Q3 2019 Earnings Call

October 24, 2019

Hi, Kevin Please call the advisory partners at two one to seven 5058 sitting over there.

Core executive Vice President and Vice Chairman of Alliance data Milleson, Miller, President and Chief Executive Officer of Alliance data and Tim King Executive Vice President and Chief Financial Officer, All the lines there.

So once again I would like to remind you that some of the comments made on today's call as some of their responses to your question may contain forward looking statements.

These statements are subject to the risks and uncertainties described in the Companys earnings release and other filings with the FCC.

Also on today's call always speakers for reference certain non-GAAP financial measures, which we believe will provide useful information for investors.

Thank you operator, and good morning, everyone I'd like to welcome the folks that are with me here today and I'd like to begin with an important update on our overall business transformation, including the progress card services is making it our journey to reposition the portfolio.

And to get paid for the value we bring to the table.

With transformation can come disruption. So we've kept this very simple and think about her efforts in three pillars.

Ensuring we offer differentiated value.

These reductions will contribute more than $100 million in incremental cost savings for 2020.

Our approach to human capital, which include increasing both our global delivery model and digital workforce is in progress.

We are fully leveraging automation and artificial intelligence to create efficiencies and expand our self service offerings for brands and consumers and this is exactly what you would expect from a company with data as our middle name.

So what do we done to position ourselves for 2020 and beyond.

I'll walk you through the progress that we've made.

No, but we will continue to expand where and how we grow.

By building on our success.

Our new business pipeline contemplates these helping new brands and there's a strong demand in the market for the solutions that we offer.

Let's turn now to slide five well spend some time on the progress card is making in positioning our portfolio.

As Tim and I spend time on the road visiting with investors. A question. We often here is how will you continue to grow given the uncertainty within retail. It's a question. We've asked ourselves. We believe it's a fair question for us and it's precisely why we altered our strategy beginning in 2015.

On our call today will be more specific about the outcomes and the overall impact on the complexity of our portfolio.

I call your attention to the far left bar on the top chart.

And if you follow the dark Blue bar, all the way to the right you'll see that an each progressive year. Our concentration of a are in these healthier verticals continues to build today. These vibrant verticals and brand make up greater than 60% of our card receivables.

This did not happen by accident, we got here by signing a new grouping or vintage each progressive here.

Now looking at the far less are of the bottom chart, you'll see that in 2016 less than 10% of our card receivables were coming from our newer vintages.

Today, that's grown to over 35%.

Essentially all of our growth is coming from these newer vintages.

We made the shift intentionally and in Justin for short years, we've deliberately altered our portfolio.

We no longer rely on our important but slower growing core programs.

Instead, we secured our future growth with newer programs in growing brands and verticals.

Importantly, some of these newer programs were startup program. So our ramp to fully mature tender share has tremendous reach.

Now before we leave this slide we also wanted to cover the math.

And how we build a bridge from where we are today to our projected yearend card receivables.

Important to note. We now project our end of period receivables to be roughly $19.5 billion down from our prior quarter forecast largely due to the softness in the core programs I just mentioned.

Generally with normal seasonal trends, we expect to see a 10% to 12% increase.

Q3 end of period receivables.

Q4 end of period receivables.

Our 2019 Q3, ending position of $17.9 billion puts us well in the range of $19.5 billion by the end of the year.

We thought it was important to spend some time on the deliberate shift that card has been making these past few years as I mentioned these moves were intentional.

However, we have also entered new verticals that are healthy and growing and evidence of that is illustrated here. Ultimately we are building a stronger more diversified portfolio with room for growth and stability.

Let's begin with the revenue line.

Tim will speak to the components of revenue on the next slide So let me address the decline in EPS numbers.

EPS from continuing operations declined significantly due to the restructuring charges of $55 million pre tax.

The combined after tax effect of these two items was $1.86 cents per share.

The after tax effect of this one large item was approximately $1.50 cents.

When combined the impact of these two items with $3.36 per share.

The provision expense also negatively affected core EPS.

Adjusted EBITDA and adjusted EBITDA net of funding.

Moving to net income we were further affected by the expenses related to discontinued operations in connection with the Upsilon sale.

The Q3 after tax affected this item dropped our S from a positive $2 41 son.

To a loss of $2 13 Sun.

Finally, 2019 had a higher effective tax rate of 26% versus the 16% we saw in 2018.

Causing an additional 33 cents of year over year pressure.

Q3 wasn't noisy quarter and I understand how it can be difficult to reconcile due to the number of onetime event.

So Tim let me turn it over to you to provide more detail on our results.

Thanks, Melissa and good morning to everyone.

As well so just mentioned there are factors negatively impacting us in 2019.

Not underplays the underlying metrics on the businesses are improving.

So starting with Loyaltyone, we see reported revenue decreasing 6% to 246 million for the third quarter.

Adjusting for the unfavorable foreign exchange rate and the shift to a net revenue presentation for certain reward products.

Revenue increased 1%.

Okay card services revenue was up 3% and inline with the increase in normalized they are.

Moving to adjusted EBITDA.

Now move to slide eight well going to more details on card services.

As I mentioned on the previous why.

But it was up 3% inline with the increase in normalized they are.

This is important turnaround versus the prior core quarter, we saw revenue down 4%.

Q2, we had both war yields and lower normalized average receivable.

This quarter forever as receivables are up and yields are stabilizing resulting in positive revenue growth.

Operating expenses were flat year over year.

And this quarter, our revenue growth outpace our operating expenses by 300 basis points.

We had at 100 million dollar provision increase compared to last year, which was largely the caused card services year over year negative performance. This was driven almost entirely by the difference in the our growth trajectory.

In 2018, our Q3 reserve or decreased by approximately $430 million.

In the third quarter of 2019, Reservable increase by approximately 630 million.

In 2018.

No benefit from benefited from the decline Conversely in 2019, we needed to build the provision for the incremental youre.

As we are now back to growing our book, we need to post up allowance for loan losses.

Without this expense our quarterly performance would have been slightly better than 2018 and inline with our average receivables bill.

Now turning to slide nine I'll focus on some of cards see metrics.

Starting with credit sales card services was up 6% on reported basis compare that to Q1, where we were down 7% and in Q2, where we were flat.

Also showing improvements from the prior quarters are the our metrics.

Specifically and apparently our was down 5% in Q1 down 2% in Q2 and that is now up 3% in Q3.

As most as mentioned earlier, we're still expecting robust growth for the year.

But our long or your own receivables expectations to 19.5 billion.

Well year over year gross yields are negative they too are showing improvement in Q2, we were negative to 2018 by 90 basis points. In Q3, we are 20 basis points lower than the prior year. This pressures coming from the ramping up of new programs.

Q4, we expect this pressure to have large liberated and that will be positive year over year.

As we've guided before we do expect gross yield to be down slightly on a full year basis.

Turning to operating expenses after adjusting for the Mark to market in held for sale receivables, we saw strong improvements of 100 basis points.

We expect this number will continue to prove as a result of the efforts was as much.

Yes.

Those metrics of credit quality are showing stability or improvement.

As a result will lower income numbers, we did see are always both 30% on a quarter. This is temporary and this number is being affected by the mark to Mark expenses, we do expect to take some hits in Q4 for restructuring charges, but again temporary on the Norway.

So in summary, there are some issues, we need to work through but the underlying businesses are strong.

Well, if you want organic revenues up slightly product mix is causing some noise, but as generally stable business card services. So house, increasing sales and they are normalizing yields improving expenses and stable credit metrics.

And we successfully executed a large cost reduction efforts with corporate level.

I will now give it back to Melissa will speak to guidance for 2019 in 2020.

Thank you.

And as Tim mentioned, there are a number of a one time factors affecting this year statement. If you turn now to slide 10.

Second we're now expecting a larger markdown on our held for sale receivables than previously anticipated.

However, we are committed to moving forward with the sale of these portfolios to clean up our balance sheet.

Third we've seen some credit sales deterioration in our core programs, which is leading to a slight reset and our average accounts receivable, we still fully expect exit 2019 with yield higher than the previous Q4, yet down slightly for the full year.

We are tackling these disruptions now and they are all fully reflected in our guidance for 2019.

The combination of these factors is driving both a revenue.

Where we guided to revenues of $5.8 billion. We now believe we will be flat to 2018 at $5.6 billion.

On core area, we are now targeting a range of $16.75.

To $17 even per share.

On a pro forma basis, we are targeting $20.50.

$20.75 EPS.

I hope you've heard that we have made tangible progress in improving our business model and repositioning the card services portfolio.

Our efforts will ultimately restore the health and vitality of the company and we are confident that growth will follow.

And finally moving on to Slide 11, we will enter 2020 with a more focused streamlined business.

We put the building blocks in place to ensure this is our future reality.

We see significant runway ahead.

Based on our current visibility, we expect lower operating expenses from our streamlined operating model.

Low single digit revenue growth and mid to high 20% growth in core EPS.

Core EPS will be up high single digits.

Breaking it down by segment.

In Loyaltyone, we expect to see consistent stable performance as we will be operating with the reduce cost structure and they're making the necessary adjustments to improve performance.

Credit quality is expected to remain stable.

This is because she has positioned us to declare a new beginning and we expect 2020 will be a strong growth here in terms of revenue and profit.

We look forward to hosting an investor day in early 2020, and where are working through some growth initiatives that we look forward to discussing in more detail. So timing will be firmed up as we get closer.

Operator that concludes my prepared remarks, I get asked that we now open up the line for Q1 day.

And I can't ask a question simply press Star then the number one on your telephone keypad. Your first question comes from a line of Sun, Jay Sakhrani with KBW.

Thanks, Good morning, and thank you for all the context as we look into next year, but I wanted just to clarify maybe your confidence on some of the guidance data points that you provided both in terms of revenues and expenses for each of these segments. I guess, one point I was thinking about is when I when I look at your rate Asus.

Revenues and expenses for card.

I'm not following your question are you asking how rate sensitive we are on the asset side versus the liability side, yeah as rates go down like what how should we think about the impact.

We were about 70% to 80% variable rate on our book It takes about six months for our liabilities to catch up to the rate reductions beamed to reset our liabilities. So in essence, we have exposure for about three or four months as it that the liability start catching up and the cars, obviously, our asset reset more quickly.

Okay, and maybe some more color on sort of how we should think about capital management and ratios and then my follow up question is also I saw an 8-K that Kelly Barlow from value Act is stepping down from the board and it doesn't seem like there any disagreements with the company, but maybe you could you guys can talk about the relevant.

So that and how that might affect the path forward and also Melissa I thought I heard you say you guys are done what the corporate restructuring does that mean that any further sales the divestitures are off the table. Thank you.

With respect to Kelly Barlow of value Act Sanjay.

This week selling informed us that.

Respectively.

From the best.

And Sanjay find might come back around on the corporate restructure question I appreciate your giving me a chance to follow up.

What we were attempting to articulate was that the corporate restructure actions in connection with the Upsilon sale were complete if there would be anything in the future of course, we would reevaluate what would be required. We mentioned previously that we had a number of number of initiatives that we're on.

How much flexibility do you actually have on portfolio actions also would be helpful. Then should we should we be expecting anymore portfolios to moved to held for sale just overall how's the health of the portfolio.

That could be an upside opportunity.

And some of those programs that we signed this year will be coming up next year and that is also fully contemplated in our our 2020 guidance.

And then with respect to held for sale portfolios. We did have a strategic nonrenewal, but sitting here today. There isn't one that we know about will always be selective and what that looks like.

That's largely why we are really committed to.

Moving forward and clearing up the balance sheet with those that are there today.

Okay, just a quick follow up on that when we when we think about the profile of those new vintages.

With regard with respect to the credit quality of those loans as well as the yield and the trade off between that type of you'll do you want to get for that credit I mean is basically the same and I imagine we should be expecting youre, we'd again factor.

The reversal.

It's a great question and the answer is from a quite a credit quality perspective.

That one is going to be the held for sale Mark two is going to be a slightly lower average receivables.

And then third one of my drawing a blank primary primary thank you so within each of those about a third each.

Motto is.

For the long term viability of the business and we would say a long term high single.

Part of our until then.

Go ahead please.

No it's going to say if you know if you.

Look at that high single digit revenue growth in what's your strong ROI. We I mean do you get some operating leverage on expenses and then capital return drives.

On the shift in the customer mix.

But it's still a very choppy retail market.

I would guess that.

As you look at your portfolio that I mean, I'm sure you guys know, which.

Confident I guess in that long term model that you know, even as you're still converting or adding high more stable retailers that you're not going to have some significant fall out some of your larger customers still or <unk> that are in that active already or are not exactly.

Performing go out with.

It all cylinders going I guess, you would [laughter] yeah. That's that's a that's a fair observation.

Just a few thoughts we'd we'd bring forward first.

About the rest of the organization, Bob we look at it in the form of ABT risk and so what we have done it as we've built our long range plan and our guidance for 2020, we have assumed that there will be some percentage of brands that will not make it and that is fully contemplated in our 2020.

I think you know knowing that there's some clean up to go when I think you like raised your guidance a little bit last quarter.

So obviously, we looked at a variety of options working with the board as far as what was the right return to shareholder about the shareholders. We felt that Dutch tender auction was the best way to get some returned back to the shareholders.

Hey, nice return to shareholder due to our shareholders.

Your next question comes from the line of David Scharf JMP Securities.

Hi, good morning, Thanks for taking my questions.

Melissa you know what kinda echo some other comments in in a.

Expressing appreciation for kind of the deeper dive into the portfolio shift.

And as we think about the 60% of a are now you know that's that's coming from these newer verticals.

What percentage of that a our might be up for renewal in 2020 and 2021.

Any programs that we would bring forth.

Or consider up for renewal.

Sure that it's a vertical into which we would like to play does that answer your question.

Yeah, no no that thats helpful. It sounds like there isn't any imminent bubble of renewals necessarily certainly next 12, there's no theres.

Theres theres, they're spread over the term so if we start thinking a seven year eight years judo on average for renewals you look at and we look at that fairly often is to look at make sure. We don't have a big bubble in 2023 or 2024, they're spread fairly consistently over the terms, which is nice because we don't have any big renewal risk in any given.

Here, we look at the big renewals, a small renewals Cobranded plc season, we want to all of them.

We don't have the city risk other than assisted peanut buttered for lack of better term over the over the like seven years eight years and David I. Appreciate the comment about remarkable renewal rate I actually wrote that down I'm gonna have to put that on our office wall, what a and we appreciate the acknowledgement we retain 100%.

Brand partnerships that we want to retain.

So if we are in a situation, where we are parting ways. It really is because there is a fundamental disconnect in how we view the value and the viability of the program.

Got it no that's helpful and that's actually good segue to my follow up.

It relates to that held for sale you know by by my calculation.

Based on kind of the efficiency ratio or the opex.

The 8.7%.

I I calculate the mark the markdown.

Can you give us that obviously has implications not just done and valuation but potentially timing.

I seem to have jotted down in my notes that the expectation.

A quarter ago was that most of that held for sale would be disposed of by the end of this calendar year is there any update on your.

Latest thoughts on timing.

Yeah, obviously, we're actively negotiating other portfolios right now.

Clearly, we're not going to do something that would be silly economically for the sake of December 30, Onest, but we would very much flight to clean up the balance sheet by the end of this year.

[noise] and your next question comes from Andrew Jeffrey with Suntrust and we are limiting the questions now to one question, what's the one follow up.

Tim can you help us at all with how your core EPS outlook might translate into gap it strikes me.

A lot of investors are waiting to understand what your GAAP earnings are to make.

More comparable with peers and I know there a lot of moving pieces, but can you help us with that at all.

Okay that that certainly helpful and then as a follow up.

Reserve build.

And I recognize again Cecil may change the dynamic here a little bit but.

<unk> rate, that's just adjust as standard reserve rate is going to cost you $60 million to $65 million.

Since the $100 million was also last few we got a benefit of a will lower rates, we decline in our rates. We've picked got even better last year, because again im comparing year over year. This year have very stable credit. So I did have any issues there, but last year I got to lower rate and lower receivables. This year of course, I had higher receivables stable rates. The difference was one.

Hundred million dollars between 2018 2019, there's nothing out there is no credit issue there is a bit as 100% based on the receivables.

Okay. Thanks that helps.

Your next question comes from the land line of Dan Perlin with RBC capital markets.

Thanks.

And you can you just kind of help remind us how you plan to get L. One back to growing again versus kind of its cost rationalization story.

And then what would be like the trigger for underperformance that would require you to get rid of it.

I mean I know the question was asked about disposition of assets, but.

I'm just trying to get a picture of how this all plays out as you think about just kind of long term calculus for the fifth.

Yeah, I think it really comes back to a couple of things stand for US. If we look at air miles you know the model. It comes down to miles issued so miles issued drops cash flow drives future revenue recognition.

I think that will then position us to get back to really driving growth and getting more promotional miles issued.

With its we're also looking for ways, where we can improve the value proposition tour collectors to get them more active get the more engaged and actually increase or burn rate to some degree and that will drive the topline on top of that we have made several reductions to the cost structure.

Canada, which is going to help us on a profitability standpoint.

So we are looking for improvements across the board with their miles in 2020.

With Brandloyalty, which has been Frank it's been a rough three years frankly in terms of performance. This year it will be up year over year in terms of EBITDA up there's still some improvements do.

Basically client engagement.

We think thats going to be good going into 2020, I could still to situation with Brandloyalty, where the revenue is down year over year as we reposition it in the market, but we do believe that EBITDA will be up just based upon the revised cost structure, we put in place.

It will be but that hasn't been 19.

Yes Q4.

Before okay.

Great and then the second question most as you talk to kind of the portfolio right. So it's pretty bifurcated you got this great new opportunity of clients you've got some these legacy clients struggling I'm trying to understand the conversation that you have with them.

To kind of drive growth. So you've got legacy clients. We are trying to sustain I guess and a lot of ways, but also help them through their process and I'm wondering what that conversations actually like today versus this real growth opportunity, which is rate of change storytelling.

Yes, that's a great question then of course every brand partner is different.

You almost have to look at each one of those dozens of programs individually because there are brands within our core files that are growing high single and in some cases low double year. After year. They are however, amassed a bit by the partners that are not growing so for us it's all about making.

Retention rate, that's a little brand dependent but by and large it's either flat to up so our partners do.

Listen if the wrong word our partners do count on us.

To be there for them. During these these times of of weak sales. The card program for many of our partners is the bright spot.

When someone has one of our cards in good times and and bad for brand they spend one and a half to three times as much as a non cardholder. So these card programs are very very valuable.

To to the partners we Sir.

Thank you.

And your next question comes from the line of Eric Wasserstrom with you the yes.

Thank you for taking my question Melissa My my question relates to the.

To to just the go forward economic model of of Ats relative to the historical and I think you know one of the things that the investment committees I think struggling with a little bit is understanding how ats.

Got it contemplates value creation.

Yeah historically, the emphasis was on a on earnings growth and adjusted earnings growth.

Which resulted in high double leverage and an emphasis on share repurchase which of course accelerated GPS, but was largely destructive to book value.

And book value is irrelevant valuation metric.

You look very expensive on book, even as your PE optically is very low.

Sure Eric if it's okay I'll take that most will jump in so the value creation I'm just going to go right to the top a with the revenue clearly bye.

If you thinking value creation as far as shareholder return increasing the EPA. So all good book value in the second.

Going to shake through growing our book by 910, 11% high single digits, and having that flow straight through and then getting back to my revenue, having Mike My earnings obviously, increasing by my leverage online operating expenses you get your earnings per share.

You then go back to say, we'll boy I'm concerned about my book to my overall.

Book value and that is very much as you said a financial institution metric, we still do have two other divisions, we still very much.

So im happy to walk through kind of more metrics with the if you'd like but that's because you're in that land of boy tangible book value as opposed to.

What the value of the underlying assets are.

That helps no. Thank you for yeah, you know the thank you for that and just to follow up on one point.

Just with respect your leverage position what can you help us understand whether the priority is to continue to reduce your.

Your debt or or insight to to accelerate leverage through incremental share repurchase.

Well clearly that conversation when we start thinking about the cash flows that repurchase that we're we're balancing.

Im going to take a little bit of the Doobie car here and say 120 days, obviously working with the board, making sure we think about debt repurchases that.

Share repurchases, so we're working through that.

Great. Thanks very much.

Hey, Thanks. Good morning, guys. Just first a quick clarification, just because I know they were in a lot of numbers, but the.

The 2020 outlook.

2019 core of 16 75 to 70, no shares that that right.

Yes, if you go to use core EPS and go to core EPS in 2020 . The quote we had was mid Twentys of call. It 20, 520, 426 range to high Twentys call to 28 raise.

That's what we're guiding on that Zip code.

So when I guess it what I just want to answer the question for saw injects what I switched to pro forma that's what I said the six day. So if you if you want to use a pro forma the 2015 to 2075 would be six day.

Okay got you Okay very helpful. Thank you and then.

Broader question is.

So I appreciate all the all the things that are changing and all the detail and I think the in the Investor Day, I think people look forward today, because it seems like a lot of things are evolving.

So just wondering kind of similar to maybe similar but a different take the somebody other questions is.

So you've got active.

Receivables growth still.

Mid teens range you've got your.

Maybe the total portfolios shrinking.

Your.

I guess your stocks now, indicating onefourteen pre market when you think about buybacks there versus.

Doing somebody's because it might be struggling just how do you probably do you think about.

That that part of the business. Thank you.

So let me let me talk about the receivables growth clearly we're looking at the average receivables growth you'll see that we were down 1% on a reported basis, but the end of period being up 3% the trajectory, we're showing and hence the the position we're taking in the earnings call was well if you go back to look at Q1 down dramatic.

Q2, getting back to flat Q3, the end of period and then if you just use the guide of 19 five versus the end of period last year, we're going to be up 9% and so part of what we're trying to convey and we hope folks take away is that the all that.

All the we're selling portfolios of all those different things we've done back in 2018, we're working our way through that and we're back to a growth profile with our Aer that should then translate into because we think our yields are fairly.

Flat, meaning than you translate into a growth in your revenues its commensurate with your growth and you're a our it the business model from our perspective is pretty simple grow your radar keep your yield keep your charge off and obviously get some leverage in the Opex and you obviously grow your GPS and that's what we're trying to convey here.

Okay, great. Thanks, very much and I look forward to the Investor day. Thanks.

Yep.

Uh huh.

Hi, Thanks for all the detail I just wanted to ask you Melissa with regard to that slide five your voice was noticeably more excited enthusiastic I had two two questions related to that one.

I'll just ask them upfront the distinction you're making in the sequencing of the vertical versus the vintage it looks like the verticals go before the vintage I just want to make sure I understand why you pointed out and second if you could just shares to more use cases, you talked about beauty home goods retail in etail rather in your.

Prepared remarks, but some more would be helpful. So the vertical versus the vintage and then the use cases. Thank you.

We have found that there is huge demand in the marketplace for what it is that we bring to the table, but if the vertical itself is not growing or not changing what the modern consumer than three years from now we're going to be back to the same place. So we deliberately tested into what are the winning category.

Not all are winning but that is a vertical that is going to endure. So then when we go down to the vintages by the time that you conclude that a vertical is viable you develop a list of.

Healthy candidate go through the selling and Onboarding journey Youre looking at about an 18 month timeframe before you got that first dollar. If you will have a revenue. So that's why you you will almost all we see that vintage shift the lack the vertical shift or lagged the vertical shift does that answer the question.

Yeah, that's really helpful. Thank you.

Okay. Thank you.

And at this time there no further audio questions.

We will go back to the speaker for closing remarks.

Well I certainly want to thank everyone's time for today I understand there were a number of moving pieces and messages that we ask you to consider we want to acknowledge again that this road has been long for many on the phone here today and our goal is to make sure.

Or that you are.

Confident that we're making the progress that we know that we are making and that we will finish this year strong and it will be a great jumping off 0.4 2020. So thank you everyone and we'll talk next quarter.

And thank you. This concludes today's conference. Thank you for your participation you may now disconnect presenters. Please hold one moment.

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