Jack Henry & Associates Inc (JKHY) 2016 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the third quarter 2016 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, Mr. Kevin Williams, CFO. Sir, you may begin.

Thank you, Lillian. Good morning. Thank you for joining us today for the Jack Henry & Associates third quarter FY16 earnings call. I'm Kevin Williams, CFO, and with me today is Jack Prim, our CEO, and Dave Foss, our President.

The agenda for the call this morning, Jack will start with some of his thoughts about the business and on the performance of the quarter. Then I'll provide some additional thoughts and comments regarding the press release we put out yesterday after the market closed, and then we will open the lines up for some question and answers.

I need to remind you that 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 the 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 10-K entitled risk factors and forward-looking statements. With that, I will now turn the call over to Jack.

Thanks, Kevin, and good morning. We are pleased to report another strong operating quarter, with record revenue and operating income. We had good organic growth at 7%, in spite of challenges in the form of substantially lower deconversion fees compared to the year-ago quarter, and the impact of several large customer losses in our payments businesses. Fewer deconversions is good news for our business in the long run, but presents challenges in the near term as far as revenue growth comparisons, and especially in terms of operating margins.

Our payments business was impacted in several areas during the quarter. This was the first quarter that we felt the full impact of the lost bill payment revenue resulting from the Susquehanna/BB&T merger. Industry consolidations similarly impacted our debit card processing business with several customers, and a large commercial remote deposit capture customer decided to consolidate their business to a system that was part of their existing point of sale system.

While these losses will be a factor in our fourth-quarter revenue as well, we expect new revenue additions to begin to grow over these losses in our first fiscal quarter. Our outsourcing and cloud revenue growth was solid at 10%, and our in-house maintenance again showed good growth at 6%, even as our new and existing customers increasingly opt for outsourced product delivery.

As previously announced, we have signed a definitive agreement to sell our Alogent deposit automation software business to Battery Ventures. Financial details have not been disclosed at the request of the buyer, and there are financial considerations that could impact the final purchase price and resulting gain on the sale between now and closing, which is expected to be at the end of May.

The Alogent product is a strong offering, and is highly competitive in the Tier 1 financial institution space. This segment of the market is not a focus area for us, and we felt the product could be a better fit for another owner.

Our business fundamentals remain strong, and all three of our brands again finished the quarter ahead of their sales plans. Our previously announced CEO transition remains on track for a smooth handoff on July 1. Dave Foss has immersed himself in the few areas of the business he was not already involved with, and will be fully prepared to take the reins in July.

I look forward to seeing many of you at our analyst conference in Denver next week. And with that, I'll turn it back over to Kevin for some detail on the numbers.

Thanks, Jack. License revenue represented less than 1% of our total revenue, which is the vast majority of license revenue, as you'll recall, is now included in the bundled services and included in our support and services line of revenue. Which our support and services line of revenue continues to drive our total revenue growth, and it increased to $319.6 million, for an 8% increase over the same quarter a year ago, at $296.9 million. And this represented 96% of our total revenue in both years.

To break down our support and services revenue, implementation services was down 16%, to $15.9 million this year, from $18.9 million last year. Electronic payments was up 2% for all of the reasons that Jack mentioned, some of the tough comparables and grow-overs. It grew to $121.4 million from $119.3 million last year.

OutLink increased 10%, to [$76.5 million] versus [$69.7 million]. In-house maintenance, as Jack mentioned, was up 6% to $80.6 million versus $76 million last year. And our bundled services, which again is all of the license implementation and maintenance for those products that the last products installed during the quarter, increased to $25.3 million from $13 million last year.

Related to this revenue, our deferred revenue on the balance sheet increased $12.7 million or 3.4% compared to last year's, which is where the majority of the bundled revenue is coming from. Hardware increased 8% for the quarter to $13.2 million, from $12.2 million.

Our consolidated gross margins decreased slightly to 42% for the quarter, compared to 43% in last year's quarter, primarily due to the decrease in one-time deconversion fees during the quarter. Our support and services margins decreased to 42% from 43%, because this is where the deconversion revenue goes last year.

Our hardware margins improved to 28% from 25% last year, primarily due to sales mix within the hardware line. Our total operating expenses increased 8% for quarter compared to a year ago, which primarily was due to increased personnel expense in both R&D and G&A. Our operating margin for the quarter decreased slightly to 24%, again driven a lot by the deconversion fees.

The effective tax rate for the quarter decreased a little to 32.1%, from 33.8% in the third quarter a year ago, primarily due to the reinstatement of the research and experimentation credit. Net income was up 6% to $53.9 million from $50.7 million, which led to EPS of 68%, which was up 9% over last year's EPS of $0.63 for the quarter, and beat consensus by $0.02 for the quarter.

Obviously, the decrease in deconversion fees impacted the quarter. If you consider the deconversion fees, if they would have remained flat with last year, our quarter would have shown revenue gross margin and operating income all growth of 9%, with net income growth of 12%. So there was a significant impact due to that decrease in deconversion fees.

Our EBITDA for the year to date increased to $340.5 million, compared to $317.7 million last year or a 7% decrease. Depreciation amortization, which is now disclosed in the press release. However, included in that total amortization is the amortization of intangibles from acquisitions, which was down slightly to $14.2 million compared to $15.3 million last year for the first nine months.

Operating cash flows were up $24.5 million or 13%, to $207 million for the year. We continue to invest in our Company through CapEx for computer equipment, facilities and airplanes, which we took possession of our last new airplane during the second quarter, so our fleet is now fully upgraded as of December 31.

We continue to invest in the development of new and existing products to help continue our revenue growth in the future, primarily in the payments areas, our mobile offerings, and we continue to enhance our core offerings. We also continue to return investment to our shareholders through dividends by way of $62 million in dividends year to date, and also stock buybacks of $155.1 million year to date. We did not buy any stock back during the third quarter, due to the timing of the announcement of the Alogent disposition, but we should be back in the market shortly due to the lack of viable M&A targets in the market.

Our return on equity for the trailing 12 months was 23.6% as of March 31. As far as guidance, revenue is still projected to grow in the upper mid single digits for the year, similar to the first three quarters. Also, to assist with your modeling, the projected effective tax rate for Q4 will be approximately 33%. The fourth-quarter guidance that we provided previously of $0.80 continues to appear reasonable at this time, and this does not include any gain or impact from the Alogent disposition that we announced recently, which we will disclose those financial impacts of that after final close.

We just recently kicked off our budget process for FY17, so we're not quite ready to provide solid guidance. But it would appear that revenue growth should continue at approximately the same level next year, in the upper mid single digits. Margins will remain strong, but price compressions on renewals and other factors that we are growing over will make margin expansion difficult next year. Our effective tax rate for FY17 will be approximately 34.5%.

That concludes our opening comments. We are now ready to take questions. Lillian, will you please open the call up for questions?

(Operator Instructions)

Our first question comes from the line of Kartik Mehta with Northcoast Research.

Good morning, Kevin and Jack. Kevin, you said from an acquisition standpoint, maybe not as many opportunities. Is that a reflection of price or is that a reflection of maybe assets that make sense for the portfolio?

It's a little bit of both, Kartik. I will tell you that we have seen a wave of opportunities come across our desk in the last couple of months. But either, one, it just didn't make sense for us, it didn't fit our strategy, or it was actually a broken company. But also the valuations are just astronomically high out there, the expectations for valuation. So we will continue to look, and obviously we'll find the right one. And would we pay up for the right opportunity that was the right fit and that we could leverage across all three brands? Absolutely, but they are just few and far between.

And then Kevin, you said at least from an overview for FY17, maybe not to expect margin expansion because of some pricing on renewals. And I'm wondering, is there a change in the market from a pricing standpoint? Or is this the usual pricing compression you see in renewals?

It's pretty much the same thing, Kartik. It's not really any worse, but I will tell you that in all of our payments and even some of our outsourcing, when you're looking at any long-term contract that's coming up for renewal, there is consultants in just about every one of those deals that are primarily in there just to get discounts on the renewals. And it's a different animal and a growing breed out there that five years ago, there was a lot of those renewals you wouldn't even see a consultant in. But they are in every deal now, and that's just driving to more pricing compression on renewals. That's a challenge to grow over those.

Right. Thank you very much.

You bet. Thanks, Kartik.

Our next question comes from the line of David Togut with Evercore.

Good morning, this is Anthony Cyganovich on behalf of David. What were the main drivers of the 24% increase of revenue and credit union systems and services segment? And do you believe this growth is sustainable for FY17?

A lot of the growth in the credit-union side, I'll tell you, came from a lot of different areas. But there was solid growth in -- payments growth was up double digits, our outsourcing in credit unions was up over 30%, maintenance was up in the mid-double digits. And then there was quite a bit of an increase in bundled revenue. So there was just a lot of strong drivers going in the credit-union space.

And the good thing is, the vast majority of what I just said are all recurring revenues. So yes, we should continue to see a very healthy growth going forward. Do I think it can continue to be at the 24%? I don't know about that, but it's going to continue to be very strong in the near future.

Thanks, that's helpful. What were the major wins in that segment in the quarter? And what does your pipeline look like for 2017 bookings?

Yes, Anthony, we had pretty much a solid performance across the board, a number of new core wins. I don't know if there's any one that I would particularly carve out as being particularly noteworthy. But again, just it's been a very solid and consistent performance out of the credit union group. And keep in mind, too, that there would not have been any wins in the quarter that would have contributed to that growth level. The way the revenue recognition works is, anything we sold in that quarter, we're probably a year away from seeing much in the way of any kind of a revenue impact from that. So it wouldn't have been any one thing that drove the business in Q3.

Yes, one of the biggest drivers of the credit union is the continued increase in our outsourcing, as we continue to not only sell new customers outsourcing, but also the ongoing trend of our existing in-house customers moving to outsourcing and the uplift in revenue from that.

Okay. And just another question. By our calculations, your software capitalization increased 36% year over year. Could you talk about what the major R&D projects were that were driving such high growth? And what your projections are for software cap growth in 2017? As well as what you expect the R&D expense to be on your income statement? What the impact might be?

As we said in the press release and in my opening comments, there are a large number of projects that are going on. And a lot of those projects are new projects that are getting ready to go into beta in the next quarter or two. Some of those in payments, a direct-biller offering that will drive new revenue. We've got some new treasury services and cash management offerings that are in development that will be coming out in beta shortly that will be driving new revenues.

We continue to invest heavily into all of our mobile and digital channel, because that is a huge requirement from all of our customers. And then we continue to enhance our core products. We've got about 50 major projects going on right now, so I think our cap software is going to end up about $100 million for this year. I think it's going to level off for FY17. But like I said in my opening comments, we're still early in the budgeting process, but it should level off in FY17. But we're going to continue to invest in our product, because that's what's going to drive our growth ongoing.

Great, that's good color. And just finally, did you -- I'm sorry if I missed it. Did you say what the dollar amount of the deconversion fees were in the quarter? And what they were in the prior-year quarter?

They were down $4.5 million from about $9 million last year.

Okay, great. Thanks a lot.

Our next question comes from the line of David Koning with Baird.

Hey guys, nice job. Yes, I guess first of all, just I think you said Alogent, I think you said the sale in late May. Does your guidance right now include, like your FY17 thought process, upper mid-single digits, does that include the headwind from revenue going away from Alogent or not?

Yes. Because Alogent was -- as Jack said, it's a very strong product and it's very good in the Tier 1 space, but it was not a huge thing for us. And just to remind everybody, Alogent was a piece of Goldleaf when we bought Goldleaf in 2010. It's was a small subsidiary of that. Total revenue of Alogent was roughly $25 million. So in this quarter, it's not going to have much impact on revenue. Will it have a slight impact on operating income of probably $1 million or $1.5 million? Yes, but that's in our guidance and we're comfortable that we can grow over that.

Yes, got you. That makes sense. And then payments growth, you mentioned 2% this quarter and mentioned that some of the impacts continue into next year. Usually when there's a bigger event, like we would think there would be four quarters, before it anniversaried, of a little slower growth. But it sounds like -- is there enough in the pipeline that you can actually re-accelerate by Q1 already? Is that your thought?

There's several things, David. One, as Jack mentioned, Susquehanna actually went away in our second quarter. So obviously, that's a big impact on both iPay and our Passport business that we're having to grow over. As Jack also mentioned, we had a large private company that was using a different POS system, and they did away with our EPS. And that was actually in our Q1 of this year, so we're about anniversaried that one.

It's going to take a while, obviously, to anniversary Susquehanna, but we've still got a lot of payments business in the pipeline. We continue to grow that business good, like I said, the payments business on the credit-union side grew extremely well. So it's the bank side that we're really trying to grow over this in. So Q4 is going to continue to be a challenge on the payments, but I think Q1, you're going to start to seeing the growth come back.

Okay. And then on the implementation revenues, all through this year it's probably been, on average, maybe down 10% year over year, but it doesn't sound at all like there's less work or less pipeline. Like why is revenue down in that segment again? And does that come back next year?

David, understand that the vast majority of that implementation is now into the bundled-services line. So you're seeing a decrease in implementation just like you're seeing a increase -- I'm sorry, a decrease in implementation just like you saw a decrease in license fees, because those are now in the bundled-services line.

But if all of the historical results are restated, though, like I would imagine it's all on the same basis. So last year, you had more implementation revenue than this year.

You're absolutely right, David. But it really comes down to what products we're selling and what products we're installing in any given quarter. Whether you take the implementation revenue in the quarter as implementation revenue, or it goes into deferred revenue and you recognize it and you roll it out in the bundled services as deferred revenue at a later date.

Got you, okay. So it's more just a shift in the delivery rather than anything else?

Correct.

Okay, great. Thank you.

You bet. Thanks, David.

The next question comes from the line of Brett Huff with Stephens.

It's Brett Huff, guys, how are you?

Hello, Brett Huffer. (laughter)

Congrats on a nice quarter. I had two questions. One is a, I think, more straightforward and one is a little bit bigger picture. The straightforward one is, you guys are getting into the cash-management business. We like that business, and it seems like there's a handful of good vendors in there.

Can you just tell us what your thought is on entering that business? Is it just that your customers are asking for you to go ahead and do something that's integrated? Or is there a new feature functionality set that makes sense? And then my second question is, just looking at the growth, which is continuing to be peer leading, so congrats on that. Can you break it down a little bit into, for us, on what drove the growth this quarter? Was it payments volume that was up, or was it the rolling implementation or revenue recognition from some good credit union strength? Or just give us a sense of how that breaks out, and which part of that is sustainable as we move into next year? Thanks.

Brett, this is Jack. I'll comment on the cash management. So, we've had cash-management offerings as part of our Internet banking offering for a number of years. What we've seen in the last couple of years, generally from our larger banks, but certainly not exclusively to that group, is a stronger requirement for more advanced functionality than what our standard cash-management offering had. So we got a twofold approach.

We're doing some extensions or enhancement of that existing cash-management system that we think will meet the needs of a number of those folks. And then we're doing a start-from-scratch development of a current cash-management offering that will be a new product and priced accordingly, similar to other fully featured cash-management offerings of its type that are available in the market today.

Don't anticipate that there will be hundreds of our customers that will opt for that higher end cash-management system, but certainly believe it will meet a need for a good number of them. And will be particularly important in our sales efforts to banks in that $2 billion to $20 billion asset range, where a stronger cash management treasury services offering is needed. Kevin, do you have some comments on the growth in the drivers in the quarter?

Sure. Brad, one of the things, and ongoing, one of the things you have got to think about is, our license revenue in the quarter was $292,000. In fact, credit unions had no license revenue in that line. It all is now going into the bundled-services line, as we delivered the last product on those multi-product contracts. But the really big drivers, Brett, haven't changed any. If you think about it, in-house maintenance up 6% for the quarter, 5% year to date, that's a good, solid base. It's 28% of our revenue base, continues to grow nicely.

Our outsourcing, which is about 20% of our revenue, is growing double digits. It's 10% or 12% for the quarter and year to date, so that's a good driver. Payments was a challenge this quarter at 2%. It's still up a little over 5% year to date. Like I said, the fourth quarter is going to be another quarter of a little challenge on payments, but I think that's going to go back to nice growth in FY17. So again, it's just going to be our support and services line of business that's just going to continue to drive our growth in a number of different areas. So there's no one specific area that is driving the growth.

That's helpful. That's what I needed, guys. Thanks again.

Thanks, Brett.

(Operator Instructions)

Our next question comes from the line of Shane Svenpladsen with Avondale Partners.

Good morning, just a quick one for me. It appears there's more demand among financial institutions for next generation digital banking solution. Are you seeing more opportunities to up-sell that type of solution within your existing client base?

Yes, Shane, it's Jack. We are, and the acquisition of Banno that we did about two years ago was one of the large drivers of that. Not because they had an off-the-shelf digital offering, but because they had some technology and a staff that was highly focused on that. We felt like we could go from having a very, very successful, as we have for some time, Internet banking offering to more of a current technology digital banking channel solution.

And that's been one of, as Kevin mentioned, among the major R&D investment areas, that's been one of the ones that has drawn a good bit of our technology investment. So we're beginning to roll out the initial releases of that new offering yet this summer. Believe it's going to be a highly competitive offering there, and I think there's going to be a nice opportunity to move folks to the next generation of these types of digital solutions.

Thank you, that's very helpful. I'll get back in the queue.

And I'm showing no further questions at this time. I would now like to turn the call back over to Kevin Williams with any closing remarks.

Thanks, Lily. Again, we look forward to seeing many of you at our 2016 Analyst Day event that will be had held next week, actually, next Monday, May 9, at the Westin Property at the Denver Colorado Airport. We will provide presentations from all of the executives, the three of us, our CTO, our Division President, and all of our National Sales managers will be there Monday afternoon for presentations. We will follow that with a reception and a mini-tech fair that night to highlight some of our products. Banno will be there, for those of you that are coming that are interested in seeing some of the things we're doing.

With that, I want to thank you for joining us today to review our third-quarter FY16 results. We're pleased with the results from our ongoing operations and the efforts of all of our associates to take care of our customers. Our executives, managers and all of our associates continue to focus on what is best for our customers and shareholders. I want to thank you again for joining us today. And Lily, will you please now provide the replay number?

Ladies and gentlemen, this conference will be available for replay after 11:45 AM today through 11:45 on May 11. You may access the remote replay at any time by dialing 800-585-8367 and 855-859-2056, and dialing access code 97111849. International participants dial 404-537-3406 and access code 97111849. Those numbers again are 800-585-8367, 855-859-2056, and 404-537-3406. Access code 97111849. Thank you for your participation in today's conference. That does conclude the program. You may now disconnect. Everyone have a great day.