Bread Financial Holdings Inc (BFH) 2007 Q2 法說會逐字稿

Good afternoon and welcome to the Alliance Data's second quarter 2007 earnings conference call. At this time, all parties have been placed on listen-only mode. In order to view the Company's presentation on the website, (OPERATOR INSTRUCTIONS). Thank you.

It is now my pleasure to introduce your host, Ms. Julie Prozeller of Financial Dynamics.

Thank you, operator. By now you should have received a copy of the Company's second quarter 2007 earnings release. If you haven't, please call Financial Dynamics at 212-850-5608.

On the call today, we have Mike Parks, Chairman and Chief Executive Officer, and Ed Heffernan, Chief Financial Officer of Alliance Data. Please note that due to the pending proposed transaction with an affiliate of the Blackstone Group, there will be no live question-and-answer session during the call.

I would also like to remind you that some of the comments made on today's call may contain forward-looking statements. These statements are subject to the risks and uncertainties described in the Company's earnings release and other filings with the SEC. Alliance Data has no obligation to update the information presented on the call. Also on today's call, our speakers will reference certain non-GAAP financial measures which we believe will provide useful information for investors. Reconciliation of those measures to GAAP will be posted on the Investor Relations website at www.alliancedata.com.

With that, I would like to turn the call over to Mike Parks. Mike?

Thanks, Julie. Good afternoon, folks, and thanks for joining us today. As usual, I'll spend a few minutes reviewing the highlights of the quarter, the full year and our outlook and then I'll ask Ed to go into a deeper dive. But before we jump into the results themselves, I'd like to quickly update you on the pending acquisition.

If you turn to the next slide, since our announcement in May, things are moving along nicely. As you know, there are a number of steps in this process and I'll bring you up to speed on the ones of greater importance.

First, as expected, we've received approvals on both Hart-Scott-Rodino and from the Canadian Competition Bureau.

Secondly, financing for the deal is fully committed as detailed in the merger agreement and proxy statement. The statement was mailed to our stockholders on approximately July 9, 2007 and a special stockholders meeting has been scheduled for August 8 to vote on the transaction.

Lastly, we've had discussions and filed the required Change of Control application with both the FDIC and the OCC. The FDIC is the regulatory body for our [IO fee] in Utah and the OCC oversees our credit card bank in Ohio. We continue to expect the closing in the fourth quarter.

We have no more details at this point and won't be commenting any further on the status other than full speed ahead. Please refer to the proxy statement for details of the transaction.

Now let's turn to the next slide and talk about the quarter. I'm very pleased to announce that we posted a record second quarter, also making this our 25th consecutive quarter of delivering or exceeding our plan. Second quarter, our revenue reached 564 million, an increase of 15% and adjusted EBITDA increased by 19% to 152 million. Adjusted EBITDA excludes any merger costs. Cash earnings were $0.86 per share, up 12%. My thanks to the management team for another strong quarter.

Let's turn now to the AIR MILES Reward Program and talk about their performance for the quarter. Obviously, as you know, our marketing services division in Canada which runs the AIR MILES Reward Program you'll see in the release delivered another double-digit organic growth quarter. Strong sponsor activity fuels this program's success and the value of the AIR MILES Reward Program is one of the greatest performers for our very recognized brand.

This quarter, we announced a multiyear agreement with the leading Canadian insurance companies of Royal and SunAlliance and Johnson Inc. to become national sponsors. Collectors can now earn reward miles on premiums paid for home and auto insurance with these companies.

We also renewed agreements with several long-standing sponsors. First, A&P Canada, one of our top 10 AIR Miles sponsors and the second-largest grocer in Ontario operating the A&P, Dominion, the Barn and Ultra Food and Drug Marts.

We also announced a renewal with one of our founding sponsors, Goodyear Canada, which operates over 500 retail outlets across Canada. Last week we also announced a multiyear agreement with Forzani, the largest national sporting goods retailer in Canada with over 475 locations. Lastly, we marked a milestone in the number of reward miles issued. This was our first quarter to issue a billion mile. Nice work, team.

Now let's turn to the US marketing services group or Epsilon. Epsilon turned in another strong performance this quarter, strong double-digit growth in part due to contributions from a strong success in growing businesses within Epsilon's core client base. We continue to sign up new clients as well for database services, analytics and permission based e-mail marketing services. While they have not been announced yet, they are well-known consumer brands.

In May, AdAge Magazine ranked the US direct and marketing service agencies and named Epsilon as the fastest growing among the top 10 and the number two of all direct marketing firms. We've become a formidable leader in marketing services as demonstrated by our comprehensive end to end services, a premier client list and the recognition and validation from the industry. Good work, guys.

All right, let's turn on to Private Label. Our Private Label group had another solid quarter as well, posting double-digit top and bottom line growth. This quarter we signed a multiyear Private Label agreement with the Top 100 US furniture retailer, Gardner-White. They are a multichannel furniture retailer of high quality, affordable home furnishings. We also expanded and renewed our relationship with Fortunoff to include a new co-brand credit card program. It complements their existing Private Label program. Both the co-brand and proprietary programs will have reward features to enable Fortunoff's to recognize and reward its more loyal customers.

While we typically plan four to five announcements each year, year to date we've already announced five new deals, including those announced last quarter -- Orchard Supply, Sportsman's Guide, and the Redcat's expansion for credit card co-brand credit card programs. We're not done yet; expect a minimum of two or more announcements the rest of the year.

All right, let's turn to the next page and talk about utility services. We had a good quarter for utility. We signed a multiyear renewal agreement with Truckee Meadows Water Authority. They serve more than 300,000 residential and commercial customers in Nevada. We'll continue to provide full customer care solution including CIS application hosting, call center services, online customer care, bill print and remittance; a full-service operation.

As I mentioned last quarter, our focus has been on completing two major conversions. We had two conversions in the pipe and we've successfully converted the first one, First Choice Power. Green Mountain's conversion is scheduled to be completed next month. As these conversions are completed, we expect to return to a more normalized expense run rate. The good news is that these additional expenses are being greatly outweighed by our overperformance in our AIR MILES, Epsilon and Private Label groups.

Let's move ahead and look at the remainder of 2007 for a full year outlook. Based on our [overall] performance of the first and second quarter, we are going to upgrade our guidance $3.65. We expect our momentum to continue from AIR MILES, Epsilon and our Private Label group and believe this positions us very nicely for the year.

I want to thank our teams for their hard work this quarter and a special thank you for staying focused on customer growth and service opportunities while pulling double duty over the last few months as we work through the normal acquisition closing items. Again, thanks a bunch.

Ed, will you take a deeper look, please?

Thanks, Mike. Why don't we go ahead and hit the -- I think this quarter about six key takeaways. First, Q2 marked our 25th quarter as a public company and further extended our track record of overdelivering on what we've promised. Second, revenues of 564 million were the highest in our history and were driven by double-digit growth across the board in our big three engines -- Loyalty AIR MILES to Canada, US marketing -- call it Epsilon -- and Private Label. Third, these three businesses also accounted for approximately 85% of our consolidated revenues and virtually 100% of our operating cash flow.

Fourth, of these three engines, both Loyalty AIR MILES and Epsilon continue to march along with the strongest double-digit organic growth within the Company. And we expect this trend to continue.

Fifth, consolidated EBITDA margin was up just under 100 basis points as we continue to see nice leverage in our core businesses.

And finally, causing a headwind against even higher results were three items. First, was a nickel hit, about $6 million, related to the grow-over from last year's abnormally low credit losses resulting from then the newly enacted bankruptcy legislation. Two, the continued high expenses and utility associated with conversion to lay penalties and direct cost of converting First Choice Power to our system and getting ready for Green Mountain's upcoming conversion. And finally three, staffing up in Private Label in anticipation of a build-up in activity going forward.

In summary, a solid quarter, [and] comfort enough for us to once again raise guidance for the year.

Okay, let's talk a little bit about the segments. As the saying goes, let's go from worst to first. The transaction services segment houses Private Label, utility services and our traditional merchant bank card business. Revenues were relatively flat in Private Label's processing and customer care units and utility services, and slightly down in our [trading], non-core merchant bank card business. We do expect a pickup moving into Q3 as the large book of business signed in Private Label over the past 18 months continues to ramp up and offset the loss of one medium-size client, ShopNBC, which returned to its parent company, GE.

EBITDA was up about 10 million from last year. About half had to do with Private Label as we ramped up our collection staff in our client relations teams. The result of this spending shows up in a much better than expected credit quality that is well below our 6% goal, which is found in better than anticipated results in our credit segment. So even though the transaction segment took a 4 or $5 million hit, we earned a handsome return on an overall through lower credit losses as well as a beefed up client relations team that renewed the 12 brands at Redcats -- or Bryant Lane -- and expanded and renewed Fortunoff.

These expenses were retained in transaction services and not passed back to credit services during the quarter. Why? We usually set these intercompany fees once a year so that analysis will be updated towards the end of this year and the transfer cost adjusted accordingly as we head into next year.

Utility expenses were also higher, as expected, and we completed the conversion of First Choice Power and set the stage for Green Mountain's conversion next month. Finally, merchant bank [card's] EBITDA was down a couple million due to attrition.

Overall, we believe the Private Label spending was well worth it and had immediate payback plus, and the utility spending should now ease up. Not pretty on its own, but good for the overall ADS mothership.

Next up, credit services, which had a great Q2 despite 6 million headwind from last year's abnormally low losses. The portfolio grew solidly north of [8%] as consumers continued to feel comfortable with their balance levels and yields remained strong and stable. Credit sales had only a 2% growth rate, were a bit weak but mainly reflected April's negative results due to this year's Easter flip-flop from last year. Specifically, about half of the Easter season spending hit in March, that is Q1 this year due to an earlier Easter than last year where all of it benefited Q2. The good news is once we moved forward into May and June, sales were up nicely in the mid single digits.

Funding costs remain stable and are expected to be flat this year versus 2006, which was flat to 2005 and regardless of Fed actions. We anticipate next year will also be relatively flat to this year as well.

Finally, credit quality came in at 5.3%, well ahead of expectations. We continue to target 6% going forward but continue to be pleasantly surprised at the resiliency and discipline of our 12 million active households. As a good predictor of future credit quality, our delinquency rate came in under 5%, adjusting excellent credit quality going forward. Again, not one trace of a spillover from subprime troubles surfacing in some other sectors in the economy.

Finally, the monster -- marketing services, which consists of our Loyalty AIR MILES program in Canada and our Epsilon business here in the States. These two businesses account for about half of our consolidated Company in our two fastest-growing units.

First, Canada, which had strong double-digit organic top and bottom line growth, strong pricing power, deeper commitments from existing sponsors, the ramp up of new sponsors, and the quote/unquote network effect of our households frequenting more and more sponsors within our network all drove growth.

These trends are rock solid and we expect this program, despite having 70% of the entire nation already active, to grow organically in the double digits for years to come. Also, as Mike mentioned, congrats to the folks in Canada for hitting our first billion mile issuance quarter.

Okay, also true on the good news out of Epsilon in the US -- Epsilon continued to expand existing client relationships and win new ones. Our backlog is the biggest it's ever been which bodes well for 2008. Why? More and more we continue to see large corporations move from traditional marketing channels and towards ROI transactional based marketing and loyalty programs. Whether it's an external coalition program such as the AIR MILES in Canada or the Abacus coalition in the United States; an internal coalition such as the Citibank banking network; a one-off program such as Hilton Honors; or a program with a credit component such as our 80 PLUS Private Label programs, the ability to link a consumer to their individual transactional history is by far the best predictor of future behavior. As such, the demand for transactional based, highly targeted marketing and loyalty programs has never been higher.

We believe more than ever that this trend will only accelerate and we are the only company that offers such a wide array of end-to-end solutions. We expect AIR MILES and Epsilon to lead much of our growth for the foreseeable future. And the saying goes, the trend's our friend and that's how we roll.

All right. Let's go to the balance sheet. Real quick, couple of points. One would be to note the huge jump of roughly $75 million in deferred revenue and earnings due to both the strong business results as well as the strong Canadian dollar. This also shows up in our operating cash flow, our operating EBITDA. Specifically, LTM operating EBITDA is 606 million or 41 million above reported EBITDA of 565. Our annual goal is to run about 30 million ahead. Since the timing of cash affects this number, it can chop around a bit, so we're keeping our long-term guidance at about 30 million even though our actual LTM is running a bit higher. In any event, cash flow looks quite strong and the large buildup of deferred revenue and earnings bodes well for the future as it will, with certainty, flow into the P&L.

Core debt -- that is debt excluding CDs -- improved by about 100 million to just under 1.1 billion. Against LTM operating EBITDA of 606 million, our key leverage ratio, it improved to 1.8 times versus 2 times last quarter. Again, strong cash flow and stronger balance sheet.

Let's keep pushing ahead here and move on to guidance. Once again, we're raising guidance. To review, last October we came out and said we're looking at about 2.1 billion in revenues, 575 in EBITDA and 350 cash EPS. We upgraded in January from 350 cash EPS to 355. We upgraded again in Q1 on our Q1 call to 360. Today we continue to see overperformance and are comfortable moving up again to 2.25 billion of revenues, 630 million of EBITDA and 365 in cash EPS. This is despite a $0.20 headwind from last year's abnormally low bankruptcy reform related credit losses. Also note that the adjusted EBITDA of course excludes the merger costs.

Next page -- slide, whatever. Free cash flow. Also raising instruments there. Again, going back a little bit in time, we initially had free cash flow at about [3.75] per share. We moved it up to [3.80] per share. We're now moving up again to [3.85]. Again, across the board what we're seeing is that the big three of Epsilon, AIR MILES and Private Label. The overperformance in all three of those businesses is far more than offsetting some of the extra expenses and weakness that we've seen in utility and the attriting merchant bank card business.

So, good news all around as we move to the finish line here and look at operating leverage. Once again, as Mike and I recall back in 2000 at 14% EBITDA margin, it looks like this year we will have doubled that to 28% over the course of just a few years. So it's been a heck of a run from 14 to 28. There is no reason to believe why this expansion can't continue on into the future. Our model across the board is extremely leverageable and we expect that leverage to continue on into the future.

I'll leave you and turn it back over to Mike with the final chart which is, again, how things have gone for the past 25 quarters plus. Beginning in our IPO back in 2001 in June at 12 a share and it has been a -- it's been a heck of a good and fun run for the past 25 quarters. You'll see that our revenue EBITDA and cash EPS continues to surge ahead. We expect a strong finish to this year; 2008, we're putting the finishing touches on that. And with that being said, this year with cash EPS of 365 versus a normalized rate of last year of about 294 we'll have grown again about 24%. So, it's again, been a great year and we think we're in the right space.

And with that, I will turn it over to Mike.

Thanks, Ed. And again, thanks to the team. We've got a lot of hard work ahead of us to wrap things up. I want to thank everybody for joining us today. As we announced yesterday, we will not conduct a Q&A at this time due to the pending proposed transaction with an affiliate of the Blackstone Group. We will use, however, the normal 8-K process to update you as appropriate on closing items in the process. Thanks and have a good evening. Bye now.