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EX-32.1 - EXHIBIT 32.1 - CONNS INCconns10312016ex321.htm
EX-31.2 - EXHIBIT 31.2 - CONNS INCconns10312016ex312.htm
EX-31.1 - EXHIBIT 31.1 - CONNS INCconns10312016ex311.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 October 31, 2016
 or
o
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 001-34956
CONN'S, INC.
(Exact name of registrant as specified in its charter)
Delaware
 
06-1672840
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification Number)
 
 
 
4055 Technology Forest Blvd, Suite 210, The Woodlands, TX
 
77381
(Address of principal executive offices)
 
(Zip Code)
 Registrant's telephone number, including area code:  (936) 230-5899
Not Applicable
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (l) 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 ý  No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§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 ý  No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer
ý
 
Accelerated filer
o
 
 
 
 
 
Non-accelerated filer
o
(Do not check if a smaller reporting company)
Smaller reporting company
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes o  No ý
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of November 29, 2016
Class
 
Outstanding
Common stock, $0.01 par value per share
 
30,859,250



CONN'S, INC. AND SUBSIDIARIES

FORM 10-Q
FOR THE FISCAL QUARTER ENDED OCTOBER 31, 2016

TABLE OF CONTENTS
 
 
 
 
Page No.
PART I.
 
FINANCIAL INFORMATION
 
 
Item 1.
 
Financial Statements
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
Item 3.
 
 
Item 4.
 
 
PART II.
 
OTHER INFORMATION
 
 
Item 1.
 
 
Item 1A.
 
 
Item 2.
 
 
Item 3.
 
 
Item 4.
 
 
Item 5.
 
 
Item 6.
 
 
 
 
 
 
 
 
This Quarterly Report on Form 10-Q includes our trademarks such as "Conn's," "Conn's HomePlus," "YES Money," "YE$ Money," and our logos, which are protected under applicable intellectual property laws and are the property of Conn's, Inc. This report also contains trademarks, service marks, trade names and copyrights of other companies, which are the property of their respective owners. Solely for convenience, trademarks and trade names referred to in this Quarterly Report may appear without the ® or TM symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or the rights of the applicable licensor to these trademarks and trade names.
Unless the context otherwise indicates, references to "Conn's," the "Company," "we," "us," and "our" refer to the consolidated business operations of Conn's, Inc., its consolidated VIEs, and its wholly-owned subsidiaries.



PART I.
FINANCIAL INFORMATION
ITEM 1.
FINANCIAL STATEMENTS
CONN'S, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited and in thousands, except per share data)
 
October 31,
2016
 
January 31,
2016
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
59,065

 
$
12,254

Restricted cash (all held by VIEs)
130,979

 
64,151

Customer accounts receivable, net of allowances (includes balances for VIEs of $620,698 and $390,150, respectively)
688,011

 
743,931

Other accounts receivable
73,206

 
95,404

Inventories
204,537

 
201,969

Income taxes recoverable
9,930

 
10,774

Prepaid expenses and other current assets
13,810

 
20,092

Total current assets
1,179,538

 
1,148,575

Long-term portion of customer accounts receivable, net of allowances (includes balances for VIEs of $499,542 and $331,254, respectively)
619,159

 
631,645

Long-term restricted cash (all held by VIEs)
35,497

 
14,425

Property and equipment, net
171,753

 
151,483

Deferred income taxes
66,910

 
70,219

Other assets
7,777

 
8,953

Total assets
$
2,080,634

 
$
2,025,300

Liabilities and Stockholders' Equity
 

 
 

Current liabilities:
 

 
 

Current maturities of capital lease obligations
$
752

 
$
799

Accounts payable
116,469

 
86,797

Accrued compensation and related expenses
10,408

 
9,337

Accrued expenses
41,660

 
30,037

Income taxes payable
2,435

 
2,823

Deferred revenues and other credits
21,360

 
16,332

Total current liabilities
193,084

 
146,125

Deferred rent
89,294

 
74,559

Long-term debt and capital lease obligations (includes balances of VIEs of $1,038,418 and $699,515, respectively)
1,259,009

 
1,248,879

Other long-term liabilities
22,554

 
17,456

Total liabilities
1,563,941

 
1,487,019

Commitments and contingencies
 

 
 

Stockholders' equity:
 

 
 

Preferred stock ($0.01 par value, 1,000 shares authorized; none issued or outstanding)

 

Common stock ($0.01 par value, 100,000 shares authorized; 30,856 and 30,630 shares issued, respectively)
309

 
306

Additional paid-in capital
89,106

 
85,209

Retained earnings
427,278

 
452,766

Total stockholders' equity
516,693

 
538,281

Total liabilities and stockholders' equity
$
2,080,634

 
$
2,025,300

See notes to condensed consolidated financial statements.

1


CONN'S, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited and in thousands, except per share amounts)
 
Three Months Ended 
 October 31,
 
Nine Months Ended 
 October 31,
 
2016
 
2015
 
2016
 
2015
Revenues:
 
 
 
 
 
 
 
Product sales
$
278,056

 
$
293,122

 
$
864,269

 
$
858,487

Repair service agreement commissions
26,354

 
26,038

 
82,849

 
77,590

Service revenues
3,623

 
3,474

 
11,456

 
9,982

Total net sales
308,033

 
322,634

 
958,574

 
946,059

Finance charges and other revenues
68,740

 
72,599

 
205,469

 
210,300

Total revenues
376,773

 
395,233

 
1,164,043

 
1,156,359

Costs and expenses:
 

 
 

 
 
 
 
Cost of goods sold
192,374

 
202,901

 
605,709

 
592,495

Selling, general and administrative expenses
114,457

 
113,668

 
347,550

 
314,175

Provision for bad debts
51,564

 
58,208

 
169,978

 
157,397

Charges and credits
1,987

 
2,540

 
5,408

 
4,172

Total costs and expenses
360,382

 
377,317

 
1,128,645

 
1,068,239

Operating income
16,391

 
17,916

 
35,398

 
88,120

Interest expense
23,470

 
19,702

 
73,504

 
39,185

Loss on extinguishment of debt

 
1,367

 

 
1,367

Income (loss) before income taxes
(7,079
)
 
(3,153
)
 
(38,106
)
 
47,568

Provision (benefit) for income taxes
(3,264
)
 
(732
)
 
(12,618
)
 
17,774

Net income (loss)
$
(3,815
)
 
$
(2,421
)
 
$
(25,488
)
 
$
29,794

Earnings (loss) per share:
 

 
 

 
 
 
 
Basic
$
(0.12
)
 
$
(0.07
)
 
$
(0.83
)
 
$
0.82

Diluted
$
(0.12
)
 
$
(0.07
)
 
$
(0.83
)
 
$
0.81

Weighted average common shares outstanding:
 

 
 

 
 
 
 
Basic
30,816

 
35,704

 
30,737

 
36,175

Diluted
30,816

 
35,704

 
30,737

 
36,694

See notes to condensed consolidated financial statements.

2


CONN'S, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited and in thousands)
 
Nine Months Ended October 31,
 
2016
 
2015
Cash flows from operating activities:
 
 
 
Net income (loss)
$
(25,488
)
 
$
29,794

Adjustments to reconcile net income (loss) to net cash from operating activities:
 

 
 

Depreciation
21,209

 
16,400

Impairments of long-lived assets
1,980

 

Amortization of debt issuance costs
19,164

 
7,048

Provision for bad debts and uncollectible interest
200,349

 
184,297

Loss on extinguishment of debt

 
1,367

Stock-based compensation expense
3,928

 
2,961

Excess tax benefits from stock-based compensation
(1
)
 
(479
)
Charges, net of credits, for store and facility closures
954

 
637

Deferred income taxes
3,309

 
(12,944
)
Gain on sale of property and equipment
(259
)
 
(1,303
)
Tenant improvement allowances received from landlords
23,674

 
12,866

Change in operating assets and liabilities:
 

 
 

Customer accounts receivable
(131,943
)
 
(285,007
)
Other accounts receivable
13,281

 
(10,260
)
Inventories
(2,568
)
 
(79,085
)
Other assets
1,483

 
(551
)
Accounts payable
32,342

 
58,790

Accrued expenses
11,542

 
687

Income taxes
(355
)
 
11,612

Deferred rent, revenues and other credits
10,410

 
(2,124
)
Net cash provided by (used in) operating activities
183,011

 
(65,294
)
Cash flows from investing activities:
 

 
 

Purchase of property and equipment
(41,804
)
 
(46,667
)
Proceeds from sale of property
686

 
5,609

Net cash used in investing activities
(41,118
)
 
(41,058
)
Cash flows from financing activities:
 

 
 

Proceeds from issuance of asset-backed notes
1,067,850

 
1,118,000

Payments on asset-backed notes
(736,266
)
 
(184,349
)
Changes in restricted cash balances
(87,900
)
 
(97,924
)
Borrowings from revolving credit facility
529,352

 
277,081

Payments on revolving credit facility
(858,559
)
 
(805,193
)
Repurchase of senior notes

 
(22,965
)
Payment of debt issuance costs and amendment fees
(9,775
)
 
(31,871
)
Repurchase of common stock

 
(51,680
)
Proceeds from stock issued under employee benefit plans
824

 
2,034

Excess tax benefits from stock-based compensation
1

 
479

Other
(609
)
 
(412
)
Net cash provided by (used in) financing activities
(95,082
)
 
203,200

Net change in cash and cash equivalents
46,811

 
96,848

Cash and cash equivalents, beginning of period
12,254

 
12,223

Cash and cash equivalents, end of period
$
59,065

 
$
109,071

Non-cash investing and financing activities:
 
 
 
Capital lease asset additions and related obligations
$

 
$
2,187

Property and equipment purchases not yet paid
$
1,805

 
$
2,391

Supplemental cash flow data:
 
 
 
Cash interest paid
$
53,074

 
$
29,200

Cash income taxes paid (refunded), net
$
(15,624
)
 
$
21,393

See notes to condensed consolidated financial statements.

3


CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1.     Summary of Significant Accounting Policies 
Business. Conn's is a leading specialty retailer that offers a broad selection of quality, branded durable consumer goods and related services in addition to a proprietary credit solution for its core credit constrained consumers. We operate an integrated and scalable business through our retail stores and website. Our complementary product offerings include furniture and mattresses, home appliances, consumer electronics and home office products from leading global brands across a wide range of price points. Our credit offering provides financing solutions to a large, under-served population of credit constrained consumers who typically have limited banking options.
We operate two reportable segments: retail and credit. Our retail stores bear the "Conn's" or "Conn's HomePlus" name with all of our stores providing the same products and services to a common customer group. Our stores follow the same procedures and methods in managing their operations. Our retail business and credit business are operated independently from each other. The credit segment is dedicated to providing short- and medium-term financing for our retail customers. The retail segment is not involved in credit approval decisions. Our management evaluates performance and allocates resources based on the operating results of the retail and credit segments.
Basis of Presentation. The accompanying unaudited, condensed consolidated financial statements of Conn's, Inc. and its wholly-owned subsidiaries, including the VIEs (as defined below), have been prepared by management in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, we do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. The accompanying financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair presentation of the results for the interim periods presented. All such adjustments are of a normal recurring nature. The condensed consolidated financial position, results of operations and cash flows for these interim periods are not necessarily indicative of the results that may be expected in future periods. The balance sheet at January 31, 2016 has been derived from the audited financial statements at that date. The financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto included in our Annual Report on Form 10-K for the fiscal year ended January 31, 2016, filed with the United States Securities and Exchange Commission (the "SEC") on March 29, 2016.
Variable Interest Entities. In September 2015, we securitized $1.4 billion of customer accounts receivables by transferring the receivables to a bankruptcy-remote variable-interest entity (the "2015 VIE"). The 2015 VIE issued asset-backed notes at a face amount of $1.12 billion secured by the transferred portfolio balance, which resulted in net proceeds to us of approximately $1.08 billion, net of transaction costs and restricted cash held by the 2015 VIE. The net proceeds were used to pay down the outstanding balance on our revolving credit facility, to repurchase shares of the Company's common stock and Senior Notes, and for other general corporate purposes.
In March 2016, we securitized $705.1 million of customer accounts receivables by transferring the receivables to a separate bankruptcy-remote variable-interest entity (the "2016-A VIE"). The 2016-A VIE issued two classes of asset-backed notes at a total face amount of $493.5 million secured by the transferred customer accounts receivables. This resulted in net proceeds to us of approximately $478.0 million, net of transaction costs and restricted cash held by the 2016-A VIE. In October 2016, the 2016-A VIE issued a third class of asset-backed notes at a total face amount of $70.5 million also secured by the same customer accounts receivables that were transferred in March 2016. This resulted in net proceeds to us of approximately $71.6 million, including debt premium and net of transaction costs. The net proceeds from the issued asset-backed notes were used to pay down the outstanding balance on our revolving credit facility and for other general corporate purposes.
In October 2016, we securitized $699.7 million of customer accounts receivables by transferring the receivables to a new bankruptcy-remote variable-interest entity (the "2016-B VIE" or together with the 2015 VIE and the 2016-A VIE, the "VIEs"). The 2016-B VIE issued two classes of asset-backed notes at a total face amount of $503.8 million secured by the transferred customer accounts receivables. This resulted in net proceeds to us of approximately $488.5 million, net of transaction costs and restricted cash held by the 2016-B VIE. The net proceeds were used to pay down the outstanding balance on our revolving credit facility and for other general corporate purposes.
We currently hold the residual equity for each of the VIEs as well as a third class of asset-backed notes of the 2016-B VIE, of which we may elect to retain all or a portion of these interests if that is determined to be in our best economic interest. In addition, we retain the servicing of the securitized portfolios. We determined that we have a variable interest in both VIEs and we are the primary beneficiary because (i) our servicing responsibilities for the securitized portfolios give us the power to direct the activities that most significantly impact the performance of the VIEs, and (ii) our variable interest in the VIEs gives us the obligation to absorb losses and the right to receive residual returns that could potentially be significant. As a result, so long as we hold all or a significant portion of the residual equity of the VIEs and the third class of asset-backed notes of the 2016-B VIE, we will consolidate the VIEs within our financial statements. If we sell all or a significant portion of our interest, we will assess if the transaction

4

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


achieves sale treatment for accounting purposes, which may result in deconsolidation of any or all of the VIEs. There is no assurance that we will complete a sale of all or a portion of our interest in the VIEs, and there is no assurance we will achieve sale treatment. As a result, we have determined that the securitized portfolios do not meet the criteria for treatment as an asset held for sale, which would require recording at the lower of cost, net of allowances, or fair value. We have not made an adjustment to the customer accounts receivable balance as a result of the transaction or in anticipation of any gain or loss that may occur should a sale of our interest in the VIEs be completed.
Principles of Consolidation. The consolidated financial statements include the accounts of Conn's, Inc. and its wholly-owned subsidiaries, including the VIEs. Conn's, Inc., a Delaware corporation, is a holding company with no independent assets or operations other than its investments in its subsidiaries. All intercompany transactions and balances have been eliminated in consolidation.
Fiscal Year. Our fiscal year ends on January 31. References to a fiscal year refer to the calendar year in which the fiscal year ends.
Accounting Policies. The complete summary of significant accounting policies is included in the notes to the consolidated financial statements as presented in our Annual Report on Form 10-K for the fiscal year ended January 31, 2016
Use of Estimates. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. The allowance for doubtful accounts, allowances for no-interest option credit programs, and deferred interest are particularly sensitive given the size of our customer portfolio balance. During the three months ended July 31, 2016, we revised our methods for calculating these estimates and recorded the following adjustments as a result of changes to our estimates:
Allowance for doubtful accounts – We adjusted our allowances for doubtful accounts in two respects in connection with changes in estimates to our sales tax recovery for charged-off accounts. First, we revised our estimate of the amount of sales tax recovery for previously charged-off accounts that we expect to claim with particular taxing jurisdictions, based on updated financial information. We reduced our sales tax receivable by $3.9 million, which resulted in higher net charge-offs and an increase to our provision for bad debts. Second, we updated our estimate of the amount of sales tax recovery associated with expected charge-offs over the next twelve months in estimating our allowance for doubtful accounts and recorded an additional allowance of $1.1 million with an increase in our provision for bad debts.
Allowances for no-interest option credit programs – We revised our estimate of the interest income to be waived for customers that we expect will comply with our no-interest option credit programs based on specific customer loan information rather than information from pooled loans by origination. We recorded an increase in the allowance for no-interest option credit programs of $4.7 million with a corresponding decrease in interest income and fees.
Deferred interest – We revised our estimate of the timing of the benefit we recognize to interest income related to our assumptions regarding future prepayments based on our historical experience of the timing of expected prepayments over the remaining life of pooled loans. We changed our estimate to consider a greater number of pools based on origination terms and recorded an increase in deferred interest of $3.5 million with a corresponding decrease in interest income and fees.
Earnings per Share. Basic earnings per share is calculated by dividing net income by the weighted average number of common shares outstanding during the period. Diluted earnings per share include the potential dilutive effects of any stock-based awards, which is calculated using the treasury-stock method. The following table sets forth the shares outstanding used for the earnings per share calculations:
 
Three Months Ended 
 October 31,
 
Nine Months Ended 
 October 31,
(in thousands)
2016
 
2015
 
2016
 
2015
Weighted average common shares outstanding - Basic
30,816

 
35,704

 
30,737

 
36,175

Dilutive effect of stock based awards

 

 

 
519

Weighted average common shares outstanding - Diluted
30,816

 
35,704

 
30,737

 
36,694

For the three months ended October 31, 2016 and 2015, the weighted average number of shares from stock based awards not included in the calculation due to their anti-dilutive effect was approximately 1.2 million and 0.9 million shares, respectively. For the nine months ended October 31, 2016 and 2015, the weighted average number of shares from stock based awards not included in the calculation due to their anti-dilutive effect was approximately 1.2 million and 0.2 million shares, respectively.

5

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Restricted Cash. The restricted cash balance as of October 31, 2016 and January 31, 2016 includes $131.0 million and $64.2 million, respectively, of cash we collected as servicer on the securitized receivables that was remitted to the VIEs and $35.5 million and $14.4 million, respectively, of cash held by the VIEs as additional collateral for the asset-backed notes.
Customer accounts receivable. Customer accounts receivable reported in the consolidated balance sheet includes total receivables managed, including those transferred to the VIEs and those receivables not transferred to the VIEs. Customer accounts receivable are originated at the time of sale and delivery of the various products and services. Based on contractual terms, we record the amount of principal and accrued interest on customer receivables that is expected to be collected within the next twelve months in current assets with the remaining balance in long-term assets on the consolidated balance sheet. Customer accounts receivable is presented net of unamortized deferred fees charged to customers and origination costs. Customer receivables are considered delinquent if a payment has not been received on the scheduled due date. Accounts that are delinquent more than 209 days as of the end of a month are charged-off against the allowance for doubtful accounts along with interest accrued subsequent to the last payment.
In an effort to mitigate losses on our accounts receivable, we may make loan modifications to a borrower experiencing financial difficulty. In our role as servicer, we may also make modifications to loans held by the VIEs. The loan modifications are intended to maximize net cash flow after expenses and avoid the need to repossess collateral or exercise legal remedies available to us. We may extend or "re-age" a portion of our customer accounts, which involve modifying the payment terms to defer a portion of the cash payments due. Our re-aging of customer accounts does not change the interest rate or the total amount due from the customer and typically does not reduce the monthly contractual payments. To a much lesser extent, we may provide the customer the ability to re-age their obligation by refinancing the account, which does not change the interest rate or the total amount due from the customer but does reduce the monthly contractual payments and extends the term. We consider accounts that have been re-aged in excess of three months or refinanced as Troubled Debt Restructurings ("TDR" or "Restructured Accounts"). 
Allowance for doubtful accounts. We establish an allowance for doubtful accounts, including estimated uncollectible interest, to cover probable and estimable losses on our customer accounts receivable resulting from the failure of customers to make contractual payments. Our customer portfolio balance consists of a large number of relatively small, homogeneous accounts. None of our accounts are large enough to warrant individual evaluation for impairment.
We record an allowance for doubtful accounts for our non-TDR customer accounts receivable that we expect to charge-off over the next twelve months based on our historical cash collection and net loss experience. In addition to pre-charge-off cash collections and charge-off information, estimates of post-charge-off recoveries, including cash payments from customers, amounts realized from the repossession of the products financed, sales tax recoveries from taxing jurisdictions, and payments received under credit insurance policies are also considered.
We determine allowances for those accounts that are TDR based on the discounted present value of cash flows expected to be collected over the life of those accounts. The excess of the carrying amount over the discounted cash flow amount is recorded as an allowance for loss on those accounts.
Interest income on customer accounts receivable. Interest income, which includes interest income and amortization of deferred fees and origination costs, is recorded using the effective interest method and is reflected in finance charges and other revenues. Typically, interest income is recorded until the customer account is paid off or charged-off, and we provide an allowance for estimated uncollectible interest. Any contractual interest income received from customers in excess of the interest income calculated using the effective interest method is recorded as deferred revenue on our balance sheets. Our calculation of interest income for customers with similar financing arrangements for which the timing and amount of prepayments can be reasonably estimated includes an estimate of the benefit from future prepayments based on our historical experience. At October 31, 2016 and January 31, 2016, there were $12.5 million and $5.2 million, respectively, of deferred interest included in deferred revenues and other credits and other long-term liabilities. The deferred interest will ultimately be brought into income as the accounts pay off or charge-off.
We offer 12- and 18-month cash-option, no-interest finance programs. If the customer is delinquent in making a scheduled monthly payment or does not repay the principal in full by the end of the no-interest program period (grace periods are provided), the account does not qualify for the no-interest provision and none of the interest earned is waived. Interest income is recognized based on estimated accrued interest earned to date on all no-interest finance programs with an offsetting reserve for those customers expected to satisfy the requirements of the program based on our historical experience.
We previously offered 18- and 24-month equal-payment, no-interest finance programs to certain higher credit quality borrowers. If a customer is delinquent in making a scheduled monthly payment (grace periods are provided), the account begins accruing interest based on the contract rate from the date of the last payment made.
No-interest finance programs with terms greater than 12 months are discounted to their present value at origination, resulting in a reduction in sales and customer receivables, and the discount amount is amortized into finance charges and other revenues over the term of the contract.

6

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


We recognize interest income on TDR accounts using the interest income method, which requires reporting interest income equal to the increase in the net carrying amount of the loan attributable to the passage of time. Cash proceeds and other adjustments are applied to the net carrying amount such that it equals the present value of expected future cash flows.
We typically only place accounts in non-accrual status when legally required. Payments received on non-accrual loans will be applied to principal and reduce the amount of the loan. Interest accrual is resumed on those accounts once a legally-mandated settlement arrangement is reached or other payment arrangements are made with the customer. At October 31, 2016 and January 31, 2016, customer receivables carried in non-accrual status were $26.2 million and $20.6 million, respectively. At October 31, 2016 and January 31, 2016, customer receivables that were past due 90 days or more and still accruing interest totaled $121.6 million and $115.1 million, respectively.
Income Taxes. For the nine months ended October 31, 2016, we utilized the estimated annual effective tax rate in determining income tax expense rather than the actual effective tax rate (discrete method), which we used for the three months ended April 30, 2016, based on our updated estimated fiscal 2017 pre-tax income.
Fair Value of Financial Instruments. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Assets and liabilities recorded at fair value are categorized using defined hierarchical levels related to subjectivity associated with the inputs to fair value measurements as follows:  
Level 1 – Quoted prices available in active markets for identical assets or liabilities
Level 2 – Pricing inputs not quoted in active markets but either directly or indirectly observable
Level 3 – Significant inputs to pricing that have little or no transparency with inputs requiring significant management judgment or estimation
The fair value of cash and cash equivalents, restricted cash, and accounts payable approximate their carrying amounts because of the short maturity of these instruments. The fair value of customer accounts receivables, determined using a Level 3 discounted cash flow analysis, approximates their net carrying amount. The fair value of our revolving credit facility approximates carrying value based on the current borrowing rate for similar types of borrowing arrangements. At October 31, 2016, the fair value of our Senior Notes, which was determined using Level 1 inputs, was $189.9 million as compared to the carrying value of $227.0 million, excluding the impact of the related discount. At October 31, 2016, the fair value of the VIE's asset-backed notes, which were determined using Level 2 inputs based on inactive trading activity, approximates their carrying value.
Reclassifications. Certain reclassifications have been made to prior fiscal year amounts to conform to the presentation in the current fiscal year. On the consolidated balance sheets, as of January 31, 2016, we reclassified cash held by the VIEs as additional collateral for the asset-backed notes out of current restricted cash and separately presented as long-term restricted cash. These reclassifications did not impact consolidated operating income or net income.
Recent Accounting Pronouncements. In May 2014, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2014-09, Revenue from Contracts with Customers, which provides a single comprehensive accounting standard for revenue recognition for contracts with customers and supersedes current guidance. Upon adoption of ASU 2014-09, entities are required to recognize revenue using the following comprehensive model: (1) identify contracts with customers, (2) identify the performance obligations in contracts, (3) determine transaction price, (4) allocate the transaction price to the performance obligations, and (5) recognize revenue as each performance obligation is satisfied. In August 2015, the FASB issued ASU 2015-14, Revenue from Contracts with Customers: Deferral of Effective Date, which defers the effective date of ASU 2014-09 by one year and allows early adoption on a limited basis. ASU 2014-09 is now effective for us beginning in the first quarter of fiscal year 2019 and will result in retrospective application, either in the form of recasting all prior periods presented or a cumulative adjustment to equity in the period of adoption. We are currently assessing the impact the new standard will have on our financial statements.
In February 2016, the FASB issued ASU 2016-02, Leases, which will change how lessees account for leases. For most leases, a liability will be recorded on the balance sheet based on the present value of future lease obligations with a corresponding right-of-use asset. Primarily for those leases currently classified by us as operating leases, we will recognize a single lease cost on a straight line basis based on the combined amortization of the lease obligation and the right-of-use asset. Other leases will be required to be accounted for as financing arrangements similar to how we currently account for capital leases. On transition, we will recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. The standard is effective for us beginning in the first quarter of fiscal year 2020. We are currently assessing the impact the new standard will have on our financial statements.
In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, which modifies the accounting for excess tax benefits and tax deficiencies associated with share-based payments, the accounting for forfeitures, and the classification of certain items on the statement of cash flows. ASU 2016-09 eliminates the requirement to recognize excess

7

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


tax benefits in additional paid-in capital ("APIC"), and the requirement to evaluate tax deficiencies for APIC or income tax expense classification, and provides for these benefits or deficiencies to be recorded as an income tax expense or benefit in the income statement. With these changes, tax-related cash flows resulting from share-based payments will be classified as operating activities as opposed to financing, as currently presented. The standard is effective for us in the first quarter of fiscal year 2018, although early adoption is permitted. We are currently assessing the impact the new standard will have on our financial statements.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses. ASU 2016-13 requires that financial assets measured at amortized cost should be presented at the net amount expected to be collected through an allowance for credit losses that is deducted from the amortized cost basis. The allowance for credit losses should reflect management’s current estimate of credit losses that are expected to occur over the remaining life of a financial asset. The standard is effective for us in the first quarter of fiscal year 2021 and earlier adoption is permitted beginning in the first quarter of fiscal year 2020. We are currently assessing the impact the new standard will have on our financial statements.
In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows - Restricted Cash. ASU 2016-18 requires that the statement of cash flows provides the change in the total of cash, cash equivalents, and restricted cash or restricted cash equivalents. This will result in us no longer showing the changes in restricted cash balances as a component of cash flows from financing activities but instead include the balances of both current and long-term restricted cash with cash and cash equivalents in total cash, cash equivalents and restricted cash for the beginning and end of the periods presented. The standard is effective for us in the first quarter of fiscal year 2019, although early adoption is permitted. We are currently assessing when we expect to adopt the standard.
2.     Charges and Credits
Charges and credits consisted of the following:
 
Three Months Ended 
 October 31,
 
Nine Months Ended 
 October 31,
(in thousands)
2016
 
2015
 
2016
 
2015
Store and facility closure costs
$
954

 
$
212

 
$
954

 
$
637

Impairments from disposals
595

 

 
1,980

 

Legal and professional fees related to the exploration of strategic alternatives and securities-related litigation
158

 
999

 
747

 
2,206

Employee severance
280

 

 
1,493

 

Executive management transition costs

 
1,329

 
234

 
1,329

 
$
1,987

 
$
2,540

 
$
5,408

 
$
4,172

During the nine months ended October 31, 2016, we had costs associated with facility closures, impairments from disposals, legal and professional fees related to our securities-related litigation, charges for severance and transition costs due to changes in the executive management team. The impairments from disposals included the write-off of leasehold improvements for two stores we relocated prior to the end of their useful lives and incurred costs for terminated store projects prior to starting construction. During the nine months ended October 31, 2015, we had costs associated with charges related to the closing of under-performing retail locations, legal and professional fees related to our exploration of strategic alternatives and our securities-related litigation, and transition costs due to changes in the executive management team.
3.     Finance Charges and Other Revenues 
Finance charges and other revenues consisted of the following:
 
Three Months Ended 
 October 31,
 
Nine Months Ended 
 October 31,
(in thousands)
2016
 
2015
 
2016
 
2015
Interest income and fees
$
58,404

 
$
58,961

 
$
173,527

 
$
171,763

Insurance commissions
9,999

 
13,222

 
30,674

 
37,313

Other revenues
337

 
416

 
1,268

 
1,224

 
$
68,740

 
$
72,599

 
$
205,469

 
$
210,300

Interest income and fees and insurance commissions are derived from the credit segment operations, whereas other revenues are derived from the retail segment operations. During the nine months ended October 31, 2016, we decreased interest income and fees by $8.2 million as a result of changes in estimates to our allowance for no-interest option credit programs and deferred interest

8

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


as described in Note 1, Summary of Significant Accounting Policies. For the three months ended October 31, 2016 and 2015, interest income and fees was reduced by provisions for uncollectible interest of $11.0 million and $10.0 million, respectively. For the nine months ended October 31, 2016 and 2015, interest income and fees was reduced by provisions for uncollectible interest of $31.2 million and $27.4 million, respectively. For the three months ended October 31, 2016 and 2015, the amount included in interest income and fees related to TDR accounts was $4.4 million and $3.5 million, respectively. For the nine months ended October 31, 2016 and 2015, the amount included in interest income and fees related to TDR accounts was $12.7 million and $10.0 million, respectively.
4.    Customer Accounts Receivable
Customer accounts receivable consisted of the following:
 
Total Outstanding Balance
 
Customer Accounts Receivable
 
60 Days Past Due (1)
 
Re-aged (1)
(in thousands)
October 31,
2016
 
January 31,
2016
 
October 31,
2016
 
January 31,
2016
 
October 31,
2016
 
January 31,
2016
Customer accounts receivable
$
1,399,769

 
$
1,470,205

 
$
129,660

 
$
127,400

 
$
111,581

 
$
112,221

Restructured accounts
134,446

 
117,651

 
38,984

 
30,323

 
134,446

 
117,651

Total customer portfolio balance
1,534,215

 
1,587,856

 
$
168,644

 
$
157,723

 
$
246,027

 
$
229,872

Allowance for uncollectible accounts
(204,330
)
 
(190,990
)
 
 
 
 
 
 
 
 
Allowances for no-interest option credit programs
(21,412
)
 
(21,290
)
 
 
 
 
 
 
 
 
Deferred fees and origination costs, net
(1,303
)
 

 
 
 
 
 
 
 
 
Total customer accounts receivable, net
1,307,170

 
1,375,576

 
 
 
 
 
 
 
 
Short-term portion of customer accounts receivable, net
(688,011
)
 
(743,931
)
 
 
 
 
 
 
 
 
Long-term portion of customer accounts receivable, net
$
619,159

 
$
631,645

 
 
 
 
 
 
 
 
Securitized receivables held by the VIEs
$
1,321,413

 
$
870,684

 
$
168,439

 
$
135,800

 
$
242,517

 
$
204,594

Receivables not held by the VIEs
212,802

 
717,172

 
205

 
21,923

 
3,510

 
25,278

Total customer portfolio balance
$
1,534,215

 
$
1,587,856

 
$
168,644

 
$
157,723

 
$
246,027

 
$
229,872

(1)
Due to the fact that an account can become past due after having been re-aged, accounts could be represented as both past due and re-aged. As of October 31, 2016 and January 31, 2016, the amounts included within both past due and re-aged were $66.6 million and $55.2 million, respectively. As of October 31, 2016 and January 31, 2016, the total customer portfolio balance past due one day or greater was $397.9 million and $387.3 million, respectively. These amounts include the 60 days past due balances shown.
The following presents the activity in the allowance for doubtful accounts and uncollectible interest for customer receivables: 
 
Nine Months Ended October 31, 2016
 
Nine Months Ended October 31, 2015
(in thousands)
Customer
Accounts
Receivable
 
 
Restructured
Accounts
 
 
 
Total
 
Customer
Accounts
Receivable
 
 
Restructured
Accounts
 
 
 
Total
Allowance at beginning of period
$
149,226

 
$
41,764

 
$
190,990

 
$
118,786

 
$
28,196

 
$
146,982

Provision (1)
156,063

 
44,286

 
200,349

 
146,587

 
37,710

 
184,297

Principal charge-offs (2)
(132,028
)
 
(31,802
)
 
(163,830
)
 
(107,590
)
 
(22,779
)
 
(130,369
)
Interest charge-offs
(22,400
)
 
(5,405
)
 
(27,805
)
 
(19,613
)
 
(4,153
)
 
(23,766
)
Recoveries (2)
3,727

 
899

 
4,626

 
2,797

 
592

 
3,389

Allowance at end of period
$
154,588

 
$
49,742

 
$
204,330

 
$
140,967

 
$
39,566

 
$
180,533

Average total customer portfolio balance
$
1,422,473

 
$
126,493

 
$
1,548,966

 
$
1,325,324

 
$
98,993

 
$
1,424,317


9

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


(1)
Includes provision for uncollectible interest, which is included in finance charges and other revenues.
(2)
Charge-offs include the principal amount of losses (excluding accrued and unpaid interest). Recoveries include principal collections of previously charged-off balances. Net charge-offs are calculated as the net of principal charge-offs and recoveries. During the nine months ended October 31, 2016, we increased provision for bad debts by $5.0 million as a result of changes in estimates as it relates to sales tax recovery on previously charged-off accounts as described in Note 1, Summary of Significant Accounting Policies.
5.     Accrual for Property Closures 
We have closed or relocated certain store and facility locations that had noncancelable lease agreements, resulting in the accrual of the present value of the remaining lease payments and estimated related occupancy obligations, net of estimated sublease income. Adjustments to these projections for changes in estimated marketing times and sublease rates, as well as other revisions, are made to the obligation as further information related to the actual terms and costs become available.
The following table presents detail of the activity in the accrual for property closures:
 
Nine Months Ended 
 October 31,
(in thousands)
2016
 
2015
Balance at beginning of period
$
1,866

 
$
2,556

Accrual for additional closures
954

 
318

Adjustments
(74
)
 
(21
)
Cash payments, net of sublease income
(767
)
 
(876
)
Balance at end of period
1,979

 
1,977

Current portion, included in accrued expenses
(923
)
 
(473
)
Long-term portion, included in other long-term liabilities
$
1,056

 
$
1,504

6.     Debt and Capital Lease Obligations 
Debt and capital lease obligations consisted of the following:
(in thousands)
October 31,
2016
 
January 31,
2016
Revolving credit facility
$

 
$
329,207

Senior Notes
227,000

 
227,000

2015 VIE Asset-backed Class A notes
92,744

 
551,383

2015 VIE Asset-backed Class B notes
165,900

 
165,900

2016-A VIE Asset-backed Class A notes
145,404

 

2016-A VIE Asset-backed Class B notes
70,510

 

2016-A VIE Asset-backed Class C notes
70,510

 

2016-B VIE Asset-backed Class A notes
391,840

 

2016-B VIE Asset-backed Class B notes
111,960

 

Capital lease obligations
1,878

 
2,488

Total debt and capital lease obligations
1,277,746

 
1,275,978

Less:
 
 
 
Unamortized net discounts and debt issuance costs
(17,985
)
 
(26,300
)
Current maturities of capital lease obligations
(752
)
 
(799
)
Long-term debt and capital lease obligations
$
1,259,009

 
$
1,248,879

Senior Notes. On July 1, 2014, we issued $250.0 million of unsecured Senior Notes due July 2022 bearing interest at 7.250%, pursuant to an indenture dated July 1, 2014 (the "Indenture") among Conn's, Inc., its subsidiary guarantors (the "Guarantors") and U.S. Bank National Association, as trustee. During the year ended January 31, 2016, we repurchased $23.0 million of face value of the Senior Notes for $22.9 million. The effective interest rate of the Senior Notes after giving effect to offering fees and debt discount is 7.8%.

10

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


The Indenture, as amended, restricts the Company's and certain of its subsidiaries' ability to: (i) incur indebtedness; (ii) pay dividends or make other distributions in respect of, or repurchase or redeem, our capital stock ("restricted payments"); (iii) prepay, redeem or repurchase debt that is junior in right of payment to the notes; (iv) make loans and certain investments; (v) sell assets; (vi) incur liens; (vii) enter into transactions with affiliates; and (viii) consolidate, merge or sell all or substantially all of our assets. These covenants are subject to a number of important exceptions and qualifications. Specifically, limitations for restricted payments are triggered only if one or more of the following occurred: (1) a default were to exist under the indenture, (2) if we could not satisfy a debt incurrence test, and (3) if the aggregate amount of restricted payments would exceed an amount tied to the consolidated net income. These limitations, however, are subject to two exceptions: (1) an exception that permits the payment of up to $375.0 million in restricted payments, and (2) an exception that permits restricted payments regardless of dollar amount so long as, after giving pro forma effect to the dividends and other restricted payments, we would have a leverage ratio, as defined under the Indenture, less than or equal to 2.50 to 1.00. Thus, as of October 31, 2016, $176.0 million would have been free from the dividend restriction. However, as a result of the revolving credit facility dividend restrictions, which are further described below, no amount was available for dividends. During any time when the Senior Notes are rated investment grade by either of Moody's Investors Service, Inc. or Standard & Poor's Ratings Services and no default (as defined in the Indenture) has occurred and is continuing, many of such covenants will be suspended and we will cease to be subject to such covenants during such period.
Events of default under the Indenture include customary events, such as a cross-acceleration provision in the event that we default in the payment of other debt due at maturity or upon acceleration for default in an amount exceeding $25.0 million, as well as in the event a judgment is entered against us in excess of $25.0 million that is not discharged, bonded or insured.
Asset-backed Notes. In September 2015, the 2015 VIE issued asset-backed notes secured by the transferred customer accounts receivables and restricted cash held by the 2015 VIE. The asset-backed notes consist of the following securities:
Asset-backed Fixed Rate Notes, Class A, Series 2015-A ("2015-A Class A Notes") in aggregate principal amount of $952.1 million that bear interest at a fixed annual rate of 4.565% and mature on September 15, 2020. The effective interest rate of the 2015-A Class A Notes after giving effect to transaction costs is 6.9%.
Asset-backed Fixed Rate Notes, Class B, Series 2015-A ("2015-A Class B Notes") in aggregate principal amount of $165.9 million that bear interest at a fixed annual rate of 8.500% and mature on September 15, 2020. The effective interest rate of the 2015-A Class B Notes after giving effect to transaction costs is 12.6%.
The 2015-A asset-backed notes were offered and sold to qualified institutional buyers pursuant to the exemptions from registration provided by Rule 144A under the Securities Act. If an event of default were to occur under the indenture that governs the notes, the payment of the outstanding amounts would be accelerated, in which event the cash proceeds of the receivables that otherwise might be released to us as the holder of the residual equity would instead be directed entirely toward repayment of the 2015-A asset-backed notes. The holders of the notes have no recourse to assets outside of the 2015 VIE. Events of default include, but are not limited to, failure to make required payments on the notes or specified bankruptcy-related events.
In March 2016, the 2016-A VIE issued two classes of asset-backed notes and, in October 2016, issued a third class of asset-backed notes. All three classes of asset-backed notes are secured by the transferred customer accounts receivables and restricted cash held by the 2016-A VIE. The asset-backed notes consist of the following securities:
Asset-backed Fixed Rate Notes, Class A, Series 2016-A ("2016-A Class A Notes") in aggregate principal amount of $423.0 million that bear interest at a fixed annual rate of 4.68% and mature on April 16, 2018. The effective interest rate of the 2016-A Class A Notes after giving effect to transaction costs is 6.8%.
Asset-backed Fixed Rate Notes, Class B, Series 2016-A ("2016-A Class B Notes") in aggregate principal amount of $70.5 million that bear interest at a fixed annual rate of 8.96% and mature on August 15, 2018. The effective interest rate of the 2016-A Class B Notes after giving effect to transaction costs is 9.7%.
Asset-backed Fixed Rate Notes, Class C, Series 2016-A ("2016-A Class C Notes") in aggregate principal amount of $70.5 million that bear interest at a fixed annual rate of 12.00% and mature on August 15, 2018. The effective interest rate of the 2016-A Class C Notes after giving effect to transaction costs is 11.1%.
The 2016-A asset-backed notes were offered and sold to qualified institutional buyers pursuant to the exemptions from registration provided by Rule 144A under the Securities Act. If an event of default were to occur under the indenture that governs the notes, the payment of the outstanding amounts would be accelerated, in which event the cash proceeds of the receivables that otherwise might be released to us as the holder of the residual equity would instead be directed entirely toward repayment of the 2016-A asset-backed notes. The holders of the notes have no recourse to assets outside of the 2016-A VIE. Events of default include, but are not limited to, failure to make required payments on the notes or specified bankruptcy-related events.
In October 2016, the 2016-B VIE issued asset-backed notes secured by the transferred customer accounts receivables and restricted cash held by the 2016-B VIE. The asset-backed notes consist of the following securities:

11

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Asset-backed Fixed Rate Notes, Class A, Series 2016-B ("2016-B Class A Notes") in aggregate principal amount of $391.8 million that bear interest at a fixed annual rate of 3.73% and mature on October 15, 2018. The effective interest rate of the 2016-B Class A Notes after giving effect to offering fees is 5.9%.
Asset-backed Fixed Rate Notes, Class B, Series 2016-B ("2016-B Class B Notes") in aggregate principal amount of $112.0 million that bear interest at a fixed annual rate of 7.34% and mature on March 15, 2019. The effective interest rate of the 2016-B Class B Notes after giving effect to offering fees is 8.1%.
The 2016-B Class A Notes and 2016-B Class B Notes were offered and sold to qualified institutional buyers pursuant to the exemptions from registration provided by Rule 144A under the Securities Act. If an event of default were to occur under the indenture that governs the notes, the payment of the outstanding amounts would be accelerated, in which event the cash proceeds of the receivables that otherwise might be released to us as the holder of a third class of asset-backed notes issued by the 2016-B VIE ("2016-B Class C Notes") and the residual equity would instead be directed entirely toward repayment of the 2016-B Class A Notes and 2016-B Class B Notes. The holders of the notes have no recourse to assets outside of the 2016-B VIE. Events of default include, but are not limited to, failure to make required payments on the notes or specified bankruptcy-related events.
Revolving Credit Facility. On October 30, 2015, Conn's, Inc. and certain of its subsidiaries (the "Borrowers") entered into the Third Amended and Restated Loan and Security Agreement with a syndicate of banks that provides for an $810.0 million asset-based revolving credit facility (the "revolving credit facility") under which availability is subject to a borrowing base. The revolving credit facility matures on October 30, 2018.
On February 16, 2016, the Borrowers entered into a first amendment to the revolving credit facility, which resulted in various changes, including:
Excluding non-cash deferred amortization of debt related transaction costs from interest coverage ratio; and
Extending from 6 months to 18 months the time frame subsequent to the closing of a securitization transaction in which the Cash Recovery Percent covenant will be determined.
On May 18, 2016, the Borrowers entered into a second amendment to the revolving credit facility, which resulted in various changes, including:
Amending the minimum interest coverage ratio covenant, so long as the borrowing base reduction discussed below is in effect, to:
Reduce the minimum interest coverage ratio covenant to 1.0x for the second quarter of fiscal 2017 through the first quarter of fiscal 2018; and
Reduce the minimum interest coverage ratio covenant to 1.25x for the second quarter of fiscal 2018 through the third quarter of fiscal 2019.
Modifying the conditions for repurchases of the Company's common stock, including the addition of a requirement to achieve a minimum interest coverage ratio of 2.5x for two consecutive quarters; and
Reducing the borrowing base by $15.0 million beginning on May 31, 2016, reducing the borrowing base by $10.0 million for any month beginning with July 31, 2017 so long as the interest coverage ratio is at least 1.25x, and no borrowing base reduction at any time the interest coverage ratio is at least 2.0x for two consecutive quarters.
As of October 31, 2016, loans under the revolving credit facility bear interest, at our option, at a rate of LIBOR plus a margin ranging from 2.5% to 3.0% per annum (depending on quarterly average net availability under the borrowing base) or the alternate base rate plus a margin ranging from 1.5% to 2.0% per annum (depending on quarterly average net availability under the borrowing base). Pursuant to the second amendment, the margins increased by 25 basis points subsequent to October 31, 2016. The alternate base rate is the greater of the prime rate announced by Bank of America, N.A., the federal funds rate plus 0.5%, or LIBOR for a 30-day interest period plus 1.0%. The effective interest rate on borrowings outstanding under the revolving credit facility after giving effect to offering fees is 4.6%. We also pay an unused fee on the portion of the commitments that are available for future borrowings or letters of credit at a rate ranging from 0.25% to 0.75% per annum, depending on the outstanding balance and letters of credit of the revolving credit facility.
The revolving credit facility provides funding based on a borrowing base calculation that includes customer accounts receivable and inventory, and provides for a $40.0 million sub-facility for letters of credit to support obligations incurred in the ordinary course of business. The obligations under the revolving credit facility are secured by substantially all assets of the Company, excluding the assets of the VIEs. As of October 31, 2016, we had immediately available borrowing capacity of $146.0 million under our revolving credit facility, net of standby letters of credit issued of $5.3 million. We also had $658.7 million that may become available under our revolving credit facility if we grow the balance of eligible customer receivables and our total eligible inventory balances.

12

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


The revolving credit facility places restrictions on our ability to incur additional indebtedness, grant liens on assets, make distributions on equity interests, dispose of assets, make loans, pay other indebtedness, engage in mergers, and other matters. The revolving credit facility restricts our ability to make dividends and distributions unless no event of default exists and a liquidity test is satisfied. Subsidiaries of the Company may make dividends and distributions to the Company and other obligors under the revolving credit facility without restriction. As of October 31, 2016, under the revolving credit facility, as amended, no amount was available for dividends. The revolving credit facility contains customary default provisions, which, if triggered, could result in acceleration of all amounts outstanding under the revolving credit facility.
Debt covenants. We were in compliance with our debt covenants, as amended, at October 31, 2016. A summary of the significant financial covenants that govern our revolving credit facility, as amended, compared to our actual compliance status at October 31, 2016 is presented below: 
 
Actual
 
Required
Minimum/
Maximum
Interest Coverage Ratio must equal or exceed minimum
1.03:1.00
 
1.00:1.00
Leverage Ratio must not exceed maximum
2.59:1.00
 
4.00:1.00
ABS Excluded Leverage Ratio must not exceed maximum
0.88:1.00
 
2.00:1.00
Cash Recovery Percent must exceed stated amount
4.76%
 
4.50%
Capital Expenditures, net, must not exceed maximum
$25.2 million
 
$75.0 million
All capitalized terms in the above table are defined by the revolving credit facility, as amended, and may or may not agree directly with the financial statement captions in this document. Compliance with the covenants is calculated quarterly, except for the Cash Recovery Percent, which is calculated monthly on a trailing three-month basis, and Capital Expenditures, which is calculated for a period of four consecutive fiscal quarters, as of the end of each fiscal quarter. The revolving credit facility provides for 18 months subsequent to the closing of a securitization transaction in which the Cash Recovery Percent will be determined based on the portfolio of contracts subject to the (i) securitization facilities; and (ii) a lien under the revolving credit facility.
7.     Contingencies
Securities Class Action Litigation. We and one of our current and one of our former executive officers are defendants in a consolidated securities class action lawsuit pending in the United States District Court for the Southern District of Texas (the "Court"), In re Conn's Inc. Securities Litigation, Cause No. 14-CV-00548 (the "Consolidated Securities Action"). The Consolidated Securities Action started as three separate purported securities class action lawsuits filed between March 5, 2014 and May 5, 2014, which were combined into the Consolidated Securities Action on June 3, 2014. The plaintiffs in the Consolidated Securities Action allege that the defendants made false and misleading statements and/or failed to disclose material adverse facts about our business, operations, and prospects. They allege violations of sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder and seek to certify a class of all persons and entities that purchased or otherwise acquired Conn's common stock and/or call options, or sold/wrote Conn's put options between April 3, 2013 and December 9, 2014. The complaint does not specify the amount of damages sought.
On June 30, 2015, the Court held a hearing on the defendants' motion to dismiss plaintiffs' complaint. At the hearing, the Court dismissed Brian Taylor, a former executive officer, and certain other aspects of the complaint. The Court ordered the plaintiffs to further amend their complaint in accordance with its ruling, and the plaintiffs filed their Fourth Consolidated Amended Complaint on July 21, 2015. The remaining defendants filed a motion to dismiss on August 28, 2015. The briefing on the defendants' motion to dismiss was fully briefed and the Court held a hearing on defendants' motion over the course of two days, on March 25 and 29, 2016. On May 6, 2016, the Court granted in part and denied in part defendants' motion to dismiss the plaintiffs' complaint. Thereafter, the defendants filed a motion requesting the Court's decision be certified for interlocutory appeal to the United States Fifth Circuit Court of Appeals, which the Court denied on June 13, 2016. On June 24, 2016, the defendant’s filed their answer to the Consolidated Securities Action, denying liability and raising numerous affirmative defenses to the claims asserted against them. 
The parties have negotiated a scheduling order, which was entered by the Court on September 13, 2016, and discovery is proceeding. The plaintiffs filed their motion for certification on November 10, 2016. The defendants are scheduled to file their opposition motion on January 6, 2017.
The defendants intend to vigorously defend against all of these claims. It is not possible at this time to predict the timing or outcome of any of this litigation, and we cannot reasonably estimate the possible loss or range of possible loss from these claims.
Derivative Litigation. On December 1, 2014, an alleged shareholder, purportedly on behalf of the Company, filed a derivative shareholder lawsuit against us and certain of our current and former directors and executive officers in the Court, captioned as Robert Hack, derivatively on behalf of Conn's, Inc., v. Theodore M. Wright (former executive officer and former director), Bob

13

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


L. Martin, Jon E.M. Jacoby (former director), Kelly M. Malson, Douglas H. Martin, David Schofman, Scott L. Thompson (former director), Brian Taylor (former executive officer) and Michael J. Poppe and Conn's, Inc., Case No. 4:14-cv-03442 (the "Original Derivative Action"). The complaint asserts claims for breach of fiduciary duty, unjust enrichment, gross mismanagement, and insider trading based on substantially similar factual allegations as those asserted in the Consolidated Securities Action. The plaintiff seeks unspecified damages against these persons and does not request any damages from us. Setting forth substantially similar claims against the same defendants, on February 25, 2015, an additional federal derivative action, captioned 95250 Canada LTEE, derivatively on Behalf of Conn's, Inc. v. Wright et al., Cause No. 4:15-cv-00521, was filed in the Court, which has been consolidated with the Original Derivative Action.
The Court previously approved a stipulation among the parties to stay the action pending resolution of the motion to dismiss in the Consolidated Securities Action. The parties are currently discussing next steps in the litigation process.
Another derivative action was filed on January 27, 2015, captioned as Richard A. Dohn v. Wright, et al., Cause No. 2015-04405, filed in the 281st Judicial District Court, Harris County, Texas. This action makes substantially similar allegations to the Original Derivative Action against the same defendants. On July 28, 2016, the court entered an order extending the stay for an additional 90 days (until October 26, 2016). On May 19, 2016, an alleged shareholder, purportedly on behalf of the Company, filed a lawsuit against us and certain of our current and former directors and executive officers in the 55th Judicial District Court, Harris County, Texas, captioned as Robert J. Casey II, derivatively on behalf of Conn's, Inc., v. Theodore M. Wright (former executive officer and former director), Michael J. Poppe, Brian Taylor (former executive officer), Bob L. Martin, Jon E.M. Jacoby (former director), Kelly M. Malson, Douglas H. Martin, David Schofman, Scott L. Thompson (former director) and William E. Saunders Jr., and Conn's, Inc., Cause No. 2016-33135. The complaint asserts claims for breach of fiduciary duties and unjust enrichment based on substantially similar factual allegations as those asserted in the Original Derivative Action. The complaint does not specify the amount of damages sought.
None of the plaintiffs in any of the derivative actions made a demand on our Board of Directors prior to filing their respective lawsuits. The defendants in the derivative actions intend to vigorously defend against these claims. We cannot reasonably estimate the possible loss or range of possible loss from these claims.
Regulatory Matters. We are continuing to cooperate with the SEC's investigation, which began on or around November 2014, which generally relates to our underwriting policies and bad debt provisions.  The investigation is a non-public, fact-finding inquiry, and the SEC has stated that the investigation does not mean that any violations of law have occurred.
In addition, we are involved in other routine litigation and claims incidental to our business from time to time which, individually or in the aggregate, are not expected to have a material adverse effect on our financial position, results of operations or cash flows. As required, we accrue estimates of the probable costs for the resolution of these matters. These estimates have been developed in consultation with counsel and are based upon an analysis of potential results, assuming a combination of litigation and settlement strategies. However, the results of these proceedings cannot be predicted with certainty and changes in facts and circumstances could impact our estimate of reserves for litigation.
8.     Variable Interest Entities
The VIEs have issued asset-backed notes secured by the transferred customer accounts receivables and restricted cash held by the VIEs. Under the terms of the securitization transactions, the customer receivable principal and interest payment cash flows will go first to the servicer and the holders of issued notes, and then to us as the holder of the 2016-B Class C Notes and residual equities. We retain the servicing of the securitized portfolios and are receiving a monthly fee of 4.75% (annualized) based on the outstanding balance of the securitized receivables. In addition, we, rather than the VIEs, will retain all credit insurance income together with certain recoveries related to credit insurance and repair service agreements on charge-offs of the securitized receivables, which will continue to be reflected as a reduction of net charge-offs on a consolidated basis for as long as we consolidate the VIEs.

14

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


The following presents the assets and liabilities held by the VIEs and that are included in our consolidated balance sheet (for legal purposes, the assets and liabilities of the VIEs will remain distinct from Conn's, Inc.): 
(in thousands)
October 31,
2016
 
January 31,
2016
Assets:
 
 
 
Restricted cash
$
166,476

 
$
78,576

Due from Conn's, Inc.
3,076

 
3,405

Customer accounts receivable:
 
 
 
Customer accounts receivable
1,190,422

 
763,278

Restructured accounts
130,991

 
107,406

Allowance for uncollectible accounts
(180,652
)
 
(136,325
)
Allowances for no-interest option credit programs
(20,521
)
 
(12,955
)
Total customer accounts receivable, net
1,120,240

 
721,404

Total assets
$
1,289,792

 
$
803,385

Liabilities:
 
 
 
Accrued interest
$
3,185

 
$
1,636

Due to Conn's, Inc.
1,674

 

Deferred interest income
10,472

 
3,042

Long-term debt:
 
 
 
2015-A Class A Notes
92,744

 
551,383

2015-A Class B Notes
165,900

 
165,900

2016-A Class A Notes
145,404

 

2016-A Class B Notes
70,510

 

2016-A Class C Notes
70,510

 

2016-B Class A Notes
391,840

 

2016-B Class B Notes
111,960

 

 
1,048,868

 
717,283

Less unamortized net discounts and debt issuance costs
(10,450
)
 
(17,768
)
Total long-term debt
1,038,418

 
699,515

Total liabilities
$
1,053,749

 
$
704,193

The assets of the VIEs serve as collateral for the obligations of the VIEs. The holders of the asset-backed notes have no recourse to assets outside of the VIEs.

15

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


9.     Segment Reporting 
Financial information by segment is presented in the following tables: 
 
Three Months Ended October 31, 2016
 
Three Months Ended October 31, 2015
(in thousands)
Retail
 
Credit
 
Total
 
Retail
 
Credit
 
Total
Revenues:
 
 
 
 
 
 
 
 
 
 
 
Furniture and mattress
$
98,898

 
$

 
$
98,898

 
$
105,735

 
$

 
$
105,735

Home appliance
85,785

 

 
85,785

 
86,434

 

 
86,434

Consumer electronic
65,670

 

 
65,670

 
70,263

 

 
70,263

Home office
22,747

 

 
22,747

 
26,108

 

 
26,108

Other
4,956

 

 
4,956

 
4,582

 

 
4,582

Product sales
278,056

 

 
278,056

 
293,122

 

 
293,122

Repair service agreement commissions
26,354

 

 
26,354

 
26,038

 

 
26,038

Service revenues
3,623

 

 
3,623

 
3,474

 

 
3,474

Total net sales
308,033

 

 
308,033

 
322,634

 

 
322,634

Finance charges and other revenues
337

 
68,403

 
68,740

 
416

 
72,183

 
72,599

Total revenues
308,370

 
68,403

 
376,773

 
323,050

 
72,183

 
395,233

Costs and expenses:
 

 
 

 
 

 
 

 
 

 
 

Cost of goods sold
192,374

 

 
192,374

 
202,901

 

 
202,901

Selling, general and administrative expenses (1)
79,777

 
34,680

 
114,457

 
81,484

 
32,184

 
113,668

Provision for bad debts
286

 
51,278

 
51,564

 
120

 
58,088

 
58,208

Charges and credits
1,987

 

 
1,987

 
2,540

 

 
2,540

Total costs and expense
274,424

 
85,958

 
360,382

 
287,045

 
90,272

 
377,317

Operating income (loss)
33,946

 
(17,555
)
 
16,391

 
36,005

 
(18,089
)
 
17,916

Interest expense

 
23,470

 
23,470

 

 
19,702

 
19,702

Loss on extinguishment of debt

 

 

 

 
1,367

 
1,367

Income (loss) before income taxes
$
33,946

 
$
(41,025
)
 
$
(7,079
)
 
$
36,005

 
$
(39,158
)
 
$
(3,153
)
 
 
 
 
 
 
 
 
 
 
 
 

16

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


 
Nine Months Ended October 31, 2016
 
Nine Months Ended October 31, 2015
(in thousands)
Retail
 
Credit
 
Total
 
Retail
 
Credit
 
Total
Revenues:
 
 
 
 
 
 
 
 
 
 
 
Furniture and mattress
$
309,766

 
$

 
$
309,766

 
$
294,119

 
$

 
$
294,119

Home appliance
275,048

 

 
275,048

 
267,796

 

 
267,796

Consumer electronic
197,270

 

 
197,270

 
211,375

 

 
211,375

Home office
66,921

 

 
66,921

 
71,033

 

 
71,033

Other
15,264

 

 
15,264

 
14,164

 

 
14,164

Product sales
864,269

 

 
864,269

 
858,487

 

 
858,487

Repair service agreement commissions
82,849

 

 
82,849

 
77,590

 

 
77,590

Service revenues
11,456

 

 
11,456

 
9,982

 

 
9,982

Total net sales
958,574

 

 
958,574

 
946,059

 

 
946,059

Finance charges and other revenues
1,268

 
204,201

 
205,469

 
1,224

 
209,076

 
210,300

Total revenues
959,842

 
204,201

 
1,164,043

 
947,283

 
209,076

 
1,156,359

Costs and expenses:
 

 
 

 
 

 
 

 
 

 
 

Cost of goods sold
605,709

 

 
605,709

 
592,495

 

 
592,495

Selling, general and administrative expenses (1)
244,598

 
102,952

 
347,550

 
226,394

 
87,781

 
314,175

Provision for bad debts
811

 
169,167

 
169,978

 
513

 
156,884

 
157,397

Charges and credits
5,408

 

 
5,408

 
4,172

 

 
4,172

Total costs and expense
856,526

 
272,119

 
1,128,645

 
823,574

 
244,665

 
1,068,239

Operating income (loss)
103,316

 
(67,918
)
 
35,398

 
123,709

 
(35,589
)
 
88,120

Interest expense

 
73,504

 
73,504

 

 
39,185

 
39,185

Loss on extinguishment of debt

 

 

 

 
1,367

 
1,367

Income (loss) before income taxes
$
103,316

 
$
(141,422
)
 
$
(38,106
)
 
$
123,709

 
$
(76,141
)
 
$
47,568

(1)
Selling, general and administrative expenses include the direct expenses of the retail and credit operations, allocated overhead expenses and a charge to the credit segment to reimburse the retail segment for expenses it incurs related to occupancy, personnel, advertising and other direct costs of the retail segment that benefit the credit operations by sourcing credit customers and collecting payments. The reimbursement received by the retail segment from the credit segment is estimated using an annual rate of 2.5% times the average portfolio balance for each applicable period. For the three months ended October 31, 2016 and 2015, the amount of overhead allocated to each segment was $6.7 million and $3.7 million, respectively. For the nine months ended October 31, 2016 and 2015, the amount of overhead allocated to each segment was $18.9 million and $10.6 million, respectively. For the three months ended October 31, 2016 and 2015, the amount of reimbursements made to the retail segment by the credit segment were $9.6 million and $9.3 million, respectively. For the nine months ended October 31, 2016 and 2015, the amount of reimbursements made to the retail segment by the credit segment were $29.0 million and $26.7 million, respectively.

17

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


10.
Guarantor Financial Information 
Conn's, Inc. is a holding company with no independent assets or operations other than its investments in its subsidiaries. The Senior Notes, which were issued by Conn's, Inc., are fully and unconditionally guaranteed on a joint and several senior unsecured basis by the Guarantors. The direct or indirect subsidiaries of Conn's, Inc. that are not Guarantors are the VIE and minor subsidiaries. Prior to transferring the securitized customer receivables to the 2015 VIE in September 2015, the only direct or indirect subsidiaries of Conn's, Inc. that were not Guarantors were minor subsidiaries. There are no restrictions under the Indenture on the ability of any of the Guarantors to transfer funds to Conn's, Inc. in the form of loans, advances or dividends, except as provided by applicable law. The following financial information presents the condensed consolidated balance sheet, statement of operations, and statement of cash flows for Conn's, Inc. (the issuer of the Senior Notes), the Guarantor Subsidiaries, and the Non-guarantor Subsidiaries, together with certain eliminations.
Condensed Consolidated Balance Sheet as of October 31, 2016.
(in thousands)
Conn's, Inc.
 
Guarantor Subsidiaries
 
Non-guarantor Subsidiaries
 
Eliminations
 
Consolidated
Assets
 
 
 
 
 
 
 
 
 
Current assets:
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
$

 
$
59,065

 
$

 
$

 
$
59,065

Restricted cash

 

 
130,979

 

 
130,979

Customer accounts receivable, net of allowance

 
67,313

 
620,698

 

 
688,011

Other accounts receivable

 
73,206

 

 

 
73,206

Inventories

 
204,537

 

 

 
204,537

Other current assets
9,930

 
13,810

 
3,076

 
(3,076
)
 
23,740

Total current assets
9,930

 
417,931

 
754,753

 
(3,076
)
 
1,179,538

Investment in and advances to subsidiaries
664,118

 
234,641

 

 
(898,759
)
 

Long-term portion of customer accounts receivable, net of allowance

 
119,617

 
499,542

 

 
619,159

Long-term restricted cash

 

 
35,497

 

 
35,497

Property and equipment, net

 
171,753

 

 

 
171,753

Deferred income taxes
66,910

 

 

 

 
66,910

Other assets

 
7,777

 

 

 
7,777

Total assets
$
740,958

 
$
951,719

 
$
1,289,792

 
$
(901,835
)
 
$
2,080,634

Liabilities and Stockholders' Equity
 
 
 
 
 
 
 
 
 
Current liabilities:
 
 
 
 
 
 
 
 
 
Current maturities of capital lease obligations
$

 
$
752

 
$

 
$

 
$
752

Accounts payable

 
116,469

 

 

 
116,469

Accrued expenses
4,800

 
44,083

 
4,859

 
(1,674
)
 
52,068

Other current liabilities

 
18,131

 
5,664

 

 
23,795

Total current liabilities
4,800

 
179,435

 
10,523

 
(1,674
)
 
193,084

Deferred rent

 
89,294

 

 

 
89,294

Long-term debt and capital lease obligations
219,465

 
1,126

 
1,038,418

 

 
1,259,009

Other long-term liabilities

 
17,746

 
4,808

 

 
22,554

Total liabilities
224,265

 
287,601

 
1,053,749

 
(1,674
)
 
1,563,941

Total stockholders' equity
516,693

 
664,118

 
236,043

 
(900,161
)
 
516,693

Total liabilities and stockholders' equity
$
740,958

 
$
951,719

 
$
1,289,792

 
$
(901,835
)
 
$
2,080,634


18

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Condensed Consolidated Balance Sheet as of January 31, 2016.
(in thousands)
Conn's, Inc.
 
Guarantor Subsidiaries
 
Non-guarantor Subsidiaries
 
Eliminations
 
Consolidated
Assets
 
 
 
 
 
 
 
 
 
Current assets:
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
$

 
$
12,254

 
$

 
$

 
$
12,254

Restricted cash

 

 
64,151

 

 
64,151

Customer accounts receivable, net of allowance

 
353,781

 
390,150

 

 
743,931

Other accounts receivable

 
95,404

 

 

 
95,404

Inventories

 
201,969

 

 

 
201,969

Other current assets
10,774

 
20,092

 
3,405

 
(3,405
)
 
30,866

Total current assets
10,774

 
683,500

 
457,706

 
(3,405
)
 
1,148,575

Investment in and advances to subsidiaries
676,492

 
95,787

 

 
(772,279
)
 

Long-term portion of customer accounts receivable, net of allowance

 
300,391

 
331,254

 

 
631,645

Long-term restricted cash

 

 
14,425

 

 
14,425

Property and equipment, net

 
151,483

 

 

 
151,483

Deferred income taxes
70,219

 

 

 

 
70,219

Other assets

 
8,953

 

 

 
8,953

Total assets
$
757,485

 
$
1,240,114

 
$
803,385

 
$
(775,684
)
 
$
2,025,300

Liabilities and Stockholders' Equity
 
 
 
 
 
 
 
 
 
Current liabilities:
 
 
 
 
 
 
 
 
 
Current maturities of capital lease obligations
$

 
$
799

 
$

 
$

 
$
799

Accounts payable

 
86,797

 

 

 
86,797

Accrued expenses
736

 
37,002

 
1,636

 

 
39,374

Other current liabilities

 
17,510

 
1,645

 

 
19,155

Total current liabilities
736

 
142,108

 
3,281

 

 
146,125

Deferred rent

 
74,559

 

 

 
74,559

Long-term debt and capital lease obligations
218,468

 
330,896

 
699,515

 

 
1,248,879

Other long-term liabilities

 
16,059

 
1,397

 

 
17,456

Total liabilities
219,204

 
563,622

 
704,193

 

 
1,487,019

Total stockholders' equity
538,281

 
676,492

 
99,192

 
(775,684
)
 
538,281

Total liabilities and stockholders' equity
$
757,485

 
$
1,240,114

 
$
803,385

 
$
(775,684
)
 
$
2,025,300


19

CONN'S, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Condensed Consolidated Statement of Operations for the three months ended October 31, 2016.
(in thousands)
Conn's, Inc.
 
Guarantor Subsidiaries
 
Non-guarantor Subsidiaries
 
Eliminations
 
Consolidated
Revenues:
 
 
 
 
 
 
 
 
 
Total net sales
$

 
$
308,033

 
$

 
$

 
$
308,033

Finance charges and other revenues

 
22,326