Afternoon, everyone, and welcome to the EVERTEC's First Quarter 2014 Earnings Conference Call. Today's conference is being recorded. And at this time, I would like to turn the conference over to Luis Cabrera, Senior Vice President and Head of Investor Relations. Please go ahead, sir.
Thank you, operator. Good afternoon, everyone. Welcome to EVERTEC's Q1 2014 earnings call. I'm Luis Cabrera, Senior Vice President, Head of Investor Relations for EVERTEC. With me today is Peter Harrington, our President and CEO Juan Jose Roman, Executive Vice President and CFO.
A replay of this call will be available until Wednesday, May 14. Access information for the replay is listed in today's financial press release, which is available on our website under the Investor Relations tab. As a reminder, this call may not be taped or otherwise reproduced without EVERTEC's prior consent. For those listening to the replay, this call was held and recorded on May 7, 2014. Before we begin, I would like to remind everyone that this call may contain forward looking statements as they are defined under the Private Securities Litigation Reform Act of 1995.
These forward looking statements about our expectations for future performance are subject to known and unknown risks and uncertainties. Ever take cautious that these statements are not guarantees of future performance. All forward looking statements made today reflect our current expectations only and we undertake no obligation to update any statements to reflect the events that occur after this call. Please refer to the company's most recent Annual Report on Form 10 ks filed with the Securities and Exchange Commission for factors that could cause our actual results to differ materially from any forward looking statements. During today's call, management will provide certain information that will constitute non GAAP financial measures under SEC rules, such as adjusted EBITDA, adjusted net income and adjusted net income per share.
Reconciliations to GAAP measures and certain additional information are also included in today's earnings press release. With that, we'll begin by turning the call over to Peter Harrington, our President and CEO. Peter? Thank you, Luis, and good afternoon, everyone. Thanks for joining us on today's call.
Our Q1 results were in line with our plan and we're pleased with the start of the year, particularly in our payment businesses. Overall, we're on course to achieve results within our full year guidance range. Total revenue in the quarter was flat with our payment businesses showing solid growth. Merchant acquiring revenue was up 10% and Payment Processing up 4%, while Business Solutions was down 6%. Adjusted EBITDA increased 8% and adjusted net income grew strong 16% to $0.40 per share.
In our Merchant and Payment Processing segment, we had a solid start to the year. Our payments business continued to benefit from the ongoing cash to card conversion trend in the markets we serve. We are executing on our growth plan and taking share by leveraging our scale, reputation, best in class network and services. Revenue growth in our payments businesses outside of Puerto Rico continue to be strong as well, increasing 15% compared with the Q1 of last year. And we continue to see stable and solid transaction growth within Puerto Rico with POS processing transactions up 8% year over year.
Demand for our payment services across our entire Latin American footprint remains solid and our new business pipeline continues to build. I would like to take a minute to discuss a few new business highlights and payments. First, I'm excited to announce that we recently signed a financial institution customer in Colombia to whom we'll be providing card product processing services. This quarter, we also launched ATH Movil, our new P2P product for ATH customers with 6 financial institutions in Puerto Rico. And finally, I'm happy to report that the government of Puerto Rico has informed us of its intent to award us a new 5 year contract to continue providing services that support the government's EBT program.
We have been the sole provider of EBT processing services to the government of Puerto Rico since the program began in 1998. Now for Business Solutions. You remember that on our February call, we said expected revenue growth to be lumpy this year. In the Q1, Business Solutions revenue was down because of lower levels of hardware and software product sales compared to the particularly strong sales we booked in the Q1 of 2013. It's worth noting that excluding hardware sales, Business Solutions revenue was up 2% in the quarter.
Based on what we're seeing today with respect to sales and project implementation timeframes, We expect Business Solutions revenue to build over the remainder of the year and still be in the low single digit range as previously discussed. To that point, we have approximately $3,000,000 of hardware and software sales already committed to be delivered in Q2 and Q3. Outside of hardware and software sales, we continue to see solid demand for our core business process management solutions, such as core banking as well as network services and IT consulting. Before turning the call over to Juan, I'd also like to tell you about a new initiative with the government of Puerto Rico. The government recently awarded us a contract expanding our current sales tax aggregation services agreement, leveraging our Evoloto product.
We've been mandated to develop and host a portal to help manage the new added value tax and credits that go into effect on July 1. Once this service begins, we anticipate that it will yield additional payment processing volume over our current network. I will now turn the call over to Juan Jose, who will take you through our financial results in more detail. Juan?
Thank you, Peter, and good afternoon, everyone. As Peter mentioned, we have a good start to the year. While Business Solution revenue was down, the payment businesses did well, and we delivered solid adjusted EBITDA and double digits earnings growth. I will now spend some time going through our Q1 financial results in more detail. Beginning with revenue on a consolidated basis, total revenue was essentially flat at 87,200,000 dollars Merchant Acquiring net revenue increased 10 percent to $19,300,000 from $17,500,000 in the prior year period, predominantly driven by an increase in transaction volumes.
Payment processing revenue increased 4% to $25,000,000 in the first quarter, up from $24,100,000 in the prior year period. This growth was driven by new customer additions an increase in accounts on file within our card product business, as well as an increase in POS processing transactions. It's worth highlighting that the payment processing year over year growth this quarter was affected by the timing of revenue recognized from a Department of Education program we processed in Puerto Rico. In the Q1 of 2014, we recognized no revenue related to this program versus approximately $600,000 recognized in Q1 of 2013. We began processing for this program again in April and we recognize revenue for these services in the Q2.
Excluding the effect of such program, our Q1 payment processing segment revenue would have increased 6% compared with Q1 of last year. Our payment related businesses outside of Puerto Rico continue to grow at a strong pace in Q1, up 15% versus the prior year period, mainly driven by car product processes. Additionally, POS volume growth within Puerto Rico remains steady, up a solid 8% compared with the prior year. Our Business Solutions segment revenue decreased 6% to $42,900,000 in the first quarter compared with $45,800,000 in the prior year period. As Peter discussed, this decrease was mainly due to a decline in hardware and software product sales in the quarter amounting to $3,500,000 partly offset by increased demand in our network and core banking products and services.
Moving to expenses. On a GAAP basis, our first quarter total operating expenses were down approximately 7% compared with the prior year period. Cost of revenue, excluding depreciation and amortization, was 37,600,000 dollars a decrease of $2,900,000 or 7 percent for the corresponding 2013 period. This decline was due to a reduction in cost of sales, resulting from lower level of hardware and software product sales and to a lesser extent lower operating taxes. Selling, general and administrative expenses for the quarter were $8,100,000 down $800,000 or 9% from the corresponding 2013 period.
This decrease was mainly due to the absence of $900,000 of management fees previously paid to Apollo and Popular. Our income from operations for the Q1 was $24,900,000 an increase of 22% compared with $20,400,000 in the corresponding 2013 period. Total non operating expenses were 4,500,000 dollars a decrease of $10,400,000 from the corresponding 2013 period. This decrease was driven mainly by interest expense reduction of $8,400,000 resulting from our debt refinancing and $1,000,000 in foreign exchange gains related to an intercompany loan with our Costa Rica subsidiary. Our GAAP income tax expense in the Q1 was $2,200,000 up from $51,000 in the prior year.
On a cash basis, we paid no income tax in the Q1 because of our payments made in the 2013 fiscal year. We expect cash taxes to return to a more normalized rate beginning in the Q2. As of March 31, 2014, we had approximately $73,000,000 of NOLs available to offset future tax payments related to our operations in Puerto Rico. Adjusted EBITDA for the Q1 was $45,200,000 an increase of 3,400,000 dollars or 8% from $41,800,000 in the corresponding 2013 period. Decrease in adjusted EBITDA was predominantly due to revenue growth and significant operating leverage in our merchant acquiring and payment processing businesses, as well as the $1,000,000 foreign exchange gain.
Adjusted EBITDA margin was 51.9% compared with 47.8% in the prior year. Even when excluding the FX gain in the quarter, our adjusted EBITDA margin increased 2.90 basis points versus the prior year period, reflecting the strong operating leverage inherent in our payment businesses. Adjusted net income in the Q1 was $32,000,000 up 16% from $27,500,000 in the prior year. This increase was due mainly to adjusted EBITDA growth and lower levels of operating depreciation and amortization expense and cash taxes. Moving to our balance sheet.
As of March 31, we reported 27,200,000 dollars of unrestricted cash and $720,800,000 of total short term borrowings and long term debt. During the quarter, we made a mandatory repayment of approximately $4,800,000 on borrowings outstanding under our Term A and Term B senior secured credit facilities, pay $10,000,000 on our revolving line of credit and pay dividends of 7,800,000 dollars As of March 31, total liquidity, which includes unrestricted cash and available borrowing capacity under our revolver was approximately $87,200,000 We continue to generate significant levels of free cash flows. For Q1 2014, our free cash flow defined as adjusted EBITDA minus CapEx, cash interest expense and cash income taxes was approximately $37,000,000 up 20% compared with the prior year period. Finally, this afternoon, we announced that our Board of Directors declared a regular quarterly dividend of $0.10 per common share. We remain committed to the prudent return of capital to our shareholders.
Now on to our guidance. Based on the trends we're currently seeing in transaction volumes, new business activity and project implementation, we are reiterating the 2014 outlook that we provided on our last quarterly call. Revenue growth between 5% 7% adjusted EBITDA growth at least 100 basis points higher than our revenue growth rate and fully diluted earnings per share of between $1.65 $1.71 We continue to expand full year 2014 operating depreciation and amortization of approximately $32,000,000 cash interest expense of approximately $23,000,000 and fully diluted shares of approximately $79,200,000 We expect 2014 cash income tax expense of approximately 3,000,000 dollars Our 2014 effective tax rate outlook on a GAAP basis remains between 10% 12%. With that, operator, we will now open up the call for questions.
We'll take our first question from George Mihalos with Credit Suisse.
Great. Thanks for taking my question guys. I think if I heard correctly Peter, you mentioned that growth outside of Puerto Rico was 15%. I think that accelerated a little bit from the back half of twenty thirteen. I just want to confirm that.
And can you give us the percentage of revenue that was sourced from outside Puerto Rico in the quarter?
Yes, it did slightly accelerate from what we saw in the Q4. And yes, it's give or take for around number 15%.
Okay. Okay. And then one Jose, you reiterated the guidance of 5% to 7% on the top line. Is your sense given where the Q1 sort of came in with a bit of slower growth on the business solution side, Is your sense that you're tracking more towards the lower end for the year? Or maybe another way to ask is what would have to happen for you guys to be able to hit the upper end of the range at 7%?
So I think that a lot of it will depend on hardware and software. And as we've said before, it's hard to predict exactly when it will fall into the P and L. Last year, we saw a very strong hardware and software in the Q1. This year, it was very soft. And I think that though based on the commitment that we have already for some of the sales in the Q2 and Q3, we still feel comfortable that we're going to get to where we expected for the full year on the hardware and software side.
So it will be more driven to your point, will be driven more by the payment businesses. It won't be driven by business solutions. To get to the higher end of the range will come from do the payment businesses outperform what we originally thought they would do.
Okay, great. And just last question for me on the contract renewal on the EBT side, was pricing relatively stable on that deal? Thank you.
Yes, relatively. I mean, for us, it will be net neutral because we picked up a couple of small services that offset at a small
We'll take our next question from Smriti Sekapramod with Morgan Stanley.
Hi. Thank you. The government of Puerto Rico recently submitted a proposal for a balanced budget. What kind of impact if any do you anticipate from seeing from that proposal? And then if you
could just give us a just
an update regarding what you're seeing in what kind of payment trends have you seen in Puerto Rico so far in April?
Okay. So on the first one, as we've said before, we really didn't see any real no negative impact at all compared to what the budget is doing. Now again, to be upfront, that was the Governor's proposal. We haven't seen anything on a piece of paper. So there are some high level numbers out there.
But from what I've seen, there's nothing that they're talking about that has any real has any impact on EVERTEC. And I think as we said before and as we stated earlier on the call, we actually think there may be some potential positives and that as we said, we were able to add on to our Evoloto product and what we do for them around sales tax to be able to provide this portal service to them on the VAT tax. So I think, if anything, I think it's neutral, worst case and at best, I pick up some of this to help them kind of cut cost and become more efficient.
Regarding the second part of the question, April is basically similar to what we saw in Q1. So we are very happy, very comfortable that the trends continue at least so far up to April.
And then maybe can you give us an update on the Visa merchant acquiring license situation in Colombia?
So yes, we're fine with that. We're at this point as I said before, I mean we're waiting for Visa to get the low value license. But what I want to make sure that you guys understand is the license in and of itself doesn't generate revenue. As I've said, we will not go into the market under the EVERTEC name. So it will be leveraging that license with a partner and that's when we'll start generating revenue.
So it's there. We're working on trying to find a partner and Visa is trying to get their low value network license. So that continues.
Okay. Thank you.
Our next question will come from Bryan Keane with Deutsche Bank.
Hi, guys. Just want to clarify the Colombian signing with the financial institution, is that relates to the merchant acquiring agreement that we talked about last quarter or is that something separate?
No, it's just it is a separate processing customer. So it's really our 2nd Colombian customer. So we have the customer today that we're still in the implementation process for. This is the 2nd customer. As I said, I thought we were starting to make progress on sales.
We've signed now our 2nd customer. That won't generate revenue obviously until 2015. But it has nothing to do with acquiring. It's purely for card processing.
And so any update on not only Colombia, but just internationally for other kind of bank alliances?
No, no real update. We're still working on the one we've been working on. We're taking baby steps forward, but we're moving forward. And like I said, with the first Colombian customer, we're still in the implementation phase. And there's really nothing different from what we've said before.
We will generate revenue when we finish the implementation of them.
Okay. And then just looking at the segmented operating margins, I might have missed this, but obviously the merchant acquiring margins were down quite a bit and then payment processing was up
quite
a bit. I just I'm not sure if I understood why the big swings there. And I assume that evens out going forward or how do we think about that going forward? Thanks.
Yes. No, the operating yes, you are right. Mostly, it's the result of some changes that we made in terms of how we allocate expenses between segments. So as you very well notice, they may naturally increase significantly higher, right, as a relation to their revenue. It's just moving some expenses out of MAB from the acquiring payment to the acquiring.
So it's internal allocations. So it started Q2 of last year really. It was noticed more in this quarter because it also include lower non transactional revenue in the quarter, but it will be more stable. But if you take both together, the payment and the merchant, the margin you will see as a percentage of the growth in revenue the solid 41% increase in operating income.
And so overall, adjusted EBITDA margins were up quite a bit year over year, but you're still kind of reiterated the 100 basis point type margin expansion for the year. So does that mean there'll be further investments that crank up that lower kind of that Q1 kind of ahead of plan beat?
Not necessarily. Keep in mind, hardware and software usually have much lower significantly lower margins since we didn't have in this quarter those hardware and software sales, our margins in total are much better, right? So as we start adding more hardware in the next quarter, then that reduced a little bit, right? Or the margin increase is a little lower or not as significant as what you saw in Q1. Okay.
Thanks so much.
We'll take our next question from Tien Tsin Huang with JPMorgan.
Hi, good afternoon. Thank you. I wanted to just ask a silly question. What exactly are you selling on the hardware and software front? And how discretionary is it?
The range is huge, Tien Tsin. I mean, it comes from servers to it comes from cloud. It comes from our hardware solutions business. It is made up of a number of different components. So there's not it's network equipment, routers, software related to it.
So it all depends in some of the projects that we do on the IT management, on the network side and on the core banking side with Poplar, there is hardware related and software related to the project. And in some cases, we actually sell that hardware because we have the partnerships with the major providers like Avaya and IBM and Cisco and Dell and Microsoft, etcetera. And so as part of the deal, we sell them hardware and software as part of the deal. We in most almost all cases, we host that in our data center. But they actually own the hardware and software because it is specific for them.
Understood. So to the extent that it's tied I guess to an IT budget, or I guess, maybe in this case, a contract, I'm just trying to get a sense of how much visibility you have. I understand the timing of when it might come through, but could it fall off completely is what I'm trying to understand?
No. And that's why we tried to give you some flavor that we've already got $3,000,000 of it committed for delivery in the second and third quarter. It comes with the projects, but we don't see anything at this point that's telling us that there won't be these projects that will deliver this hardware and software right now. Some of it the nice thing about hardware and software is the time frame from contract to revenue generation is very quick, right? Not like the processing businesses where you have to implement the customer, right?
But it is so there are projects that we expect that we've got in the pipeline that we're working on that we've already got $3,000,000 committed from. There are projects that just historically we do on a year over year basis that we still expect to get between now and the end of the year.
Okay, good. Now that's helpful to hear. Just wanted to get that education. Thanks. Just I heard the comments around the acquiring stuff, but just how about in general movement in the pipeline, how does it feel tone wise?
And then same thing with project ramps. Are things ramping on time in general here in terms of the stuff you're implementing?
Yes. I would say as we pointed out, I mean, Colombia has been slower than we had expected. Outside of that, we don't see any negative impact in both the pipeline, the new sales pipeline for the processing business or the delivery of customers. As Juan said, some of the growth we're seeing is because we're bringing on customers that we sold last year or at the very end of 2013, right, that we signed that we're now bringing that revenue on. So we don't see anything based on what we sold last year, we'll bring that on.
The only thing that's been delayed has been Colombia beyond what we thought outside of that. And that we've talked about before. But no, we don't see any other issues.
That's great. Thanks.
We'll take our next question from Sarah Gubins with Bank of America Merrill Lynch.
Hi. Thank you. How big of a benefit could the new value added just contract with the government be?
There'll be it will be a project that we'll do between now June. And then because it adds on to what we do in Evoloto, there's probably about give or take I don't know $1,000,000 to $2,000,000 maybe of benefit that we'll see over a full year basis probably next year.
Okay. Should we think about it as a $1,000,000 run rate? Is that about right
or? Probably more than that somewhere between $1,000,000 $2,000,000 We haven't we have it we just this just landed on the door. We just signed it. So we think it somewhere between maybe $1,500,000 $2,000,000 probably is more realistic.
Okay, great. And then within the Payment Processing segment, the revenue growth decelerated in spite of the easier comparison. And I know that you mentioned some of it was the government contract. But given that the comparison is significantly easier, I just wanted to understand if there are any other factors that are driving the deceleration?
No. No, I think what you're going to see is we expected it to be at around 6%. And I think what you're going to see in the second quarter is it will accelerate because the revenue we expect in the Q1 will be in the Q2, right? So I think you'll see that in the Q2 and then it will flatten out to where we expected it to be in the 3rd Q4.
Okay. Thank
We'll hear next from Bob Napoli with William Blair.
Thank you. Good afternoon. First of all, just on the hardware software sales, I mean, the margins on that must be extremely low because you beat our EBITDA number even while you missed the revenue number by a fair amount. I mean are we talking about 5% gross profit margin?
Yes. 5% to 10% is probably not a bad we try to get as much as 10%. But yes, they're very low margin deals.
I mean, does it make sense to break out that separately just to I mean, how much like in last year's revenue $184,000,000 how much there the business solution? I think, yes, it's all in business solutions. And is that how much was it and what was it for the full year last year?
I don't we don't have the number in front of us, Bob, but we can look into that for you.
Yes. It just might be worthwhile to break that out separately because it's so I mean, it's a big number and it moves and everybody looks at revenue, but it's like 0 and very, very little in profit. So it just kind of distortion and immaterial distortion.
Exactly. And as Juan said, it distorts the margin too because when it's not there, the margin goes way up when we get a big quarter like we did last year, it drags the margin down.
Yes. Yes, right. I mean, at
the end of the day, it doesn't have a real impact on our ability to grow earnings.
Just a question on the growth of the payments revenue, the 15% growth. What markets, I mean, is that the primarily the Caribbean? Are you seeing that out of Panama? What markets are you getting the growth in?
We get it quarter by quarter, it changes market by market. We get it's probably more so right now in Central America than it is in the Caribbean.
Okay. And which countries in particular? Just curious.
Well, it would be our fundamental countries are Panama, Costa Rica, El Salvador.
Okay. And then what is going on in Colombia? What is causing the delay? I know the first customer you had, I think you were pretty excited it might be $5,000,000 maybe even as much as $10,000,000 of revenue once that customer got ramped up and it's just taken so much. What is causing the delay?
Is it regulatory issues in Colombia? I mean, are you still really comfortable with that market? What's causing that kind of delay? And do you still think that type of revenue is likely from that customer?
Yes. And I think and maybe we some got lost in translation. That the first customer will not generate $5,000,000 annually for that customer.
What I
think we were talking about is that the total contract value was 5,000,000
dollars Okay.
And so I may have misled you there with my comments. But the delay is around 2 things. It's 1, it is the customer is it's a scope issue to some extent exactly what we're doing for them, how we're doing it for them. And some of it is just fundamental in the first customer in a new market. It is always the most painful, the most difficult because we have to put all of the connections in place with the local networks to operate the customer.
And as you can imagine, they are not necessarily in a rush to have a new competitor in the market. So it's not they don't say no, they just it takes longer than once we build the connection Bob to that network then I don't have to do that for the second, the third and the 4th customer. But the first time around it's more painful and takes
longer. I mean, do you think you're going to be able to build? I mean, Colombia is a bigger market than all of the other markets put together pretty much. I mean, do you have are you getting the momentum? Is that going to be kind of a game changer market for you over the next 3 to 5 years?
Without a doubt. And that's why I mean I was happy that we signed the second customer. That was to me a very good sign that
we're starting to pick up momentum
on the sales side. Because obviously I can't do it with 1 customer alone. The goal now is to start building on the we've got the salespeople on the ground, start building the pipeline, which we have been doing. And now we're starting to see the benefits of that as we start to sign additional customers in the market.
Great. Thank you.
I'm still
very comfortable though that that will be a very good market for us over the next 3 to 5 years.
Okay. Thank you.
And we'll take a question from John Davis with Stifel.
Hey, guys. Thanks for taking my question. I think quickly, I think Peter, you referenced processing growth up 8% year over year in the Q1. That's a slight acceleration from I think 2013 and 4Q specifically. Can you talk about what's driving that there?
Is the Puerto Rican economy getting any better? Any color there would be appreciated.
Yes. It's been in the 7%, 8% range. I think the numbers we've been giving out for last year were 7% and 8%. So it's in around the same time. We don't see any real acceleration.
More I guess what's more positive to us is we see no negative impact on that With all of the noise and everything that's going on in Puerto Rico over the last year, the consumption remains very strong and we're seeing that in just the year over year, quarter over quarter, month over month POS processing. So we expect that based on what we've seen for the last now what probably a year, we expect that that number will probably stay in the 7% to 8% range for the rest of 2014.
Okay. Thanks. That's helpful. And Juan quickly, D and A ticked down a little bit this quarter. I think it was
a little bit lower than we were expecting.
Anything going on there? And kind of how should we think about that going forward? Thanks.
No. It is mostly the natural there were some software and hardware that just are fully depreciated. But with I think it's just timing as we keep adding CapEx, it will get more to the average that you have seen in the last year. That's why for the full year, we should be around $31,000,000 to $32,000,000 in D and A.
Okay, great.
Thanks for the color guys.
It was just mostly hardware and software fully depreciated. That's the reason.
Okay, great. Thanks.
And that will conclude today's question and answer session. Mr. Harrington, I'll turn the call back to you for any additional or closing remarks.
Thank you, operator. In summary, I'm pleased with the start of the year. EVERTEC is well positioned to continue to increase its share in Latin American payment processing markets. We remain focused on executing our strategic growth initiatives, serving our clients and driving profitability and shareholder value. We thank you for your support and we look forward to discussing our 2nd quarter results with you in our next earnings call.
Operator, you may now end the call.
Thank you. That will conclude today's conference. Thank you all for your