Bread Financial Holdings Inc (BFH) 2013 Q4 法說會逐字稿

Good morning, and welcome to the Alliance Data fourth quarter and full year 2013 earnings conference call.

(Operator Instructions)

It is now my pleasure to introduce your host, Miss Julie Prozeller of FTI Consulting. Ma'am, the floor is yours.

Thank you, operator.

By now, you should have received a copy of the Company's fourth quarter and full year 2013 earnings release. If you haven't, please call FTI consulting at 212-850-5721. On the call today we have Ed Heffernan, President and Chief Executive Officer; and Charles Horn, Chief Financial Offer of Alliance Data.

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 measures, which we believe will provide useful information for investors. A reconciliation of those measures to GAAP will be posted on the Investor Relations website at www.alliancedata.com. With that, I'd like to turn the call over to Ed Heffernan. Ed?

Great, thanks, Julie.

And joining me today is our effervescent CFO, Charles Horn. And Charles will discuss our operating results for the fourth quarter of 2013, and I'll wrap it up with the final scorecard for 2013, and move into 2014.

And with that, I'll turn it over to Charles.

Thanks, Ed. It was a strong finish to a record year. Revenue increased 17% to $1.14 billion for the fourth quarter, bolstered by 14% organic growth. Importantly, revenue growth was balanced with double-digit growth in all three segments.

Our profitability growth was even better, adjusted EBITDA net of funding costs increased 18% to $290 million, while core EPS increased a stellar 30% to $2.39 for the fourth quarter of 2013. A higher-than-expected diluted share count for the fourth quarter, 66 million versus the guidance of 64.7 million, was offset by a 300 basis point improvement in the effective tax rate.

Our guidance for the fourth quarter did not consider either, but it was essentially a wash, the $0.05 benefits from the effective tax rate offset by a $0.04 drag by the higher share count. Fortunately, the diluted share count will drop in 2014, as the second tranche of convertible debt matures, while the lower effective tax rate expected to be sustainable in the 36% to 37% range going forward.

For the year, revenue increased 19% to $4.3 billion, supported by a very strong 9% organic growth. Adjusted EBITDA, net of funding costs, increased 16% to $1.25 billion, while core earnings increased 20% to $669 million.

Core EPS increased 15% to $10.01, exceeding Company guidance of $9.90. This was achieved despite a $0.43 drag from a higher year-over-year diluted share count.

The Company's effective tax rate dropped 70 basis points to 37.5% for 2013. The improvements for the fourth quarter and the year, relates to our ongoing strategy of using international profits to invest in new international growth opportunities.

Let's go to the next slide and talk about LoyaltyOne. LoyaltyOne's revenue increased 13% to $245 million, while adjusted EBITDA increased a robust 19% to $68 million for the fourth quarter, overcoming a 6% decline in the foreign currency translation rate. On a constant currency basis, revenue increased 20%, and adjusted EBITDA 26%. The expansion in adjusted EBITDA margin is the result of favorable operating leverage, higher margins and redemptions, and a $3 million reduction, and the losses associated with international expansion efforts.

Importantly, AIR MILES reward miles issued increased 12% over the fourth quarter of 2012, due to a significant promotional activity in our credit card, gas, and grocer sectors, as well as the continued ramp-up of new sponsors. This strong second-half growth in miles issued offset negative first-half growth, producing full-year issuance growth of 4% compared to 2012.

For the fourth quarter, AIR MILES redeemed increased 24%, approximately one-half from the ramp of AM Cash redemptions, that's our instant reward program, and the rest from better product availability. For the full year 2013, AIR MILES redeemed were essentially flat with 2012, as LoyaltyOne managed the program to achieve a lower burn rate, 74% in 2013 compared to 77% in 2012. The target burn rate for 2014 is expected to be down again at approximately 71%.

Entering 2014, LoyaltyOne is lowering its breakage rate by 1%. The new breakage rate will be 25.6%, representing 26% for the base program, and 0% for the instant reward program.

The 1% change is based upon the trending of old miles, as the program moves toward the 2016 expiration date for miles greater than five years old. We expect to offset this through lowering operating expenses, and higher product redemption margins.

During the fourth quarter, LoyaltyOne announced that it was expanding its international footprint by acquiring a 60% ownership in the Amsterdam-based BrandLoyalty, one of the largest and most successful data-driven loyalty marketers outside of the US. BrandLoyalty is a growth company, driving consistent double-digit organic revenue growth, which is really what attracted us to the company.

We expect the overlay of LoayltyOne's advanced analytics and advisory services will lead to future revenue synergies. This transaction closed on January 2, 2014.

Lastly, Dotz, our Brazilian joint venture, ended 2013 with 10.6 million collectors, exceeding our 10 million target at the end of 2013, and about double the number of collectors we had at the end of 2012. In addition to the member expansion, the Dotz program launched in four markets during 2013, bringing the total number of markets to nine. Importantly, Banco do Brasil, the biggest sponsor in the Dotz program, recently signed a multi-year renewal.

Let's flip over and look at Epsilon. Epsilon finished the year strong, with the revenue up 28% to $375 million for the fourth quarter, and driven by 14% organic top-line growth. Adjusted EBITDA increased 34% compared to the fourth quarter 2012, as Epsilon achieved excellent operating leverage, resulting in a 140 basis-point expansion in organic adjusted EBITDA margins.

Now let's look at each line of business within Epsilon in a bit more detail. Agency continues to be the growth leader, increasing 52% to $196 million in revenue for the quarter. Organic revenue growth was a solid 20%, driven by strength in the auto and telecom verticals. Recent signings in the auto vertical should help continue strong agency growth rates in 2014.

Technology revenue increased 12% compared to the fourth quarter of last year. This double-digit top-line growth was driven by a stellar performance at database, partially offset by continued weakness at e-mail.

Database revenue increased 18%, as we maintained momentum across the majority of our client base. E-mail revenue declined slightly, due to customer attrition. The roll out of the new Harmony platform, which is both a full-service and cloud-based SaaS solution, is expected to drive growth opportunities in 2014.

Data revenue increased 3% in the fourth quarter, primarily due to growth in our online offerings. Historically, data revenue grows at a slower rate than the rest of Epsilon's product offerings, and that is expected to continue, but it is still an integral part of our bundle solution. Overall, we expect our online offerings to continue to increase as a percentage of the data mix.

In summary, it was a very good year for Epsilon, achieving organic revenue and adjusted EBITDA growth of 12% and 13%, respectively. From a growth standpoint, we continued to work on cross-selling opportunities through a set of broad-based internal initiatives, and expect Agency to continue to be the tip of the spear, driving these efforts.

As a result, we feel comfortable with our ability to drive continued high-single digits organic revenue growth. From a profitability standpoint, our focus on expense management as we fully integrate HMI, coupled with an improving mix toward higher value-added products, will allow adjusted EBITDA margins to expand about 40 basis points in 2014.

Let's now turn and talk about Private Label. Once again, Private Label delivered double-digit revenue growth during the fourth quarter of 2013 with the revenue increasing 13% to $526 million compared to a 14% growth in the average card receivables. Adjusted EBITDA, net of funding costs, increased only 1% for the fourth quarter, as it was burdened by a 27% increase in provision expense related to seasonal ramp-up and the ending credit card receivables.

As you may recall, we always have a timing issue in the fourth quarter, as a portion of its provision billed relates to recently originated card receivables that have not yet become income-producing assets. Said another way, we recorded provision expense in 2013, related to these new receivables, that won't contribute to earnings until 2014.

Private Label's ever-growing marketing capabilities, which drive incremental sales for our retail partners, amplified this trend this past holiday season. We will talk about this some more later.

It is also important we talk about the increase in operating expenses, which were up 17% for the fourth quarter and 24% for the year. This growth rate, which exceeds our revenue growth rate, is intentional for the short term.

With a double-digit backlog of new programs to launch, our risk for 2014 is executional risk, meaning that we don't launch when the client expects or perform to the client's level's of expectations. These expenses represent a deliberate up-front personnel investment to ensure that we meet our obligations to existing, as well as our new partners.

Funding costs continued to trend down as 2013 progressed. Expressed as a percentage of average receivables, our funding rates were 1.6% and 1.8% for the fourth quarter and full year, respectively. For 2014, we expect a funding rate of 1.6%, approximately 20 basis points than better than 2013.

Turing to the next slide and looking at the various stats on Private Label, you can see that our differentiated business model helps us drive above market growth rates in credit sales and receivables. For the fourth quarter, credit sales increased 16%, resulting in average and the ending card receivables growth of 14% and 16%, respectively.

Our growth in credit sales is particularly impressive, given that the overall consumer spend increased only about 4% during this past holiday season, and it was largely achieved through heavy promotional activities by the retailers. Our retail partners' results were really no different, with the majority posting results at or below the overall US average increase.

However, our card programs were a bright spot, driving incremental sales for our retail partners and creating tender share gains for us. This tender share gain can really be seen as it relates to our core programs. And the ones of you who know ADS, that means client programs that we've had for more than three years, where our credit sales increased 8% compared to the fourth quarter of 2012.

Finally, delinquency and principal charge-off rates trended as expected in the fourth quarter. As talked about early in the year, we believed that the principal charge-off rate bottoms during the second quarter of 2013, and will more closely follow the typical seasonal trends on a go-forward basis. Our expectation for 2014 is that the principal charge-off rate will stay in the 4.7% to 4.8% range.

To summarize, our growth strategy is working for Private Label. We're expanding our card holder base, driving tender share through our know-more sell-more strategy using multiple channels, and the on-boarding record number of new card programs. This three-pronged approach promotes short-term growth, but also lays the framework for long-term growth.

Before I leave this slide, there's probably one more thing I'll focus on, and that is the gross yield. The gross yield for the fourth quarter was down about 50 basis points. Most of that, if not all of that, is attributable to the on-boarding of new programs. Again, if we go back and look at the core file, for openings we've had for more than three years, the gross yield is consistent year-over-year, so I think that's a very important consideration as you evaluate the change in yield.

Turning to -- actually, I want to address one more thing before I turn to liquidity, and that is I want to talk about the confusion recently surrounding the Private Label segment. An unusual thing happened this year, and the fact that the call reports of our two banks were filed before we held this earnings call. Some people added the two call reports, and thought the results represented the entire segment.

It's not that simple. The Private Label segment is comprised of the three parts: one, our UTAR Bank; two, our Delaware Bank; and three, our servicing division. The call reports do not include the servicing division, while the overall Private Label results do.

Usually not a big difference, but it was in 2013, as we changed the process charged by the servicing division to the two banks to better reflect market pricing. And the impact was about a $60 million improvement in profitability at the servicing division compared to 2012. So really, it was a bit of unnecessary drama.

Turning to liquidity, Company liquidity was a very robust $3.8 billion on December 31, more than sufficient to execute our capital allocation plans for 2014. Breaking it down, corporate liquidity, which reflects available bond capacity and usable cash, was $1.3 billion at year end. Outstanding corporate debt at December 31 was $2.8 billion, essentially flat compared to 2012, but supported by a much stronger leverage ratio, meaning our EBITDA-to-debt ratio fell from 2.3 to 2.0 times.

Bank liquidity was $2.5 billion at year end. Outstanding borrowings at December 31 aggregated $7.4 billion, and were comprised 40% of term asset-backed securities, 20% conduit, 35% CDs, and 5% money market demand accounts. So it's a very diversified funding. The average duration of the borrowing was approximately 27 months, with 74% carrying a fixed rate.

For 2013, we used $231 million of our $400 million Board authorization to buy 1.4 million shares. We were more active in the first half of 2013 than the second half of 2013 for an obvious reason, accretion. As the year progressed, and our share price increased, our capital allocation prioritization shifted to M&A opportunities capable of providing superior accretion.

We were successful and found BrandLoyalty. Entering 2014, we have a new $400 million authorization, which will continue to be a key part of strategy. The only question is whether it will be number one or two in terms of prioritization. Obviously, the recent pullback in our stock price has opened up a very nice buying opportunity. With that, I will turn it over to Ed.

Great. Thanks, Charles. I'm moving on to the 2013 wrap-up page, and I'm glad Charles addressed some of the confusion around that call report stuff.

We've been to that dance before, and it's important that you look at all the pieces and obviously you see them combined today in the financials. So, sorry for the confusion. Obviously, things are in very good shape, but you can always call the Company if you start hearing about a piece here or a piece there, and Charles can put the puzzle together.

So, that being said, on 2013 wrap-up, again, what I focus on and what the Company focuses on primarily is organic growth as we're seeing obviously the market results coming in across the various companies. Once again, it looks like the top line, from an organic growth perspective, seems to be the one item that is struggling. And so, here, once again, it looks like we had a bang-up year as it comes to organic growth as compared to the fall-off in GDP growth rates over the past two years and likely going forward, it becomes increasingly hard to grow above the nominal GDP rate.

From our perspective, however, we would suggest that we can comfortably grow in the high single digits, which would put us at least 3 times on nominal GDP, 4 times on real GDP, and we did so in 2013, as well as in 2012, and in 2014 it looks like it's going to be a similar repeat for us. To be very clear, organic means that we take out or we pro forma any acquisitions, be it of a company or of a portfolio, and we look at true organic growth rate. So that looked very strong for 2013.

Our model, essentially, is combining strong organic growth with modest M&A, and that should drive mid-teens adjusted cash flow growth and core EPS growth. While doing so, because the Company does throw up a lot of free cash flow, we've been able to maintain very modest net debt levels of around 2.0 or less, and as a result gives us quite a bit of dry powder as we go into 2014 and 2015. Also, I think we've done a number of things that I'll talk about in terms of shoring up visability for 2014 and beyond.

Before we hit that, I think it is important that we go back and say all right, what worked for us in 2013 and what didn't work for us in 2013? And be very frank about the minuses as well as the pluses.

And if you looked at LoyaltyOne, I would say three out of four were certainly positive. I would say the miles issued increasing 4% in 2013, after being down 4% in the first half, bouncing back double-digit in the second half, a very nice job for the folks at our AIR MILES program. And again, I know there was some skepticism early on in the year that we could make such a strong swing, but it turns out these folks did a wonderful job getting us there.

The second, a very strong year for new sponsors with Staples, Old Navy, Irving, EastLink, and GM. And again, for a program that's been around for 20-plus years, adding big new sponsors certainly suggests that the future looks bright.

On the negative side, quite frankly, the Canadian consumer is stretched. And we're seeing in it the card spending nums, and we're seeing in it the overall consumer spending numbers up there. Again, this is more related to the housing situation in the sense of the fact that Canadian households are allocating an increasing portion of their disposable income to servicing housing costs which have continued to go up. They did not experience the type of hit that we had here in the States, and as a result, that's choking off some other spending that would otherwise flow into our program.

So again, we want to watch that. I don't think it's anything that's at crisis level, but it's something that certainly we need to being cognizant of. Also, the Canadian dollar has shown some weakness, and continues to show some weakness, and we need to watch that as we go into 2014 as well.

Turning back to the positive side, look, the expansion of the program in Brazil came in better than expected. We now have 11 million folks lined up in the program, we launched another two relatively small markets in Q4, that was in the release yesterday.

And with the renewal with Banco, we're off to the races and we're going to continue to grow that thing more and more each year. Our goal is to get somewhere up to about 25 million collectors, I think is a reasonable number.

At Epsilon, very strong organic growth, double-digit organic growth on top of printing a 39% total revenue growth. And if you looked overall, we saw some margin expansion of 100 bips. Our strongest areas were strength in the auto vertical financial services vertical, CPG, and the retail verticals. Those were all very, very strong for us this year.

Again, on the negative side, if you were to look at all the pieces of Epsilon, what was disappointing, there's no question that our e-mail business was disappointing this year. And hopefully, with the launch of our new platform called Harmony, we will see that turn during the latter half of 2014, so stay tuned on that one. That is probably job number one at Epsilon this year.

On the good news side, the other pieces, Agency, database, and the other digital pieces were very, very strong, and continue to benefit from the secular trends in the marketplace. On Private Label, it was a boomer, no question about it. Average card receivables up $1.3 billion or 22%.

And what's interesting, as I've mentioned before, is if you looked at consumer revolving debt, that hasn't budged for years. And prior to that, it was growing 7% a year before it tanked from $1 trillion to $850 billion, and then has been essentially flat since then for many years. The industry may be growing zero, maybe growing 1% or 2% if folks are lucky, pumping out 22% growth in that environment it means something is working. And we think our full service approach is something that is unique to the marketplace and does continue to work.

Credit sales growth 22% versus nominal GDP growth of 3%. Again, something seems to be working here. And I would say the highlight of, not only the year but of the holiday season, which is so important to our retailers, and Charles already mentioned, is the fact that if you looked at holiday spend in the US, it depends what number you choose, but it's about up 4%. Our retailers were up somewhere around 2.5% to 3%, so a little bit underneath that.

If you were to look at those retailers who have been with us for many year, so these are relatively mature Private Label clients, our growth rate against their 2.5% to 3% was actually 8% to 9%. So we grew three times the spend growth rate of those retailers. And if there was any doubt in prior years whether this mouse trap works, the answer I think was shown during the holiday season.

So it was the bright spot for many, many retailers in the sense that, yes, it does work. That when you accept data and you learn to understand the data. And hence the customer, you then use that to do very, very focused targeted marketing offers through multi-channel distribution that you know what, you can drive that person online one extra time to make that purchase.

So you can drive that person into the store to make one more purchase. And the ability to do so was never more evident than in this holiday season, and I think that is behind the fact that we have had a huge number of new signings starting 2012 and then in 2013. And the backlog, quite frankly, is even bigger in 2014. So, there is no question that this product that we're offering to the marketplace has hit the sweet spot of where the retailer wants to be.

On credit quality, and Charles mentioned, things look stable. We're floating around that 5% level where we were at in 2012, we're at in 2013. And we're going to be at 5% or under in 2014, so no excitement at all when it comes to the credit loss picture. It looks very solid, and we think that will continue through 2014 and beyond.

Also, probably the biggest thing in terms of looking forward, was the fact that if you understand our business seeing an announcement of a new client is obviously great news, but it doesn't do a thing for our bottom line in the first year. In fact, it takes up to three years before that client spools up to the point where it's generating very nice revenue and earnings for us. So in a sense, every time you see an announcement, you can think of that as a big investment for years three, four, and five.

And the good news for us was the fact that, as we talked about, this product seems to be selling like hot cakes. And right now, we're at the point where we did sign a $2 billion vintage. That means it will spool up to $2 billion in portfolio size during the 2013 year.

To put it in perspective, that's 15 signings versus a typical 4 to 5 in any given year. So, it's been quite a year in Private Label, and we look forward to more of the same.

All right, let's go to 2014, and talk about the guidance. We've had a lot of questions over the last month or so about, well, looks like 2013 was a great run, 2012 was a great run, 2011 was a great run, 2010 was a great run. Can the train keep running into 2014 and beyond?

Having done this for an awful lot of years, and I can certainly say at this point the answer is yes. We are expecting another very strong year in 2014. We do have visibility very nicely through most of the year, and we are, right now investing heavily into building for 2015, 2016, and 2017.

We have updated the guidance to reflect two things. First, as Charles mentioned, we wanted to roll in the BrandLoyalty acquisition. That will add about $500 million, because we take in 100% of the revenue, even though we can only recognize 60% of the earnings. So pop in about $500 million in REVs for BrandLoyalty over in Europe, and that would add about $0.25 to core EPS, putting us up about 19% or so for the year. The softer Canadian dollar is going to hit us for about $0.05, so the net $500 million to top line and about $0.20 to core EPS puts overall growth rate in earnings-per-share at about $12.20, which is about a 22% growth rate versus this year, which isn't so bad.

So, again, a very strong year, more of the same. Probably not a lot of drama, just very nice solid growth going forward. Mid-teens top line growth rate, high single-digit organic top line growth, and over 20% core EPS growth rate.

Let's talk specifically about how the quarters are going to roll out, because it's going to be different this year than the past couple of years. And essentially, you have a couple of big drivers. So Q1 will still come across and have very strong mid-teens top line growth. So right out of the gate, you should see strong top line growth, but our earnings will be held back and dampened down to the mid-single digit growth to reflect one big thing. And that is the unique opportunity that we're seeing in Private Label.

What we're looking at right now, is we're going to grow operating expenses in our Private Label group as much as 25% versus prior year, which is a huge amount. We're doing that for one simple reason, and that is we are building for 2015, 2016, and 2017. And to put it in perspective, we normally bring on 4 to 5 new clients per year, in 2012, we brought on 7.

In 2013, we brought on 15, and in 2014, we're going to bring up over 20 new clients on our platform. That requires ramping up expenses well ahead of the revenues. We talked about revenues come down, flow through in the later years, not right up front, and so we're going to go ahead and sit there and say all right, that is the right thing to do.

And what does that mean? It means we added 800 people to the card group during 2013, we're going to add over a 1,000 to the card group in 2014. Most of them are already on board and getting ready for the 20-plus new clients that we're bringing on.

So essentially, the infrastructure, the people, are all in place to ramp up these 20-plus new clients, and that bodes extremely well for 2015, 2016, and 2017 when the revenue pours in the door. At the same time, however, it will dampen Q1, but it won't dampen the year.

Business is absolutely booming. We believe we can continue to grow earnings 20% this year, while at the same time really getting some nice visibility into 2015, 2016, and 2017 for our card business. And also with our extension and expansion in Brazil and in Europe, we think we can set the table for having a very strong international footprint in future years as well.

So, it's a little bit of I think we can deliver some real nice num's for 2014, with high single-digit, organic, top-line, and 20%-plus EPS. While at the same time, absorbing some huge investments for the big growth spurt that's coming down the road.

Turning to 2014 outlook, again, more of what you've heard us talk about forever, which is the marketing dollars are continue to flow into the data-driven marketing and loyalty programs. I don't think that's news to anyone. We've been saying pretty much the same thing for about a dozen years, and all we're seeing now is it looks like it's picking up, which is obviously good news for us.

The fact our assets consist of data, consist of platforms, loyalty programs, analytics, digital distribution. We're kind of sitting right in the middle where a lot of these trends are converging, and I think we're sitting in a good spot.

One thing I do want to say, because people ask sometimes about how we are different or how we compete with some of the other models that are out in the marketplace. My belief is that this is a huge and growing market. And as a result, there's going to be more than one model that will be successful.

You could have a model that is pure software as a service. You could have a model where there's just expertise in one piece of the puzzle, which could be whether it's e-mail or data or something like that. Or you could have the Alliance model, where we are effectively an end-to-end solution, one-stop shopping, all wrapped in a very, very solid 12,000 person services model.

I think all three will have a very good shot of being successful. I think if you're one in of those three, you need to be the biggest and the best. And our job is to be the biggest and the best in this area that we've chosen.

So again, I don't see us necessarily competing with other models. I think there are number of large companies out there who want one-stop shopping with a lot of service attached to it, and those are the folks we're going after.

Again, to finish up, ADS is going to look to drive organic growth at 2 to 3 times out of the market and real GDP. Turning to 2014 outlook specifically, at LoyaltyOne AIR MILES, relatively flat revenue growth with low single digits adjusted EBITDA growth.

Again, we're looking at some dampening by very a soft Canadian dollar versus where it was in 2013. We think the economy in Canada, from what we're seeing, is a little bit weak, vis-a-vie the US and the consumer is stretched.

And then finally, one of our verticals, pharmacy, there's a big unknown right now. But there is recent legislation essentially questioning whether we can issue reward miles, AIR MILES, on the pharmacy sector. So, stay tuned on that one.

Again at the end of the day, we should have some decent issuance growth throughout 2014. BrandLoyalty, the acquisition adds about $500 million, and that should be up double digit organically from where they were in 2013. Brazil, we're looking to add at least another 2 million members by the end of 2014, which would put membership up 20% from a revenue respective.

I think the overall entity, will do US about $140 million, which is up about 50% versus where they ended this year. Again, none of this is captured in our financials, so it's a very nice sort of off-balance sheet asset that is growing in value very quickly. And again, we're very, very bullish on where this thing is heading.

At Epsilon, high single-digit organic revenue growth to continue. We look for a little bit of a kiss in terms of margin. Very strong 2013 signings and backing provide for good 2014 visibility.

And one of the things is here is, for whatever reason, it's kind of strange, but it's really, really tough to get our clients that we've signed to let us issue press releases when we're building or launching a big loyalty platform. It's interesting to read about all the new programs that are out there in the newspapers and see it on TV, and actually go to some of these places. But we are definitely not having much traction in getting our clients to let us sing the praises of these new loyalty wins.

To give you a sense, again, about the trends that we're seeing out there, much like in Private Label, this stuff works. And we had 23 wins in 2013, versus a normal rate of about 15. So normally, it's pretty busy, 2013, it was very, very busy.

So you saw it in the numbers as database went from a very a soft back in Q3 of 2012, and we called it then the air pocket. And then it's finishing up high single-digit organic top-line growth, and based on the bills that we're looking at it bodes very well for 2014.

Finally, Private Label, a very robust pipeline. We talked about -- historically, we signed 4 to 5 clients. We'll bring on a few hundred million of growth in the portfolio when it matures after three years of seasoning.

And then last year, or I'm sorry, in 2013, we signed $1 billion vintage. Last year we signed a $2 billion vintage. And based on the pipeline right now, we are looking at signing another $2 billion vintage this year. So it is incredibly robust at this point in time.

The focus of the retailers is entirely on the ability of our closed loop network to link the consumer with her purchases down to the category or SKU level. And again, you saw it during the holiday sales life where our card members were running at 4 times what the retailer was running at.

So, pretty exciting stuff. And again, double digit organic revenue growth. As Charles mentioned, yields holding up very, very nicely and the growth is there.

There's just going to be an awful lot of up front expense to get this puppy up and going as we move into the next few years. But it's all good.

Principal loss rates, very similar to 2013. The way the delinquencies are flowing and what we're seeing on the recovery side, would suggest that first quarter is going to be slightly over 5%. And the remainder of the year, we feel pretty comfortable will be below 5%. So I think, calling it at 5% over the last couple of years, and 5% this year, is pretty close. And I think maybe we can do a little better than that.

Okay. Summing up, great 2013, more of the same for 2014, plus making big investments in both the card business as well in the international expansion in both Europe through BrandLoyalty, and in Brazil.

I think that's about it. At this point, why don't we turn it over to questions.

(Operator Instructions)

Your first question comes from the line of Sanjay Sakhrani from KBW.

Thank you. Good morning. So a couple of questions. First just on Private Label, appreciate the color around the yield, Charles. As we look out to this year, do you expect yield to remain relatively flattish relative to last year? Is question one.

And then I have secondly, what kind of receivables growth are you guys assuming in 2014?

A couple of things there. From a growth yield standpoint, combined it's probably been about 40 basis points in 2014 compared to 2013. If you break that down, the core programs will be stable to maybe even slightly up. The on-boarding of the 20 plus programs that Ed talked about will be what drives a little bit of decline in overall yield.

In terms of growth, we're looking at at least 15% growth in average receivables year over year. I think with the potential that we're seeing in the pipeline, that could be a very conservative number.

Okay, all right, great. And then as we look out into the future, when can we expect some operating leverage in Private Label? Understanding that you guys are investing this year. It is next year, or it is later than that?

It's by Q3 of 2014.

Okay.

So essentially what you're seeing, Sanjay, is we're getting ready for the new volume. We're getting a new call center in Q1. When you put in something like a call center, you staff up immediately for growth that's going to be coming Q3, Q4, and going into next year. So by Q3, you should see some leverage.

Okay, great. And then just on the loyalty division, when you guys discussed taking down breakage rate, what's really driving that? It is engagement? It is the economy?

Because I've heard like American Express talk about in a weaker economy, people actually redeem more of their points. Is that what's happening, or is it just maturation, or what?

Clearly maturation is part of it I think. From my standpoint, it's just another data point. Historically, we've always had an actuarial analysis that helps us determine what the rates should be.

Now we have the benefit of with the expiry policy in place, we can track the maturation of miles greater than five years old. So really, what you have is just the ability now to have another data point that can influence where you want it to go. Beyond that, in some cases, it could be a case like American Express, you decide it to let it move a little bit just as part of running the program.

So again, with all the moving pieces with the loyalty program, you've got the ability to make money on the marketing up front. On the servicing of the program on the product redemptions, as well as breakage.

You can make your money in different ways. It may be a case where you want to run the program slightly differently, where that can influence the break rate going forward as well. So my ends of line statement would be: one, you've got another data point here, and then two, based on the way you want to run the program, you can influence that to some degree.

Yes, I would say that if you looked at where we put the stake in the ground years ago at where we wanted this thing to be, we're pretty close. And right now as we are getting closer to 2016, when some of these actually start expiring, we want to be even more precise.

And so, we have the outside folks run all these models. And if we tweak breakage a point here, or a point there, as Charles mentioned, there are other levers that we pull and we can maintain the margin going forward. So I think we're in good shape.

Okay, all right. And I'm sorry, one final question again on operating leverage for this time in Epsilon. Obviously, you guys are getting some operating leverage in Epsilon, but I assume there's still investments being made. And Harmony, probably is one area.

As we look out to next year, should we expect that you might get more traction in terms of operating leverage? Because I'm sure there's room for more operating leverage there, right?

Absolutely.

Okay. Thank you very much.

We're giving guidance of 40 basis point in 2014, and it could be more in 2015.

Okay, great. Thank you.

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

Thanks, guys. Nice quarter. Just want to start off following up quickly on the Private Label side. With the number of signings you're expecting this year, first of all, if you could maybe deconstruct it a little bit. I think you said about 19 or 20 for the year, versus mid-teens last year. How many of those should we be expecting to be portfolio acquisitions versus organic new business wins?

And then just, a bigger picture question, if you can help size this opportunity. You've talked in the past about the number of Private Label retailers out there that potentially meet your profile. But we're going through 14, 15, to 20 now, and it's a great run rate. I Just wonder how long it could last.

So are we. And I think that right now, times are good. I think that the interest in especially once the numbers get out there about the holiday season and how effective the program has been, that it will crank it up even more. Look, Darrin, I think that from an overall perspective, we're probably not going to move off of our sort of original number. If you were to look at a couple of new verticals like T&E that we've been into with the Virgin deal and Caesars, that opens the market up a little bit.

But if you were to really slice it and dice it down to what's attractive us, we think it's probably about a $30 billion receivable market that looks doable. And if we can keep cranking along at a couple billion a year in vintages, I think obviously that's a real long runway if we're looking at wherever we wound up this year, [$10 billion]-ish or something like that. So we got about a third done, and about two-thirds to go of what we think is the real market.

In terms of how long it's going to last, I don't know. I thought that, frankly, 2012 was the high water mark, and then 2013 doubled 2012. And as we're looking at 2014, it looks like another $2 billion vintage is there, and they're already beginning to line up for the following year.

So, we're kind of running out of slots, quite frankly. So that's what Charles said is, our biggest issue now is executional risk, which is why we spooled up 1,000 people for the beginning of this year for programs that aren't even going to be coming on till later on.

So, we're real careful about that. From the 20 that we're talking about, I would say probably three-quarters, no probably 80% of those will be starting programs from scratch. And there may be a few portfolios in there, but by far, the vast majority of them will be organic growth.

That's great. And the ones that aren't on right, and that includes Coldwater Creek I guess, and perhaps Paypal or Paypal is considered new?

Paypal was a start up. They had the program, but we started it up from scratch when they came over to us, and Coldwater would be -- that's an acquired file, yes.

Got it. All right, that's helpful. Just a quick follow up, look AIR MILES issued number, 12%, and we thought that was a pretty impressive number. And just curious to know what we should expect. I know you give some guidance, but in terms of long-term run rate with the Canadian consumer being a little more stretched, just give us some ideas how that's actually being achieved. And really, what we should expect over the course of the year in terms of trajectory and AIR MILES issued.

As we continue to learn every year, trying to look it at it on a quarter by quarter basis, can be very painful to drive a trend from that. So on an annual basis, what did we do, 4% miles issued? I think that's a good target going forward.

All right. And then on just quickly on loyalty, ops, obviously, with Banco do Brasil now, and a renewal. I know that was one of the big questions you had had around whether or not you'd proceed with taking a majority. So what are your updated thoughts on that? Is that something we're closer to doing now?

It's certainly something that down the road at some point we'd love to take another look at. That's about all we can say on it.

All right, guys. If I could just squeeze one last quick one on Epsilon, and then I'll turn it back to the queue. Epsilon obviously performed 14% organic growth from 16% in the quarter before. You guys are calling for I think high single digit growth rates now. ¶ If anything, Agency continues to grow really well, and e-mail almost looks like it has a call option to improve. So what would drive the deceleration, I guess you can say, albeit still to a good rate?

I think we were a little -- if we're going into 2014 being cognizant of the fact that the digital Agency piece went through the roof, especially in the auto sector. And so the question is, is that repeatable in 2014 or not? And so, until we see that we can achieve that type of growth again, we've moderated our expectations on the Agency side.

Okay. That's helpful. Thanks, guys. Good quarter.

Thanks, Darrin.

Your next question comes from the line of Bob Napoli with William Blair.

Thank you. Good morning. Question on the security, of your thoughts around security. And the hackers continue to get more sophisticated every year, and there have been suggestions that the Private Label, the retailer Private Label portfolios, might have more risk than the general purpose credit card market.

And I was just wondering, if -- what you're doing on the security side, what investments you've making there, if you've seen -- if you've had any issues or have seen any issues? Obviously I think most of those would be announced for your retailers.

Yes. Actually, the Private Label card itself is probably much less attractive to a hacker than a general purpose credit card, right.

Right.

Because you're talking about a card with a $800 credit line that can only be used to buy a specific line of clothing of something like that. So it doesn't lend itself to the type of hacking activity that you'll find in the general purpose card environment with credit lines of around $5,000 and it can be used anywhere. So I don't think that concerns us.

However, obviously, we do have co-brand products. But I would say overall, Bob, our focus on the security is not only on as I call it bubble wrapping the whole Company, but we have an awful lot of data over in our Epsilon side that is equally valuable to outside folks.

And so I would say our security efforts are two-fold. They're both focused on specifically the card business and securing those cards, as well as the overall data within the entire ADS organization.

We spend some incredible amount of money every year, and it is a bit of an arms race. It's the more you build up, the more defenses you put up, the more sophisticated the offense is.

What we have figured out, and we do talk with obviously a number of other large companies out there and share information about who's doing what and where. Is that it continues to be less about firewalls and getting inside, and more about this whole spear fishing stuff seems to be the area where folks are getting in. So a lot of that has to do with educating the employee base, and we spend a lot of time on that as well.

Thank you. A follow up on the eBay relationship, any more color you could give. Are you now issuing or taking some credit risk under the Bill Me Later program, and how are you working with them on their wallet? And then an update on that, because it seems like it could be a very big program long-term, but I'm still a little confused on how that's working and what other services you're providing.

Bob, the Bill Me Later program is going exactly as we expected. I think it's going to be a good program for them, and a good program for us. We do take some credit risk.

We keep a small, undivided interest in the portfolio. And again, it's fairly small that we will take credit risk on. The profitability is primarily driven by the up front merchant fee.

In terms of traditional marketing support, we don't have the same level yet. But that could be an opportunity for us down the road to expand that relationship with eBay.

Thanks. And just last question, the Harmony, how is that rollout going? And you've mentioned some customer losses. Has that roll out stemmed the losses in the e-mail space, and are you getting traction with clients with it yet?

I think, yes, it's a little too early to tell. We think the feature functionality of the platform has been very attractive to the prospects that we've shown it to. Quite frankly right now, it's a question of getting it rolled out and people converted on it before we can actually say, yes, this is market competitive. I would say, we're two quarters away from making that call.

Okay, thank you very much.

Thanks a lot.

Your next question comes from the line of Dan Perlin from RBC Capital Markets.

Thanks. Just a couple quick ones. So, I heard you guys talk about margins on redemptions being higher. And I'm just trying to understand what was driving that, and why that would be sustainable?

Well, again, we have unilateral control of the program to specify what products we offer, how we price it, and then what product we give. So it's actually quite easy to control, and it could be a case where you just give a little bit cheaper product so you lower your cost of your mile.

Or it could be case where you just make more miles to be used with an equivalent cost of the product so you get more margin. So it's a very flexible way of dynamically running the program that we have unilateral control over.

Okay. So it's just your mix that you guys have been playing with in terms of the conversion ratios for that?

Sure.

Okay. The other thing is, I wanted to explore this recent legislation impacting the ability to have rewards programs for prescription drugs on pharmacy. I know pharmacy is a very big vertical for you guys. Can you maybe put a finer point on what that is, and then if there's timelines that we need to be aware of to monitor that? Thanks.

Yes, it's primarily in the provinces in western Canada. And the, I guess, concern is that when someone picks up a prescription, getting rewarded for that prescription for whatever reason I guess some people are having some challenges with is that the right thing to do or not.

To me, frankly, the idea of rewarding someone to keep making sure that they're taking their required medication is probably a good thing. But then again, no one asked for my opinion.

The bottom line of all of it is that it's a few occurrences in western Canada. It's probably a total of a couple hundred million miles out of over 5 billion. So, it's under 5% of our issuance for sure, but it's something that we need to watch.

Because if it rolls through, we need to make sure that we have some mitigants in terms of other issuance avenues to make up for that. So, it's not a killer from that perspective. It's a few points, for sure, but it's under 5%. And it's kind of a wait-and-see this year, and we'll keep you posted on it.

Okay.

And, Dan, just to be clear, it's a big vertical for Epsilon, but this does not effect Epsilon at all. This is purely isolated in the Canadian market.

Okay. I just wanted to ask, Ed, you mentioned an $800 credit line, like average credit line. Is that what you guys are at now? If that is, that's a pretty big bump up from what I remember it being. And then if that's the case, how much of that is driving your receivables growth?

Actually, our $800 line has been fairly consistent. We've been around $750 to $800. You may be thinking of balances. Balances are more right in the $400 ish, $400, $450 range.

I was thinking lines. So I guess I'm stale on that stat.

Yes. You must have something stale on that stat.

(inaudible) brand lines are a little bit higher, Dan, but Private Label lines we've not really moved very much.

Yes. Because you've got to open a buy there of usually about $300, $400, and you get some balances take up 50%, 60% of the line.

Got it. And then just one quick last one, I wanted to follow up on what Sanjay was asking. So the 40 basis point decline in gross yields, that's a mix issue that you guys are seeing right now. It's not an issue with the profitability of the new programs long-term, and so the message is that it's coming down, but that's not necessarily a steady drum beat coming down except to say as you just bring on new programs. Is that correct?

Yes, as Charles mentioned, the core portfolio is the stuff that's been with us for three years or more. They've seasoned, and so their yield are flat to last year, so they're solid. But any time you slap on $2 billion of new business that's ramping up, you're going to have a cool off time. And that's what's going on.

Okay. Understood. Thank you.

We'll take one last question.

The next question comes from the line of George Mihalos from Credit Suisse.

Thanks for squeezing me in, and congrats on the quarter. Just wanted to circle back on the Epsilon margins, just to make sure I understand. You're talking about that 40 basis point improvement in 2014 versus 2013, yet the ad agency business continues to grow at a very strong healthy clips. Am I thinking of it wrong that the agency business should be diluted to the overall margin for Epsilon, or is something else happening to help drive the margins higher next year?

No, you're absolutely right, George. Over the last two year, if you look at 2012 and 2013 where we bought two agencies, it definitely had that impact. Now what happens over time is it's a percentage of the mix, it's stabilized and it will start to drop a little bit as we cross-sell up-sell into the higher-valuated products, that's part of it. And obviously, as we can integrate more fully HMI, that gives you a little bit of benefit coming through on the leverage as well.

But let's also be crystal clear here of, this isn't software as a service. This is not, here's a bunch of software, here's a platform, go have a ball. What we are focused on is a premium level service offering, and we've been over 5,000 people at Epsilon providing that level of service.

So you are not going to get the type of leverage that you see with some of these other, here, just have the product, and walk away. We're specifically going after the very deep, long-term commitment with a promise of premium-level service, and you're going to get some leverage. As Charles said, 50 basis points is probably a good number, but that's it.

Okay. And then just last question, you spoke a little bit about the potential for BrandLoyalty revenue synergies, I assume that's bringing that model to the US. Can you provide any detail from that? And it sounds like it's not in your numbers for 2014, but when might we start seeing that start to come through?

That's a fair question. It actually goes both ways. So if you think of BrandLoyalty specialty are these shorter-term 12 to 20 week type loyalty programs. What they don't offer would be the longer-term, large loyalty reward platforms that either Epsilon or the coalition program folks in Canada offer.

So that would be something that we would be adding to their portfolio of products. And at the same time, let's be blunt about it, we have not been able to penetrate the US marketplace in the grocer segment.

We can't seem to solve the puzzle. We're doing pretty well in a lot of other verticals, but we can't solve the grocer. And perhaps these folks at BrandLoyalty have the secret sauce, where maybe the grocers are focusing more on there's a lot of interest in the shorter-term, move the needle right out of the gate type program that fits with their DNA better than these huge, big loyalty builds that we've been focused on in the US.

So, if that's the secret sauce, we'll be thrilled to death. But you're going to see it out of both sides.

Okay, great. Thanks, guys.

Thanks, everyone.

Okay, I think that's it. So I want to thank everyone for their -- putting up with us, and we'll talk to everyone next quarter. Bye-bye.

This concludes today's conference call. You may now disconnect.