Bread Financial Holdings Inc (BFH) 2010 Q2 法說會逐字稿

Good afternoon and welcome to the Alliance Data second quarter 2010 earnings conference call. At this time, all parties have been placed on a listen-only mode. Following today's presentation, the phone will be open for your questions. (Operators Instructions). In order to view the Company's presentation on their website, please remember to turn off the pop up blocker on your computer. It is now my pleasure to introduce your host Ms. Julie Prozeller of Financial Dynamics, ma'am, the floor is yours.

Thank you, operator. By now you should have received a copy of the Company's second quarter 2010 earnings release, if you haven't please call FD at 212-850-5721. On the call today we have Ed Heffernan, President and Chief Executive Officer; Charles Horn, Chief Financial Officer of Alliance Data; and Bryan Pearson President of LoyaltyOne.

Before we begin, I would like to remind you that some of the comments made on today's call and some of the responses to your questions 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 measure 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 Ed Heffernan. Ed.

Thanks Julie, hopefully everyone has access to the slide presentation. Again, as we've done in the last call or so based on comments from, from you folks, we'll keep the comments from us to about 45 minutes then leave 45 minutes for Q&A and then cut it off there. So you're not here all night. With us, or with me today, Charles Horn, our CFO and also as we rotate through our three businesses, we have with us Bryan Pearson, who's the President of LoyaltyOne from Canada, and he is responsible not only for the AIR MILES business up there, but also for sort of our global coalition effort and so he'll talk both about what's going on in Canada, as well as what's going on in Brazil.

Bryan is the right person for the job. He has been with the Canadian business since its inception back in 1992, so he's been there, I guess 18 years, and I'd say no one knows more about coalition loyalty than Bryan, so I would say he can give you a pretty good feel on any questions that you may have. We'll go through the, the results, and have a little chat about the rest of 2010 and 2011 and then just briefly before I kick it off to Charles, I think, the highlight of the quarter clearly is about our top line growth. We have returned to double-digit top line growth. The vast bulk of which of course, is organic and it's the first double-digit quarter organic growth since 2007 and that shows good momentum for the remainder of the year and also it's one of balance. We had all three of our businesses put up double-digit top line numbers. And we would expect Q3 despite some of the timing issues from the Card Act, I think we've got a very nice shot of also coming in in the double-digit and all three businesses also potentially doing double-digit.

And for the full year, again, we expect double-digit consolidated growth and again, 90% plus of this is organic. And then finally, Charles will be talking about liquidity efforts, and again our liquidity is quite robust and we expect to enhance it even further, and that will help us in a number of our efforts, whether it's stock repurchases, the purchase of the Equifax Data business portfolios for the private label or our international expansion efforts. So overall, I know there's a lot of news out there that's a little doom and gloom, but we feel really quite good about the way the business is going the first half of this year. We feel the second half will be strong as well. We think that based on what we've seen over the past three years, we're certainly better positioned today than we have been in any time since 2007, and we look forward to having a nice run through the rest of this year and we'll give you a little bit of glimpse into 2011 at the end.

So with that, I'll kick it over to Charles.

Thanks, Ed. I'll refer you to page three. And I'll begin by walking you through the results for the second quarter of 2010. A quick reminder before I do, the second quarter of 2009 included a $16 million foreign exchange loss on US dollar and denominated investments. Our comparison to 2009 will be against reported numbers, as well as numbers adjusted to exclude the FX loss. Overall we had a very strong second quarter 2010. Revenue increased 12%, to $670 million. As Ed indicated before, this is the first double-digit increase in revenue since the fourth quarter of 2007. All three segments contributed double-digit growth.

LoyaltyOne revenue grew 14%. Epsilon revenue grew 11% and lastly Private Label Services and Credit Revenue grew 16%. We achieved very strong leveraging of the revenue increase during the quarter. Net income increased 61% to $47 million and net income per diluted share increased an even stronger 63% to $0.83. Excluding the FX loss from 2009, the increases were still very impressive with net income up 24%, and net income per share up 26%. Our other metrics were also solid. Core EPS increased 48% to $1.38 exceeding the Company's guidance of $1.30 for the quarter. Excluding the FX loss from 2009, core EPS increased 26%, again, very healthy. Adjusted EBITDA increased 32% to $207 million for the second quarter of 2010. Again excluding the foreign exchange loss from 2009 adjusted EBITDA grew 20%, again very strong. Two of our segments contributed double-digit adjusted EBITDA growth. LoyaltyOne adjusted EBITDA grew 53% and Private Label Services and Credit adjusted EBITDA grew 39%. Epsilon adjusted EBITDA grew 3% compared to our 11% sales increase which primarily due to the timing of expenses incurred, which I'll talk about later. Overall, consolidated adjusted EBITDA margin increased 31%, up 450 basis points from last year.

I'll now turn it over to Bryan to discuss LoyaltyOne.

Thanks, Charles. I'm pleased to be in the line of business that's at bat for the second quarter. I'm going to walk you through our growth strategies and also update you on our progress in Brazil but first I thought we would address why we believe that 2010 is a transition year for LoyaltyOne and explain our quarterly results and our outlook within that context.

Turning to page four, it's clear that we're off to a strong 2010. Our second quarter revenue in adjusted EBITDA are up 14% and 53% as Charles alluded to just now. Year to date revenue and adjusted EBITDA are up 19% and 20% respectively. We are also seeing other positive trends in the business. First of all, our Miles issued have grown now for four consecutive quarters. And this reverses the negative issuance trends that started out late in 2008 and early through 2009, 4% was a growth through second quarter which while good is still below our long-term target and this is due to lower than expected promotional spending in our grocery vertical. The second item as a trend would be that the Canadian dollar remains strong and then the final trend and probably most importantly, is that we've had increased cash margin per mile issued, due to a better sponsor mix, as we've improved -- as improved consumer confidence is driving increased credit card activity and improved business at many of our retail sponsors.

Now, as we look forward for the remainder of 2010, we're expecting a drag on the second half of adjusted EBITDA due to three major items that are impacting our business in 2010. The first two are of a temporary nature. The first one being weak issuance and the unfavorable mix from the latter part of 2008 and all of 2009, combined with the lag effect of our revenue recognition model, really impacted and will impact our EBITDA coming forward. During this recessionary time period, we received less cash margin per mile on fewer miles that were being issued and the margin associated with these issuances is deferred and recognized over the span of 42 months so the back half of 2010 was where we'll begin to feel the belated impact of this weakness.

The second item is that there's less amortization of deferred profit and that's associated with the conversion of a particular split fee to non-split fee program. The remaining deferred profit pool is nominal as of the end of the second quarter of 2010. And as our breakage pool then replenishes this will become less and less of an issue for us. The last item in reducing our adjusted EBITDA is our continued investment in non-Canadian businesses and I'll get into a deeper discussion of this later, but this is part, but this part of our strategy will require investment both today and on a go forward basis and while we're being very measured in our investments we feel that this is the only part of the impact to this year that we won't shake off as we make our way into 2011.

So summarizing for 2010, we expect low double-digit revenue growth and mid single-digit decline in adjusted EBITDA. We expect our Miles issued to continue to grow at current growth levels and our Miles redeemed to increase in the high single-digit range. Overall, our outlook's positive. The Canadian economy seems to be continuing with its recovery quite well, adding five times the number of jobs expected during the month of June, that brought the unemployment rate below 8% for the first time since January of 2009.

All right. Why don't we move onto 2011, so if you flip over to page five. Assuming no FX benefit or costs and excluding international investment we expect to see high single-digit revenue growth and double-digit adjusted EBITDA growth. With respect to revenue, I've already covered why I think we will shake off the two transitional drags. We expect to see that our improved margin issuance will be in and around the mid single-digit range, which means that we'll be deferring margin at a higher rate than that. On the next slide, I'll get into what we've been doing in the program to drive and sustain this growth. We expect Miles redeemed to continue in around the 10% range, and in addition, some of our other businesses that we've been investing in, such as LoyaltyOne consulting will increase their revenues by as much as 40% and start to contribute to EBITDA. Adjusted EBITDA will improve as a result of the increased margin issuance activity, but it will also benefit from our diligence around expense control, and infrastructure efficiencies that we've been investing in for the past couple of years. We're able to run the Canadian operation on a flat to decreased expense base and we now have the infrastructure built out to be able to move into other geographies easily.

If you move onto the next slide, you might recall that the last time I was on the call, I covered three areas of future growth for the Company. They are first of all, growing the core AIR MILES Reward Program in Canada and keeping our mind solidly on the Canadian business, secondly to building out a complementary suite of services that serve primarily high frequency retailers and third, international expansion. And I thought it'd make sense for me to provide an update across each of these areas now I'm back on the call.

For the AIR MILES program, let me say that the program remains strong across our membership base that represents a little more than two-thirds of all Canadian households. The number of active households has grown so far this year and the Miles earned per collector, a key metric of the health of our program has also grown. We've had three main areas of focus which are key drivers of our success in this challenging economy, first, we've redesigned our marketing vehicles and created major consumer events with our key partners and sponsors in Ontario, where we're under penetrated relative to the rest of the country. Our efforts are working as issuance in Ontario has grown by 13% for the second quarter compared to last year. We're introducing [Press-a-ma] capabilities to key sponsors, which is an analytical service which increases the offer relevance for the consumer, and this will drive both higher mileage issuances per event and higher return on investment for our clients.

Secondly, we continue to grow our sponsor list. In addition to the sponsor activity that Ed commented on during the first quarter call, we recently added Whirlpool as a national sponsor and at the same time renewed our pharmacy sponsor in the Atlantic region, Pharmasave. We're in active discussions with a long list of prospects and expect to add three more in this year 2010. Within our AIR MILES for social change sector, we've signed three clients in 2010, including the Ontario Power Authority. And we see significant potential in the transit, energy and waste verticals.

Thirdly, we continue to strengthen collector engagement through a variety of means. New credit card products with competitive features, supplementary data that allows us to manage the collective lifecycle more effectively and entry into the mobile space in Canada where we've already deployed dozens of text message campaigns with more than ten different sponsors. Second item would be around our other complementary services. These services for high frequency retailers include our boutique loyalty consulting business which we call LoyaltyOne consulting and a customer centric data analytic business which I referred to earlier and what we call Press-a-ma. These complementary services add revenue to our business, and help keep LoyaltyOne on the forefront of innovation in our industry. We've had strong year in building new relationship with leading retailers across North America including brands such as Saks Fifth Avenue, Visa and BMW from our Loyalty Consulting business along with two leading high frequency retailers that are leveraging our Press-a-ma capabilities. On the international expansion side, which is our last major source of growth, it's really about growing through expansion of our footprint geographically where we bring the concept of the AIR MILES Reward Program to other markets. We're currently running a pilot, our first phase program in the Brazilian market through our partnership with DOTS and similar to the AIR MILES Reward Program in Canada the program includes market leaders in key high frequency retail categories such as financial institutions with Banco de Brazil, gas with Ale and grocery with SuperNosso and I'll go into more detail in moment about our successes there.

So if we move to the next slide, let's first review the history and the basis of AIR MILES Reward Program in Canada. The primary appeal of the AIR MILES Reward Program is that it's a national loyalty program where collectors earn a common currency on their purchases at multiple participating retail sponsors. Collectors can earn points on their everyday non-discretionary spending in grocery, pharmacy, and gas as well as their credit card spend. There's no dependency on airlines for the issuance of these points. And while flight and travel rewards are a key aspirational item in our reward portfolio there are a number of other categories such as merchandise and gift certificates that collectors can redeem for. The breakage is one of our main earnings sources and it is the number of miles for which we were paid for by sponsors and that we estimate will never be redeemed by collectors. Our breakage rate is 28%. Therefore we anticipate that 72% of all miles issued will be redeemed for rewards. Now this is the weighted average of the program as a whole. And management has based this estimate on 18 years of program history.

Prior to 2008 we had a redemption rate of 67%, which represented a 33% breakage rate excluding the miles issued by our credit card partner the Bank of Montreal. When the Bank of Montreal redemption assets and liabilities came onto the balance sheet as part of our conversion to a non-split fee program in June of 2008 we changed our overall breakage rate to 28% as credit card collectors tend to redeem at a higher rate than the general collecting base. The program to date redemption rate is just under 57% of all Miles issued and this rate has been growing by approximately 2% to 3% each year for the last five years. However, the slope of the redemption curve has declined gradually over that period. And we still have a significant runway between our program to date results and our ultimate redemption rate of 72%. In fact, no vintage of collector, including the 1992 collectors has reached the 72% redemption rate.

To estimate our breakage percentage management uses internal analysis including vintage analysis and we also use outside actuaries to review and model the redemption rate based on program activity to date. These analyses indicate we're tracking to our ultimate redemption rate target. However, should this change, we do have the ability to change the program as necessary to maintain the redemption rate. To essentially pull what we call levers, these are, these levers can positively impact the redemption curve over time. An example of that would be to change the number of Miles required to redeem for a reward. Ultimately, some collectors would require additional miles and time to redeem for that reward, and conversely some other collectors may not achieve the new criteria and the result would abandon their Miles creating breakage, there are several other levers available to management to change the redemption rate but the bottom line in all of this is that we manage the program to achieve the stated breakage rate.

So why don't we move to the next slide and we'll dive a little bit deeper into the Dotz program, as we say in the title, it's the next Canada only warmer. The first phase of the Dotz program that's currently running in the Belo Horizonte market in Brazil, has been very successful. Since the program's launch in October of last year, Dotz has achieved enrollment figures that represent more than 80% of our first year goal. With more than, with 100% or even better results expected by the end or of our first year of operation. As we continue to enroll a collector every 60 seconds we figure that the numbers are very achievable. Of those enrolled more than three quarters of them have actually been active in the program and many are leveraging the power of the coalition by shopping at more than one participating sponsor indicating that the model will work well in the Brazilian marketplace. Cross sponsor participation is aided by the strong anchor sponsor network that includes Banco de Brazil, Brazil's number one bank. SuperNosso which has more than 15 stores just in that market and Ale which has over 38 locations in the test region. This anchor base has been strengthened by the addition of a wholesale grocer called [Apollo], Pet Supplies, Home Decor and Men's Apparel with a retailer called Sketch. More discussions are underway with additional partners, in grocery, pharmacy and the Telco category as plans are underway to expand the program into other regions of Brazil.

Now before I hand it over back to Charles, let me reiterate why I'm so excited as we continue to move forward as a business. We've a tremendous track record over the past 18 years in building the leading retail coalition on a global basis. And we're not finished yet. As I said, we're currently making tremendous progress in our endeavors to build coalitions in new markets, our current program in Brazil will not only cement our presence in that market but also provide invaluable insights as we continue to explore new markets and we're equally confident that the momentum that we have seen from our two other avenues of growth will continue. We expect our Canadian AIR MILES program to grow and that our complementary services will continue to attract leading retailers across North America that are looking to optimize the value of their data from the loyalty programs. Charles.

Thanks, Bryan. Turning to page nine, I'll focus on Epsilon. Epsilon had a very strong second quarter with top line growth 11% from the last year. In its continuing the momentum demonstrated in the first quarter of 2010. Adjusted EBITDA increased a little over 3% from the prior year primarily due to the timing of certain database implementation expenses incurred prior to the revenue being recognized. Essentially we increased staffing levels during the second quarter to support the large number of wins scheduled for implementation in the second half of 2010. Overall, we expect a strong accelerating second half of 2010 for Epsilon.

Breaking down Epsilon, the marketing database and digital business which is about two-thirds of Epsilon continued its consistent trend of double-digit organic revenue growth as Epsilon continues to on board the record signage from 2009, additionally sales performance in 2010 has continued to be very strong with large client wins and two expansion agreements. Epsilon's data business which is the remainder, and includes the large catalog coalition database Abacus has exhibited better than expected strength and continues to show positive momentum and growth signifying the ongoing demand that marketers have for the rich consumer insight needed to drive ROI base marketed micro targeted marketing campaigns. With a strong backlog yet to be implemented over the course of the back half of 2010, coupled with solid demand, Epsilon is comfortably tracking to the Company's 2010 guidance of double-digit top and bottom line growth.

Turning to the next slide, we took some steps to strengthen and grow Epsilon during the quarter. On July 1, we successfully closed on the acquisition of the Direct to Marketing Services division of Equifax. This tuck-in acquisitions bolsters our data offering moving us to an industry leading position. The DMS acquisition consists of two primary offerings that are highly complementary to Epsilon's existing business. One, database services, and two data solutions. The database services business adds strength and scale to Epsilon's existing database services business, with strong presence in two key verticals, retail and insurance. The data solutions business adds broader and deeper demographic compiled consumer data assets enhancing Epsilon's demographic meaning non-Abacus, data services. Overall, Epsilon gains enhanced solutions and scale. A solid management team and a strong stable of clients. This acquisition has been very well received by our clients and the integration is going very well. The DMS acquisition is not likely to materially benefit earnings for the remainder of 2010, but will in 2011 and thereafter.

With that, I'll turn it over to Ed.

Thanks, Charles. Everyone catch their breath let's move onto the third segment Private Label Services and Credit. Again, this combines the four functions within our Private Label Business, which would be all the traditional network and processing, call center customer care, the provision of credit, and all of the marketing and database work that we do on behalf of our clients.

Let's go ahead and talk about what this quarter will be, the star of the show, Private Label, and its nice to have Private Label back and as strong as it has been going so far this year in the first quarter we saw very solid revenue and adjusted EBITDA growth. The results included a ding associated with the initial implementation of the Card Act. Which temporarily dropped yields in February before returning to normal in March under the new card holder terms. No such issue in Q2 as revenue and adjusted EBITDA growth rates accelerated to 16% and 39% respectively. Across the board, be it metrics or financials everything was up midteens or higher. So let's go ahead and walk through the key drivers and the financial results. First up, credit sales. Or that just means spending on the card. Continued to plow ahead and came in at 14% growth rate. Above our long-term average, which is around 10% and well north of the much more moderate macro retail sales data. Growth came from long-term core accounts, new retailers ramping up, and acquired growth.

Next up portfolio growth. Remained well above our long-term average of about 10%, and notched to 21% growth rate for the quarter despite the macro stats showing that consumers are pulling back hard on revolving debt products. Again, driving our growth were the same three items, which drove credit lines. Third, yield and fees held up strongly driving revenue up 16%. Which essentially matched the growth rate of the file. This is the type of run rate we like to see and reflects a clean run without any temporary dings from implementing the Card Act provisions.

Okay. Fourth, let's turn our attention to the expense side with the big driver being of course, credit losses. Actual principal losses in the quarter came in at 9.0%. Which was both better than Q1's principle loss rate of 9.4% and significantly better than last year's Q2 rate of 10%. As we look back, we did think that the peak of our losses would be in last year's Q2 at 10% and it certainly looks like that's the case, since then losses improved to the mid 9%'s over the next three quarters we've now taken another step down to 9% flat. And finally, funding costs they're actually trending down. Been in the business an awful long time and frankly I've never seen a cycle where both losses and funding rates improve at the same time. They usually go in opposite directions. But nonetheless, we'll take it and we'll lock down some cheap money both short and on a long-term basis. All right, with revenues up 16%, and credit losses better by 100 basis points on a $5 billion file, it's easy to see how adjusted EBITDA could slingshot ahead at a 39% growth rate to $133 million for the quarter.

All right. Let's go to the next page. This will be one of my favorites. And that's our performance both during good times and during the great recession. And this hopefully will clear up a little bit of confusion that, both Charles and I have been trying to do for quite some time, myself for about ten years, and that is the misperception that private label is, in fact, a lower quality credit versus general purpose bank cards. And it's just not true. Where could some of this be coming from? Well, some of the high profile noise that you hear about private label has come about when some retailers who decided to build these programs in house, and did, in fact, have very, very loose terms. They came back to bite them. The reason being, the quote, hey, we're retailers, we're here to push product. Also, some people think the limited utility of the private label card is a bad thing. That they have small credit lines. That you can't use it to buy necessities like food or gas. And having worked with investors and analysts for over the last decade, Wall Street and the Investor community really are not our typically -- our typical target audience. Including myself as well as a number of the folks out there, you know what I mean. We like to sit here and have one card in our pocket, lots of utility, MasterCard, Visa, usually attaches some type of airline program. And that's fine.

However, that's not who we're after. The key things to know about our portfolio is, first and foremost, we do not target subprime pull stop. Second, our average Experian Bureau score is 720 for new accounts and 700 for active accounts. Third, and this is the most important one, the private label card is a loyalty program designed to drive spend. We do not want this card to be the number one card in the purse or the wallet. We prefer that to be the general purpose MasterCard, Visa, but rather we prefer to have our folks carry around 1 or 2 of our cards because of the loyalty aspect to it, and it helps drive incremental sales.

Next, absolutely true that our cards carry low balances and have very limited utility. You go into Pottery Barn, you can only use the card at Pottery Barn you cannot go out then and buy a stake dinner. And lastly, 80% plus of our customers are women, 25 to 49-years old mid to upper income. So that's what's going along. And the whole comment about Private Label is a lower quality credit may, in fact, hold true for some issuers. Certainly not for us. It is also true that during the best of times, Private Label, our Private Label program will run at a higher loss rate than general purpose bank cards. And that's because at the margin when people get in trouble, they will seek to use the card with the most utility and toss away our card. In other words, not pay it. And that's why we traditionally lag behind bank cards on the loss side.

However, when things do get tough, in this case when the rate recession hit, the reverse happened. And it kind of makes sense. What happened was folks went out and they used their general purpose bank cards to the max to buy the gas and groceries because times were that tough, and with us, they really couldn't use the card. So because of that limited utility, because of the fact we don't target subprime, because of the fact that our average credit lines are closer to $700 not $7,000, meant that during the rate recession, we actually performed quite a bit better than a typical bank card. If you look at the graph, you'll see it. If you looked at ADS, our losses went from 6% to 10% or went up 67%. Versus 4% to 10%, or 150% for the bank cards. So from a volatility perspective, we run at half of what the bank cards do. You combine that with the higher yields that we get on our cards to drive superior profitability, and you'll see why our ROAs and ROE's and everything else out there is consistently higher than the bank card universe. All right.

Moving onto our outlook and we've talked about in the past, now others are talking about it, there is a decoupling of losses going on with the unemployment rate. Prior to the great recession, we ran about 120 basis points above the unemployment rate. While now we're tracking 70 bips better than the quarter's unemployment rate. We expect this trend to continue and possibly widen further as the extraordinary length of the recession allowed for a major cleansing of the portfolio. This is also just the first leg. Our typical loss rate in a strong macro environment is 6%. We peaked at 10% during the rate recession. That's equivalent to $2 per share hit to earnings. And we've just now started coming back down at 9%, we're only 25% of the way back. We continue to carry a prudent level of loan loss reserves. Our reserve was 10.5% of total AR, at June 30, compared to 10.6% at the beginning of January. Our reserve rate for principle losses was 9.5% at the end of the June. Compared to a 9.0% charge off rate for Q2. Some may think we're being exceptionally conservative, however we still think it's prudent to be that conservative.

All right. Let's move onto the next slide. Talk a little bit about what the future hold for losses. Probably our best indicator would be delinquencies. We are seeing no upward pressure on this metric other than normal seasonality and Q2 came in at a 5.4%, versus a 5.9% last year. Again, a very significant improvement, as recoveries continue to pick up and personal bankruptcies begin to level off, the loss rate which is at 9%, will continue to improve and gradually move toward the delinquency rate. Again, mid teens revenue growth combined with improving credit quality drove adjusted EBITDA up almost 40% during the quarter versus last year.

Okay. Let's hit the next slide, which is the regulatory update. We'll also talk a little bit about capital and everything else. I'll try to make it as simply and painless as possible, if I can. Capital levels simply stating all of our key ratios which we'll discuss a little bit more in a bit are well above what's considered well capitalized by the banking regulators. Baring a major acquisition we do not anticipate any need to downstream additional capital to the bank, period. All right. Wall Street Reform Bill and the Card Act have been finalized. We now finally, after over a year have full visibility to the Wall Street Reform Act and the Card Act. If you put the two together, and you reviewed every piece of it, there's only one area where we need to take action and that's around late fees. Overall, the final fed guidelines turned out to be more benign than expected.

At the beginning of the year, we had anticipated about a 20% reduction in our average late fees charged. We now estimate that the actual impact will be less than 10% and as a result we no longer need to charge the $1 processing fee. Which was not very popular. Instead, we will look to mitigate that negative 10% impact to our existing late fee structure through a combination of increased minimum payment levels and tiered late fee structures. Mailings are ready to go. They will be sent out first week in August, and the full burn in of this new schedule will occur in November. Additionally, beside the late fee adjustment to cover any potential uptick in loan losses as a result of raising the minimum payment.

Big question? Why do we pull the $1 processing fee? Well, I would say stepping back and looking at it, on the one hand, as we'll talk about by pulling the $1 fee, essentially you're giving up about $0.30 in earnings due to a timing gap, an air pocket, whatever you want to call it. That $0.30 of missed opportunity needed to be weighed against a lot of positives, and as I tick through them there are probably about seven things that we view as positives. First, by pulling the fee, we have a very, very happy merchant base and one of the reasons we do have the timing issue is the fact that we needed to take a month or so and go and visit all of our merchants, explain to them what's going on, and overwhelmingly the response was a thank you. So we have happy merchants now. Also, this means that there will be no new fees to our card holders. Again, that can only be viewed as a positive. Third, as we looked through the new fed guidelines, which were much more benign than we had thought, we found out that we could simply restructure the existing late fee schedules and fully replace the impacted earning stream. Fourth, the full run rate quickly returns and will be up and running at 100% run rate by November.

Next, we eliminated a potential major source of, let's just call it political risk on a go forward basis. With the passage of these acts, who knows what will be next down the road in terms of fees or other things that may be offensive and therefore by simply restructuring an existing fee, it gives us much more visibility and confidence in our earnings stream on a go forward basis. Also having a nice clean fee structure certainly didn't hurt, as we're getting ready to move to Delaware and I think the biggest one at the end is the fact that this is strictly a timing issue. Our full run rate will be returned by November and as a result it will not impact 2011 in any way. And we'll talk about guidance in a bit, but as we're sniffing around the $7 level for 2011, that's why. So I think it was a good business choice. I think it's something we would do all over again, and the timing gap is unfortunate, but given how the regulatory situation was playing out, quite frankly, things could have been an awful lot worse, so I think it's good news. We've got it fixed. We've got our run rate ready to get returned by November. And we're having a heck of a good year and finally, I mentioned we're moving to Delaware. It gives us quite a bit more flexibility to respond should general funding rates increase and/or additional regulatory items pop up. I'd like to consider it as our long-term insurance plan.

All right. With the decks cleared we can quickly move forward now with some new client signings that have been held up until we had visibility on the final regs so you'll be seeing some signings announced over the next few months. Charles.

Thanks, Ed, I'll refer you to page 15 and I'll just point out a few items on the balance sheets for the quarter. The first is, similar to March 2010, our June balance sheet does look different from last year-end. And again that's do to FAS 166, 167 which requires us to consolidate previously off balance sheet securitization trust beginning January 1, 2010. So the consolidation results in the gross up of our balance sheet as we add all credit card receivables and add all asset backed securities debt, regardless of the fact that the securitization trusts are bankruptcy remote. When looking at our stockholders equity remember that the adoption of the new accounting rules reduced our stockholders equity by over $400 million as an adjustment to the 2010 beginning balance sheet. The second thing I'll point out is that the redemption trust assets are only down only $23 million since December 31, 2009. The new accounting rules now eliminate LoyaltyOne's investment of $74 million and funding certificates issued by WFNNB one of our bank subsidiaries and instead of going forward all our credit card receivables plus the third-party securitization debt is consolidated. The third point I would make is year to date through July 16, 2010, we've acquired 1.068.500 million shares of our outstanding common shares for $60.4 million of that amount 800,000 shares have been acquired within the last 30 days this share repurchase program continues to be a viable use of liquidity, and we use it to cover dilution in our fully diluted share count and to temper short-term market influences.

Let's move to the next stage and talk about liquidity. I'll begin with a corporate level and you can see the corporate level liquidity remains very strong at June 30, 2010. At approximately $400 million. It breaks down as first, cash outside of our bank subsidiaries of $150 million and second available borrowing capacity of $250 million. We do not intend to make any dividends from our bank subsidiaries in 2010 rather our two banks will retain net income generated in 2010 to support regulatory capital requirements and the phase in of all off balance sheet receivables. Consistent with past practices our banks will reimburse ADS for all taxes and processing cost. We'll look to resume dividends in 2011. Our debt levels continue to be modest. The key loan covenant ratio core debt to operating cash flow was 2.5X to 1 at June 30, 2010, substantially below the covenant ratio of 3.7X to 1.

Subsequent to quarter end, we amended our revolving credit and term loan agreements for the following reasons--We -- first, to conform the covenant calculations to the new accounting requirements for private label. So the method of calculation has changed but it did not materially impact the resulting ratios. Second, we did eliminate the quarterly amortization of principal set to begin June 30, 2010, and replaced with a single bullet payment at maturity of the loan on March 30, 2012. Interest payments continue to be made as originally scheduled. We made these modifications in anticipation of a new $200 million term loan which we expect to close late July. The new term loan adds incremental liquidity of approximately $80 million at closing net of amounts paid for the DMS acquisition.

Now we'll look at the banks, and at the banks subsidiary level, we have over $2.6 billion of excess liquidity at June 30, 2010. And during the second quarter, we completed two financings, the first would be we renewed and upside -- upsized our $1.2 billion Master Trust One. And the second we renewed and upsized to $0.3 billion our Master Trust forward conduit. And subsequent to year end we did two items that improved our overall bank liquidity. The Master Trust One issued $450 million of public fixed rate asset backed securities with an average life of five years and a weighted average fixed rate of just under 5%. This transaction completes all scheduled financings for 2010. And all were completed at equivalent or better spreads than before so as Ed talked about funding costs are trending down. The second was our CD capacity at our banks increased by $400 million. So again, grew additions to our overall liquidity.

Now, we'll give you a quick update on how the Wall Street Reform Act effects liquidity and how it really has no effect on us. Some of you have pointed out that the Wall Street Reform Act is now requiring rating agencies to give consents to the inclusion of ratings and public offerings as securities. The rating agencies in turn have indicated they will not wish until revolved will prevent public issuances of asset backed securities. We believe this issue will be resolved before we even encounter it as we have no financings required until mid 2011. If not resolved, we will rely upon 144 issuances of debt and brokered CDs which we just talked about our capacity has increased. We do not anticipate any disruption to our private label funding needs as a result of this new rule.

Moving to the next page of guidance we'll start with third quarter, and as Ed talked about before we are expecting a very solid third quarter, double-digit consolidated revenue growth with all three segments expected to generate double-digit growth compared to the prior year. Private label and Epsilon are expected to provide positive double-digit adjusted EBITDA growth. And LoyaltyOne is expected to report a year over year decline in adjusted EBITDA primarily to what Bryan walked you through before. Overall we expect a solid third quarter with core EPS of $1.52, which is an increase of approximately 10%, compared to last year. Adjusting the third quarter of 2009, to exclude a $0.20 benefit from the release of tax reserves related to uncertain tax positions guidance for the third quarter of 2010 reflects an increase of approximately 28% from last year.

Moving to the full year, overall the year is progressing very well and pretty much as we anticipated. Year to date Epsilon revenue and adjusted EBITDA are up 9% and 12% respectively which is consistent with the Company's 2010, 10% top, 10% bottom line increased guidance. Overall, we expect an accelerating second half for Epsilon in terms of both revenue and adjusted EBITDA growth, providing some upside to original expectations. LoyaltyOne is tracking to double-digit revenue growth, but again as Bryan talked about, a mid single-digit decline in adjusted EBITDA. Private Label is tracking to double-digit revenue and adjusted EBITDA growth tracking to a very solid year. However as Ed talked about before the impact of the Card Act, is now expected to reduce reported core EPS for 2010 by approximately $0.30, because of the suspension of the $1 processing fee, which had been considered in our original guidance. The $0.30 impact is simply a timing gap between when the $1 processing fee was scheduled to roll out and when new card holder terms can become effective as Ed would indicate it's in their pocket. Something that is temporary it goes away. This short-term impact has placed a downward risk on our 2010 original core EPS guidance of $6, our new range for core EPS is $5.70 to $6 for 2010, we believe we may be able to offset some of the negative impact of the Card Act to 2010 through better than anticipated performance.

Looking ahead to 2011, we do not expect any negative impact from the Card Act in 2011. As we believe our mitigants will be fully functioning and burned in before the end of 2010. Our initial estimates for 2011 suggest a 20% to 25% increase in core EPS from 2010. Official 2011 guidance is expected to be given in October 2010. Ed.

Okay. I think we're just about there. I would say from a 50,000-foot level, our view of the macro environment, I would say is slightly more positive than some of the stories that you're reading out there. If we were to use things such as where loss rates are headed, delinquency rates are pointing, if you look at credit sales that we're looking at, if you look at the number of catalogs that are being dropped through our Abacus Division, all of these parts of the Company are certainly levered to a consumer turn, and what we're seeing right now is certainly much, much better stats than we saw over the last two-years. I would say if you went back to 2007 as our last really strong year before the great recession, we were still dealing with the Blackstone deal.

Then you turn into 2008, you hit the great recession, and the big liquidity crisis, which of course, caused all sorts of issues in the asset-backed market, as well as the bank market, then we rolled into 2009, the great recession continued, and we had to deal with credit losses up around 10%. And then as we rolled into 2010, we had to deal with the regulatory uncertainty. Now, as we sit here midway through 2010, we feel the best we've felt since the early part of 2007 quite honestly, we're seeing all parts of the business either fully turned or turning. The road blocks that I went through are gone, we have the visibility, we have our insurance wrapper for Private Label and the earnings much like we promised in both Q1 and now Q2 are pristine, and if you were to go back to last year and pull out the non-recurring items we'd have about a $4.64 cash EPS and this year at $5.70 to, to $6 anywhere between 23% and 30% growth, so we're looking at a very strong year, and an even stronger jump off into 2011, whereas Charles mentioned the mitigants that we've put in place should make the whole Card Act a non-event for 2011.

So at least for this year, we certainly expect to be right on top of the first couple of numbers certainly for top line at over $2.7 billion, and that being said, I think as we look in 2011, Epsilon, Loyalty, and Private Label should all have very, very strong years. From what we are seeing certainly it is not a dramatic turn in the economy but given where we were it is certainly solid enough for us to put up our double-digit topline and much stronger earnings per share. That being said, why don't we open it up for Q&A.

(Operator Instructions). Your first question comes from the line of Jim Kissane with Bank of America Merrill Lynch.

Thanks and great jobs guys. Ed, can you talk about the higher minimum payments and the credit card business and how that might impact the receivables growth or the portfolio growth going forward?

You bet. We currently -- when the Card Act was first put in place, we moved the minimum payment up to about $20 and what we expect to do now is, we think we're going to go from -- we are going from $20 to $25. So we're going up a little bit more. The first question we had asked ourselves, is that going to cause a blip up in delinquencies or losses and what we found was the vast, vast bulk of the files that are being reprice priced over 90 plus% of the files were already paying minimum payments at that level or above. So I don't think much risk on that side of it - from a -- and that also holds true on the payment rate side. Right if most, if 90 plus% are already paying that $25 or more, you're not really going to have much of a change in your pay down or payment rates.

Yes.

It's one of those things where I think, a lot of people think people have Private Label cards just pay the minimum they don't. The vast majority pay well above the minimum.

Great. And in terms of Epsilon margins you talked about bringing on more people for more business, but can you comment on the new business being signed over time, the margins versus the business that you've had in the past?

I think it's the case with the margins are still very healthy, the signs the wins we did in 2009 and the wins we did in 2010 it it's purely of the case that we're incurring costs before we can actually implement the new database, implement the new wins and we incur cost before we ever get to recognize the revenue because what happens even though we have the contract in hand we defer all revenue until the database goes live. So what you saw at the end of the Q2 we have some staff higher costs they're supporting some of the implementations that are coming through in Q3, Q4 where you're going to get the benefit of revenues in those quarters without the cost we've already incurred. So it's purely a timing issue. It's not an indication that the contract prices are coming down or our margins are suffering.

Okay.

I would say to that end, obviously with the huge book we signed last year, the folks are on the treadmill running pretty hard right now as we got cap one up and going and we're getting ready to launch Visa, [Kraft] and a few of the others, so it's been a fairly hectic first 6 months. We're hiring quite a few folks to get this backlog boarded, and if you were to look at the EBITDA in the second quarter of about $30 million, as you go to Q3, Jim, we certainly would expect it to be north of 40.

Okay. Excellent and then if I could ask Bryan a quick question. I mean, based on your commentary it sounds like you will ultimately ramp the Brazilian business beyond September is that safe to assume.

Yes I think that's safe to assume still a question on how we would phase the roll out of Brazil and that's probably more of the work, but there's a lot of interest in the market place to -- from the key categories that we need. And clearly we have some national players we're working with right now, but we need to sign some other players and categories in order to enable different regions in the market.

Got it. Thank you very much.

Your next question comes from the line of Darrin Peller with Barclays Capital.

Hi, guys. Credit quality is obviously trending extremely well, and just love to here your assumptions on the next few quarters in terms of -- versus your guidance with well as 2011 and you're outlook and what charge offs and really what allowance for loan loss assumptions you're using?

Yes. It's Ed. I'll go with just the actual charge offs. I'm not smart enough to do the loan losses Charles can do that, the provision, but certainly what we're seeing, I don't think is a shock to anyone, which is we are seeing improvement across the board. We are seeing our recoveries begin to pick up, which means people now have some money to actually payoff if they had already written off, so those are two good signs. We're waiting for personal bankruptcies to begin to level out, so the net result is, if we were at a 10.0 last year, second quarter, then mid nines for the next three quarters and 9.0 for this quarter, I would expect to be below nine for third quarter. And then you usually have some seasonality in the fourth quarter, well that will creep back up a little bit but I wouldn't expect it over nine, so we should be somewhere in the eights, I think in very high eights in third quarter for actual write offs, and as we head into 2011, obviously it's early, but if things continue to decouple the way they have been and what we're seeing in the file, I would certainly assume that, there's 100 basis points in 2011 versus 2010.

Okay. I agree.

On the provision. On the provision basically it's going to pretty close follow what you're actual rates are. If you look at what we're doing now, if our experience is non-forward, you have a little bit of a spread in that in terms of our overall allowance as the year progresses you'll probably see that spread narrow some. So it will tighten up more closely with what the actual loss experience is.

Okay. Now, just remind us again in terms of methodology, in terms of finding or determining you're allowance for loan loss ratio, is it forward looking it based on delinquency trends and macro economic.

It is forward looking, we use the migration model that we developed when we adopted the new accounting rules very much forward-looking, it does take into account various macro factors, unemployment, interest rates, different things but it does incorporate improvement, obviously delinquency rates and loss trends and so forth.

Okay, so if charge offs do end upcoming down under 9% is it fair to assume the 10.5%, likely -- I think you said your 10.5 allowance would come down closer to the 10 range.

Yes.

Okay. Alright then, quickly on the loyalty business, could we just review the increase in the revenue per mile that happened, it was a nice surprise to us in the quarter. And the material increase also in the margins in the segment, I think Bryan mentioned there was an increase in the mix of consumer spending using the higher sort of cash per mile product maybe the cards that brought the revenue per mile on a constant currency basis in our model up are much higher than we expected. Is that expected to continue? I mean, should we be modeling off that higher revenue per mile run rate.

I think you've got the rationale down pat, in terms of it is a mix issue given the sponsors that have seen greater recovery year-over-year given where we were at a year ago. And I would assume that we're not anticipating any significant change in the mix going forward, if anything, we're hoping that it will continue to see some improvement. What we've seen are certainly last year the credit card segment was hit fairly dramatically as people just pulled in their horns on spending. We've seen that recover, economies good, consumer confidence is up but it's not up to historical levels and so if we anticipate that we'd see a little bit more growth out that segment, then, as well as certain of our retail, our larger retail partners then we would, we would continue the trend that you've just indicated.

Okay. And so the assumption being, I mean, the margin coming in as high as it did this quarter you had guided previously as well as this quarter as second half margins being impacted by some elements we expected that but starting off at a base of a margin over 30% for this quarter is that kind of the way we should think about the step down from a much higher basis.

The other piece that's flowing through in the second quarter was also a bit of mix, so on the reward side -- remember we see revenue come from two different sources. There's revenue that comes from the issuance side of things which is amortized over the 42 months and that's what we're seeing one of the transitional drag effects, if you want, but the other side of our business we see redemption come in or revenue come from redemption the use of miles by the consumer depending on what they're redeeming for and what the mix is in that, weather we can get some favorable buying, what may happen we would see some positive margin that would flow through as a result of that and then the second quarter we made some changes to our flight program. We anticipated there would have been some arbitrage in the flight routes that consumers took they didn't pick up on that and the net of that is that we ended up seeing some favorable variances our redemption side as a result of that.

Yes but I think the bottom line here, I think the 30 was exceptionally strong.

Yes.

And as we move into the back half you're probably going to see something more in the low 20s. Would be my guess.

Okay.

Because top line is still humming right along.

And that normalizes back to sort of mid 20 range in 2011.

You bet.

All right. Great quarter guys thanks.

Your next question comes from Robert Napoli with Piper Jaffray.

Thank you. Good afternoon.

Hey Bob.

Hey Bob.

My question, when are you going to raise the minimum payments? Will that be in November when the new late fee structure is in effect and why do you have to wait to send that out?

We prefer not to wait, unfortunately under the new Card Act there is a burn in period that is required, so if we mail, the first week in August, and you have to go through that cycle and then you have a 45-day waiting period that's mandated under the new Card Act, so therefore the full burn in, Bob, won't hit until November.

And that's when you'll raise the minimum payments in November?

You bet. So we'll do mailings in August for full burn in by the end of November. And the key issue to your point, Bob, is we have to obviously design where the changes are, how we're going to do it and make sure we do it prude even to Ed's point we don't want to create a loan loss bubble that's going to take a period of time now we're going to mail them in August for full burn in November.

Have you tested, what do you think it will do to your credit loss rate? You talked about your payment rate do you expect a -- what level of bump would you expect in a charge off rate because of the higher payment?

Yes, you bet. We have and again I think the critical thing is that something like 93% of the file that's getting affected already pay -- do not pay the minimum rate today. They pay more than that. So it's not going to result in any significant type of bubble. We will say, however, that the way we have structured the new late fee grid, that as opposed to getting back what we used to have before the Card Act, we actually will get back a little bit more the way we structured it, and that little bit more we think is enough to offset about $10 or $15 million of, of potential risk. So maybe 30 basis points at most. And that's been structured into the late fees, which will, in fact, be a little bit higher than they were before.

Okay. That makes sense. When do you expect to move the bank to Delaware. When do you --

Soon.

Next few months, I mean?

Oh. For sure. Before year-end.

Okay.

So we're good to go. We've got office space. And approvals and the van is pulled up and we're packing.

All right. Last question on the growth of the card business what are you, I mean, if you look at the card industry the loans and the credit card industry are down about 15% year over year as an industry maybe 12%, moderating a little bit. And you guys have held off on -- are there lots of programs out there, do you expect to acquire, I think you had expected to acquire one a year was kind of your model in one significant portfolio a year and you said you're ready to add some, but do you expect to see growth or deleveraging of the consumer is a little bit more than even you thought it might be?

Yes. I mean, again, our growth can be a little bit is somewhat independent of really the overall macro trend in the sense of our growth is primarily driven by how many new retailers have signed up, and if we acquire some growth, so if the core is doing normally 4% or 5%, maybe it's doing more like 3% or 4%, you're talking a couple of points at most, but we certainly third quarter we won't be doing the 20 plus%, but we're certainly in the mid teens for sure on the growth side, and so as we go into next year, we'll probably model something akin to sort of our historical growth rate, which would be -- you do about a 9% or 10% portfolio growth. Your yields are all the way back to pre-Card Act days. You have improving funding, and improving losses, and you ought to have a heck of a year for Private Label as part of that assumption, there were a number of deals in the pipeline --there are a number of deals in the pipeline that we have to hold off on until we had certainty on late fees and what we're going to do with them otherwise we couldn't price the deals the right way. You're going to see some announcements coming out, I would say hopefully we could get out four maybe five announcements before the end of the year and in terms of programs to pick up, they will either be ramp ups from scratch, one of them I think is a moderate size file, and hopefully we can get all those announced and out the door over the next four or five months.

And have you seen a slow down in retail sales. We've seen a little bit in June. I guess there was some noise, have you seen your portfolio, same store sales slow down?

Yes a little bit. A little bit. Yes.

All right.

But I think overall, again, the bulk of what will drive you're sales growth are the new vintages ramping up as well. Yes, you're not going to see -- from what we're seeing, the 20 plus% credit sales growth probably won't be hanging around, but are we going to see double-digit in Q3? For sure.

Thank you.

You bet.

Your next question comes from Sanjay Sakhrani, from KBW.

Thank you. Good evening. I had some questions on Private Label as well as Loyalty, so maybe I'll start on credit first and then follow-up on Loyalty for Bryan. So on Private Label portfolio I just want to confirm the charge off assumptions you're using within the 570 core EPS guidance that's the 9.5% you provided a couple quarters ago. That's number one. Two I was wondering if you could just provide some stats on the percentage of file on work out. There seems to be some confusion intraquarter I was seeing if you could help out on this front and third, Charles, the question you answered on reserve methodology I believe when I last talked to you, you mentioned that presently the reserve at minimum would be the charge off rate kind of over the past 12 months, so you do a look back over the past 12 months I just want to make sure I understood that properly if you could just answer those, that would be great.

Okay. First thing on the guidance, would say that the 570 is still at a 9.5 principal rate? No based on our experience it's a little bit lower than that. But clearly it's not to the level that you could potentially go if we continue to trend so I'd say it's split in the middle. On the amount of portfolio that is actually in hardship or credit counseling, it's less than 3% of our over all portfolio. It's not big in the key attribute for it is 75% of them are currently paying current. So that's something that has grown a little bit. We were encouraged to do so by regulators. It's working out very well. Again, if they pay current, this is something very solid for us going forward. Then on the reserve, there's two ways to look at it. The first thing is we do the migration model to anticipate where things are going. The second is where we do look back from a more regulation standpoint and say can we meet more or what is being required at us at the bank level so we look at it both ways so an easy way what you just brought up to look at it as it take an average percentage for the year and if your principal average is 8, 8, 9, then add a little more for financial charge that would be somewhat your floor there is something going on there. So you have your migration model looking forward, regulators looking backwards. And it's worth a little bit of a blend. Let me put it this way, we never carried at the floor we're carrying excess based upon the way we do it from a GAAP standpoint not where we at a minimum be required to keep it.

Okay. Great. Bryan just a question on Loyalty. I think, I appreciate all the color on the breakage and the vintages. That's obviously an area we get a lot of questions on. I was wondering if you could just talk about the sensitivities to earnings around a percentage change in the breakage rate assumption, and then just what kind of latitude do you guys have to make changes to the redemption policies such that they don't have a major impact on customer engagement with in the program.

Why don't I start off with the second question what kind of latitude do we have? We've got a fair amount of latitude actually to make what changes we need to do. Clearly if we're going to make a significant material change, we would go around to our key partners and make sure that they're aware of the kinds of adjustments we're making. We don't do anything in the program without carefully researching it to make sure we don't feel there's going to be an adverse effect to the attractiveness of our program to consumers, but there are a number of levers as I said that we can pull, which allow us to make, make adjustments and basically fulfill on what we believe is, what's going to happen. Which is we're going to manage to the breakage rate that's there. So to come back to your first question. We don't even look at that. We're managing, we believe, that getting to a 28% breakage rate is fully within the realm of what we can do within the program. Especially given what we've seen on the vintage side as I eluded to through the commentary that I had and we're actively right now looking at, what we can do in the program, which not only keeps us within those boundaries but also makes sure that we have a very competitive program into the future.

Okay. Great. One more question I'm sorry. Just on Epsilon, Ed, I think you mentioned all the partners that are coming on and the revenue opportunities. I was just wondering if you could just talk about where you are in the revenue capture for the customers you've signed on over the last year and a half?

Yes. I would say it's fairly early stage at this point. You will start seeing a seasonal acceleration in both top line and EBITDA, especially EBITDA in Q3 and Q4, because Abacus is zinging along pretty nicely this year, so I would read Q3 and Q4, which will be very, very strong quarters for Epsilon as more of the return of Abacus and [Sumkis] from the Capital Ones, and the Visa's of the world but I would say the bulk of the benefit, of the big, big programs will probably really start hitting in 2011 and 2012.

Okay. And is that pretty even in 2011 and 2012 or is it skewed toward one specific year?

I think -- I don't think it's skewed. I think it's a question of as long as we get these guys boarded and up and running, 2011 should be pretty strong.

I'm sorry. Final question. Do you have any estimate of kind of revenue opportunity there? You mentioned $40 million EBITDA third quarter.

We do. I'm not sure I'm going to --

Okay. Fair enough.

Talk about it. I would say in Q3 and in all fairness, if you're looking at 40 plus on EBITDA, you're certainly talking north of 140 of revenue, right?

Yes.

I would certainly say that and I'll leave it there. And just on Bryan's point about what, what flexibility we have on the redemption side, it's, it's not unlike what we had to do with Private Label, which is when you're dealing with relatively few clients, but very important deep relationships, it's more of a -- it's a function of a courtesy to go around and make sure everyone knows what's going on, make sure they're on board, so they don't have any surprises. But it's not really something where we need sign off, it's more of a question of let's make sure the relationship is in good shape.

Okay. Great. Thank you.

Your next question comes from the line of Robert Dodd with Morgan Keegan.

Actually just got one, hopefully simple question. Brazil, right. I mean, you've given indications before you're spending I think $15, $20 million this year on Brazil plus other investments in this segment, so that's dragging earnings by about $0.20, can you give us an idea what the breakage rate you're assuming in Brazil is or what, what you're projections would be for the year or period roughly when Brazil would actually be accretive to earnings I'm assuming we're not looking for at least a couple years.

Yes you're basically right, it's not for a couple years. To answer the breakage rate, until we've got more history, we really don't recognize any breakage at all in a market. So, so it's flowing through on a very different basis than it might be in Canada. I think that clearly as we work our way through any new program, Brazil being an example, there's a number of factors that go into the program design, the type of reward mix you're going to have, sort of had how long you're actually going to keep the miles on the books until they're actually redeemed, and on, and lastly clearly, is breakage rates so all of these are different factors they're all open for program design and they're all conditional on market and how the market actually takes up the program, so to actually allocate and be able to tell you looking forward what the breakage rate is, we have some assumptions. But the market test that we're running in Belo Horizonte right now is one of the things it's designed to do is give us some visibility on what that looks like. So far. things are looking, at the breakage rate, in there may be a different structure than what it is in Canada it but it's too early to comment and make a prediction on what that's going to be.

So Robert from an accounting perspective for at least two years you assume zero breakage while you come up with a history you see a drain on earnings for a couple years while we get up and going even then you get into a cash flow positive it may take another year or two because it becomes EBITDA accretive. It's a longer term investment you try get cash flow positive within two years and you try to get to EBITDA positive within four years.

Got it, thanks a lot.

Your next question comes from the line of Reginald Smith with JPMorgan.

Hey guys, thanks for taking my question.

Thanks, Reginald.

I guess one quick housekeeping and I need to follow up with Bryan on Loyalty, but with the Equifax acquisition how should we be thinking about revenue contribution and margins and is that factored into your guidance for this year?

The answer is, no. So while I will provide some revenue upside to 2010, probably in the $30 to $40 million range from an EBITDA standpoint probably wouldn't add much. While the business is generating positive EBITDA we have transaction costs we have integration costs so there may be a little bit but it's not going to be appreciable this year. The next year I could see it adding, $70 to $80 million range to revenues and getting back it closer to 20% EBITDA range.

Okay. Great. I guess on Loyalty. I'm trying to understand a little bit better the expense breakdown and how that, that mix looks between, I guess administrative costs and then maybe the cost of rewards. So how should we think about that?

Your cost reward is the biggest piece of what you see running through.

Right.

And it's a piece, as I mentioned in my commentary, we've done a pretty good job over the last, really beginning five years ago over the last couple of years of leveraging technology and finding a way to create significant operating leverage in the business. Our, our expense base is effectively flat to actually run the program and so any increase in cost is coming from the rise in the quantity of redemptions which are coming year over year and the cost to fulfill those rewards.

So if you break it down, the cost to miles is about 20% of the operating cost. Payroll and benefits about 20%. So --

Okay.

So your biggest piece. 68% cost to miles and 20% payroll.

I have a few more if I can sneak them in. I guess you guys talked about some lower margin miles coming through the P&L. Is that -- should we think of that as lower yielding revenue or is it just a higher expense or be associated with those miles as they're redeemed?

It's lower yielding revenue is the way to look at it.

Okay. And then just two more quickly. I guess this, this split fee, non-split fee program you talked about, I any of $7 million headwind or drag, and then you've got, I guess $15 to $20 million in Brazil spend I'm just trying to figure out, what the real expense run rate is. How far back does that amortization benefit run? And how large was it, if you can kind of size that for us, that would be great?

The deferred profit shouldn't effect your operating cost trends. I mean, basically it would be running through your revenues but it wouldn't be running through your costs.

Right. I guess I'm trying to normalize historic profits for the run through. You follow me? So you had a profit --

Yes there had been a deferred profit for getting through over say the last eight quarters. That is pretty well runoff by the end of Q3, from an operating cost standpoint, pretty consistent, doesn't run through there and as Ed indicated before, dropping down into the low 20s on an EBITDA percentage so you're somewhat back into what that means from a revenue perspective.

Got it. Okay. If and just one last one. Sound like you guys can manage the, how many miles it takes to, to redeem a certain gift. Just curious, have you done that recently and, and is that the reason redemptions have slowed or, or --

Yes. No, we, I don't think there's any connectivity between redemptions slowing and the second quarter. Second quarter generally for us has been a slower quarter from redemptions, Q3, Q4 tend to be our more active redeeming months. I'd say that we have a long history of adjusting our costs structures to consumers with respect to the redemption options. We've made adjustments to many of our gift certificate costs. In other words, what we're charging the consumer and just as recently as February, we announced the change to our zone structure for flight redemptions and took that an average up of about 8% to 9% in terms of number of miles that are required. So, I think there's more, a question of some market dynamics you recall, that redemptions were quite slow last year an we expected that consumers would have been spending miles in a poor recessionary environment, in fact, they were hoarding them. They were holding them back like a bank account and this year we've seen them releasing more of the miles in the marketplace and redemption activity starting to recover to historical level, so I think there's a number of things moving in tandem here.

Okay. Perfect. Thank you.

Why don't we take one more and we'll keep to our promise of 45 and 45. So one more. Operator.

And your next question comes from the line of David Sharp with JMP Securities.

Hey, looks like I squeezed in there I'll keep it brief. Just visiting provisioning again.

Yes.

Charles, I think in the past when you and I have spoken you mentioned an outlook this year of maybe around $450 to $470 million. You're at $185 million through 6 months, now I know there's some seasonality as you take on more loans, more receivables in the fourth quarter. I just want to make sure I'm in the right ballpark, is that kind of look down to provisioning for sort of 10%, maybe even a little below that by the end of the year along with existing portfolio growth, I'm coming up with about $400 to $430 million for the year, does that sound like a more reasonable range?

For expense.

Yes.

I would say that's a reasonable range.

Okay. Good. Lastly on late fees just so I understand the $0.30 hit over what period, the regulations kick in late August when you talk about November billing cycle having most of the mitigants in place, are we essentially talking about a three-month period? This $0.30 occurs over?

You've got two things David, you had the Card Act coming in two waves. First in February. If you were in Q1 call we took a $14 million hit in February. When the Card Act was implemented in February and we didn't have the mitigant in place until March. That was the first part we anticipated processing fee would offset that. The second part of it is the timing GAAP you're referring to. About three months $4 to $5 million per month that's how you get to the cumulative $0.30 for the year so we really set that processing fee to cover the full implementation of the Card Act and now with the pulling of it, you have the hit from Q1, you have the hit that takes place in September, and then basically for a couple of months in the fourth quarter.

Okay. So $4 to $5 million per month is how we ought to think about it.

Yes.

Or about 60, $60 million annualized.

Yes. You have basically two or three months uncovered until we get the new burn in of the new card holder terms.

I'm trying to get -- this is the first time we've gotten any kind of real granularity on potentially how many basis points of your gross yield is actually coming from late fees. I'm just trying to get a better sense for what we're dealing with here Okay. That's good. Good job. Thank you.

All right. Well again, I appreciate everyone's time we'll try to wrap it up. Appreciate Bryan coming down from the Great White North to the 105 degrees down here and we'll see everyone in Q3. Thanks.

And this does conclude today's conference call. You may now disconnect.