October 27, 2015, to Backstop Agreement, dated as of September 29, 2015, among Affinion Group Holdings, Inc., Affinion International Holdings Limited and Empyrean Capital Partners, L.P. (incorporated by reference to Exhibit 10.2 to Affinion Group, Inc.’s Quarterly Report on Form 10-Q for the period ended September 30, 2015, File No. 333-173105)

 

10.3*

 

 

 

 

 

31.1*

 

 

Amendment, dated as of September 29, 2015, to the Warrantholder Rights Agreement, dated as of December 12, 2013, among Affinion Group Holdings, Inc., Affinion Group Holdings, LLC, General Atlantic Partners 79, L.P., GAP-W Holdings, L.P., GapStar, LLC, GAPCO GMBH & Co. KG, GAP Coinvestments III, LLC, GAP Coinvestments IV, LLC and the holders of Warrants from time to time party thereto.

 

Certification of the Chief Executive Officer Pursuant to Rule 13a-14(a) or 15d-14(a).

 

 

 

31.2*

 

Certification of the Chief Financial Officer Pursuant to Rule 13a-14(a) or 15d-14(a).

 

 

 

32.1**

 

Certification of the Chief Executive Officer Pursuant to 18 U.S.C. Section 1350.

 

 

 

32.2**

 

Certification of the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350.

 

 

 

101.INS XBRL*

 

Instance Document

 

 

 

101.SCH XBRL*

 

Taxonomy Extension Schema

 

 

 

101.CAL XBRL*

 

Taxonomy Extension Calculation Linkbase

 

 

 

101.DEF XBRL*

 

Taxonomy Extension Definition Linkbase

 

 

 

101.LAB XBRL*

 

Taxonomy Extension Label Linkbase

 

 

 

101.PRE XBRL*

 

Taxonomy Extension Presentation Linkbase

 

*

Filed herewith.

**

Furnished herewith.