Good day, everyone, and welcome to the EVERTEC Second Quarter 2013 Earnings Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Luis Cabrera, Senior Vice President and Head of Investor Relations. Please go ahead, sir.
Thank you, operator, and good afternoon, everyone. Welcome to EVERTEC's Q2 2013 earnings call. I'm Luis Cabrera, Senior Vice President, Treasurer, Head of Investor Relations and Corporate Development for EVERTEC. With me today is Peter Harrington, our President and Chief Executive Officer Juan Jose Roman, Executive Vice President and Chief Financial Officer. A replay of this call will be available until Wednesday, August 14, 20 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 August 7, 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.
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 events that occur after this call. Please refer to the final prospectus for our initial public offering on Form 424(4) 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 Chief Executive Officer. Peter? Thank you, Luis, and thanks everyone for joining us today. I am very pleased with our Q2 results and remain excited about the breadth of opportunities available to us to continue to build shareholder value. Of course, our success would not be possible without our great management team and all of EVERTEC's 1700 employees.
I want to thank each of them personally for their dedication and continued hard work towards making EVERTEC the leading full service transaction processor in Latin America and the Caribbean. For the Q2, our revenue and adjusted EBITDA grew 6%. Our adjusted EBITDA margin increased to 48.7 percent and our adjusted net income grew a very strong 39%. Overall, our solid results for the Q2 of 2013 demonstrate both the value of our business model and the continued execution of our strategic growth plan. We continue to expand the depth and breadth of our customer partnerships across our broad Latin American footprint and are happy to report significant progress on a number of strategic initiatives, some of which I will discuss with you in just a moment.
I am also pleased to announce that our Board of Directors has approved a regular quarterly cash dividend of $0.10 per share. Our initiation of a quarterly dividend underscores EVERTEC's significant free cash flow generation, strong balance sheet and the ability to sustain predictable long term growth with low incremental capital requirements. It also reflects the confidence that our management team and Board have in our long term growth prospects as well as our commitment to maximizing total shareholder value. As you may have seen, we have posted a supplemental slide to our Investor Relations website that further highlights our rationale behind the initiation and some key figures that Juan will walk you through later on the call. Now on to some highlights from the quarter and some recent corporate developments.
1st, our merchant acquiring business returned to a more normalized level of growth in the 2nd quarter as we lap the Durbin related impacts we discussed with you on our first call. For the Q2, merchant acquiring grew 7%, driven primarily by volume growth. Next, I'd like to go through some of our recent corporate developments, which underscores EVERTEC's ability announce that just this past week we received a TPP1 license from Mastercard to begin sponsoring customers in Mexico, Panama and Costa Rica. And in fact, we already have customers where we can begin utilizing this license. We believe EVERTEC is the 1st transaction processor in Latin America to receive a TPP-one license and this represents the first step in being able to provide our customers with both issuing and acquiring services.
As I discussed with you in the past, a key part of EVERTEC's growth strategy is to continue to penetrate and gain share in Latin America by leveraging our suite of end to end processing solutions and this development is reflective of our success and momentum. I am also pleased to announce a significant expansion of a business relation with 1 of our existing bank clients. This bank, which has been an important client of ours for more than 15 years, recently chose EVERTEC to provide a set of services we will provide we will be providing to them in one country from one country to 8 additional countries over Latin America. The significant expansion of the existing business relation not only reflects our ability to penetrate and cross sell our existing client base, but also the value of our ability to deliver these types of services throughout Latin America. Lastly, we will begin offering dynamic currency conversion services to our client base in Costa Rica beginning in early 2014.
Our introduction of PCC into the Costa Rica market underscores EVERTEC's commitment to continue to introduce new differentiated products and services to our customers, helping them provide an improved experience to their customers. And finally, we continue to experience strong growth in our markets outside of Puerto Rico. More specifically, we experienced revenue growth in the mid teens outside of Puerto Rico as we continue to penetrate and gain share in these markets. As we look to the second half of twenty thirteen and beyond, we remain focused on our strategic growth initiatives of penetrating and gaining share in our core markets across all of our products and services, expanding into new geographies, leveraging our assets and capabilities to drive innovation, entering new vertical markets and creating merchant acquiring alliances and joint ventures across Latin America. Now before I turn the call over to Juan Jose, as you probably read today, I was appointed to EVERTEC's Board of Directors.
I want to thank the Board members for their confidence in me and I look forward to working with them for the mutual benefit of the company and our shareholders. Also on behalf of the entire Board of Directors, I want to thank Felix Villamil for his many contributions both as a Director and as EVERTEC's former Chief Executive Officer. It was Felix's leadership that helped build EVERTEC into the market leader in Latin America. I thank him for his support, leadership and partnership and all of us at EVERTEC wish him well. With that, I'll turn the call over to Juan, who will discuss our financial results in greater detail and also discuss our outlook.
Thank you, Peter, and good afternoon, everyone. As Peter described earlier, EVERTEC generated solid results in the Q2 ended June 30, 2013. We again delivered very strong adjusted net income growth, driven by revenue growth across all of our business segments, continued adjusted EBITDA margin expansion and the positive impact of our debt refinancing, which we completed in April. Now starting with our revenues. On a consolidated basis across our 3 segments, total revenues for the 2nd quarter increased 6% to $89,200,000 compared to $84,100,000 in the Q2 of 2012.
Looking at the underlying segments, our merchant acquiring business net revenues grew 7% to 18,200,000 dollars Revenue growth in the quarter was driven primarily by higher transaction volumes. As Peter mentioned, we returned to a more normalized revenue growth rate in merchant acquiring this quarter and we're very pleased with the performance. Payment Processing segment revenues increased by 2% to $24,300,000 versus $23,800,000 in the prior year. As we noted in today's earnings release, the payment processing revenue growth comparison this quarter was impacted by a one time nonrecurring item in the Q2 of 2012. Normalizing for the one time benefit in the Q2 of 2012, revenues in this segment grew 6% in Q2 2013 versus the prior year.
And finally, the Business Solutions segment revenues increased by 7% to $46,700,000 which was driven by an increase in our product sales and higher demand of our services. Now moving to the expense side of our income statement. Our cost of revenues excluding depreciation and amortization were $42,300,000 for the 2nd quarter, representing an increase of $2,400,000 or 6% as compared to the corresponding 2012 period. The growth in our cost of revenues was primarily due to an increase in product sales of $2,000,000 within our Business Solutions segment and a non cash share based compensation expense of $1,800,000 dollars associated with the vesting of all our tranche B and C stock options as a result of our IPO. These increases were partially offset by a decrease of $1,400,000 in professional services service costs.
Total selling, general and administrative expenses were $12,100,000 for the quarter, representing an increase of $3,700,000 as compared to the corresponding 2012 period. The increase in our selling, general and administrative expense was primarily due to a non cash share based compensation expense of $3,100,000 related to the vesting of all Tranche B and C stock options, which I just explained. Income from operations for the 3 months ended June 30, 2013 was $16,900,000 representing a decrease of 7% as compared to the corresponding 2012 period. The decrease in income from operations was a result of the extraordinary non cash expense related to the vesting of our stock options totaling 4,900,000 dollars Excluding this expense, operating income would have increased by $3,700,000 or 20%. Total non operating expenses for the quarter were $86,900,000 representing an increase of $65,800,000 as compared to the corresponding 2012 period.
The increase in non operating expenses was primarily driven by $58,500,000 related to the refinancing of our debt and $16,700,000 related to the termination of the consulting agreements with Apollo and Popular, partially offset by a decrease of $3,500,000 in interest expense as a result of the debt refinancing during the quarter. We recorded an income tax benefit of approximately $5,000,000 in the Q2 of 2013. On a cash basis, our income tax expense was approximately $1,000,000 The tax benefit for the 2nd quarter was mostly attributable to a loss before taxes as a result of the extraordinary transactions discussed above related to the refinancing, contract cancellation and vesting of the stock options. Adjusted EBITDA for the quarter ended June 30, 2013 was 43,400,000 dollars an increase of $2,500,000 or 6 percent as compared to $40,900,000 in the corresponding 2012 period. The increase in adjusted EBITDA was primarily due to growth in revenues.
Our adjusted EBITDA margin improved by 20 basis points to 48.7% from 48.5% in the prior year as a result of the operating leverage in the business and continued focus on cost control initiatives. Adjusted net income was $28,900,000 or 0 point $3.5 per diluted share for the quarter ended June 30, 2013, representing an increase of 39% from $20,700,000 in the corresponding 2012 period. The increase in adjusted net income was primarily driven by the same factors impacting adjusted EBITDA and lower pro form a cash interest expense as a result of the refinancing we completed in April. Please note that for comparability purposes, adjusted net income per diluted share calculations assume that on a pro form a basis, the company completed the aforementioned debt refinancing on January 1, 2013. Please refer in the reconciliation tables provided in today's earnings release for additional information.
As Peer mentioned, we are pleased to announce today the initiation of a regular quarterly dividend. As part of this announcement, we have provided a supplemental slide on our website that highlights our rationale and certain key figures that I would like to spend a few minutes walking you through. First, I would like to highlight EVERTEC's significant free cash flow generation. As you can see by this slide, EVERTEC generates in excess of 105,000,000 dollars of distributable free cash flow on an annual basis. Distributable free cash flow is calculated as our adjusted EBITDA, net regular capital expenditures, cash taxes, cash interest expense and the mandatory amortization on our debt.
Or in essence, it is our excess cash available for strategic investments, deleveraging and or return to shareholders. As we have discussed before, our free cash flow profile is differentiated by our profitability margins, advantaged tax structure, low debt costs and the ability to drive continued strong growth with minimal capital expenditures. Our decision to implement this regular quarterly dividend will not have any impact on our strategic initiatives and ability to continue to deliver strong growth and financial results. 2nd, EVERTEC has a strong balance sheet with significant liquidity that provide us with meaningful financial flexibility. As of June 30, 2013, we had approximately $120,000,000 of available liquidity comprised of a $100,000,000 undrawn revolver and $20,000,000 of balance sheet cash.
We have and we continue to be committed to maintaining strong liquidity and deleveraging in line with our peers over the medium to long term. And 3rd, I would like to underscore EVERTEC's commitment to maximizing shareholder value. Our initiation of a regular quarterly dividend and consistent strong financial performance is a reflection of this focus and we appreciate the continued support of our shareholders. On the right hand side of the page, you will see the details of our 1st quarterly dividend. The amount is $0.10 per common share and will be payable on September 6, 2013 to shareholders of record at the closing of business on August 19, 2013.
On an annualized basis, the dividend represents a yield of approximately 1.6% based on our August 6, 2013 closing share price. Now quickly into our guidance, we are reiterating our 2013 outlook that we provided on our last quarterly call of revenue growth of 6% to 7%, adjusted EBITDA growth of 8% to 10% and adjusted net income growth greater than adjusted EBITDA. Operator, we will now open up the call for questions.
Thank We'll take our first question from Julio Quinteros with Goldman Sachs.
Good start here. Wanted to just kind of go back to the contribution from some of the international segments outside of Puerto Rico itself. You talked a little bit about the mid teens growth. What is the actual contribution right now? And then maybe help us prioritize which countries you would expect to come online first as we think about the next couple of quarters here?
Well, I think what's driving the growth is predominantly our POS and our card processing side of the business. And we're seeing that in most of the markets. But as we've said before, that relates really to the business that we sold last year that's continuing to drive it as well as we said before, just the cash to card conversion on the current footprint that we have. As far as we're still focused on Colombia and until we get Colombia kind of up and running and fully driving revenue, then we'll focus on what the next market will go into. But like we said on the road show, our analysis would say that it's probably going to be either Chile or Peru next.
Okay. And then in terms of contribution, I think you said it was mid teens in terms of growth, but what is the percentage of revenue contribution this quarter? I'll turn that over to Juan. Yes.
Well, it's about the same as last year. It's around 15.85, Puerto Rico 85, outside 15.
Okay. Got it. Great. Thank you. Thanks, Julio.
We'll move next to George Mihalov with Credit Suisse. Hi. This is Alison Jordan in for George. I have a question on your opportunity to launch the dynamic currency conversion services in Costa Rica. Can you just let us know maybe how big you think that opportunity can be and what other countries you're looking to implement that in?
Well, it will we think it's a business obviously it depends on the market. It's really tailored towards the T and E business because it's where you really get the value is from the foreign card orders in country. So there is some decent kind of T and E or tourist related business in Costa Rica. That's what we're going to be focused on first. We had both the ATM and the PLS.
I don't have a specific number for what we'd see it as. And then you'd have to look at the countries where it's not U. S. Dollar and where there is a sizable kind of tourist industry. That's where the best benefit will come from.
So probably a market like potentially the Dominican Republic makes sense, not so much Panama because they're U. S. Dollar obviously, but some of the other Caribbean markets where there is high level of
Great. Thank you. We'll move next to Sarah Gubin with Bank of America Merrill Lynch. Hi, thanks. Good afternoon.
A question about the dividend. Is the thinking that you would raise the payout ratio over time? Or are you thinking about 30% as a longer term target?
No. Our dividend basically today is the amount that we decided is a process. It's a dynamic process that management and the work went through to determine how much it will be. We don't have a preset ratio. So as I said, it will be a dynamic process where we will continue with our Board discussing our growth strategies and any dividend going forward.
Okay. And then separately, could you talk about the factors that would drive accelerating EBITDA growth, adjusted EBITDA growth in the second half in order to get to the 8% to 10% growth targets for the year?
Sure. So we certainly expect, obviously, the payment businesses to continue to accelerate their growth. And obviously, those are at higher margins, as we said before. And then on top of that, clearly in the Q4 with the holidays, we're going to see considerable growth in that in the payment related businesses, again, which we believe will continue to drive higher EBITDA growth. So we certainly feel very comfortable that we'll end up for the year within the 8 to 10 range that we gave you.
Great. And then just last question. Could you provide some more color on the revenue growth that you're seeing in Business Solutions? We generally think of this as a slower and the steadier segment, but it's actually been growing faster than some of the other segments this year.
Yes. And we've been very happy about that. I think when you look at business solutions as we've said, a lot not a lot, but the significant amount of the revenue is project related revenue and it's technology spend. And what we've seen is the timing of that changes every year. And what we've seen this year is we saw more of that in the first half of the year.
Right now, we expect the business to operate more in line with our expectations for the remainder of the year. But again, the qualification would be these types of projects, the timing is sometimes hard to estimate as to what quarter they'll fall into. I think we've been very fortunate that we've seen increased technology spend by corporates and the financial institutions in the first half. We hope that continues obviously into the second half, but we're comfortable that it will probably exceed what we expected it for the year. But I don't we don't see today that it will continue to run at the current run rates.
Great. Thank you. We'll next take Brian Keane with Deutsche Bank.
Hi. This is Ashish calling on behalf of Brian Keane. Peter, congratulations on being nominated as a Director. Quick question around the recent judge ruling on the Fed implementation of Durbin Amendment. Obviously, it's going to be a long run process or it could be a long run process.
But I was just wondering if the ruling does hold, will that benefit your merchant acquiring business if you had any initial thoughts on it? And what could be any impact if any to your ATH network?
Okay. First, I would say, yes, it's my first thought would be, it will have no impact in 2013. I don't think they'll get this sorted out that quickly. And it's early days to understand what will actually come out of it. But I would say if it's going to have any impact, I would suspect it's going to have some positive impact in the merchant acquiring business for a short period as obviously the interchange would go down.
And in that business, we'll eventually pass it on, but certainly there may be some short term positive benefit. But other than that, from an ATH perspective, we would see it neutral at the end of the day. The piece they're talking about, the SIG debit, to us is going to definitely be neutral. It doesn't matter which. We pass it to either one and our revenue doesn't get affected.
Thus far from Visa and MasterCard.
Okay. That's great. And just on the Merchant segment, so that segment definitely the revenue accelerated from the Q1. In addition to lapping of the or anniversarying of those merchant contracts, can you also talk about how your partnership or alliance with Oriental is coming along and how that's helping growth in that particular segment?
Yes. In the Q2, it had a small impact from a growth perspective. We expected to have a bigger impact as we go forward in the year as we continue to bring those merchants that were BBVA merchants after they were acquired by Oriental onto our platform. Today, we're running the Oriental part of the business and that's working fine and it's helping, but we expect it will continue to add value to us as we go through the rest of the year.
Okay. That's great. So we could expect revenue growth to improve both in the payment space, payment processing as that one time headwind or as you anniversary that one time non recurring headwind? And then on the merchant side, you expect some additional contribution from the Alliance. Would that be fair?
That would be fair, yes.
Thanks.
Next we'll take Smriti Srivathaparath with Morgan Stanley.
Thank you. Regarding the 3rd party processor license that you just received in the 3 countries that you talked about, can you talk about when you'll be able to start generating revenues in the countries in those countries? Yes. Well, we generate revenue obviously in those countries today. And as we've said, we've always been focused on the Tier 2 and Tier 3 banks.
And what I'm excited about with this license is to be able to use that to continue to bring value to that segment of the business. And so we'll be able to sponsor them, where they won't have to get their own kind of principal license to Mastercard. And so we have banks we have a couple of banks already that we know we can use that license for. Now again, we're going to have to implement them on the platform and like any other card or POS business that will take some time. We'll see the revenue in 2014.
Got it. And are there any other sort of similar types of licenses that you're currently applying for whether inside or outside of the 3 countries that you talked about? Well, I think the obvious question would be we're going to go knock on the guys on the other side of the street next. And we're going to look to expand that license to be able to acquire, directly acquire. But this one I think was the right first step and we're very excited to get the first step done.
And so now, one to try to expand it beyond just those three countries and secondly to add to
it. Great. Thank
We'll move next to John Williams with UBS.
Hey, good evening. Thanks for taking my question. A couple of quick ones. First, as we look at the margin seasonality within the three businesses, I guess it looks like you're back towards starting what looked like a 2011 cadence through the year. And I just wanted to make sure that's the right way to think about it really for the 3 segments as we go forward?
I guess secondly on the transaction growth within the segments to the extent that you can give us volume or transaction either growth rates or numbers that would be helpful just for modeling purposes? Thanks.
In terms of our business, you're right. In the second half, we will see an increase in our transaction in our payment businesses in both merchant acquiring and payment. That incremental revenue bring very little on non incremental costs. So yes, in the second half, we will see not only higher revenues, it will accelerate our revenue. But most important, it will accelerate our margins even faster because in those two businesses, as a reminder, is where we have the most significant margins.
Business Solution also is it's also it grows, it accelerates its margins. Especially as Peter mentioned, if we have certain projects that we complete, you will see not only the accelerated revenue growth, but also it will add to our margins.
Okay. And to the extent that you can give us merchant acquiring volume growth and transaction growth within payment processing? I know it's a driver in a lot of our models. And so whether it's a percentage or an actual number, if you could give that that would be helpful. Thanks.
Okay. We're still working on that. Okay.
And that does conclude our question and answer session at this time. Turn the call back over to Peter Harrington, President and CEO, for any final or concluding remarks.
Just want to finish by saying thank you very much for your support and that we are here very excited, 1st and foremost, about implementing the dividend and secondly, about the things that we're doing today that's continuing to drive momentum in the business. And we look forward to speaking to you after the Q3.
And everyone that does conclude our conference call for today. Thank you all for your participation.