Jack Henry & Associates Inc (JKHY) 2014 Q1 法說會逐字稿

Good day and welcome to today's Jack Henry first quarter fiscal 2014 earnings conference call. This call is being recorded. For opening remarks and introductions, I would like to introduce Kevin Williams, Chief Financial Officer. Please go ahead.

Thank you, Latoya. Good morning.

Thank you for joining us today for the Jack Henry & Associates first-quarter fiscal 2014 conference call. I am Kevin Williams, CFO, and on the call with me today are Jack Prim, CEO, and Tony Wormington, President. The agenda for the call this morning will be as follows. Jack will start with an overview of the quarter from his perspective, Tony will then provide some operational highlights of the quarter, and then I will provide some additional comments regarding the press release that we put out yesterday after market close, then we will open up the lines for Q&A.

I need to remind you the remarks or responses to questions concerning future expectations, events, objectives, strategies, trends, or results constitute forward-looking statements or deal with expectations about the future. Like any statement about the future, these are subject to a number of factors which could cause actual results or events to differ materially from those which we anticipate due to a number of risks and uncertainties, and the Company undertakes no obligation to update or revise these statements. For a summary of these risk factors and additional information, please refer to yesterday's press release and the sections in our recently filed 10-K titled risk factors and forward-looking statements.

With that, I will now turn the call over to Jack Prim.

Thanks, Kevin.

Good morning and welcome to our first-quarter earnings call for fiscal year 2014. We are pleased to be able to report a very solid performance for the quarter. We saw a balanced performance with continued strong sales across all brands driving 9% organic revenue growth and leading to a record revenue backlog. Our payments businesses continue to grow above industry average growth rates.

Strong execution and expense control allowed us to expand and grow our operating margins nicely. Based on discussions with bank and credit union customers at our recent user conferences, we continue to believe that we will see slow but steady improvement in the economy in their businesses and consequently, in our own. It was a good start to the year.

We look forward to continued progress, and with that I will turn it over to Tony to provide some additional information on the business.

Thank you, Jack.

We remain very pleased with the contributions from all components of support and services, which increased 10% in the quarter compared to the prior-year quarter. The largest contributor continues to be our electronic payments revenue which grew 15% for the quarter compared to the prior year period.

Our outsourced data and item processing services increased 14% over the prior-year quarter, and our in-house annual maintenance fees increased 2% over the prior period. In addition, our one time implementation revenues were up 9% for the same period. Our electronic payments transaction volumes continued to experience very strong growth in the quarter. JHA Payment Processing Solutions transaction volumes for ATM, debit, and credit processing were up 19% over the prior-year quarter. Bill payment transaction volumes increased 16% over the prior-year quarter.

Financial institution merchants, installed and utilizing our enterprise payment solution, increased to approximately 60,000 merchants representing a 41% increase compared to the prior-year quarter. Merchant related transaction volumes increased 21% over the prior-year quarter. As Jack mentioned, our banking educational conference the week of October 21, the event was well attended with a comparable number of attendees to the prior year.

In closing, I would like to thank our customers, our associates and our shareholders for their continued loyalty to JHA. I will now turn it over to Kevin for a further look at the numbers.

Thanks, Tony.

Our total organic revenue increased by 9%, as Jack mentioned, for the quarter compared to the same period a year ago. Our license revenue decreased by 8% for the quarter, which this continues to be a lumpy line in our financial statements compared to the prior year and represents 4% of our total revenue for the quarter. Our support services increased 10% for the quarter compared to the year ago and now represents 91% of our total revenue.

The support and services breakdown into the four components, as we've mentioned before, implementation services are those one-time fee, was $22.8 million, an increase of 9% for the quarter. Our electronic payments were $109.5 million for the quarter, which is an increase of 15%. Our OutLink data processing of $55.8 million was an increase of 14%, and our in-house maintenance was $81.5 million with an increase of 2% compared to prior year. Our hardware revenue increased 6% for the quarter compared to prior year and represents 5% of our total revenue.

Recurring revenue, which again is our electronic payments, our OutLink, and our in-house maintenance experienced a growth of 9% for the quarter compared to prior year and represents 80% of our total revenue for the quarter. Consolidated gross margins improved to 44% for the quarter compared to 43% in the same quarter a year ago. License margins decreased to 88% this quarter from 92% a year ago due to increased sales of third-party software during the quarter.

Our support and service margins improved to 43% compared to 41% last year due to continued strong growth in our payments and OutLink offerings, while at the same time continuing to contain costs and leverage our infrastructure. The hardware margins improved slightly to 24% from 22% a year ago due to sales mix. To break this down into our two reporting segments, our bank segment gross margins remained steady at 42% and our credit union segment margins increased to 47% from 44% a year ago, which is primarily due to the increase in OutLink and our data processing and payments in the credit union segment.

In the bank segment, license margins decreased to 84% from 91% a year ago. Support and service margins for the bank segment were steady at 42%, and the hardware margins in this segment improved to 23% from 21%. In our credit union segment, license margins were steady at 93%, support service margins improved to 44%, as I mentioned due to the increase in data processing and electronic payment, which is driven by growth, and hardware margins increased to 26% from 25% last year due to sales mix.

Our total operating expenses increased 6% for the quarter compared to prior year with increases in all components of our operating expenses, sales, marketing, R&D, and G&A, which all increased about the same percentage. As a percentage of total revenue, operating expenses decreased slightly to 17% from 18% last year for the quarter. Our operating margins for the quarter increased to 26% from 25% a year ago, and our operating income increased 15% for the quarter. The effective tax rate for the quarter was 35.5% which is in line with the guidance that we provided at the last earnings call which was down slightly from 36% a year ago, which is primarily due to the timing of the Army tax credit reenactment in January 2013 with no guarantee that it will be a reenactment again this year, and it expires on 12-31 of this year.

The tough comparable will be in the second half when we've got the full impact of the non-retroactive reinstatement this last fiscal year. Our EBITDA increased to $103.3 million for the quarter compared to $91.9 million a year ago or a 12% increase. Depreciation and amortization expense of $25.9 million this quarter with $13 million in depreciation and $12.9 million and amortization, compared to $24.2 million in depreciation and amortization this quarter last year. Included in the total amortization is amortization of intangibles from acquisitions, which was $5.2 million for this quarter, which is down from $5.6 million in the same quarter last year. Our operating cash flow for the quarter decreased lightly to $97.7 million from $101.8 million a year ago.

Free cash flow for the quarter, calculated as operating cash flow less capital expenditures of $7.3 million, which was up slightly from $6.8 million last year; capitalized software of $14.1 million, up slightly from $11.6 million last year; and dividends of $17.1 million, up from $9.9 million last year. Our free cash flow decreased to $61.9 million, compared to $73.4 million a year ago, which obviously the biggest contributor to this decrease in our free cash flow is the large increase of dividends that we did this last fiscal year.

This equates to free cash flow per share of $0.72 for this quarter compared to $0.85 last year. Our in-house backlog, which represents contracts in hand for software, hardware, and intake services yet to be delivered is at $116.9 million, which is up 27% from last year. Outsourcing backlog, which was for the remaining line for our current data and item processing contracts was $386.3 million and up 17% compared to a year ago.

Total backlog up 19% compared to a year ago, and remember there is nothing in our backlog for any of our electronic payments businesses, which currently represents a little over 37% of our total revenue. We will reiterate the guidance that we provided previous for FY14, as the first quarter was pretty much in line with our expectations.

Top-line revenue should continue in the upper mid- to the high-single digit growth range with some ongoing leverage to margins during the year. Obviously, as you well know, there could be some fluctuations due to sales mix. The result of this continued revenue growth, a continued margin leverage should be operating income growth in the low- to mid-double digits, which obviously this means continued leverage to our margins compared to prior year of probably about 100 bps for the year, which we saw that in the first quarter of the year.

Our effective tax rate should remain at about 35.5% since we cannot predict the reinstatement of the R&E credit, obviously if that gets reinstated it will have a significant impact on our effective tax rate at the time the law passes. Therefore, as a result of this, our EPS should grow pretty much in line with the operating income growth in the low to middle double digits due to the decreased interest expense primarily offset by the increased tax rate because we paid our term note off at the end of last fiscal year. That concludes our opening comments.

With that, I will now open it up for questions. Latoya, would you please open the line for questions.

(Operator Instructions)

Dan Perlin of RBC.

Thanks. Hello, guys. Nice quarter. I just wanted to ask a couple of quick ones.

There seems to be increasing talk around branch automation and branch transformation. And it's just not clear to me in detail what role you guys play in that environment, if it in fact does accelerate this year. Could you just kind of outline that a little bit?

Yes, Dan. It's Jack.

Certainly we have a number of branch automation solutions, whether it is teller automation or account opening automation solutions. Most of the financial institutions have some type of a system in place for that. I think most of the talk around branch transformation really has more to do with the layout of their branches, the utilization of their staff -- typically empowering. So rather than just have a traditional teller, they might have somebody with a little more ability to handle multiple issues; possibly make small loans up to a certain amount. Those kind of things.

I think it is more of a branch reconfiguration, typically into smaller space and redeployment of staff. There is some technology in some cases that is used where somebody can do self-service via video kiosk or screen of some type, back to a remote call center. Again, from the standpoint of a lot of additional upside in terms of additional product sales that we would have to facilitate that, they are currently using our products that would help to automate branches, probably just reconfigure and deploy them in a slightly different way.

Okay. Then the other thing is -- and this is more of a bigger picture question as well -- it just seems like the pace of core conversions is accelerating and we even saw again this morning, I guess it was Zions Bank, I am just wondering what are you seeing from your clients? What are you hearing from them? Is that in fact true? Have we reached a point now where this acceleration is going to really start to kickstart? And obviously, guidance doesn't build that in necessarily, but I would just be interested in your thoughts, given the position you have the market.

Yes, Dan, I would tell you that the crediting side of the business has been pretty frothy for a couple of years and remains at comparable levels to what we have seen. So I wouldn't say that it is picking up over there, but it is a nice environment there. It is tough to draw too much of a conclusion from a single quarter. I would tell you that if you could draw a conclusion from a single quarter, this first quarter on the banking side for us would indicate that, yes, we think there is maybe a little bit of pickup.

But I am a little reluctant to, as I said, take one quarter and project that out for a full year or longer. I think we're definitely seeing some activity. I feel like we are very well-positioned to compete if decisions do pick up; and there may be some substance to that feeling that it is picking up. But it is a little early to make that call, in my opinion.

Okay. And then just the last question I have -- you guys have delevered the balance sheet very quickly. I'm wondering if you think about capital redeployment for M&A potentials? Do you see things on the horizon that you want to fill into your product portfolio? Technology changes that are taking place from mobile commerce and banking seems to be one area of enormous focus and attention? Or other partnerships that you feel like you could forge instead of M&A? Then I will jump off.

Yes, Dan, we certain had a fair amount of M&A activity in at least the last year. We have looked at probably all of the significant deals that took place. The challenge for us is that those acquisitions solve a different problem for somebody else than they do for us, and apparently that problem was, it enabled them to pay considerably more money for some of those acquisitions than we felt like they would be worth to our Company. We continue to be interested in acquisitions.

Again, we have a history typically of not overpaying for acquisitions. If we can find something that delivers the right capabilities at a reasonable price, we will do that. If we are not able to do that, as always, we will redeploy that cash in the form of dividends and share repurchases. I would say that, whether it is investing in additional mobile capabilities or looking at acquisitions in that area, that is certainly something that we are receptive to. But again, nothing concrete that I could talk about today.

Okay. Thank you very much.

Glenn Greene of Oppenheimer.

Thanks, good morning.

First question may be for Kevin. A little bit of help on the credit union gross margins, which really picked up both sequentially and year over year. And I suspect these are record levels. Could you just give us a little bit more color on what drove that and whether it's sustainable?

Yes, they were record levels. I will tell you that the license revenue within credit unions was pretty comparable with where it was last year. The big driving force was in the support services, where I believe we had a record for implementation services, because there was just an enormous amount of activity going on in the credit union space right now. So that, obviously, any time you get a higher implementation revenue from the resources, that is going to have a significant impact on margins.

But also, just the increase in our maintenance data centers and electronic payments. Both on those sides with both in the double digits as well in revenue growth. All those are going to drive margins.

So are they sustainable at 47%, Glenn? Probably not. But I think they will probably stay in the 45% to 47% range for the year.

Okay. A good segue, maybe talking about the competitive environment within the credit union market. Obviously with Fiserv having bought Open Solutions earlier this year, can you just maybe give an update on what you're seeing competitively? Has it gotten more competitive, stable, less competitive? Or maybe just some commentary around that?

Glenn, I would say that it is maybe a little more competitive. I think the focus has been on going back to the customers that signed up for the now-discontinued system and convincing them to move to the open offering. So I think there has been a fair amount of activity in that area. Not a lot of new wins that I am aware of that weren't part of the family -- one family or the other.

But again, our activity remains quite high over there. We feel good about some of the opportunities that we are currently engaged in. Certainly think that it likely will become more competitive once the integration of the two companies is done and the story is more clear. But so far we are still doing quite well in that segment.

Okay. And then just the last question for me and I'll hop off.

The OutLink business -- I think it was a 14% growth this quarter, and last quarter, I think, was north of 20%. And before that you had been caught high single to low double digits. Are we at a new somewhat higher level for the time being? Or maybe give to Kevin? (multiple speakers)

If you remember, Glenn, last quarter we talked about some unusual one-time events that happened in the quarter which really drove the growth in that quarter. You know, this quarter I think it is probably more of a norm. There was some termination fees in there, but it was like $800,000 more than it was last year. So very little impact on the [maze], like would have impacted down to a 13% growth to 14% growth.

So I think it pretty much a more normalized growth rate that we're seeing this quarter, which is due to a couple of things. I mean -- one, 96% of all of our new core bank deals last year went outsourcing. Out of 24 new deals, 23 of them went outsourcing. On the bank side, close to 50% of the new core deals; out of 35 of them, roughly half of them went outsourcing. Plus, we had 50 existing in-house customers last year decided to go to outsourcing.

So all of those things are continuing to drive the growth more into outsourcing. And to be quite honest, I'm pleased that our in-house maintenance continues to grow even at 2% clip with some of the headwinds that we're seeing from all of our banks and credit union customers moving from in-house to outsourcing.

Okay. Great. Thank you.

Peter Heckmann of Avondale partners.

Good morning, gentlemen.

Hello, Kevin. Could you update us on -- within bill pay, I believe you are doing a data center migration there. Has that been completed?

Peter, I am trying to remember. I think we still have a little bit of work to do on the data center migration for bill pay. We have got several data center migrations that we're in the middle of doing right now. Some of those have been completed. We did a number on the item processing side of our business. Those are complete. We have got several more in the queue. I think we have got a little more work to do on the bill pay data center conversion.

Okay. And then could you help me remember some of the larger multi-year projects that you are doing on the software development side? And when we would expect some of those to get into general availability? I am just trying to handicap a little bit and look out maybe another year in terms of when that capitalization software might even out.

Well, probably the biggest one, Pete, was actually really two really big ones. One of them is Experian on the bank side, which we are now in -- I think release 3 will be coming out the first part of next year, which will be the last really big one. And these just come out at our normal annual releases, Pete. So there is no -- it's not like we are building it all up and it's all going to dump out at one time. These are complete rewrites as a user interface for our core and all of our complementary products and it is going out in piecemeal.

So like the first piece was some tools behind the scenes; the second piece was core, and our CRM solution and synapses, and some of our other products; and then the first release is going to entail a whole bunch more of our complementary products so that they all look and feel the same, which kind of changes our support methodology. But that is a big one and there's probably about one more year of that one.

The other one is kind of the technology upgrade for Episys, which that is a six-year project. I think we are three years into it, so there's probably another three years or so on that one. And again, that one is going to come out just in annual releases, so it's not going to be this huge great big new product but it is allowing us to continue winning new deals. I will tell you that the technology roadmap that we laid out for Episys is why we are able to get American Airlines Credit Union to convert over, which is over a $6 billion credit union. If we had not have had that technology roadmap, I'm not sure we would have gotten them.

These are huge projects that are ongoing. I will tell you there is an enormous amount of development going on in everything mobile right now. So, I don't know when development is ever going to stop, Pete, because we just have got to continue providing additional new products for all of our customers.

All right. That's helpful.

You may have said it and I may have missed it. But were there any insurance recoveries in the quarter from the flooding incident?

No, there were not. We are still in negotiations with them, so there could potentially be some in this next quarter. I am still negotiating with them but there is also nothing built into the guidance I provided, either. If we do get something, it will be a one-time hit.

Got it. All right. I will get back into the queue.

Tim Willi of Wells Fargo.

Thanks and good morning.

I had a couple questions around payments. I know you give this out at the -- a little bit of color at the annual Analyst Day, but I was wondering if you could just give us a little bit of additional update on, as you look at the bill payment portion of electronic payments, sort of how to think about the penetration rate of banks that are currently with you on iPay and their consumer activity. And then just in general, how many more banks, you feel are addressable to bring over to iPay that might be using a different third-party for bill pay? That was my first question.

Well, Tim, the adoption rates are going to be lower in a typical community financial institution compared to what you are going to have in some of the larger institutions like Wells Fargo and Bank of America. That is some of the reason why we are seeing really solid growth rates is, growing user adoption and better utilization of bill payment. We are continuing to add new financial institutions to our bill pay product. I think in the credit union industry, it is probably 95%-plus of credit unions have a bill payment solution. It is probably low 90 percentile on the banking side. But there is a reasonable amount of churn out there.

Remember that we not only market our bill pay solution to our own customers and to other customers, other core customers directly, but we have a number of partners -- whether they are internet banking providers or other core system providers -- that don't have their own bill payment system, that are partnered with us and market our solution to their financial institution customers. So we gain customers, new financial institutions replacing other bill payment solutions via that channel as well. So we think there is still very solid growth opportunities for us in the bill payment market.

If I could just stay on that for a second. Within your iPay customer base, is there a reference set of banks you would look at and say, you know what, here are the institutions that have been on the platform the longest, or we think have done the best job, and here's where they are at in terms of consumer penetration and usage; and the vast majority, the remaining portion of our base is at half that, a third of that. Just a way to think about the greenfield that's sits within the existing base of FIs versus those that have really figured out the equation and have done tremendously well.

Yes, that's a good question, Pete. I don't know that I can quote you any kind of accurate numbers off the top of my head. But I do think, ballpark kind of an estimate, if you look at our top performers, to say that the average performer is potentially at half that rate, is probably not much of a stretch to believe that, that would be the case.

Okay. And then second question around payments was, you recently added, I think Laura Kelly to your Board, who's got obviously a lot of payment experience. You have brought Tom Wimsett on a while ago. I'm just curious, if the addition of Laura as well as Tom -- does that signify further aspirations around what you think you can do in payments? Or was that more representative of, we actually have a big payments business, we should probably have some Board members that understand it. So I'm just trying to figure out how what those moves were about.

I think it is a combination of both, Tim. Our payments business, as you know, is over a $400 million a year business. And there is obviously a lot of talk around emerging payments and new payment forms. So I think it is a combination of wanting to make sure, given the size and the growth rate and the future potential of that business, that we had folks helping us make the right kinds of decisions about areas of payments that we should be in, shouldn't be in, and basically bring us a very deep industry perspective, which Laura Kelly and Tom Wimsett both do.

Great. That is all I had. Thanks very much.

David Togut of Evercore.

Good morning. This is Mike Landau in for David Togut.

What was capitalized software in September quarter? And how does that compare to the quarter one year ago? And any revision on where you think software capital will land for the fiscal year would be helpful. Thanks.

Cap software, I said in the opening comments for the quarter, was $14.1 million compared to $11.7 million last year. So, this quarter is somewhere between those two. It's a reasonable run rate for the year. It is probably going to end up somewhere around $52 million for the year in total cap software.

Great. Thank you.

You bet.

Brett Huff of Stephens Inc.

Good morning, guys. Congrats on the nice quarter.

Thanks.

A couple of quick questions -- we're talking about M&A and capital deployment, and I'm thinking about the payments question that was just asked. As you guys about future-proofing your business, or even thinking about payments as a big opportunity to even accelerate the growth you've had, when you guys bought iPay, folks thought it was expensive. It turned out to be a really good deal. Would you view other payments businesses appropriately, given -- I know that you guys are parsimonious with your capital, appropriately. So but how do you think about payments, given that even okay payments businesses may be relatively expensive?

Well I would not disagree with your assessment, for starters. I think, Brett, we would just tend to look at the individual opportunity and what we felt like it was going to do for us near term and long term. Would we pay up for a payments business, as we did with iPay, that we thought had the right long-term potential? Yes.

Would it potentially be at a multiple that would seem somewhat out of bounds for the multiple where we would have -- let's say if we were looking at an acquisition of another core processor. There is no way the multiple that we would pay for any core processor out there would be anywhere close to the multiples that you are likely to get for, frankly, a mediocre payments company. Or particularly in the mobile arena, in any event.

So yes, I think we would look at those on a case-by-case basis. If we felt like there was something there that offered us good long-term potential and we had to pay up for it, we would explain that at the time of acquisition as to why we did it and go forward from there. Would not shy away from an acquisition solely for high valuation, in particularly in that arena -- that arena being mobile.

And one more comment, Brett. If you think about when we did iPay, we did pay 16 times trailing EBITDA, but their EBITDA was also growing at 43%. There is a number of factors you have to look at other than just an EBITDA multiple when you're looking at an acquisition of a payments-type of related company versus a core, as Jack mentioned.

That's helpful.

Given that HFS has traded hands now and is owned by a Canadian parent. Is there going to be any change to the competitive set you see from them? Did you see them often before? And do you think that will change going forward?

Brett, I would say that we did not see them that often, and I don't know of any reason why that would change. I don't think the ownership of HFS was a problem per se, or a problem that has been resolved. So I think we will see them out there occasionally, but they are not the folks that we are going to be running into on a more frequent basis.

Last question for me.

On the bank headwinds, or the bank closure headwinds and M&A headwinds that existed two, three, four years ago, I remember you guys have quantified a pretty big drag to organic growth. Have we lapped most of that now? Or are we still getting some of the benefit of that in the very good organic growth that you guys are seeing?

I think we have probably lapped most of that, but again we had a fairly sizable customer last quarter, I think it was, that failed -- a $3.5 billion dollar bank. Those hurt. But I think, by and large, we are most of the way through that at this point, Brett.

Yes, I think what we're seeing now is more of the resurgence of the typical M&A activity, which is kind of replacing some the headwinds that we saw from the other. But that is more of a typical 3% or 4% consolidation that we have seen since the 1980s.

Okay. That's what I needed. Thanks, guys. I appreciate it.

(Operator Instructions)

David Koning of Robert W. Baird.

Yes, hello, guys. Nice job.

Thank you.

Yes, my first question -- EFT, it slowed very mildly. Mid-teens is really good relative to almost anybody else out there. I'm just wondering if you did see at all what Visa and Fiserv and Advantive talked about late September, maybe a little into early October -- just a bit slower volumes, and then it sounded like by mid-October, it ticked up a little bit again. But I'm just wondering if you saw some of those same trends.

Yes, this is Tony, David.

We did see above average growth in the quarter. But we did see a slight deceleration at the end of the quarter that really didn't impact the results significantly. The slight deceleration has continued into the early part of the current quarter for the month of October, but we don't expect any significant impact, only a slight deceleration in terms of volumes.

Okay. That sounds like what others said, too. That makes sense.

Secondly, just to review guidance again. I think you talked about this a lot last quarter, if I remember right. The up to 100 basis points of operating margin expansion is off a GAAP basis including the Lyndhurst expenses last year?

Yes.

Okay. That's good.

As I said Dave, there was enough interest reimbursement and some unusual one-time revenue hits that we got last year that essentially offset the Lyndhurst impact, or within a couple million dollars of it. So for the full fiscal year, if you took all of the one-times and put them together, it wasn't a huge impact on our margins.

Right. Okay. Then it looked like in the press release, you talked about the capitalized software expenses. But there was also a new category I don't remember seeing before -- internal use software. Is that something that will continue around that $3.2 million level that it was this quarter?

It was a little higher this quarter, Dave. That is something that we have always had out there but our auditors thought we should disclose that. That's a new thing. It was a little higher this quarter but it will be an ongoing disclosure item going forward now.

Did you used to just lump it within capitalized software?

Yes.

Okay. Good. That is all I have. Thanks.

There are no further questions at this time. I will turn the call back over for closing remarks.

Thank you, Latoya.

Again, we want to thank you all for joining us today to review our first fiscal 2014 results, which we are very pleased with. And we want to tell you we will continue to do what is best for all of our customers and your shareholders. And we thank you for joining our call again.

With that, Latoya, would you please provide the replay number.

Ladies and gentlemen, this conference will be available for replay. The number is 800-585-8367, or you may use 855-859-2056 or 404-537-3406. And that does conclude our conference for today. You may now disconnect. Good day.