Global Payments Inc (GPN) — Q3 2017 Earnings Call Transcript

Good morning, and welcome to Global third quarter 2017 conference call. Our call today is scheduled for one hour. Before we begin, I'd like to remind you that some of the comments made by management during today's conference call contain forward-looking statements, which are subject to risks and uncertainties discussed in our SEC filings, including our most recent 10-KT and any subsequent filings. These risks and uncertainties could cause actual results to differ materially. We caution you not to place undue reliance on these statements. Forward-looking statements during this call speak only as of the date of this call, and we undertake no obligation to update them. Some of the comments made on this call refer to non-GAAP measures such as adjusted net revenue and adjusted earnings per share, which we believe are more reflective of our ongoing performance. For a full reconciliation of these and other non-GAAP financial measures to the most comparable GAAP measure in accordance with SEC regulations, please see our press release furnished as an exhibit to our Form 8-K filed this morning and our trended financial highlights, both of which are available in the Investor Relations area of our website at www.globalpaymentsinc.com. Joining me on the call are Jeff Sloan, CEO; David Mangum, President and COO; and Cameron Bready, Senior Executive Vice President and CFO. Now I'll turn the call over to Jeff.

Thanks, Isabel, and thanks, everyone, for joining us this morning. I am delighted with our third quarter results. The continued extension of our payments technology strategy and relentless focus on execution enabled us to produce yet another quarter of double-digit organic net revenue growth. Our strong performance also allowed us to expand adjusted operating margin by 110 basis points and grow adjusted earnings per share 29%, one of the highest rates we have reported to date. The hard work of our 2,500-person sales organization worldwide and the pace of our global cross-selling efforts provide significant momentum for sustained growth and share gains. Never in our history have we had more capacity to sell and more distinctive solutions to deliver to customers around the world. We could not be prouder of the outstanding performance of our colleagues. And we are not done yet. On September 1, we closed the acquisition of ACTIVE Network, a cloud-based, mission-critical enterprise software and payment solutions company targeting event organizers in two vertical markets. We are off to a fine start with our partnership with our combined business having already realized an early significant win in Europe. We've also had an early win from our strategic partnership with Vista Equity Partners. More to come in a few minutes on those achievements. As we have described over the last couple of years, there are two fundamental drivers of share gains for our business: expansion of our integrated and vertical markets; and our e-commerce and omnichannel solutions. Each of these businesses grew organically at double-digit rates in the third quarter and, together, now account for roughly 40% of our total worldwide net revenue. We continue to further differentiate our company as the leading provider of payment technologies worldwide through these strategies. Our integrated and vertical markets business provides customers with specific payment technology solutions that are relevant to their verticals. We are unique in this channel in that we both partner with software providers in certain vertical markets and also own the entire software value stack in others. In addition, our e-commerce and omnichannel solutions leverage our market-leading worldwide footprint in both the physical and virtual worlds. We are unique in this channel in the scope and breadth of our omnichannel coverage. As we continue to advance our technology-enabled software-driven strategy, we have made substantial progress on cross-selling these solutions as well as our other products and services around the world. I want to highlight some of our cross-selling accomplishments around the globe as well as ongoing initiatives in this area that will drive future opportunities in 2018 and beyond, which we believe further differentiate us from our competitors. First, I am particularly pleased to report that in every region in which we operate worldwide, we have now successfully closed referrals from our Heartland sales channel. Many of these referrals resulted in new omnichannel customers. In addition, during the quarter, a number of multinational retailers extended their omnichannel relationship with us into additional markets. And just last month, we closed ASO as a new ACTIVE Network customer. ASO manages the Tour de France and Paris Marathon as well as other events. ACTIVE's market-leading software coupled with our payments expertise and worldwide omnichannel offerings resulted in signing this new marquee customer. We also recently announced the international expansion of TouchNet into Canada, the United Kingdom, Western Europe, Hong Kong, Singapore, Australia, and Brazil. Like ACTIVE, TouchNet is a sophisticated and comprehensive software solution providing a full suite of business management and payment technology capabilities to colleges and universities. We now have specialized salespeople on the ground selling these integrated solutions to universities in these regions. Earlier this year, we introduced Xenial, a SaaS-based offering for the restaurant and hospitality industry, building on the capabilities of our Heartland Commerce business. This product is the first of its kind, and we are very encouraged by the feedback we have received from our U.S. customers. We look forward to deploying this solution in international markets in the coming months. And a few weeks ago, we launched Heartland Analytics, which provides small business owners with comparative key metrics such as sales trends, customer visits, new versus repeat customer business, and changes in average ticket size. We are already selling this solution in the United States and expect to roll out this and other advanced analytic capabilities in other regions around the world throughout 2018. In addition to these successes, I am also delighted to announce that we have secured our first integrated partner through our strategic relationship with Vista Equity Partners. Just last week, we were selected as the payments technology partner for DealerSocket, a Vista portfolio company. DealerSocket is a technology solutions provider for the automotive vertical that simplifies processes and workflows. Our ability to seamlessly integrate comprehensive payment solutions through their platform extends and enhances their already robust offering. As we continue to evolve our strategy, we intend to further leverage our assets and investments to wrap more value around payment transactions. Software data and analytics are just a few examples of value-added services that we provide our customers globally, and with the addition of ACTIVE Network, we have more robust data and analytics capabilities that we intend to utilize to continue enhancing our offerings globally. Before I turn the call over to Cameron, I'm delighted to announce that Global Payments was recently selected by Forbes as one of the global Growth Champions, which identifies the top 250 fastest-growing companies worldwide and as one of the world's Top 100 Most Innovative Companies. We are particularly pleased with these distinctions given our focus on creating and delivering innovative solutions for our customers globally.

Thanks, Jeff, and good morning, everyone. The strength and consistency of our execution worldwide is evident in our third-quarter results. We are very pleased with our performance as we once again exceeded our expectations for the business. Consolidated net revenues for the third quarter were $930 million, a 12% increase compared to 2016, driven primarily by low double-digit organic growth. Our strong net revenue growth and continued synergy realization contributed to operating margin expansion of 110 basis points to 31.3%. Adjusted earnings per share grew 29% in the quarter to $1.15. North American net revenue was $686 million, reflecting growth of 11%. ACTIVE Network, which closed on September 1, contributed approximately $14 million of net revenue or 2 percentage points to growth in the quarter. Excluding ACTIVE Network, organic growth in North America was high single-digits; more specifically, 9%. In the U.S., our direct distribution business again delivered low double-digit organic growth, while our wholesale business saw mid-single-digit declines in the quarter. Canada performed very well again, contributing mid-single-digit growth in local currency with favorable Canadian foreign-currency trend adding modestly to results. Operating margin in North America expanded 120 basis points to 31.6%. Margin expansion was driven by strong organic net revenue performance across our U.S. direct channels, in particular our higher-margin technology-enabled businesses and the realization of expense synergies from Heartland, partially offset by ACTIVE Network due to the seasonality of the business. We again saw extremely strong performance in Europe with adjusted net revenues growing 17% organically in the third quarter or approximately 13% on a constant currency basis. The UK and Spain grew double digits in local currency driven by resilient underlying economies and the continuation of what has been a robust tourism season. In addition, we continued to see share gains in both of these markets. Likewise, our e-commerce and omnichannel solutions business grew well into the double digits as we further our pan-European strategy. As expected, now that most of the Erste JV integration efforts are behind us, European operating margins were flat at 47.3% for the quarter. Our Asia-Pacific business continued its strong performance this quarter, reporting net revenue growth of 15%. We saw solid trends across our key markets in Asia, including Hong Kong, Singapore, Taiwan, and China. And Ezidebit once again contributed in excess of 20% organic growth in the quarter, exceeding our own lofty expectations for this business. Operating margins in Asia expanded 330 basis points as a result of strong net revenue performance, which allows us to continue to realize the benefits of improved scale across the region. Excluding integration costs, we generated free cash flow of approximately $236 million this quarter. We define free cash flow as net operating cash flows excluding the impact of settlement assets and obligations, less capital expenditures and distributions to non-controlling interests. Capital expenditures totaled $47 million for the quarter. As a result of the ACTIVE Network acquisition, we issued 6.4 million shares of common stock in September, which increased our diluted weighted average share count by approximately 2.1 million shares for the quarter. Further, we funded the cash portion of the consideration for the transaction primarily through borrowings on our revolving credit facility, which modestly increased our gross leverage to approximately 4.1 times at the end of the third quarter. As a result of our strong performance for the third quarter, as well as the closing of the ACTIVE Network transaction, we are again updating our 2017 guidance. We now expect net revenue to range from $3.505 billion to $3.53 billion, reflecting growth of 23% to 24% over 2016. This includes an expected contribution from ACTIVE Network of approximately $40 million to $45 million for the fourth quarter. We continue to expect operating margin to expand by up to 120 basis points. It is worth noting that, due to the seasonality of the ACTIVE Network business, we are forecasting this transaction to reduce the margin expansion we otherwise would have expected to achieve in North America in the fourth quarter. Nevertheless, our overall target for margin expansion in 2017 remains the same. We now expect adjusted earnings per share to range from $3.94 to $4.02, reflecting growth of 24% to 26% over 2016. As we mentioned last quarter, we expect ACTIVE Network's contribution to be immaterial to 2017 adjusted earnings per share. Lastly, we now expect our effective tax rate to approach 27% for the year. In light of the share issuance associated with the ACTIVE Network acquisition, we also now expect total weighted average shares outstanding for the fourth quarter and full year to be 160 million and 156 million, respectively. We could not be more pleased with our performance in the third quarter and year-to-date periods. As we close out 2017, we're delighted to be in a position to exceed our overall objectives for the year. Likewise, as we begin to look forward to 2018, we remain excited about the momentum in the business as we advance our technology-enabled, software-driven strategy worldwide. Before I turn the call over to Jeff, I would ask you to save the date for our upcoming investor conference, which we are planning to host here in Atlanta on March 1, 2018. We hope to see all of you there.

Thanks, Cameron. The strong momentum across our business continued in the third quarter, as it has all year. Our laser focus on our payments technology strategy and our emphasis on operational excellence have enabled us to deliver one of our strongest top and bottom-line results to date. We have also laid a solid foundation for future growth, with substantial progress for achieving the revenue enhancements in 2018 and beyond that we described at the time of our Heartland merger. While delivering exceptional performance today, we could not be more excited about where we can take Global Payments in the future.

Before we begin our question-and-answer session, I'd like to ask everyone to limit their questions to one, with one follow-up, in order to accommodate everyone in the queue. Thank you. Operator, we will now go to questions.

Yeah. Hey, guys. Another great quarter. Congrats.

Thanks, Dave.

Thanks, Dave.

Yes. So, first of all, just I guess on North America, growth remains really strong. Is it fair to say that your mix continues to get better, the good businesses keep getting bigger? And now with ACTIVE coming on as well, I would imagine that's even maybe faster growth than average. Like, is this sustainably going to get kind of back to 10% growth kind of in the future, as the good parts keep getting bigger?

Hey, Dave. It's Cameron. Maybe I'll start and I'll ask Jeff to chime in with anything he wants to add. So, first, I would say we're managing our North American business to organic growth in the high-single digits. Your point is right in that, our Wholesale business continues to shrink as a percentage of our North America business. And as a result of that, obviously, our faster-growing direct channels continue to drive growth in our overall North American business. And I don't want to leave Canada out; it's actually performed a little better than we would have anticipated this year as well, which has been a nice tailwind to North American growth. Going forward, I would say, we remain targeted at that high-single-digit level. Our integrated and vertical markets are the tip of the spear for growth. In North America, they're growing in the double digits. ACTIVE will be consistent with that, as we look to 2018 and beyond, so it will be additive to the overall rate of growth. Our wholesale business, again, we target towards flat to down slightly. It was a little more than that this quarter, as we commented on in the script. And in our normal direct channel, non-integrated, non-vertical market, we targeted high-single digits as well. So, again, you roll all that together with Canada, it was single digit in local currency, we continue to get back to that high-single-digit rate of organic growth that we're targeting for North America, and feel confident in our ability to achieve that going forward in time. Clearly, as we continue to mix shift towards more integrated and vertical markets businesses, obviously, that's going to help the overall rate of growth in North America, and it bolsters our confidence to be able to sustain that high-single-digit rate over a longer period of time.

Dave, I would just add on to what Cameron said that, as it relates to our M&A strategy, since you asked about ACTIVE, clearly, when we look at transactions and new partnerships, we certainly think about deals that we like to position as accretive to our rates of organic revenue growth. Of course, our integrated and vertical markets business, our e-com and omni business, are all in the double digits, as Cameron was describing a few minutes ago. ACTIVE, I think, really fits squarely in that thesis. So certainly, if you play that over time, we're looking to partner and add businesses that help accelerate our rates of growth. So I think you're right in the mix shift over time, but of course, time will tell how quickly that happens.

Great. Thanks for that. And then I guess my one follow-up, Europe has stayed incredibly strong, especially the UK. I know a year ago, there was a little worry about Brexit. It actually turned into a tailwind for a while. I'm wondering, are you seeing the UK continuing to just be that strong, do you think, into the future as well? Or does Brexit start to have a little bit of an impact?

Hey, Dave. It's Jeff. I'll start and I'll ask Cameron to add some color. So, I think we're as pleased with our businesses across Europe, really, as you are, and I think our prepared remarks really reflect that. I would say that the one thing we probably underestimated sitting here today throughout the last year-and-a-half or so is really our ability to capture share in that market, particularly in the UK and particularly in Spain. I think if you look at our performance in those markets and you look at what those markets are growing at, you look at our public peers in those markets and what they have reported for their rates of growth in those markets, this is growing six to seven times the rate of growth, particularly in the United Kingdom that one of our competitors is growing. And of course in Spain, it's really the tale of six-and-a-half years of gaining share in the market. So stepping back for a second, Dave, the first thing I'd say is we get paid to worry. So of course, you worry about things like Brexit. That's what we do every day. But I would say if there's one thing that makes us feel comfortable about where we are is that we consistently underestimated our ability of our colleagues to capture share in the European markets, particularly in the UK and particularly in Spain. That does make us feel a little bit better about where that business is heading as a trajectory matter. That doesn't mean we change our fundamental assumptions about what that market does long-term, but certainly, it gives us confidence, Dave, that we should be able to continue to capture share going forward.

And, Dave, it's Cameron. The only thing I would add to that as well is our e-com and omni business in Europe has been particularly strong. Our strategy there to combine our e-com capabilities with our physical brick-and-mortar presence in certain markets around Europe, I think, has been a very effective growth engine in Europe and been a nice tailwind to overall growth, on top of the very strong performance we've seen in the domestic markets in which we operate.

Got you, great. Well, thanks, guys. Good job.

Thanks, Dave.

Thank you. Just following up on Dave's – on Europe, the 13% constant currency revenue growth in Europe, was that all organic?

Hey, Bob, it's Cameron, yeah. That's all organic. We anniversaried the Erste JV on June 1, so Q3 was entirely organic. If you compare Q3 at roughly 13% constant currency, that's basically in line with the normalized rate of growth for Q2, which was around 13% or 14% on a constant currency basis.

Do you think...

...two very consistent quarters of strong growth in Europe, which is really a function of what Jeff and I just described.

Do you expect Europe to maintain double-digit organic as that e-commerce grows? And what are the key drivers to you gaining market share there?

Yeah. So maybe I will touch on the first point. I'll let Jeff and David comment on the second. I would say our outlook for Europe remains high single-digit growth on a constant currency basis. That is we think a very reasonable expectation given the mix of businesses that we have in market. And we think going forward, we're well-positioned to be able to achieve that. Some of the things we benefited from obviously over the last several quarters in particular, we had a very strong tourism season. Obviously, the weakness in the British pound, the side benefit of that has been obviously more towards going to the UK and more people in the UK, staying in the UK and spending in the UK. So, we've seen better trends in the UK than we would have anticipated. We're not managing that business to sustain double-digit organic growth; that's not our target for that business. But obviously, we're delighted with the performance we've been able to achieve and have good momentum kind of going into the last quarter of the year and as we look forward to 2018, which gives us confidence in our overall target for the business.

And, Bob, this is David. Maybe some of those strategies and tactics to chase the numbers Cameron's describing. Recall in the prepared remarks, we talked about the roll out of Realex e-commerce technology across Europe. That's a big piece of the outsized growth and the share gains Jeff described in the UK. We're now successfully selling that in Spain. You can expect more and more of that to come. We've had wildly successful omni-channel sales across Europe at the same time on a relative basis. So, we're very happy with the way the solution is coming together to manage our direct sales investment. Pause on that for a second. We're investing in more direct sales capabilities in Europe as well because we see more and more solutions come to market. Jeff also talked about cross-sales in his prepared remarks so we're increasingly selling our university sales, our university software solutions out of TouchNet, out of our Campus Solutions in the States, so more capability to sell more technology-enhanced solutions. So, we're thinking about that as well as Jeff talked about the Xenial software platform, which includes analytics and email marketing capabilities as well as restaurant software and eventually retail and hospitality software. Those solutions all rollout over the course of 2018 in Europe as well, so more and more product to map to more and more direct sales capabilities. It's really a great recipe for us to sustain the numbers Cameron has described and hopefully beat them over time.

Thank you. Appreciate it.

Thanks, Bob.

Thanks, Bob.