Fair Isaac Corp (FICO) 2008 Q4 法說會逐字稿

Good afternoon.

My name is Christie, and I will be your conference operator today.

At this time, I would like to welcome everyone to the Fair Isaac Corporation's fourth quarter earnings call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be an question and answer session.(OPERATOR INSTRUCTIONS) Thank you.

Mr.

John Emerick, you may begin your call.

Thank you, very much, Christie.

Good afternoon, everyone.

I am John Emerick of Fair Isaac and I thank you for joining us for our fourth quarter and fiscal 2008 earnings conference call.

A replay of this call will be available on our website through December 3, 2008.

The forward-looking statements made on this call and in the news release distributed today should be viewed with caution.

These statements represent our guidance and outlook as of today and are subject to risk and uncertainties which could cause actual results to differ materially from those expressed and/or implied by these statements.

These statements play include statements concerning our business strategies and reengineering plan and the actual expense, revenue and net income impact associated therewith.

We assume no obligation to update the forward-looking statements included on this call, whether as a result of new developments or otherwise.

Fair Isaac's product road maps and similar marketing materials should also be considered forward-looking and subject to future change at Fair Isaac's discretion.

Any future functionality features or enhancements discussed today are Fair Isaac's current projections on the product direction, but not specific commitments or obligations.

You may obtain additional information concerning a variety of factors and risks that could cause actual results to differ materially from today's forward-looking statements by referring to our annual report on Form 10-K for the year ended September 30, 2007, as subsequently amended which is filed with the Securities and Exchange Commission and in other reports we file from time to time with the commission.

Specifically, please refer to those sections in our Form 10-K and Form 10-Q reports entitled Forward-Looking Statements and Risk Factors.

These reports that we file from time to time with the commission are publicly available on the SEC website, sec.gov and on our website, fairisaac.com.

A reconciliation of certain supplemental pro forma information that we provide to to the most comparable GAAP information is posted on the presentation's page found within the investor relations portion of the Fair Isaac website..

On the call with me today are Mark Greene, our Chief Executive Officer and Chuck Osborne, our Chief Financial Officer.

Now I will turn the call over to Mark.

Thanks John, good afternoon.

We'll proceed today in three parts.

I'll first discuss Fair Isaac's strategy and our recent performance against that strategy.

Then Chuck will provide further financial details.

Finally, I will discuss our outlook before we together take your questions.

Let me begin by repricing our strategy.

Fair Isaac is the leader in decision management, transforming businesses by making every decision count.

We provide analytics and scores, rules management tools and applications that help firms manage their relationships with consumers over their financial life cycle.

This ranges from marketing to acquiring new customers, originating new accounts with them, managing those accounts for profitability, collecting receivables and preventing fraud.

Our strategy has been to see growth by driving these offerings and four industry verticals with strong spending opportunities.

Financial services, insurance, retail and healthcare.

And to expand beyond our traditional US and western European footprint into growth markets such as China and Latin America.

Over the course of the past fiscal year, this has meant shifting resources to building new products and cultivating new clients.

To fund these growth initiatives and to insure proper returns to shareholders, we instituted this past March an ongoing reengineering for growth discipline in which we continually look for ways to work more efficiently to improve product profitability and to remix towards high margin, high growth businesses.

Under this reengineering program, we have significantly retooled our sales, marketing, development and service delivery functions.

We attacked our operating expense base of $657 million, reducing it by $100 million to various efficiency measures including the sale or the exit of several unprofitable business lines with an associated 350 person reduction in head count.

We also reallocated $30 million towards growth initiatives.

As we completed this work over the past summer, we felt well positioned to achieve modest revenue growth in our fiscal '09 which began on October 1.

The global financial crisis which erupted in late summer altered this picture.

We saw in the closing weeks of September two negative effects.

First, software purchasing activity slowed as some banks stopped procurements to conserve cash.

Second, the crisis depressed transactional revenues such as prescores, used for financial account marketing purposes.

For details, let me turn now to our fourth quarter results.

Revenue for the quarter was $178 million.

We saw strength in two areas.

Geographically, Asia Pacific grew 18% and Latin America grew 34% compared with the prior year quarter.

Product wise, full-year collections and customer management applications grew 11% and 7% respectively, validating the relevance of these offerings in the current financial crisis.

In the quarter, we also enjoyed a significant win for our customer management transactional analytics platform at a large North American bank.

We saw revenue weakness in three areas.

First, new software licenses were $4 million below our expectations as several banks froze spending in late September to conserve cash.

This phenomenon occurred on both sides of the Atlantic with three procurements frozen in North America, two in Latin America and one in Europe.

Second, scoring revenues were $3 million below our expectations.

As we observed a substantial falloff in mid-September of prescores used for marketing.

And third, professional services were $2 million below our expectations as clients asked us to slow down previously contracted implementation engagements to lighten their operating expenses.

Turning now to bookings, bookings were $71 million in the quarter against $64 million in the prior quarter.

For the entire fiscal year, bookings totaled $327 million compared with $302 million in the prior year.

I credit our sales force for achieving such bookings growth in the face of difficult market conditions.

And earnings per share for the quarter were $0.49 versus guidance of $0.36.

$0.03 of this over achievement came from operations where our revenue decline was more than offset by improved expense disciplines revolving from reengineering.

An additional $0.10 per share came from a one-time favorable tax adjustment.

We remain highly focused on driving shareholder returns through stringent expense controls in the face of a difficult and unpredictable revenue environment.

I will have more to say on this when we talk about the road ahead.

But, first, let me turn the call over to Chuck for further financial details.

Thank you, Mark.

Let me address a few of the details surrounding our financials.

Revenue from continuing operations in the quarter was $178 million, a 3% decrease from the prior quarter and a 10% decrease from the same period last year.

Revenue for fiscal year '08 was $745 million, a decrease of 5% from last year's continuing operations of $784 million.

Fully diluted GAAP earnings per share from continuing operations for the quarter were $0.49, a 27% increase from the prior quarter and an 18% decrease from the same period last year.

These share results are higher than the second half guidance of $0.74 that we operate in April.

Our GAAP EPS for fiscal 2008 was $1.64, a 15% decrease from fiscal 2007 GAAP EPS of $1.94 per fully diluted share and higher than our guidance of $1.52 for the year.

Bookings from continuing operations for the fourth quarter were $71 million from which we generated roughly $15 million of current period revenue, a 24% decrease as compared to bookings of $93 million, yielding $25 million in the same period last year.

Overall, during the quarter, we experienced reduced levels of bookings as financial institutions slowed their investments in new projects.

Some of our largest deals represented renewals of business already in place, and therefore, are not reflected in new bookings.

Our transactional or recurring revenue for the quarter represented 76% of total revenues against 73% for the same period of the prior year.

Consulting and implementation revenues increased to 19% of total revenues this quarter from 18% in the same period last year.

Finally, one-time or license revenues were 5% of total revenue against 9% in the same period last year.

This quarter, 34% of our total revenue came from outside the United States compared with a 30% international share reported last year during the same period.

Our international business is growing both in absolute size and relative importance, reflecting our emphasis on geographic diversification.

Our operating expenses presented as a percentage of revenue break down as follows, cost of revenues was 37% for the quarter and fiscal year as compared to 34% in the same quarter last year, and 33% for fiscal 2007.

This is primarily the result of higher personnel costs relating to both increased salary rates and the shift in our revenue mix towards labor intensive professional services activities.

Research and development costs were 11% for fourth quarter and 10% for fiscal 2008 compared to 9% in the same quarter last year and full fiscal year.

This reflects increased investments in our scoring initiatives and development of our decision management applications.

Finally, selling, general and administrative costs were 32% for fourth quarter and 33% for fiscal 2008 compared to 35% for the same quarter and prior fiscal year.

This decline is the result of lower commissions, fewer general and administrative personnel, reduced share-based compensation and decreased travel expenses.

Net income from continuing operations in the quarter was $24 million, a $5 million or 26% increase over last quarter and a $9 million or 27% decrease from the same period last year.

The fourth quarter net income from continuing operations was helped by lower personnel expenses, lower commissions and lower direct material costs.

It was hurt by a $1.5 million after-tax charge for severance costs and charges relating to facilities closures.

Net income for fiscal 2008 was $81 million, a 27% decrease from fiscal 2007 income of $112 million.

The decrease resulted from lower revenue, continued investments in China, reengineering charges and lower net interest income, all of which were partially offset by lower operating costs and a tax benefit this quarter from the reversal of valuation allowances previously established from foreign losses.

Turning to our cash flow, we defined free cash flow as cash flow from operations, less capital expenditures and dividends paid.

Free cash flow for the trailing 12 months is currently $132 million.

This decline from previous periods can be attributed to lower revenue, reengineering costs and new investments in growth initiatives.

However, with free cash flow of roughly 18% of our revenues, the Fair Isaac business model is inherently strong and positions us well for future growth.

Looking at the capital structure, on August 15 we paid off the $266 million in bonds that were put to the company.

After the put, $323,000 of bonds were outstanding, so we called these bonds and retired the entire contingent convertible effective September 16.

In May, we had utilized funds from our private placement to repay the majority of the outstanding balance on our revolving line of credit.

In August, we drew down on the revolving line of credit and used a small amount of cash for the repayment of our convertible bonds.

The current amount outstanding on our revolver is $295 million.

This quarter, we did not repurchase any shares in the open market, as our strategy in this tumultuous time is to conserve cash.

Our fully diluted share count is essentially unchanged at 48.6 million shares.

As of September 30, we had $148 million remaining under our existing share repurchase authorization.

Now, let me turn the call back to Mark for concluding remarks.

Mark?

Thanks.

Given the recent unprecedented volatility in financial markets and our limited visibility into customer spending intentions, we are not providing guidance on this call.

We remain in close dialogue with our clients, especially those in banking to better understand their business strategies and likely spending plans.

Simultaneously, we are reviewing our own strategy to insure that we are focused on delivering solutions of greatest value to the marketplace.

We expect that these efforts will yield greater clarity and permit us to provide fiscal '09 guidance by the time of our first quarter earnings call in January.

Let me now provide an update on the current health of our business and on the opportunities, as well as pressures that we see in front of us.

Concerning the fundamentals of our business, we continue to strengthen the company's core businesses processes and operations.

Starting with development, our development teams are performing well having fully embraced the IBM technology partnership and adopted a unified development methodology in architecture across all of our product lines.

In the last quarter, we shipped new versions of our Blade and Triad account management products with advanced visualization capability.

Our new decision management applications are on track for delivery as previously committed.

Starting in December of this year, with our Debt Manager 7 product for collections and recovery which adds new capabilities for mortgages and home equity loan work outs, and continuing in April 2009 with Falcon 6 for fraud management which will add some new adaptive analytic capabilities to that product.

Our development team has also delivered the latest version of our FICO score, FICO '08, to two of our credit bureau partners.

Moving on to sales, our sales teams have fully standardized on a professional pipeline management discipline which includes strategic account planning and detailed deal close plans.

This level of account intimacy is important in the current era of turbulence among our clients.

We have also continued to build out our indirect sales channel.

We are well engaged with our bureau partner, Equifax on the scoring partnership announced in June and now have a variety of joint go-to-market campaigns underway.

We are also building out our system integrator channel and we will be announcing tomorrow a new partner with Infosys, adding to our existing strategic alliances with IBM and Accenture.

Fair Isaac has been actively partnered with Infosys on opportunities in our marketing services business and on Blaze rules management opportunities in several industries and geographies.

Next, our research group is focused on bringing our best talent in products to bear on the needs of the financial services industry.

We have recently formed a new mortgage research partnership with most of the top seven US mortgage originators to develop timely solutions to the global credit crisis.

This includes, for instance, the use of credit risk management tools and scores on consumer financial health in the context of mortgage and home equity loan workouts.

Outside of banking, our research team is using the innovation management process established earlier this year to bring three new predicted analytic products to market.

One to help insurers fight fraud, one to help retailers cross-sell merchandise and one to help healthcare providers manage their receivables.

Let me turn now to the future, the challenges and the opportunities that we see in the months ahead.

The credit crisis has two main implications for our business.

The first is consolidation in the banking industry which has mixed impact.

For sales of our new software licenses, we expect a slightly larger slice of a smaller IT pie since Fair Isaac tends to benefit from a flight to quality when banks merge in challenging times.

For our transactional businesses, consolidation has less impact since our revenues are tied to the number of consumer accounts rather than the number of banks.

Overall, consolidation in the banking industry will likely cause a moderate reduction in our financial services revenue stream.

The second phenomenon is budget restraint in this economic down cycle which also has two consequences.

IT spending in our markets had been growing at about 7% a year, but it is now projected to shrink between 1% and 5% in 2009.

At the same time, our decision management offerings are increasingly relevant, with strong value propositions that our clients find very attractive.

The net impact of this new budget conservatism is yet to be seen.

Let's consider how these factors impact our scoring, tools and application businesses.

Scoring is perhaps the most volatile business and needs to be understood in two parts.

The smaller portion is our consumer business, which we expect will continue to grow as consumers increasingly monitor their own personal financial health.

The larger portion is scores sold to financial institutions through our bureau partners.

The volume of such businesses fell roughly 15% to 20% in September as banks throttled back on new account acquisition.

Volumes now appear to have stabilized at this lower level and we currently expect them to remain stable in the near term.

This means that we will see year-over-year declines for the next few quarters, followed by improvement as origination activity picks up coincident with an expected economic recovery.

Next, our tools, tools such as Blaze Rules engine and Model Builder are very relevant in the consolidation wave now hitting the banking industry since they can used to enforce consistent decisioning processes such as credit risk management across merged banks.

As some banks move to a build it yourself model, we expect to see modest growth in our tools revenue.

And thirdly, our applications business.

Applications for decision management resonate well with banks in the current environment as they seek to know their customers and maximize the lifetime value of each consumer relationship.

However, some banks profess limited ability to spend on these applications under current conditions, and we do know that these applications have long sales cycles, even under normal circumstances.

We therefore expect our applications revenue will remain under pressure throughout fiscal '09 with improved prospects in fiscal '10.

The overall result of these factors is unclear while we will likely see some erosion in revenues for the next several quarters followed by a return to growth as the financial services industry recovers.

We are working with our clients to better understand this financial trajectory and we expect to deliver fiscal '09 guidance by the time of our first quarter earnings conference call.

That said, be assured that no matter what revenue guidance we provide, we fully expect to be remain solidly profitable through this downward economic cycle.

Our confidence in this is derived from our agressive expense management program and our strong base of recurring revenue which provides great stabilities to earnings.

Fair Isaac remains a company in very good financial health.

We are solidly profitable, having generated pretax profits of $113 million last fiscal year.

We produced substantial free cash flow which totals $132 million in fiscal '08, and we have a strong balance sheet, with ample liquidity consisting of $259 million in cash and a conservative net debt outstanding of $311 million.

We continue to aggressively manage our expenses to maximize earnings.

Under our reengineering program, we have frozen new hires and salary increases.

We are further trimming non-revenue producing headcount and are clamping down on discretionary expenditures such as non-revenue producing travel and marking programs.

While the near term challenges are significant,we have the appropriate controls in place to both generate solid earnings and to keep investing in our decision management strategy.

A strategy that is particularly relevant in these troubled times.

Now, Chuck and I will be happy to take your questions.

Operator, please open the lines for Q&A.

Operator, please open the line for Q&A.

(OPERATOR INSTRUCTIONS) Our first question comes from the line of Ariel Sokal.

Your line is open.

Hi, it's actually Michael Nemeroff.

Thanks, guys for taking my question.

Just one for Mark.

Obviously, it's a tough environment and I can appreciate the no guidance right now.

But can you give us a sense of how much worse you think the environment could get, and is it possible that you will not be able to grow revenues from continuing operations in 2009?

Well, anything is possible at this point.

I guess I would admit to limited visibility.

I do have two answers for you.

With respect to the scoring business, I will point you back to my comment that said the recent evidence is, yes, that is stabilizing at the rate that we saw exiting the quarter, which will mean, of course, when you do the year-on-year map, that there will be some declines.

What we don't see the going forward rate of scoring continuing to fall as it it had in late September.

We see signs of stability there, and that's encouraging.

We keep monitoring that on a daily basis.

With respect to software license sales, I guess what I would say is the pipeline continues to look good as it did last quarter, but the lesson we took aI what from last quarter was a fair number of deals that looked good to go, for which we had authority and approval, got pulled by the customer as they moved to cash conservation and we are still talking to clients to understand whether those disciplines remain in effect or whether they're being relaxed.

So I'd say there's good laden demand for our products, what we have to do is satisfy ourselves that we can convert that into actual business.

Okay.

And then also -- so far, you have identified approximately $100 million in costs.

Just wondering how much more you could potentially cut if, for example, the environment doesn't improve as you are expecting it to in the back half of '09.

In my remarks at the end there, where I talked about some additional trimming of staff, salary freeze, hiring freeze, et cetera, we are targeting in the range of 5% of our operating expense.

That's on top of the previously worked out 15% or so of our cost base.

So you should take the 15% that we did earlier in this year and tack on roughly 5% that we are doing as we speak.

And just one more Chuck, if I may.

You mentioned that the cash flow has been strong and stable.

I was just wondering why you wouldn't be repurchasing shares in this market if you don't think that the cash flow is at risk.

Well, even though the cash flow is not at risk, we do carry -- we still have net debt on the books.

We are looking at -- frankly, still looking to invest in our products.

The Decision Management Suite still is consuming development costs.

We have the usual amount of CapEx that goes with the refresh of our servers.

And then lastly, in the geographic expansion, we are still making some investments overseas, particularly China.

So we are conserving cash for those reasons.

You might also take a look at our balance sheet, with our receivables.

We fully expect that sometimes we will might see some of the banks stretching some of our receivables out, and we are just guarding against balance sheet flux like that.

All right.

Thank you very much.

Thank you.

(OPERATOR INSTRUCTIONS) Our next question comes from the line of Kyle Evans.

Your line is open.

Thank you for taking my questions, guys.

Hi, Kyle.

I would like to start off with -- last quarter, you were kind enough to split the scoring revenue decline into three components, prescore pricing, volume, and a one-time true up.

Looking at the decline this quarter, could you do something similar for us?

Sure.

So there was no one-time true up this quarter, so (inaudible).

Pricing, while we continue to see competition out there, I wouldn't tell you that we had pricing declines.

In fact, one thing to know about our business is that many of our clients pay on a pricing grid, where the price is a function of the volume driving.

And as their volumes have fallen off, some of our clients are paying higher unit prices for their scores.

So if anything is scoring, prices are holding up to rising over time.

So the phenomenon that we're talking about, what we observed in the quarter is essentially all volume reduction, and roughly half of that was in the front half of the scoring life cycle.

These are the prescores and the other half was sprinkled around various parts of the spectrum, although of late there's encouraging signs on the back part of that life cycle as, for instance, many banks are now moving towards monthly pulls of what we call account management scores, to stay in touch with the financial health of their borrowers, whereas in the past, they only used to do so quarterly.

So we are actually seeing signs of late that scores will be in greater demand in the mid and late stages of the life cycle, even though we still see weakness in the front part of the life cycle, in the prescore area.

Great.

I know we are not going to get detailed segment operating income and margins until you guys file the 10-K, but could you give us some rough sense or directional sense for what the scoring margins are going to look like when we get that document?

I think those will still be very profitable.

Right now, without, full allocation against it, we are probably in the 70% to 80% margin on scoring.

The scoring margins are generally holding up.

The problem that we have is a volume problem, not either a price or a margin problem.

Okay.

Great.

You -- could you describe the -- any competitive shifts that you have seen in the software side?

I know it seems like the pipeline side is healthy, you just can't get it to come through.

But have you seen any change in the landscape there since IBM acquired ILOG.

No.

Actually, to my knowledge, and you may know better, that deal has not closed.

So the acquisition is pending and the answer is no.

At least with respect to customer purchases and in fact, we have seen something of the reverse with respect to some of ILOG's distributors and partners, many of whom with are interested in doing business with Fair Isaac instead.

This is fairly typical in the industry.

You get to get that near term positive pop and we are seeing some of that in the channels and not seeing much behavior change at all with respect to end customers.

One last question and I will get back in the queue.

How material was the Triad win in North America in the period and was that something that you guys expected when you issued guidance last quarter?

Thanks.

Well, it was certainly in the pipeline.

Right now, right in front of me, I don't have the data on the actual size of the deal, but it will be over a period of time, it was about a $10 million booking.

I can't say exactly which period -- it falls into the future.

It waterfalls out into our revenue stream.

Okay.

Thank you.

Thank you.

We have no further questions at this time.

Thank you very much, operator.

We appreciate it.

Thank you.

Have a good day.

Thank you so much for your participation today.

Our call is over.

You may now disconnect.