Good day, everyone, and welcome to the EVERTEC Third Quarter 2013 Earnings Conference Call. Today's conference is being recorded. 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 Q3 2013 earnings call. I'm Luis Cabrera, Senior Vice President, Treasurer, Head of Investor Relations and Corporate Development. With me today is Peter Harrington, our President and CEO Juan Jose Roman, Executive Vice President and Chief Financial Officer.
A supplemental slide presentation that accompanies this call and webcast can be found on our Investors Relations website at ir.evertechinc.com and will remain available after the call. A replay of this call will be available until Wednesday, November 13. 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 November 6, 2013.
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. EVERTEC 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 prospectus on Form 424B4 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 over the call to Peter Harrington, our President and CEO. Peter? Thank you, Luis, and thanks, everyone, for joining us today.
I am pleased to report another solid quarter of growth and continued execution of our expansion strategy. Consistent with our expectations, we had strong revenue growth during the quarter in our merchant acquiring and payment processing segments, with merchant acquiring revenue up 8% and payment processing revenue up 6 percent. Adjusted EBITDA grew 14% during the quarter and our adjusted net income grew a very strong 86%. Overall, our solid results for the Q3 reflect the continued secular growth in the payment markets in which we operate as well as the successful Latin America as well as the focused effort of our management team on managing cost and driving productivity. This has resulted in a 430 basis point expansion in our adjusted EBITDA margin for the quarter.
As you also saw this afternoon, our Board of Directors declared a $0.10 regular quarterly dividend per common share. The dividend is payable on December 6 to shareholders of record as of November 18. As mentioned last quarter, our decision to initiate a regular quarterly dividend program is a reflection of our significant cash flow generation, strong balance sheet and the ability to sustain predictable long term growth with low incremental capital requirements. Going forward, we remain committed to the prudent return of capital to shareholders and to continue dynamically to evaluate the best uses of our excess cash in the context of our strategic objectives. On the corporate development front, I would like to spend a moment discussing 4 new business wins and developments that we are particularly excited about and that are consistent with the growth strategy we have discussed with you before.
1st, we signed a deal with the government of the U. S. Virgin Islands to provide processing and data and underscores the multiple levers we have to drive expansion. 2nd, we recently signed a significant contract with the largest hospital management company in Puerto Rico, which operates 12 hospitals on the island. We will provide licensing and hosting services for their payroll and HR applications.
3rd, we signed 4 new Latin American bank issuers to provide processing services including our first customer in Jamaica. And lastly, we have completed the application for a Visa principal member license for Colombia. The receipt of this license will allow us to provide merchant acquiring services, expanding the breadth of services we can provide our valued customers and allowing us to capitalize on an attractive growth opportunity. Columbia could represent a $500,000,000 merchant acquiring market and would be the largest market we have entered to date. We believe that the approval of the license will be granted in the very near future.
During the Q3, we also completed a 23,000,000 share secondary offering from Apollo and Popular, which increased our free float and will hopefully improve the liquidity of our public shares going forward. I would like to thank our existing shareholders who increased their stake for their continued support and welcome to our new shareholders. Given the recent spotlight put on the Puerto Rican economy in the press and a number of questions we've received from both analysts and investors, I thought it would be helpful to also spend a moment on the local economy and our business on the island. First, I would like to note that the Puerto Rican economy has been challenged for the last 7 years. This is not new news.
But as many of you already know, EVERTEC has been able to consistently grow every year in this economic environment. 2nd, several indicators suggest that the Puerto Rican economy is no worse today than it has been. Rio G and P, retail sales and unemployment are all in better spots today than they have been over the past many years. Furthermore, the new government administration has put in a number of initiatives to address the current fiscal situation. Though it's early, we believe these can have a positive impact over the medium term.
3rd, EVERTEC's point of sale processing transactions in Puerto Rico have grown in the 6% to 7% range year to date versus the same period last year. Growth in Q3 was actually higher than that and we believe this trend will continue through the end of the year. This indicator is better evidence of the continued solid growth in the market because today we process over 70% of the card based transactions on the island. Let me remind you that we have provided some additional information on our website. Before I turn it over to Juan, who will take you through our financial results in more detail, I would like to welcome Eduardo Camargo to our senior management team.
As you saw in our press release, Eduardo has been appointed as Chief Information Officer of EVERTEC and will be responsible for managing our information technology organization and infrastructure. Eduardo's career spans over 30 years in Latin American Financial Services and Payment Industry, and he will be a tremendous asset to us going forward. We welcome Eduardo to the team. With that, I'll turn it
over to Juan. Thank you, Peter, and good afternoon, everyone. As Peter mentioned, EVERTEC continued to deliver solid financial performance during the Q3. We had consistent and strong revenue growth in our Merchant Acquiring and Payment Processing segments and generated adjusted EBITDA growth of 14%. Our adjusted EBITDA margin increased by approximately 4.30 basis points to 49.7%, which underscores the positive impact of our productivity initiative as well as the scalability of our leading technology platform.
This revenue and adjusted EBITDA growth combined with the positive impact of our debt refinancing lead to a very strong adjusted net income and adjusted EPS growth. I will now spend some time going through our financial results in more detail, starting with our revenues. On a consolidated basis, total revenue for the Q3 increased 4 percent to $87,400,000 up from $83,800,000 in the Q3 of 20 12. Looking at the underlying segments, merchant acquiring net revenue grew 8% to 18,200,000 dollars driven primarily by higher transaction and sales volumes. This 8% increase is consistent with the normalized growth we experienced during the first half of this year and reflects the continued secular growth of payments in our business.
Now on to payment processing. Payment processing revenue increased 6% this quarter to $24,700,000 from $23,300,000 in the prior year period. Revenue growth in the quarter was driven primarily by an increasing transaction process and accounts on file. Finally, Business Solution revenue increased 2% to $43,700,000 As we expected, business solution revenue growth moderated this quarter from the first half rate of approximately 8% due to the intra year timing of project completion and product sales. We have discussed the potential impact of project based timing in this segment before.
Over a full year period, we continue to expect Business Solutions to grow in the low to mid single digits on a percentage basis. Moving to expenses. On a GAAP basis, our total operating expenses were flat for the Q3 as compared to prior year. For the Q3, cost of revenues, excluding depreciation and amortization, was 39,100,000 dollars a decrease of $1,800,000 or 4 percent from the corresponding 2012 period. The decline in our of revenues was primarily due to a reduction in professional fees, lower operating cash taxes as a result of our 15 year tax run and the intra year timing of project completions and product sales within our Business Solutions segment.
Total selling, general and administrative expenses for the quarter were $8,800,000 up $1,500,000 or 21 percent from the corresponding 20 12 period. The increase in selling, general and administrative expense was primarily due to 1.6 $1,000,000 of onetime expenses related to the secondary offering of Como stock we completed in September, partially offset by a decline in operating taxes as a result of our tax grant, as well as the elimination of management fees associated with our consulting agreements with Popular and Apollo that were unwound at the time of our IPO in April. Income from operations for the 3 months ended September 30, 2013 was 21,900,000 dollars representing an increase of $4,000,000 or 22% as compared to the corresponding 2012 period. The increase in income from operation was driven by the aforementioned factor impacting our revenues and operating costs and expenses. Total non operating expenses were $5,700,000 a decrease of 8,700,000 dollars from the corresponding 2012 period.
The decrease in non operating expenses was primarily driven by an interest expense reduction of 8,400,000 dollars as a result of our debt refinancing. We recorded an income tax expense of approximately 1 $400,000 in the 3rd quarter. And on a cash basis, our income tax expense was approximately 400,000 dollars As of September 30, 2013, we had approximately $100,000,000 of NOLs available to offset future tax payments related to our operations in Puerto Rico. Adjusted EBITDA for the quarter was $43,400,000 up 5.4 $1,000,000 or 14 percent from $38,000,000 in the corresponding 2012 period. The increase in adjusted EBITDA was primarily driven by revenue growth and the impact of our productivity initiatives.
Adjusted EBITDA margin improved by approximately 430 basis points to 49.7 percent from 45.4 percent in the corresponding Adjusted net income was $29,500,000 up 86% from $15,900,000 in the prior year. The increase in adjusted net income was primarily due to the same factors impacting adjusted EBITDA and lower cash interest expense as a result of the debt refinancing we completed in April of this year. Adjusted net income per diluted share increased 71% to $0.36 from $0.21 in the prior year. Moving to our balance sheet, as of September 30, we reported $28,000,000 of unrestricted cash and $695,300,000 of total short term borrowings and long term debt, which represents total net debt of $667,300,000 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 As of September 30, total liquidity, which includes unrestricted cash and available borrowing capacity continue to generate significant levels of free cash flows. Year to date, our free cash flow defined as adjusted EBITDA minus CapEx, cash interest expense and cash income taxes was approximately $93,000,000 up 16% from $80,100,000 for the 9 months ended September 30, 2012.
We have converted approximately 72% of our adjusted EBITDA to free cash flows year to date versus 68% for the same time period in 2012. Now I will discuss with you our expectation for the remainder of the year. In Q4, we expect our merchant acquiring business to continue to grow in the high single digit range on a year over year basis. We also expect the payment processing business to continue to grow in the mid single digit range. Based on the timing of certain projects, we expect our Business Solutions segment revenue to be similar to last year.
On a full year basis, there are a few timing related factors we expect to impact our results, including the accounting related treatment of certain IT consulting projects, longer than expected implementation times for new contracts, and the delay in the funding of a federal government program. Regarding the accounting treatment of certain IT consulting projects, during this year, we have had a higher than anticipated proportion of hosting related projects within our IT consulting business. Based on the accounting guidelines, revenue generated in connection with hosting contracts are amortized over the life of the contract. You can see the accruals of these revenues on our balance sheet as on earning income. As you will note, we have had a $2,600,000 increase in and this will continue in Q4.
While this had an impact in 2013, we're pleased to expand this customer hosting relationships and enhance our recurring revenue stream going forward. The second factor impacting our revenues this year is longer than expected implementation times for certain new contracts. We have had some services that began later in the year than expected and some delays from Q4 into early 2014. This is all timing related and will begin to benefit us early in 2014 and beyond. And lastly, the third factor impacting our revenue this year was the aforementioned delay of a federally funded U.
S. Government program that we provide processing services for. We have processed for this program since 2008, and this is the 1st year in which it has unfortunately been delayed. Just recently, however, we learned that funding was approved by the U. S.
Federal government and the government of Puerto Rico has already begun preparation in order to begin this program in early 2014. Based on our performance year to date, the timing related factor I just discussed and the insight we have into the remainder of the year, our guidance for full year 2013 is for revenues to come out between $357,000,000 $359,000,000 adjusted EBITDA between $177,000,000 179,000,000 dollars and for our fully diluted earnings per share to come in between $1.47 1.49 dollars In summary, our business fundamentals are strong. We are particularly pleased with the continued strong performance in our merchant acquiring and payment processing businesses. We continue to successfully execute our growth strategy and we see significant opportunities to grow and expand our business and penetrate and gain share in La Via America. With that, operator, we will now open the call for questions.
Thank you. And we'll take our first question from Bryan Keane with Deutsche Bank.
Hi. This is Ashish Sabadra on, B. F. Of Brian Keane. It's good to see that improvement in revenues and payment processing as well as merchant acquiring.
Just the question was based on your guidance, you're guiding more like 3% to 4.5% growth for the Q4. And I understand a lot of it is due to weakness due to business solution and the timing. But just on the merchant acquiring, considering that you have this alliance and also easier comps with the prior year, Should we expect the revenue growth to improve in merchant acquiring? Or are you yes, so the question was more around the revenue growth in merchant acquiring. Should we expect that to improve considering easier comps as well as BBVA ramping up?
Yes. We do expect for Q4 in addition to our KPN business as you've noted, we also completed implementation of the Oriental BBVA in early October. So yes, we expect a strong merchant acquiring growth in Q4, not only because of that, but also keep in mind that is a holiday season in Q4 and there is a natural seasonality to that business as well as some of our payment processing businesses. So yes, it will be a strong Q4, as we said, high single digit and that includes some of the impact of completing the migration of the BBVA merchants into Oriental Bank.
Okay. Thanks for the color. Just on the Puerto Rico, again, thanks for the color on the call. Two quick questions. I was wondering if you could just provide some color around what percentage of the revenue is generated from Puerto Rican government contracts?
And another question would be, is there any risk to your tax agreement with the Puerto Rican government in case of the government decides to raise taxes or any other adverse event?
Yes. The first part of the question is around 10% similar to last year. It has not changed significantly. But keep in mind that most of those services are mission critical for the government of Puerto Rico, like they child support later on in benefit transfers. And even some of those are actually funded by the federal government.
In the second to the second part of your question regarding our tax run, no, we're very comfortable with our tax run. It's a contract within the government of Puerto Rico and EVERTEC. And you have to keep in mind that include our compromise to keep employment in Puerto Rico and significant investment for the 15 years of that contract that we're committed to do. So it's a benefit obviously from the tax perspective, but on the other hand, we're committed to invest in Puerto Rico and create employment in Puerto Rico. So historically, in the last 40 years, I can tell you that they have never changed a grant to any company.
And keep in mind that many other blue chip companies in Puerto Rico have similar tax grants. So we feel very comfortable and they have never really have done that in the history.
That's great. That's great. One final question for me on the international front. There has been some great progress on that front. I was wondering if it's possible to quantify the benefit, the revenue benefit from the first three strategic initiatives or the business development?
And also just talk about the pipeline for new business development initiatives in the international market? Thanks.
Okay. On the initiatives, when you look at the first two which are in our Business Solutions segments, those are certainly in the low single digits of 1,000,000 that they will generate in revenue to the company. So we feel very good about that. To us, it's more important actually that we've now proven that we can take some of those products and services that we have traditionally sold in Puerto Rico and now be able to leverage that and sell those outside of the market, which is what excites us the most about that. Certainly, the 4 banks are in line with what we've done in the past.
We signed a number of banks last year. We signed a number of banks this year. These banks will obviously not get implemented until 3rd, Q4 at the earliest of next year. It's the normal cycle. And finally, the Colombia is the one we're very excited about, because it's a very big market.
And we're just we're kind of guessing the number of about $500,000,000 But clearly, it's a market that is at least 5 to 10 times bigger from an acceptance perspective than the Puerto Rican market is. And so now if we get this license and with the customer relationships we now have in Colombia, we believe we can start to actually enter the acquiring market in that country. And that with a market the size of Colombia, we think over the next couple of years, we could take certainly a 5% to 10% market share is what our goal is.
Great. Thanks. Thanks a lot for the color.
We'll go next to Tien Tsin Huang with JPMorgan.
Great. Thanks. Just a follow-up on that last couple of points. Just the timing of when some of these business developments might flow in. I caught the 4 banks coming in the second half of the year.
How about the 2 business solutions deals? When can we expect that to cut over?
Well, the first one we will get some in the late in the Q4 and some in early 2014. The second one will take some time to roll that out to all 12 hospitals. So we'll see it in 12 we'll see the majority of it in 2014.
And then the acquiring Columbia acquiring assuming you get the license, what should we expect from that point forward? I mean, do you need distribution deals? Or do you have some things lined up whereby we can actually see you going to market and trying to secure contracts?
Yes. It would be the latter. So we've got some relationships there that we think we can leverage to begin sometime in 2014 a merchant acquiring business in Colombia. Now granted we'd be starting it up against the incumbents that are in the market, because most of the banks there operate under the old companies like Redibon. But we think we can get the business started in 2014.
Okay. Okay. Good. And then just Business Solutions, it sounds like that's the bulk of the revision here in the guide. Yes.
I guess and my question here is just Popular. I caught everything Juan you mentioned on in terms of explaining it, but just how about surprises from Popular in terms of discretionary spend, things like that? Any other things that could surprise us?
Not really. For example, the one is related to the federal revenue is mostly as you can imagine, there are many projects we host for Popular and other institutions certain services, right? So when they upgrade, we always have a number of hours that we can provide services for. So depending on what they request us to do for them, so if for example, they request an upgrade for an application that we do hosting, then those hours actually have to defer. So more maybe more than a surprise is was that the proportion of these type of requests this year from Popular and others, but mostly Popular, of course, are related to applications that we host for them.
Last year, for example, and we were expecting this year to do kind of the same as we did last year in term of non hosting related. That makes this what changed. We thought that Q4, we will dedicate more time to those services that we actually can book immediately the revenue. But now when we look at the pipeline, we will still have a significant amount of hours from Popular that are hosting related. So it's not really that they are not providing the hours.
We actually have a significant pipeline. But the impact really is that their request is more related to hosting related project and we are deferring that. But it's a bad and a good, right? Because then once we complete the project, we will start recognizing that on earn into revenue in future years every month for the term of the hosting contract.
Right, right. So it will be a little bit more visible and recurring?
Yes, yes.
If you don't mind, I'll ask one more, then I'll let others ask. Just on the acquiring back to acquiring pricing yield up 8% this quarter, the acquiring piece, it sounds like the volume from your prepared remarks, Peter, was running sort of 6% to 7%. So are yields getting better? Or is the difference just BBVA ramping and others? Thank you.
Yes. It's more it's not really a drastic change in that. It's more we started to ramp up on some of the oriental stuff that we finished near the end of the Q3. So we saw some benefit from that. But basically, I mean, the business is operating as it has.
Again, it's been more the mix, Tien Tsin. And the mix is at higher margins, right? It's We have a bigger percentage of the local players than we had expected.
I see. Great. Thanks for the feedback.
And we'll go next to George Mihalos with Credit Suisse.
Hey, guys. Thanks for taking my questions. I think if I'm not mistaken on the 2Q call, you broke out the growth rate from non Puerto Rico non Puerto Rican geographies. Can you update that for us for the Q3?
Yes. It was again in the low double digits in the 3rd quarter.
Low double digits. Yes.
Okay. And then just long term, I know you spoke about a couple of push outs, a government contract and then some accounting. But as you think of your revenue growth targets longer term, has anything changed from kind of the 7 plus organic that you're targeting longer
No. Okay. That's helpful.
And then last question for me again. On the push out of the contract due to funding, how much of an impact does that had? What do you expect that to have in the Q4? And have you noticed any other sort of slowdown in October from the government shutdown? Thank you.
No. That was probably the only thing we noticed is that it represents give or take about $1,000,000
Okay. Great. Thank you.
And as Juan said, it's a program we've been executing since 2,008. And we're guessing it's the shutdown because it's normally granted around the 1st October. And it's been it just got pushed out to the early part of 2014.
And we'll go next to Sarah Gubins with Bank of America Merrill Lynch.
Hi, thanks. Good afternoon. Just a variation of the last question about your expectations for longer term growth. I'm wondering if any of the factors that you talked about change your expectation of how long it will take you to get to double digit adjusted EBITDA growth? And I don't know if you're ready to comment about next year at all, but if think that those factors might make it more difficult to do double digit EBITDA growth on an adjusted basis next year?
No, Sara. No. Basically, it's just as we mentioned, it's a couple of delays in certain specific projects in the solution. We continue to see a very strong merchant acquire and payment processing growth. Keep in mind that payment side also include our growth outside Puerto Rico.
So we expect that to continue. That's why as Peter mentioned, we're not seeing any change in our longer medium to long term view of the growth of the company. So I think it's very specific, very particular for the Q4 in those projects. However, our pipeline continues to be there. It's very strong.
As As Peter said, we just signed up another 4 banks during this quarter. We keep moving into our strategy into Colombia. So no, we're comfortable that we will continue and we will execute in our medium term goals.
Great. And then could you talk about the pipeline for acquisitions outside of Puerto Rico?
Like we've said before, right now we're more focused on merchant alliances and joint ventures. We're still very, very comfortable that the stuff that we're working on that we will be able to close one of those, if not 2 of those in the near future. So we've been more focused on that. We still have a number of conversations on the acquisition side, but there is nothing at this point that it's worth bringing up.
Okay. And then just last question. I think you signed up about 16 new banking clients last year. Do you have a comparable number for where you are year to date on new bank clients?
We're probably somewhere in the 9% to 10% range is what I would say. I don't have the number in front of me, but it's about 9% or 10% year to
Thank you.
And we'll go next to Bob Napoli with William Blair.
Thank you. Just on a little more on Columbia. I mean, you have signed a client that you had thought you would come on board this year that I think was about $5,000,000 of revenue, but you may not come on board till the next year. Could you give maybe a little more color on what you have, the clients you have signed in Colombia and maybe a pipeline in that market?
Yes. We have that customer that's signed. We're going to be doing card processing and ATM processing for that customer, okay, debit card processing. So that's done. We're in the implementation cycle with them.
We expect them to come online in early 2014. That's what we said before. We have an active pipeline and in fact I will be in Colombia in early December for a major kickoff with a number of potential customers in the market. So we're comfortable that we now have an active pipeline and that we've got once we bring that first customer up, we think we'll really start to get some traction. We think certainly when we're granted this license that will only help us gain more traction in the market.
And that customer, what do you what type of revenue Peter do you expect out of that customer? Is it
Long term, we expect the 1st customer to generate around $5,000,000 per annum. That's about the right number. We won't see that in 2014, but probably in 2015 and beyond. That's the number that we're looking at. But based on the volumes that they have projected to us, okay, that's what we see.
And then the non Puerto Rico growth rate, do you see visibility on getting that number up to the 20% range in 2014?
No. I think we believe a more accurate number would be in the mid to high teens. That's what we think we're going to see on a year over year basis.
Okay. And then the pipeline of new business, can you give kind of a broad feel of where geographically where the pipeline is? And how does that pipeline today compare to where you were say a year ago?
I would say it's not much different than where we were a year ago. I would say that where we sold probably more customers in Panama over the last 2 years, we've well penetrated that market now as we said before. So obviously, the opportunities aren't as numerous as they were a couple of years ago. So we're still very focused in the Dominican. As you could see, we just signed our first customer in Jamaica, Mexico, Colombia, Guatemala, Costa Rica.
So we're actively got a pipeline in all of those markets.
Okay. Great. Thank you very much.
We'll go next to Smiti Sretaro Promotes with Morgan Stanley.
Yes. Just a quick follow-up on the Columbia license
year. And so we believe we can start leverage that license in 2014. So we're at the end of the process. We're just waiting for approval at this point.
And on Puerto Rico specifically, a lot of there was a lot of worries about government bond ratings and whatnot starting in late August early September. And given some of your peers in the mainland U. S. Noted that there was a slowdown in spending in the month of September early October. Just wondering if you saw any slowdown at all in the quarter rating market in the last month of the quarter and beginning of Q4?
No. I would tell you like that's why we tried to give you some sense to that number that in the Q3 we actually saw looking at just POS transactions that we process, because we believe that based on the size the percentage of the market that we process transactions that to us the best indicator for you guys to look at our business is how are those transactions growing year over year. And like we said, they grew 6% to 7% kind of on a year over year basis. And the reality is it was more like about 7.5% in the 3rd quarter. So they actually did better in the 3rd quarter than we had seen in the 1st two quarters.
So we from that now that's driven more by again that cash to card conversion than it is by retail sales as we said in the past. And that continues to happen.
Thank you.
And there are no other questions at this time. I'd like to turn the conference back to Peter Harrington, CEO for closing remarks.
Okay. Thank you, operator. Thank you again for taking the time with us today. I just wanted to let you know that we remain very excited about our strong pipeline of new business opportunities as we head into 2014 and are confident in our ability to execute on 1 or more strategic alliance in the merchant acquiring business. We thank you for your support and we look forward to discussing the year end results and to providing more insights into our plans and developments for 2014 on our next quarterly conference call.
Operator, you may now end the call.
Thank you, everyone. That does conclude today's conference. We thank you for your participation.