Jack Henry & Associates Inc (JKHY) 2017 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Jack Henry & Associates Fourth Quarter 2017 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. Sir, you may begin.

Thank you. Good morning. Thank you for joining us today for the Jack Henry & Associates Fourth Quarter Fiscal 2017 Earnings Call. I'm Kevin Williams, CFO and Treasurer. And on the call with me today is Dave Foss, President and CEO. The agenda for the call this morning is similar to what we've done in the past. In just a few minutes, I'll turn the call over to Dave to provide some of his thoughts about the state of the business and performance for the quarter. Then I will provide some additional thoughts and comments regarding the press release we put out yesterday after the market closed provide some update and guidance for FY '18 and then we'll open the line for questions.

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 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 10-K, entitled Risk Factors and Forward-Looking Statements.

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

Thank you, Kevin, and good morning, everyone. We're pleased to report another strong, albeit, somewhat noisy operating quarter. As in the past, I'd like to begin today by thanking our associates for all the hard work they went into producing those results for our fourth fiscal quarter.

As we've discussed previously, we divested our Alogent division at the end of last year, so the comparable quarter again include the headwind for revenue growth. As you've probably seen, yesterday's press release include the chart designed to help explain the impact of that deal, deconversions and other items impacting our numbers this quarter. Kevin will review that information during his remarks.

Total revenue increased 5% for the quarter and increased 9%, excluding the impact of deconversion fees from both quarters and excluding Alogent revenue from the prior year quarter. Organic revenue growth was also 5% for the quarter. Our payments business has continued to perform well, posting a 4% increase in revenue this quarter and a 6% increase, excluding the impact of deconversion fees. Our outsourcing and cloud revenue growth for the quarter was 3%. And if you exclude the impact of deconversion fees from both quarters, we saw a very solid 10% increase.

All of our sales teams had an outstanding fourth quarter, finishing at a combined 113% of quota. The core teams closed 15 new core deals, including 3 de novo banks and 15 competitive takeaways, which included another $1 billion-plus credit union and an $18 billion bank. We also saw a solid success with several of our key strategic solutions, like HNS, our Banno digital suite, treasury management and our enterprise risk mitigation solution.

Later this month, we'll be hosting our Annual Symitar Educational Conference in San Diego, which is always a great event. In October, we'll welcome our JHA Banking and ProfitStars clients to our first combined event in Nashville. These conferences always provide a terrific opportunity for us to hear directly from our clients and understand their strategic priorities.

As I mentioned in the press release, our employee engagement and customer satisfaction scores remain very high. When you combine that with the sales forces performing well, a solid suite of solutions and a healthy sales pipeline, I have confidence that we're well positioned for success in fiscal year 2018.

With that, I'll turn it over to Kevin for some detail on the numbers.

Thanks, Dave. Support and services line of revenue, which represents 97% of our total revenue for the quarter, continues to drive our revenue growth. A breakdown of our support and services implementation revenue of $12.9 million or $14.7 million was a decrease of 12% for the quarter. But if you back out the Alogent impact from last year, the decrease is only 4%.

Electronic payments was $136.5 million versus $131.5 million. As Dave mentioned, it increased 4%, but 6% net of the deconversion fees. OutLink was $86.2 million versus $84.2 million, again, increased 3% in the quarter, but 10% net of deconversion fees. And in-house maintenance was $84 million versus $81.4 million, which was a nice increase of 3% concerning the impact we have from our in-to-outs for the quarter. But it also increased 7% if you back out the Alogent maintenance from the prior year, which we no longer have.

Our bundled services went up to $51.3 million versus $41.7 million, which, again, this is implementation license and maintenance revenue combined for bundled service related to multi-element contracts, which will go away with the new rev standard 606 comes in effect in FY '19.

Total revenue for the quarter grew 9%. Backing out Alogent revenue, it was -- grew 9 -- and the impact of the first -- deconversion fees, it grew 9%.

There was some benefit, as mentioned in the press release, in the credit union segment from increased terminations of contracts. However, without that impact, our revenue would have still grown a little over 7% for the quarter, adjusting at deconversion fees for both years. Full year revenue is up 7%, but backing out the impact of Alogent from prior year and deconversion fees for both years, revenue grew 8%.

Gross margins were down slightly to 43% compared to 44% in last year's fourth quarter, which is actually pretty strong, considering the significant decrease in deconversion fees in this quarter compared to year ago quarter. Our operating margins were down due to the gain on sale of Alogent in Q4 last year. However, adjusting out the impacts of Alogent last year and the deconversion fees from both years, our operating margins from ongoing operations actually improved from Q4 from adjusted 23.6% last year to 24.6% this year. And for the full year, our operating margins improved slightly, backing out the deconversion fees and impacts of Alogent, from 23.5% last year to 23.6% for full year fiscal '17 adjusted.

The effective tax rate increased from 27.4% last year to 34.4% in this year's fourth quarter, primarily due to the impact on taxes last year from the sale of Alogent. For the full fiscal year, our taxes increased from 31% to 33%, primarily for the same reasons.

Adjusting for the deconversion fees and Alogent for both the quarter and fiscal year, our net income was up 8% for both periods. And with these same adjustments, EPS was up 10% for both the fourth quarter and fiscal year.

Included in total amortization, which was disclosed in the press release as part of depreciation and amortization, any amortization of intangibles from acquisitions, which was down to $3.5 million this quarter compared to $4.2 million last fiscal year's quarter. Free cash flow was approximately 88% of net income. However, this is primarily due to the timing of collections of receivables and payments of AP and accrued expenses and other working capital-type things. If you back out the net change of working capital, our free cash flow would have actually been closer to 98% of our net income.

During the year, we deployed our capital by investing $148.2 million back into our company through CapEx and developing products, and returned $221.8 million to shareholders through stock buybacks and dividends. Our return on equity for the trailing 12 months was 24.2%.

Before I provide updated guidance for FY '18, I wanted to make everyone aware that starting Q1, we are changing our reporting lines of revenue and expenses on the income statement, as I previously mentioned at the Analyst Day in May. Our license in hardware has become so immaterial that we no longer report -- we'll no longer report those as separate lines. Instead, we will be reporting 2 lines of revenue, which are services and support, which include all onetime revenues, in-house maintenance for all products and outsourcing and cloud service offerings. The other line of revenue will be processing, which will include all of our card, digital, remittance transaction and mobile-type revenues. Then, we'll report 3 lines of costs. We'll have cost of revenue, which is -- which will be the cost of direct cost of sales related to the 2 lines of revenue I just mentioned. We will continue to have a research and development expense line. And the third line will be selling and general administrative expenses.

We are also going to revamp our segments a little bit, and we will no longer be disclosing banking and credit union segments. We were -- we're actually going to change that to 4 segments that is actually more in line with the way Dave and I run and manage the business. The 4 segments will be the -- the first will be payments, which will include all of our various electronic payments offerings, such as credit, debit and ATM transaction processing, online bill pay and Remote Deposit Capture. The next reporting segment will be core, which will include all license, hardware, implementation services and maintenance for in-house offerings and all outsourcing services relating to our banking and credit union core offerings. The next segment will be complementary products, which will include all of our in-house and outsource product offerings and services other than core and payments. And the fourth reporting segment will be corporate and other, which will include all of our corporate overhead accounts and any revenue expenses not directly related to 1 of the other 3 separately reported segments. We believe this will provide much more clarity and transparency into our operations. And obviously, we will restate prior year's numbers as we go through the year for each quarter and year-to-date for comparison purposes.

So now update on guidance. We projected our revenue from deconversion fees caused by M&A activity will decrease in FY '18 and cause a headwind of approximately $8 million, with the good part of this coming in the first quarter. So this will continue to cause a little noise, but we will continue to provide the deconversion revenue on a quarterly basis, so you can see how our true operations are performing, just like we did in the press release we put out yesterday.

Also as we disclosed in the press release yesterday, we divested our regulatory reporting group, which represented approximately $3 million in revenue in FY '17. And also we discussed last quarter, there were some revenue headwind and margin pressure from getting our new payments platform in place and getting our customers converted to that platform over the next couple of years. Therefore, for our full year FY '18, we expect our reported GAAP revenue growth to be in the 5% to 6% range. But by backing out the decrease in deconversion fees for both years, we expect revenue to grow more in line in the 6% to 7% growth for FY '18.

Also we expect our effective tax rate to increase to 34% in FY '18 compared to 33% in FY '17. So for the fiscal year, we expect reported net income to show approximately 4% growth. But by backing out the deconversion fees from both years and the change in taxes would actually more of a 6% to 8% growth in net income from true ongoing operations.

Reported EPS for the year should grow approximately 5% and be in the $3.26 to $3.30 range, while EPS adjusted for deconversion fees would actually grow in more in the 7% to 9% range, without any consideration of future stock buybacks in these estimates.

For Q1 FY '18, we expect deconversion fees for the quarter to be down approximately $5 million compared to last year, just for the first quarter. So the first quarter reported revenue should show growth of approximately 5%. By netting out deconversion fees, it will be more in line of 7% to 8% growth. And with the decrease in deconversion fees and the increased tax rates, we expect net income for Q1 to be slightly down to flat compared to last years previously announced with EPS in the $0.78 to $0.79 range. Therefore, because of the decreased deconversion fees and higher tax rate, consensus estimates appear to need to be trimmed $0.03 to $0.04 for Q1 and approximately $0.10 for the entire year. Obviously, there could be changes due to higher than expected deconversion fees, stock buybacks or changes in the federal corporate tax rates during the year, which, if any of these happen, we will obviously provide updates on future earnings calls.

With that, that concludes our opening comments. And we are now ready to take questions. Operator, will you please open the call line up for questions?

(Operator Instructions) Our first question comes from the line of Brett Huff with Stephens.

This is Blake on for Brett. Could you just give maybe an update as well for clarification on your operating income, margin expansion? I knew you talked about maybe 50 to 75 bps at the Analyst Day. Could you maybe say how much that would be for the year and then maybe also x deconversion fees might -- what you expect that would be?

Sure. Are you talking about for FY '18, Blake?

Yes.

Well -- and as I said -- I mean, if we have any expense in FY '18, it will probably be at the very end of the year because remember, we then -- we've made this very clear on the fourth quarter call and Analyst Day that by on- boarding all of our customers and all new customers starting in January of '18, we'll be going on the new platform for the agreement that we signed at PSCU and FDC. There will be some duplicate costs and some other pressures on our margins, probably for the next 2 years, until we can get one of the platforms shut down as we get these customers migrated over. So I don't see much expansion of any of our margins -- in operating margins for FY '18. I was pleased with the operating margin expansion that we saw in FY '17 after you back out all of the noise of almost 100 bps for the quarter and a slight increase for the year. But I think if we could just maintain our margins pretty much in line for FY '18, I'll be pretty happy.

Okay. And then you said for the 1Q, you said deconversion fees should be down about $5 million year-over-year.

Yes. That's what looks right now, Blake.

Okay. But you're still not ready to say maybe for the full year, can you say whether it will be up or down?

For the full year, we anticipate it's going to be down $8 million to $9 million, which is why with that and the increase in taxes, that's why I'd say we'd probably need to trim EPS consensus by about $0.10 for the entire year. And those 2 factors will make that up.

Okay. All right. That's really helpful. And then the detail on the credit union revenue was helpful. Should we expect that to maybe continue again going forward or is that more of a onetime event?

That was kind of a onetime event. We actually expect our bundled revenue to be basically flat for this year, as we continue getting ready for the implementation of ASC 606 next July 1.

Okay. And then any commentary you can give on free cash flow expectations for the year and maybe just generally, maybe your CapEx expectations going forward? It seems like, obviously, you've been investing a lot in new products. How should we think about your level of CapEx going forward and cash flow for the year?

Well, like I said, we've pretty much got to the ramped up position where we needed to be for developers in the major areas this last year. Our cap software kind of trended down a little bit this year. I think we're probably going to see that again this year, a slight trend down. True CapEx should be relatively flat to maybe down a little bit in FY '18. So I think you should see a positive impact in both operating and free cash flow into next year. And again, a lot of this comes down to some of the timing and working capital things. But hopefully, in FY '18, our true final free cash flow will be closer to or in line with net income for the year.

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

You called out 15 competitive takeaways. Could you provide some insights on the main drivers of the takeaways? Which specific products performed particularly well?

Well, I would -- David, it's Dave Foss. So I would highlight Silver Lake, Core Director and Episys as the primary drivers on the Jack Henry side. So Episys, we continue to have great success in the credit union space. As I mentioned, we won another $1 billion credit union with Episys as well as few other credit unions. And then on the banking side, Silver Lake being our lead horse, if you will, on the banking side, that's the solution that not only won the $18 billion bank that I highlighted, but one -- I think, 2 of the de novo banks. One, I think, was a Core Director decision. But it would be those 3. And as far as who we're taking them away from, it's kind of across the board. There's a fair amount of churn out there right now as far as people looking at new core decisions. And so it wasn't any particular software solution that we be -- it was kind of across the board.

Understood. And you called out 3 de novo wins in the quarter. Could you comment on what you expect in the next year or 2 in terms of the de novo formations? Are you more optimistic in this environment that we'll see more kind of new bank creation?

Yes, it's a good question. It's -- I don't -- the FDIC has been actively encouraging new bank startups. And there's a lot of talk today as compared to a couple of years ago. So I don't have any anticipation that we're going to get back to the glory days of 10, 15 years ago, where de novos were starting up all over the place. But there's absolutely more activity today that there was a year ago around de novo banks. So I think we're at a good pace today. Whether it's sustainable or not, I don't know. But I know there is some good discussion. And I certainly know that the FDIC is actively encouraging startup banks in the U.S. So we're going to continue to follow that. We think it's an opportunity for us because most of those folks who start up a new bank, they're looking to grow the bank relatively quickly. And so they're looking for a full slate of products. Even though they're a startup bank, they oftentimes sign for a full slate of products because they're expecting to grow quickly, usually focused on commercial services. And so those are a good fit for our solution set.

Understood. Just a quick final question. Given the deregulatory agenda of this administration, are you getting any early read on 2018 bank IT budgets? And to the extent you are, are you seeing any shift between, let's say, more of a cost-cutting and efficiency orientation versus more of a pro growth agenda?

So first off is there a -- is there interest in a level of deregulation? Absolutely. Our banks are very aware of that topic out there. And now of course, they haven't seen anything meaningful so far. And so they're all kind of still waiting. But the spending environment is strong right now. I think that when you have conversations with the CEOs and Presidents of the banks out there, they're generally optimistic about what the future holds. Don't know yet what the -- what regulatory change is going to happen, if any, but they're optimistic. And there's absolutely a shift toward looking at more tools that will help with efficiency within the bank. The efficiency ratio is a key metric for every bank, and this is in -- I'm talking banks now as much on the credit union side who are on the banking side, definitely a key metric. And so those tools that can help in that regard are definitely top of mind. So one for us, for example, is our enterprise workflow solution. We've talked about it a lot. I think the timing was perfect when we rolled that out because a lot of bankers were starting to look at efficiency tools. And we happen to have a state-of-the-art solution new about 1.5 years ago when that was really becoming top of mind for a lot of banks.

I will say that one indicator that we always kind of look to is attendance at our national education conferences. And as Dave mentioned in his opening comment, our credit union is later this month and banking is in October. And we already have record attendance signed up for our Symitar Education Conference. And I think if I'm right, record attendance of prospects are also signed up to be there.

And for the banking conference, that's in October, so we still have a few months yet of registration, but for the CEO forum, we do a separate CEO track. We have more CEOs signed up now than we've ever had. So a lot of interest among CEOs and a lot of it is driven by the topic you brought up, David.

And our next question comes from the line of Brendan Hardin with Northcoast Research.

So you highlighted a fair bit of churn in core category. Is there anything that's accelerating this as of late?

I don't know if there's -- other than the fact that a lot of bankers and credit unions were kind of holding on to technology that they felt like needed to be refreshed and today, in the economic environment that they're in, they're a little more positive. I can't point at anything much more significant than that. I will say that on the digital front, the tools that banks and credit unions use to serve their consumers, I think consumer demand is driving a lot of that interest. They really recognize that they have to be positioned with state-of-the-art tools to put in the hands of their consumers, mobile banking and tools beyond just traditional mobile banking. So that, I think, helps drive some demand on the digital side. But as far as the traditional core business, I think it's a lot of people sitting on technology for a while, whether it was because they were waiting to decide if they were going to sell their bank or if they were waiting to see what happened after the election or there are a lot of things that could have been promoting that. But in this environment today, there is a good bit of review going on among banks and credit unions around technology.

Okay. Great. And then any commentary you can give on the progress of the conversion, the debit portfolio, the First Data platform would be helpful.

Sure. As Kevin mentioned in his comments a few minutes ago that we'll really start that in calendar year 2018. So we've been -- we've -- obviously, the message is out there, we've been messaging with our customers and had great response from our customers. They're enthusiastic about the plan and the story. So we've been working on the integration work that needed to be done. So we'll start transitioning a few customers at the end of this calendar year. And then once we get to the beginning of calendar 2018, that's when we will really start to do those migrations. But as Kevin also highlighted, new customers that we signed at the end of this year, they will go on the new -- the combined platform starting in January next year as well.

Our next question comes from the line of Glenn Greene with Oppenheimer.

So Dave, just to go back to the sort of spending environment and you sort of highlighted above-quota attainment in terms of the sales growth. But I was wondering if you could sort of highlight what the aggregate sales growth was and maybe across your key brands.

The 3 brands, you mean? So ProfitStars, banking and Symitar. So we were 113% of quota. So you're looking for me to compare how they did as compared to last year same quarter.

Year-over-year growth for the year, really as full year aggregate bookings.

And sales quota.

Ask that question again.

Okay. Kevin is going to look that up. Do you have something else, Glenn, that I can talk about while he's looking?

Yes. I guess, I was confused and I was sort of jumping around on different things. But you'd sort of alluded to sort of an investment phase for a couple of years. And I don't know if you were talking about a partnership. And I just want to get a clarity on what that meant. And if -- what the timeline is of that and sort of the order magnitude of -- if there's any incremental expense that we should be thinking about. Is that kind of baked in to flattish margin that Kevin may have alluded to for fiscal '18? I just wanted to go back to that.

You're talking about the First Data-PSCU partnership?

Yes.

Yes. So what will happen -- so essentially, the kind of the basis for this partnership is First Data will be the processing engine behind everything that we do. We'll be processing on their Omaha platform. And then PSCU provides the tools on the front end that we will use to support our customers. They've been a long-time First Data partner. They've had integration with First Data for something like 25 years. So they provide the front-end tools. And then we do all of the install, support, sales, everything that needs to happen with our customers is a Jack Henry delivered solution. So we're running the PSCU technology and on top of the First Data platform. Well, PSCU has had that technology in place for quite some time, but in order to do the integration to the Jack Henry core solutions and to customize the front end, what we referred to as the bubble wrap in order to customize that to be what we want it to be, it takes a little bit of development time. But then the big impact when it comes to the flatness of margins that Kevin was talking about is as we go through this conversion -- you don't just convert all these bank and credit unions all on the same day, so it's going to take some time to convert them -- and as we go through that, we'll continue to maintain our existing platforms, which we run ourselves in-house. But we'll also be taking on this expense of processing on the First Data platform until we can shut off the platforms that we have in house. So I think that's what he was alluding to in his comments. Anything else?

So I guess, that's where I was going. What's the time line to complete the conversion? And it -- does this drag for a short period of time into '19 and then you get a lift on margins in 2020? I'm just sort of trying to understand directionally how we should about the profitability impact.

That's exactly it, yes. So you see a lift in margin in 2019, 2020. We're done. And then we'll be off the old platforms. They'll be shut down. We'll be running in the new environment completely.

Okay. And then just a clarification. For Kevin, on the credit union item related to bundled services, so I didn't do the math yet. Was that order of magnitude something like $6 million revenue benefit in the quarter that was sort of onetime?

Yes, roughly $7 million.

$7 million. And is it fair to assume that the profitability of that is, I don't know, like, 100% incremental margin? Or what's the margin profile on that?

It's high margin, Glenn, but it's not 100% because there's also some selling costs and other costs that are related that were sitting in the prepaid costs that get rolled out too. So the margins are probably somewhere around 50% in that revenue.

Okay. And then just a follow-up on my first question, I don't know if you had the time to sort of find the bookings growth by particular brands.

Yes, but let me just clarify. When we talk about sales quota, what we measure is actual margin, so it's not really contract value or revenue. It's margins, so like on the service bureau that our salespeople get and on payments, they get a discounted rate margin calculation based on the terms of the contract. So our actual sales compared to quota growth over year was just right at 8%, excluding Alogent from last year.

(Operator Instructions) Our next question comes from the line of Eric Ciura with Robert W. Baird.

I guess, first, in the quarter, revenue beat your expectations by about 3% but EPS was in line with your expectations. So maybe just talk a little bit about why the revenue beat, which probably came from the bundled services then translate to an EPS beat as well.

Well, the EPS was down, Eric, because the deconversion fees were obviously lower than what we anticipated they were going to be for the fourth quarter. And unlike bundled revenue, deconversion fees is literally 100% that drops to the bottom line. So that was the impact on reported margins and reported EPS. Which, again, deconversion fees, we have no control over. That's just when one of our customers gets acquired, when they actually sign the paperwork, actually deconvert and we get check in hand, so that is when we are required to recognize that as a revenue. We can't recognize it before then. So when it happens, it happens, which is why I always try to report what those numbers were, so you can back them out and you can actually see what true operations, ongoing operations are for the company.

Okay. So term fees this quarter were lower than what you had expect -- had originally expected.

Yes.

Okay. And then you mentioned in -- starting in fiscal '19 how you'll no longer have the bundled revenue. Can we just talk a little bit more about what impacts that accounting change has on you guys?

Well, in this -- this is starting January 1 of -- or July 1 of '18. What ASC 606 and it's not a real clear change in accounting, but I can tell you that we're going to go back sort of the way we used to report revenue. The only thing that will kind of be tied together is license and implementation. Maintenance will no longer be tied to that because the requirement for vendor-specific objective evidence, VSOE, goes out the door. So we can literally go back to basically the way -- report it the way we used to, which means as far as the license and implementation and things, we'll actually be able to recognize pieces and parts of that quicker than we -- under the current structure with the bundling because, obviously, under bundling, you can't report any revenue until you deliver the last piece of the contract. Going forward, under 606, all those pieces get broken apart. And you can recognize these separate pieces as long as you can come up with the best estimated sales price on each one of those pieces. And I'm not even going to get into what the impact it has on long-term outsourcing and other contracts because that's really bizarre, the way we have to treat some of that. We'll talk about that some other time.

And I'm showing no further questions at this time. I'd like to turn the call back to Mr. Williams for closing remarks.

Thank you. We are pleased with the results for ongoing operations and the efforts of all 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 you, our shareholders. I want to thank you again for joining us today. And operator, will you please provide the replay number for the call?

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a wonderful day.