CDK Global, Inc. (CDK) 2015 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the CDK Global First Quarter FY15 Earnings Conference Call.

(Operator Instructions)

As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Elena Rosellen, Vice President, Investor Relations. You may begin.

Thank you and good morning.

I am here today with Steve Anenen, CDK's President and Chief Executive Officer, and Al Nietzel, CDK's Chief Financial Officer. Thank you for joining us for our First-Quarter FY15 Earnings Call and webcast.

To start the call, Steve will provide the highlights for the quarter and share his thoughts on capital allocation, which is a question that several of you have raised. Al will then take you through the details of the quarterly results and discuss our forecast for FY15.

We also noted in this morning's press release that we will be posting schedules to our investor relations website that show all quarters for FY14 on an as-adjusted basis. That, along with the KPIs that were included in the press release, should help with your models.

A reconciliation of GAAP to non-GAAP financial measures is included in this morning's press release, which is available on the Investor Relations section of our website, as well. Finally, we anticipate filing our 10-Q later today.

Before we get started, I would like to remind everyone that remarks made during this conference call will contain forward-looking statements. These statements involve risks and uncertainties that could cause actual results to differ materially from those set forth in the forward-looking statements, including those risks detailed in our filings with the SEC.

With that, I'll now turn the call over to Steve.

Thanks, Elena.

Good morning to everyone and thank you for joining us for CDK's first earnings call. We've been a public company for just about 45 days. I want to take this opportunity to thank the many associates at CDK and ADP who worked many long hours to execute this separation since it was announced in April of this year. It could have been a major distraction, but our associates stayed focused on the business and our solid results are evidence of their hard work.

We met with many of you during the road show and I'm excited to be talking with you again this morning about our business and about our first quarter results. During the road show, we talked about our growth strategy. We successfully completed the separation and executed well on our strategic pillars, delivering good results for the quarter. I'm pleased with 7% revenue growth, which generated strong earnings and margin expansion.

So how do we deliver this relative to our strategy? Increasing market penetration is the first pillar of our growth strategy. We executed well in the first quarter and grew the number of DMS client sites 3% in North America. We also committed to growth through increased share of wallet and we were successful. The average revenue per DMS client site increased 5% in both our North American and International segments.

We talked about how important it was to invest in digital and to continue to grow our digital business. We posted strong growth in the digital segment, increasing average revenue per website 8% and we grew the number of websites we manage. Additionally, OEM advertising revenues growth was about nearly 50% and very strong.

We also talked about being highly focused on margin expansion and we delivered 200 basis points of expansion versus a year ago on a comparable basis. There have been two areas of focus that we have been hearing from you: the first is margin and the second is capital allocation.

First, let me give you some more details on what we are doing to continue to drive margin expansion. We have always been focused on improving margins through efficiencies and process improvement. It's really part of our heritage and was a lever that we used to invest in the business.

We are driving margin improvements through the following actions: our internal business process excellence programs, streamlining our implementation processes, and migrating to fewer client platforms, and vendor consolidation and facility optimization. All these areas contributed to the strong margin expansion we reported for the first quarter and Al will provide more details on the quarter in a few minutes.

We believe we can make meaningful improvements in our margin. With solid revenue growth of mid-to-high single digits, our business model supports margin expansions of around 50 to 100 basis points per year. Acquisitions and other investment priorities may impact this, but directionally, this is where we are.

Clearly, we have a lot to do over the next several months, but I want to assure you that margin expansion is, and will continue to be a priority for us in this organization. The second area that we understand is on your mind is capital allocation, so I will spend a few moments now on how we're thinking about it.

An important strength of CDK's business model is its ability to generate strong and consistent operating cash flows. Our capital structure is an asset that we can use to create value for our shareholders through M&A firepower and return on capital to our shareholders through dividends and share buybacks. Al will lay out some of the analytics in his remarks on our 2015 forecast.

Our Board meets next week and we're going to discuss our return on capital strategy with a focus on long-term value creation. More to come on dividends and return on capital strategy, but I hope you take away from my comments that CDK is committed to creating long-term value for our shareholders.

With that, I'll turn it over to Al to take you through our results for the quarter and then our full-year forecast.

Thank you, Steve, and good morning, everyone.

Before I get to the results, I want to point out that, in this morning's press release and in our slide presentation, we have shown both the GAAP results, as well as the adjusted results for the quarter in order to present both periods on a comparable basis. My comments for the first quarter, as well as for the full-year forecast, will be on this non-GAAP basis, which excludes about $31 million of spin-related costs and includes, in both periods, costs related to becoming a public company.

This is a transition year for CDK, meaning that there are various moving pieces as we establish ourselves as a public company. By the end of FY15, we expect to be in a cleaner presentation with limited non-GAAP items beyond this fiscal year. Let's move on to the results for the quarter. We're pleased with the overall results for the quarter and our business segments posted good results.

Revenue growth was a solid 7%, all organic. We achieved 21% growth in adjusted earnings before income taxes and adjusted pre-tax margins expanded 200 basis points to 18.1%. Adjusted EBITDA margins expanded 200 basis points to 21.8%. Adjusted net earnings increased 27%, which benefited from a lower effective tax rate in the quarter, primarily due to non-recurring income tax benefit related to foreign operations.

Adjusted diluted earnings per share increased in line with net earnings growth. Before I take you through the business segments, I want to point out that this quarter's pre-tax earnings growth of 21% on 7% revenue growth is higher than we are forecasting for the full year. This is a result of strong earnings growth within our North American segment, due in part to certain non-recurring items.

Now, a look at the segments: to remind you, we have three reportable business segments: Automotive Retail North America, which we call ARNA, Automotive Retail International, or ARI, and Digital Marketing. Framing my comments are the KPIs or performance metrics we provided in the earnings release and were also defined in our Form 10. ARNA grew revenues 5%, ARI grew 2%, and digital grew a strong 19%.

On a contribution basis, automotive retail and digital each contributed equally to our overall revenue growth for the quarter. The ARNA business segment revenue growth of 5% was driven by an increase of 5% in average revenue per DMS client site, as Steve mentioned earlier, resulting from expanding our share of wallet within existing clients. This contributed four points of segment revenue growth.

Networking, telephony were strong contributors followed by our lot management and service edge solutions. Additionally, our DMS site penetration increased 3%, contributing nearly 2 points of segment revenue growth. This increase in sites was spread across dealerships of all ranges, size ranges from under 20 users per site to over 60 users per site. We also enjoyed additions to our larger enterprise dealers as they acquired additional points.

Automotive Retail International revenue growth of 2% resulted from increased revenue per client site. Site count in ARI was basically flat as the economic landscape in continental Europe is still somewhat challenged, but the story in other markets, such as the UK and China, is positive. The 19% growth in our Digital Marketing segment was driven by strong growth in OEM advertising spend, which contributed to over half the segment revenue growth.

Additionally, we increased both the number of website clients and the spend with our existing website clients, which contributed a combined 8% growth. We made investments to expand our digital sales team towards the end of last fiscal year and we're pleased to see this is beginning to pay off, as evidenced by our increased sales to automotive dealer groups, in particular.

Moving on from revenues, I'd now like to talk about our cost. We have been carefully adding costs as we create the appropriate public company infrastructure for CDK. We continue to estimate an incremental $40 million to $50 million for these costs on an annual basis. The initial incremental cost was about $1 million for the quarter, as we were still part of ADP.

For FY15, we anticipate between $30 million and $35 million of incremental costs, with the full-year impact taking place next year in FY16. For the most part, these costs are included within the SG&A line of the P&L and within Other in segment reporting. Looking at the P&L, the increase in cost of revenues of 4% is primarily attributable to our Digital Marketing business, advertising cost increased on higher volumes, and from an increase in the cost of ad placement.

To note, cost of revenues includes systems development and programming costs, which represent about 8% of our revenues. SG&A increased 7%, including the $1 million of public company costs I mentioned earlier, or 6% on a comparable basis, including the same level of public company costs in last year's first quarter. As I also mentioned, we increased our digital sales force in last year's fourth quarter to address the market opportunity and drive deeper penetration of our solutions within our client base.

Now looking at pre-tax margins, earnings pre-tax margins improved 390 basis points. We are pleased that we had an increase in clients who upgraded to our drive platform. This is a result of incentives we put in place to accelerate migrations of our clients to our current platform. Upgrade installations require far less cost than adding new clients to the ADP family, so the margins benefited from the higher mix of upgrades this quarter.

Additionally, these upgrades created pull-through for networking, telephony, and other layered applications. This is right in line with our strategic intent to migrate our clients to the most current platform and I'm pleased to say that over 80% of our clients are now on the drive platform. The margins in our digital business declined 50 bps in the quarter, due in part to the higher mix of digital advertising versus subscription-based website revenues.

Although the increased headcount I mentioned a moment ago in our digital sales team put pressure on the year-over-year margin comps, we have been pleased with the investment. So now I'll move to the forecast. As we look to our full-year forecast, the year-over-year comparisons are again on an as-adjusted basis. Given the strength in the first quarter, we now anticipate achieving the high end of our earnings forecast.

We continue to anticipate growth of 7% to 8% in revenue from the $1.97 billion in FY14. We anticipate over 50 basis points of pre-tax margin expansion from 2014, resulting in an earnings before income tax margin of at least 16%.

This forecast calls for margin expansion that will not be as strong for the remainder of the year and let me explain why. There are a couple of significant items that will create grow over pressure as we move through the remainder of the fiscal year. Specifically, there were $7 million of non-recurring favorable items related to an acquisition true-up spread between last year's second and third quarter.

Additionally, we enjoyed a favorable mix of upgrade installations in last year's fourth quarter, which benefited the margins as they did in this year's first quarter. In this case, it was about $5 million or $6 million. These are large items and we do not expect them to recur in the remainder of this year, so I wanted to provide that clarity around how we built the forecast for the remainder of this year. I also want to take a moment to tell you that, while over 50 basis points of margin expansion is our commitment for the fiscal year, that doesn't mean we won't continue to be acutely focused on cost.

As I mentioned earlier, there are quite a few moving parts as we set up our public company infrastructure. I believe we need the first 12 months as a public company to see all the pluses and minuses. During that time, we'll evaluate additional ways to optimize in order for us to achieve even more success around margins, while balancing our investment for growth and maintaining CDK's health.

I'd also like to remind you that the favorable effective tax rate in the first quarter is anticipated to turn around and become unfavorable for the remainder of FY15 and result in a higher effective tax rate of 34.5% to 35% compared with the 32.2% in FY14. Our forecast does not contemplate any additional tax benefits that would reduce our effective tax rate this year. Our newly formed tax department will continue to monitor, identify, and evaluate opportunities to positively impact our overall tax profile.

Finally, I'd like to provide some additional color regarding liquidity and our ability to execute against M&A and return of capital to shareholders. You see from the release that our cash balance is $355 million at September 30, including net proceeds from the bond issuance. We anticipate free cash flow generation will be about $200 million to $225 million this year. Our intent is to maintain the 2 time leverage ratio and not let our cash balance drift up over time. In fact, we intend to manage our cash balance down during the remainder of the year towards our required cash balance of about $200 million. That $200 million includes offshore requirements and some domestic restricted cash.

As we communicated on the road show, it's a priority for us to have the flexibility to pay a dividend and to buy shares back. Given the current cash levels, we may also consider buying additional shares opportunistically to maximize shareholder returns. As Steve mentioned earlier, we will be discussing this with our Board next week.

With that, I will turn it back to the operator and Steve and I will be happy to answer questions you have.

(Operator Instructions)

Our first question comes from the line of Brian Essex of Morgan Stanley.

Hi. Good morning and congratulations on the spin and thank you for taking the question.

Sure, Brian.

I was wondering if I could touch a little bit on the growth strategy, particularly as you grow within North America and then you look to grow internationally. With regard to that, you had pretty good increased penetration rate and increased pricing within existing client sites. Is that the primary strategy to grow with the higher margin, incremental adds to existing clients domestically or do you anticipate gaining share in the North American market?

Maybe if I could bridge that to the international markets, as well, where you had a decline in client sites. Just looking for the strategy for each [gee oh] in terms of how you anticipate driving that high single-digit growth rate?

Brian, this is Steve. Thanks for your question. First, a couple things around our growth strategy. First, it's always important that we stay very focused on trying to gain market share, both here and North America, as well as in the International space. As you know, in North America, the focus around that is really being able to bring to bear our application sets in a compelling way to the client base and it's difficult in order to see that migration.

We've been successful over the years getting folks to sign up for our solution set and we'll continue to drive that as an opportunity in North America. On the International front, it's a bit different. It's not necessarily just going, if you would, every dealership group, but rather looking, if you will, working with the manufacturers or OEMs and trying to do more of a network play.

We've launched the next iteration of our software DMS there, it's called Autoline Drive. We've got it up and running at about 150 locations and it's gaining some traction and I think it'll really be good for us as we go forward to gain additional market share. So I'll endeavor to try to explain some of that probably next quarter and we'll take a little harder look at market share gains.

Relative to shared wallet, obviously new applications, some of the innovation that we're bringing out in our overall portfolio, will drive layered application growth. We've seen some of that over this last quarter and we had all of last year. For me, I think you'll see both of those are strategic pillars of ours; both shared-wallet growth as well as increased market share.

With that, you'll see the digital space also penetrate into the clientele that we serve and you'll see more, if you [will, gear] groups, if you will, join our fold for the overall digital solution. Al, comment?

I think you've hit it, Steve.

Okay.

With regard to the incremental public company costs, it looks like you're about $1 million into a $40 million to $50 million estimate. Could we get a sense of how you anticipate those to roll on throughout the year and what those costs might be attributable to?

I think, Brian, the way we've got it modeled right now, it looks like, incrementally, we'll see $8 million in the second quarter and $12 million and $12 million for quarters three and four and that rolls up to the numbers that we've provided for a total of about $30 million to $35 million this year. Clearly, we're watching that very closely and that seems like the level.

Is the 50 bps of incremental margin expansion, does that account for that or is this along the lines for that?

Yes, it does. Brian, it's all comparable, apples to apples, is what we did on the release. We actually include it in the guidance, in the press release, too. We published the guidance we provided [on the] late October.

Thanks.

It's 50 bps, over 50 bps, inclusive of the comparable public company costs. So we kind of adjusted each side. As I said earlier, that's kind of the variety of moving pieces we have this year. I know Al and I and [Jen] are getting calls on it. We're trying to be as clear as we can about presenting it so that you all can work your models. And if you have questions, just please, we'll follow up.

(Operator Instructions) I am showing no further questions at this time. I'd like to hand the call back over to Steve Anenen, President and Chief Executive Officer.

Once again, I'd like to thank everyone for joining us today. I think from the tone, you can tell that we're very pleased with our results. It's very early in our tenure as a public company and we've got a lot of work to do in the next few months and I hope that you share my enthusiasm for CDK's future. I believe we're setting the right strategy to grow the business and enhance long-term shareholder value.

I assure you that I can speak on behalf of the entire management team and our associates around the globe, we're very committed and excited about shaping our future. As we get together on future earnings calls, we'll talk more about the business and about product innovation. We'll work very closely with our clients and we help them shape the automotive industry.

There's a lot going on that we're excited about and I look forward to sharing that with you. We intend to hold an analyst day and do some road shows and participate in conferences throughout the year and as we do, as always, we'll let you know. But most importantly, I want to say thank you for your interest and for your support today. Take care.

Ladies and gentlemen, thank you for participating in today's conference. That does conclude today's program. You may all disconnect. Have a great day, everyone.