Equifax Inc (EFX) — Q2 2018 Earnings Call Transcript

Thanks and good morning. Welcome to today's conference call. I'm Trevor Burns, Investor Relations. With me today are Mark Begor, Chief Executive Officer; John Gamble, Chief Financial Officer; and Jeff Dodge, Investor Relations. Today's call is being recorded. An archive of the recording will be available later today in the Investor Relations section in the About Equifax tab of our website at www.equifax.com. During this call, we will be making certain forward-looking statements, including third quarter and full year guidance to help you understand Equifax and its business environment. These statements involve a number of risk factors, uncertainties and other factors that could cause actual results to differ materially from our expectations. Certain risk factors inherent in our business are set forth in filings with the SEC, including our 2017 Form 10-K and subsequent filings. Also we will be referring to certain non-GAAP financial measures including adjusted EPS attributable to Equifax and adjusted EBITDA, which will be adjusted for certain items that affect the comparability of the underlying operational performance. For the second quarter of 2018, adjusted EPS attributable to Equifax excludes, among other things, acquisition-related amortization expense, the income tax effects of stock awards recognized upon vesting or settlement and adjustments for uncertain tax positions. Adjusted EPS attributable to Equifax also excludes legal and professional fees related to cybersecurity incidents, principally fees related to our outstanding litigation and government investigations as well as the incremental non-recurring project cost designed to enhance IT and data security. This includes projects to implement systems and processes to enhance our IT and data security infrastructure, as well as projects to replace and substantially consolidate our global networks and systems, as well as the cost to manage these projects. These projects will transform our IT infrastructure and further enhance our IT and data security are expected to occur throughout 2018 and 2019. Adjusted EBITDA is defined as net income attributable to Equifax adding back interest expense, net of interest income, depreciation and amortization, income tax expense, and also as is the case for adjusted EPS, excluding certain one-time items, including cost related to the cybersecurity incident.

Thanks, Trevor, good morning. Looking at second quarter performance, overall revenue and adjusted EPS results were consistent with our expectations and a solid performance as we continue to win back customers' trust following the 2017 security breach. Revenue of $877 million was up 2% on a reported basis and local currency basis and was toward the midpoint of the expectations we discussed with you in April. As a reminder, back in April, we expected an FX benefit in revenue growth of around 1% and as you know that did not occur in the second quarter with some of the currency fluctuations which negatively impacted our reported growth for the quarter. John will discuss this in further detail later in the call. Adjusted EPS was $1.56 and at the high end of our expectations. By business unit, Workforce Solutions and International performed very well in the quarter on a local currency basis and GCS was consistent with our expectations. USIS revenue was modestly below our expectations. However, they continue to make very good progress with customers further increasing the number of relationships where we are now able to pursue new revenue opportunities, and I will talk more about that. We also made very good progress on the critical areas of our transformation including IT and data security and customer support which we'll also cover this morning. I'll start by looking at the BUs and start with the USIS. USIS revenue was down 2% versus last year and was below the 1% decline we saw in the first quarter and slightly below our expectations. This was principally in Financial Marketing Services and to a lesser extent in Online Information Solutions. As we have discussed consistently over the past nine months, the critical strategic deliverable for USIS in 2018 is working with customers to complete their security views and most importantly win back their trust so that we can return to working collaboratively to pursue expanded or new solutions that drive the customers' business forward and create revenue opportunities for Equifax. Starting in the first quarter but accelerating into the second quarter, we made great progress in winning back this trust. We closely track the status of our largest 80 customers and with a substantial majority I mean, that a substantial majority, we are now able to pursue expanded or new solution opportunities with those customers. As recently as last Friday, I met with two key customers up in North Carolina and I was back in North Carolina yesterday with another key customer. And consistently these customers recognize the value of Equifax, its differentiated data assets, the strength of our analytical capabilities driven by Cambrian, Ignite Direct and Marketplace. Customers are ready to work with us to solve their business needs and with very few exceptions our relationship has returned to a more normal commercial discussion or commercial relationship, focused on how we can help them grow. Every week is a positive step forward for USIS to return to a more normal mode of operations. As we discussed in the past, sales cycles in our business can be extended and are initially less predictable particularly following an unprecedented incident like the 2017 data security breach. Importantly, we are seeing the USIS sales pipeline strengthen substantially both in Online and Financial Marketing Services. Given this strength we expect USIS revenue growth in the third quarter and second half of 2018. Turning to Workforce Solutions, the team in workforce had a very solid quarter with revenue up 7%, and importantly, Verification Services had a very strong quarter with revenue up 15%. Verifier revenue growth was broad-based with double-digit growth across government, talent solutions, healthcare and auto. The Work Number record growth was also strong which as you know is critically important. We had the largest sequential growth in active and total records since the second quarter of 2017. So great progress there by the workforce team. And as you know, our growth in The Work Number makes our data increasingly valuable to our customers. As we expected, Employer Services declined in the quarter, principally in unemployment claims and our ATA-related businesses, workforce and analytics from the stronger U.S. economy and lower employment.

Thanks, Mark, and good morning, everyone. I will generally be referring to the financial results from continuing operations represented on a GAAP basis, but will refer to non-GAAP results as well. For 2018, additional items excluded from our non-GAAP results are the one-time costs related to the cybersecurity incident, and the one-time benefits for adjustments to uncertain tax positions. We will provide the details on this item so you can consider it in your analysis. In total, in 2Q 2018, we incurred non-recurring costs related to the cybersecurity incident of $71 million. These have been partially offset by insurance recoveries of $35 million, resulting in a net non-recurring charge of $36 million. The non-recurring charge is excluded from our adjusted EBITDA margin and adjusted EPS. The $71 million of gross cost includes $16 million were generally for legal fees and other professional services, principally related to outstanding litigation and government investigations related to the cybersecurity incident and $55 million were generally for one-time incremental project and other costs incurred to implement our data security and technology plans and to improve our technology infrastructure. In 2Q 2018, operating cash flow was $235 million and free cash flow was $173 million, up 4% and down 2% compared to the prior year respectively. Through June, operating cash flow was $355 million, and free cash flow was $236 million, up 8% and 3% respectively.

Great. Good morning, gentlemen. And it's good to hear about the momentum in USIS and the reiteration of guidance there. John, maybe you can talk a little bit about the cadence in USIS growth in 3Q and 4Q, is it going to be relatively steady? I know the comparison is a bit easier in 3Q. And also, what the contribution exactly will be from DataX that will be included in the USIS segment?

Yeah, George. Thanks for the question. We're not going to be specific obviously in terms of the type of growth cadence by third and fourth quarter, but needless to say, as Mark indicated, we expect to have growth in those periods as well as growth for the year. The contribution from DataX is relatively small. The company is quite small and the contribution really isn't very large.

On GCS, we think this is a business that's important to us, dealing with consumers. We have a lot of interactions with consumers when they are dealing with us on the credit bureau side. And we had a nice business prior to the breach that we think we can continue with. We've been consistent in prior calls and meetings that we've had with our investors and others, George, that this isn't a business that we're going to have as the front of our strategy. It's not our primary focus, but it's one that we think is a business that's a good one for Equifax and that we'll start working our way back into doing some advertising and selling value-added products later in the year.

In terms of Europe, right, I mean, basically, the discussion is around debt management as you know, and we do expect to see some improvements in the debt management business in the third quarter and we expect to see that business return to growth in the fourth quarter. So that – those should both be very positive effects for Europe.

Hi, this is actually Greg calling on for Manav. I just wanted to see if I could get any additional color on how you're thinking about the phasing of the IT and cybersecurity investments in terms of what's going in the buckets this year versus into next year. And also along those lines now that you have the CISO and the CTO in place, has that changed any areas of focus or emphasis on the investments?

Yes, good question, Greg. First, I think, John, gave you the guidance as I did, that we're taking up our forecast for this year by $25 million of the spend that we expect to do broadly. The bulk of that $25 million is between security and IT. Beyond this year, we're not ready to give any indications of what it looks like for 2019, but I think we've been clear that we expect to have a sizable investment again next year. And our goal is as we get into the fourth quarter, or later in the – probably in the fourth quarter versus third quarter, to give some real visibility to you and others around that as far as what our spend will be next year.

Hi, thank you for squeezing me in here. I know you haven't come out with a longer term model yet, but I just want to ask you, after your first 100 days, is there anything that you are seeing within Equifax or you're anticipating from the data breach that longer term changes the way that this company operated within the industry? I mean historically, Equifax had a leadership position in terms of being a leader in terms of growth through the cycle, ability to generate certain amount of growth.

Yeah. It's a great question. I think if you step back and look at Equifax, look at our Workforce Solutions and International franchises they performed well prior to the breach. They're performing extremely well post the breach. Those are strong and intact. And I look at those as really attractive businesses for Equifax going forward. And I mentioned earlier that I would characterize Workforce as being early innings, meaning there is just a lot of opportunities for Workforce here in the United States. And we're looking at bringing Workforce to a couple of other markets like Canada, the UK and perhaps Australia. So, you take those and – on USIS, there's no change in our differentiated assets. We've talked about that multiple times today. There's no change in our ability to bring new products to marketplace and obviously we took a real dent in customer confidence and trust as a result of security breach, but literally 12 months ago on this call, the second quarter last year, USIS was performing quite well and it's my expectation that we go back to that.

So, if you look at – International has been very strong at NPI too. So historically, and they continue to work at it. International's performed very well on NPI.

So first, shout out to Jeff Dodge and congratulations on setting a new record for the longest drum roll pre-retirement.

Yeah, thanks. And a big thank you and congrats to Jeff from me as well.

No. Thanks, everybody, for their time today, and I'll be consistent and give Jeff another shout out. Anybody has any follow-up questions we'll be available after the call. Thank you very much.