Q3 2022 CPI Card Group Inc Earnings Call
Jason Schmidt: Hey, Jason. Thanks for taking my questions, and congrats on a really strong quarter. Just want to start with the supply chain. Just curious your confidence level in securing supply not only in Q4, but as you start to look out into next year. I guess relatedly, are you assuming any supply chain constraints for Q4?
Jaeson Schmidt: Hey, Jason. Thanks for taking my questions, and congrats on a really strong quarter. Just want to start with the supply chain. Just curious your confidence level in securing supply not only in Q4, but as you start to look out into next year. I guess relatedly, are you assuming any supply chain constraints for Q4?
Scott Scheirman: Good morning, Jason. Thank you for joining the call. This is Scott. In Q4, we've got pretty good visibility as far as customer orders, what our supply chain looks like, so we're confident in our full year outlook for sure. We've got really good line of sight there. Longer term, as you think about, say, 2023, we feel good about our supply chain. We're working closely with our vendor partners every week. There's no guarantees with these global supply chains and markets for sure, but we feel like we've done all the right things to secure our supply chain. At the end of the day, our vendor partners have to deliver at the right time too. Overall, we feel good about the supply chain.
Scott Scheirman: Good morning, Jason. Thank you for joining the call. This is Scott. In Q4, we've got pretty good visibility as far as customer orders, what our supply chain looks like, so we're confident in our full year outlook for sure. We've got really good line of sight there. Longer term, as you think about, say, 2023, we feel good about our supply chain. We're working closely with our vendor partners every week. There's no guarantees with these global supply chains and markets for sure, but we feel like we've done all the right things to secure our supply chain. At the end of the day, our vendor partners have to deliver at the right time too. Overall, we feel good about the supply chain.
Jason Schmidt: No, that's good to hear. Prepaid debit was extremely strong in Q3, and it implied Q4 guidance. It seems a bit more of a pronounced sequential decline than usual. Should we infer that you saw some pulling orders in Q3, or could you discuss some of the other dynamics going on?
Jaeson Schmidt: No, that's good to hear. Prepaid debit was extremely strong in Q3, and it implied Q4 guidance. It seems a bit more of a pronounced sequential decline than usual. Should we infer that you saw some pulling orders in Q3, or could you discuss some of the other dynamics going on?
Scott Scheirman: Yeah. I would say specifically for our prepaid segment, prepaid tends to be, historically, if you look back, Jason, of the four quarters in the year, the highest quarter from a revenue standpoint, primarily getting cards ready for the holiday season in December in the US from that standpoint. When you look at our full year guidance, again, at the top line, low 20s growth. We continue to be confident in the strong customer growth, the pipeline we can see, and so forth. Again, there are some timing differences among quarters for sure at probably every company around the globe, but we feel confident in 2022 and the strong customer demand that we're seeing.
Scott Scheirman: Yeah. I would say specifically for our prepaid segment, prepaid tends to be, historically, if you look back, Jason, of the four quarters in the year, the highest quarter from a revenue standpoint, primarily getting cards ready for the holiday season in December in the US from that standpoint. When you look at our full year guidance, again, at the top line, low 20s growth. We continue to be confident in the strong customer growth, the pipeline we can see, and so forth. Again, there are some timing differences among quarters for sure at probably every company around the globe, but we feel confident in 2022 and the strong customer demand that we're seeing.
Jason Schmidt: Yeah. Jason, just.
Yeah. Jason, just.
Amintore Schenkel: Sorry. I just asked from a prepaid perspective. We expect it to be similar for the full year to what it was last year, and nine months we're up 1% on prepaid. Fourth quarter, in terms of growth rates, would be pretty much in line with that.
Amintore Schenkel: Sorry. I just asked from a prepaid perspective. We expect it to be similar for the full year to what it was last year, and nine months we're up 1% on prepaid. Fourth quarter, in terms of growth rates, would be pretty much in line with that.
Jason Schmidt: Oh, okay. Got it. Just the last one for me, I'll jump back into Q. I'm just curious if contactless card penetration is tracking relatively to your expectations, or is it outperforming what you had expected? Any color around that would be helpful.
Jaeson Schmidt: Oh, okay. Got it. Just the last one for me, I'll jump back into Q. I'm just curious if contactless card penetration is tracking relatively to your expectations, or is it outperforming what you had expected? Any color around that would be helpful.
Scott Scheirman: Yeah. No, I'll give you our best estimates, Jason. There's no pure market statistics out there, as you could imagine. We think in the US, at the end of 2021, the DI penetration or the contactless penetration was approximately 40%. We think, again, it's an estimate that as we end 2022, that might be somewhere between 50% to 60%. We think by the end of 2025, probably 80% of the cards outstanding will be contactless. I would describe it as continued to be a gradual transition to contactless over probably it's been a five, six, seven-year period. It's progressing at a gradual pace as we move forward from that standpoint. Again, with contactless, what we like about that is it has a higher average selling price, it has more technology behind it.
Scott Scheirman: Yeah. No, I'll give you our best estimates, Jason. There's no pure market statistics out there, as you could imagine. We think in the US, at the end of 2021, the DI penetration or the contactless penetration was approximately 40%. We think, again, it's an estimate that as we end 2022, that might be somewhere between 50% to 60%. We think by the end of 2025, probably 80% of the cards outstanding will be contactless. I would describe it as continued to be a gradual transition to contactless over probably it's been a five, six, seven-year period. It's progressing at a gradual pace as we move forward from that standpoint. Again, with contactless, what we like about that is it has a higher average selling price, it has more technology behind it.
Scott Scheirman: We think the large financial institutions have adopted it a bit quicker compared to the small and medium-sized FIs. We're well-positioned with the large FIs, but very, very well-positioned with the small and medium-sized financial institutions. We think that'll be a really good opportunity for us as we look over the next few years for sure.
We think the large financial institutions have adopted it a bit quicker compared to the small and medium-sized FIs. We're well-positioned with the large FIs, but very, very well-positioned with the small and medium-sized financial institutions. We think that'll be a really good opportunity for us as we look over the next few years for sure.
Jason Schmidt: Okay, got it. Thanks a lot, guys.
Jaeson Schmidt: Okay, got it. Thanks a lot, guys.
Scott Scheirman: Okay, thank you, Jason. Appreciate your time.
Scott Scheirman: Okay, thank you, Jason. Appreciate your time.
Scott Scheirman: Our next question comes from Ivan Spugatsky of Strand Capital. Ivan, your line is now open. Please go ahead.
Operator: Our next question comes from Ivan Spugatsky of Strand Capital. Ivan, your line is now open. Please go ahead.
Ivan Spugatsky: Hi. Good morning. Congratulations on an excellent quarter, and thank you for taking my question. I'm just curious if you could provide a little bit more granularity or a bit more color on the debit and credit card side of things. Could you maybe help me understand a bit more how much of that was due to renewal, replacement of the cards with the customers of your existing clients versus new customers of your existing clients? Maybe if you could also help me understand a bit more how much of that was debit versus credit as we might be entering into a sort of low credit cycle, so to speak. Thank you.
Ivan Strugatsky: Hi. Good morning. Congratulations on an excellent quarter, and thank you for taking my question. I'm just curious if you could provide a little bit more granularity or a bit more color on the debit and credit card side of things. Could you maybe help me understand a bit more how much of that was due to renewal, replacement of the cards with the customers of your existing clients versus new customers of your existing clients? Maybe if you could also help me understand a bit more how much of that was debit versus credit as we might be entering into a sort of low credit cycle, so to speak. Thank you.
Slide five.
We believe the strategies, we have been executing for the past several years allowed us to deliver strong results and continued to position us well for the future.
Our ongoing strategic priorities include deep customer focus market, leading quality products and customer service continuous innovation in a market competitive business model.
Some of the successes, we experienced in the third quarter, resulting from our strategies, including leveraging innovative packaging solutions to win more business from existing prepaid customers and meeting the needs of fintech customers for print on demand services.
We also continue to be a leader in the U S. Eco focused card solutions, a fast growing area of that is expected to have strong adoption over the coming years and software as a service based instant issuance solution for small and medium financial institutions.
Scott Scheirman: Yeah. No, appreciate your question and joining the call today. Let me give you some, I would say, broad color. For competitive reasons, I won't get into real granular detail for sure. If you look back historically, what we believe, if you go back to the 2020 timeframe and prior, that probably 90% of the cards issued in the industry were, I would describe, as replacement in nature. They might be due to lost and stolen, card reissuance, or portfolio churn. That 90% probably is not quite as high in 2022 because new card issuance across the banks have been very strong in 2022. I would say broadly, how we're winning in the marketplace, I would say both it's with existing customers and new customers.
Scott Scheirman: Yeah. No, appreciate your question and joining the call today. Let me give you some, I would say, broad color. For competitive reasons, I won't get into real granular detail for sure. If you look back historically, what we believe, if you go back to the 2020 timeframe and prior, that probably 90% of the cards issued in the industry were, I would describe, as replacement in nature. They might be due to lost and stolen, card reissuance, or portfolio churn. That 90% probably is not quite as high in 2022 because new card issuance across the banks have been very strong in 2022. I would say broadly, how we're winning in the marketplace, I would say both it's with existing customers and new customers.
Our focus on customer service has resulted in a deep and long standing relationships with financial institution issuers of all sizes bank platforms and retailers prepaid program managers and syntax.
The strategic emphasis on operating and market competitive business model encompasses driving efficiency and productivity throughout our business with ongoing process improvements operational automation and technology and equipment investment.
This emphasis has helped contribute to our 2022 results and we are delivering record sales levels. Despite supply chain challenges, a competitive labor environment and inflationary pressures.
Customer demand has been very strong, but we would not have been able to deliver against it without the improvements we've made in our business.
Typically we have invested in equipment and technology and the process changes that allowed us to increase our secure capacity by nearly 50% this year.
Scott Scheirman: In our Secure Card business, we've gained share historically, and I believe we're on a good path to continue to gain share in 2022 when we finally measure it at the beginning of the year. I think that's really driven by our quality products, our strong customer service, and also our differentiated products. Our recovered ocean-bound plastic card, we said earlier in the year that we expect that to grow by greater than 50% in 2022, and it's going to continue to grow in excess of that 50%. I believe we're continuing to win in the marketplace and gain share as we move forward. I hope that's helpful, but as I mentioned, for competitive reasons, I don't want to get too granular on some of these items.
In our Secure Card business, we've gained share historically, and I believe we're on a good path to continue to gain share in 2022 when we finally measure it at the beginning of the year. I think that's really driven by our quality products, our strong customer service, and also our differentiated products. Our recovered ocean-bound plastic card, we said earlier in the year that we expect that to grow by greater than 50% in 2022, and it's going to continue to grow in excess of that 50%. I believe we're continuing to win in the marketplace and gain share as we move forward. I hope that's helpful, but as I mentioned, for competitive reasons, I don't want to get too granular on some of these items.
We have also worked to reduce customer lead time from the high levels of last year by supply chain disruptions, which have affected the entire industry.
To summarize our strategic priorities have contributed greatly to our success driving sales growth market share gains and operating leverage and we will continue to focus on these areas moving forward.
Now I will turn the call over to uninsured to review our third quarter results in more detail on the tour.
Thank you Scott and good morning, everyone.
I'll begin my overview on slide seven.
Third quarter net sales increased 25% to $124 6 million compared to the prior year quarter.
Led by volume growth as price increases provided a low single digit contribution to the growth percentage.
Ivan Spugatsky: Okay. Understood. Thank you so much.
Ivan Strugatsky: Okay. Understood. Thank you so much.
Scott Scheirman: Okay. Thank you.
Scott Scheirman: Okay. Thank you.
The 31% increase in our debit and credit segment was primarily due to increased sales of higher priced contactless cards, but we saw good growth across our portfolio, including contact card personalization services and card it wants instant issuance solution.
Scott Scheirman: As a reminder, if you would like to ask a question, please press star followed by one on your telephone keypad now. There are no further questions. This concludes today's CPI Card Group third quarter earnings call. Thank you for joining. You may now disconnect.
Operator: As a reminder, if you would like to ask a question, please press star followed by one on your telephone keypad now. There are no further questions. This concludes today's CPI Card Group third quarter earnings call. Thank you for joining. You may now disconnect.
Prepaid debit segment sales increased 8% compared with the prior year.
Driven by growth with existing customers as well as benefits from price increases.
Third quarter gross profit of $48 4 million increased 29% from the prior year, while gross profit margin increased from 37, 8% to 38, 9% driven by operating leverage from sales growth, including benefits from price increases, partially offset by the impact of inflation on.
Production costs, primarily on materials costs.
SG&A expenses increased by $3 9 million in the quarter compared to the prior year, but declined $600000 compared to the second quarter.
The year over year SG&A increase was primarily due to approximately $2 million of increased compensation expenses and approximately $1 5 million of incremental professional services costs, including costs related to Sarbanes Oxley compliance.
The compensation expense increase reflects higher head count and labor rates and $800000 of incremental stock compensation expense, partially offset by comparisons with severance expense incurred in 2021.
Our tax rate was 25, 8% in the quarter down from 33% in the prior year and our year to date rate of 28, 5% reflects the expected 2022 rate given our current financial outlook.
Net income in the third quarter increased 80% to $11 9 million and adjusted EBITDA increased 32% to $28 3 million.
Adjusted EBITDA margins improved from 21, 6% in the prior year to 22, 7% in the 2022 third quarter driven by operating leverage from the strong sales including pricing benefits.
Turning now to our year to date financial results on slide eight.
Net sales for the first nine months of the year reached a record level of $349 3 million, a 24% increase compared to the prior year.
By segment debit and credit sales increased 31% and prepaid debit increased 1%.
Nine month debit and credit sales growth was primarily driven by contact with charge, including eco focused cards and card it wants instant issuance solution.
The segment has benefited in 2022 from large eco focused card orders and high printer replacement sales and card at once but we continue to feel positive about ongoing demand for our portfolio of differentiated solutions.
We're also pleased with the increase in prepaid debit sales given the record year in 2021, which benefited from the onboarding of new customer portfolios and retail inventory replenishment following the COVID-19 slowdown in the prior year.
Year to date gross profit of $128 $3 million increased 16% from the prior year, while gross profit margin decreased from 39, 2% to 36, 7% due to inflationary impacts on production costs, primarily materials, partially offset by pricing benefits.
SG&A expenses increased by $12 million in the first nine months compared to the prior year, primarily due to $6 million of increased compensation expenses, including approximately $3 million of additional stock compensation and approximately $3 5 million of incremental professional services costs.
Year to date net income increased 58% to $24 1 million.
Primarily due to the sales growth and the impact of debt refinancing costs incurred in the 2021 first quarter.
Adjusted EBITDA increased 12% to $75 million, while adjusted EBITDA margins declined from 22, 3% in the prior year to 22% in the first nine months of 2022.
The increase in adjusted EBITDA was driven by sales growth and the resulting operating leverage partially offset by increased production and SG&A costs.
Turning now to our segments on slide nine.
I mentioned the segment sales drivers earlier, so I will just discuss segment profitability on this slide <unk>.
Income from operations for the debit and credit segment increased 44% in the quarter to $29 $4 million driven by the higher net sales and operating leverage partially offset by higher production costs primarily material.
For the first nine months debit and credit segment income from operations increased 29% driven by the same factors as the third quarter.
Prepaid debit segment income from operations increased 7% in the quarter to $9 $1 million driven by higher net sales, partially offset by increased materials com.
For the first nine months prepaid debit segment income from operations decreased 12%, primarily due to the inflationary impact on production costs with the majority of the impact on materials.
Turning to the balance sheet liquidity and cash flow on slide 10, our.
Our cash balance as of September 30 was $21 5 million and we had $25 million of borrowings outstanding on our $75 million ABL revolver with proceeds utilized to fund our notes redemption in the first quarter and working capital needs.
We had $290 million of senior secured notes outstanding and our net leverage ratio as of quarter end was three six times.
We generated $11 $7 million of cash flow from operating activities in the first nine months of the year and utilized $14 4 million on capital expenditures, which resulted in a year to date free cash flow being a usage of $2 7 million.
In the prior year period, we have a free cash flow generation of $9 7 million.
Which included $9 8 million of tax cash refunds, primarily related to the cares act and only $4 $8 million of capital expenditures.
The free cash flow usage in the first nine months of this year with driven by increased inventory purchases of $14 million to continue to support customer demand and $15 million increase in accounts receivable driven by the high sales level in the third quarter.
As expected, we experienced significant improvement in cash flow in the third quarter relative to earlier in the year.
Inventory levels decreased $3 6 million from the second quarter, and we generated $19 $9 million of cash flow from operating activities and $13 $6 million of positive free cash flow in the quarter.
Our capital structure and allocation priorities remain focused on maintaining ample liquidity.
Investing in the business, including possible strategic acquisitions.
Deleveraging the balance sheet and potentially returning some to stockholders.
Consistent with these priorities, we continue to target further lowering our net leverage ratio over time.
To reiterate what Scott mentioned earlier, we have updated our full year 2022 expectations to reflect growth in the low 20% range for net sales and high teens for adjusted EBITDA.
While maintaining expectations for an adjusted EBITDA margin of slightly below 20%.
I will now pass the call back to Scott for some closing remarks on slide 11.
Got.
Thanks comments for the third quarter was the strongest quarter of what has been a very good year. Despite the ongoing macro challenges I would like to thank all of our employees for their contributions in delivering these results.
We continue to experience high demand for our portfolio of innovative products and solutions and we generated strong sales growth across our portfolio in Q3, including contactless card personalization solution part.
<unk> wants SaaS based instant issuance in our prepaid debit business.
This growth translated into strong operating leverage driving healthy profitability increases. We also made improvements in our financial position in the quarter, bringing net leverage down to three six times and we will continue to target further reductions.
We're pleased to once again to be able to increase our outlook for sales and adjusted EBITDA growth will continue to be confident in the long term opportunities for our company.
Thank you for joining our call today, and we'll now open the call for any questions.
Thank you we will now open the.
<unk> for your questions. If you would like to ask a question. Please press star followed by one telephone keypad now if you change a month per store from a botching when preparing to ask a question. Please ensure your line is muted locally.
Okay.
And our first question comes from Jason Schmidt from Lake Street, Jason. Your line is now open. Please go ahead.
Hey, guys. Thanks for taking my questions and congrats on a really strong quarter.
To start with the supply chain, just curious your confidence level in securing supply not only in Q4, but as you start to look out into next year and I guess Relatedly are you assuming any supply chain constraints for Q4.
Hi, Good morning, Jason. Thank thank you for joining the call.
This is Scott.
In Q4, we've got pretty good visibility as far as customer orders.
What our supply chain looks like so we're confident.
And our full year outlook for <unk>, we've got really good line of sight there.
Longer term as you think about say 2023.
We feel good about our supply chain, we are working closely with our vendor partners every week.
Theres no guarantees with these global supply chains and markets for sure, but we feel like we've done all the right things to secure our supply chain.
But the end of the day, our vendor partners have to deliver at the right time to but overall, we feel good about the supply chain.
Okay. No. That's good to hear and then prepaid debit was extremely strong in Q3 and the implied Q4 guidance has it seems a bit more of a pronounced sequential decline than usual should we infer that you saw some pull in orders in Q3 or could you just.
Some of the other dynamics going on.
Yes, I would say for specifically for our prepaid segment.
Prepaid tends to be the historically, if you look back Jason at the four quarters in the year are the highest.
Quarter from a <unk>.
New standpoint.
Primarily getting cards ready for the holiday season in December and in the U S.
On that standpoint.
When you look at our full year guidance again at the top line.
Low twenty's growth.
So we continue to be confident in the strong customer growth the pipeline, we can see and so forth. So.
Again, there are some timing differences among quarters for sure it probably every company around the globe.
We feel confident in 'twenty, two and the strong customer demand that we're seeing.
Yes.
I will ask one I forget.
Alright, just estimate prepaid perspective, we expect it to be similar for the full year or two what it was last year and nine months were up 1% on prepaid so fourth quarter in terms of growth rates would be pretty much in line with that.
Okay got it and then just the last one for me and I'll jump back into queue and I'm. Just curious if contactless card penetration is tracking relatively to your expectations or is it outperforming what you had expected any color around that would be helpful.
Yes no.
I'll give you our best estimates, Jason Theres, no pure market statistics out there as you can imagine but we.
We think in the U S at the end of 'twenty one.
The di penetration or the contactless penetration was approximately 40%.
We think again its an estimate that as we end 'twenty two that.
That might be somewhere between 50% to 60% we think by the end of 'twenty five probably 80% of the cards outstanding will be contactless. So I would describe it as continued to be a gradual transition to contactless over probably.
567.
Seven year period, so it's progressing.
At a gradual pace as we move forward.
From that standpoint, and again with contactless.
What we like about that is they have it has a higher average selling price it has more technology behind it.
We think the large.
Financial institutions have adopted it a bit quicker compared to the small and medium sized <unk>.
And we are well positioned with a large <unk>, but very very well positioned with the small and medium sized financial institution. So we think that'll be a really good opportunity for us as we look over the next few years for sure.
Okay got it thanks, a lot guys.
Okay. Thank you Jason I appreciate your time.
And our next question comes from Ivan Gatzke of Sky and capsule Avenue, along as Allison. Please go ahead.
Yes.
Hi, good morning.
Congratulations on excellent quarter and thank you for taking my question.
I'm just curious if you could provide a little bit more.
Granularity or a bit more color on the debit and credit card side of things could you maybe help me understand a bit more how much of that was due to renewal.
Replacement of the.
Cards with your existing.
With the customer so a few of our existing clients versus new customers over your existing clients and then maybe if you could also help me understand a bit more how much of that was debit versus credit as we.
Might be entering into.
Sort of a flow credit cycle.
Thank you.
Yeah No I appreciate your question and joining the call.
Today I would let me give you some.
I would say broad color.
For competitive reasons, I won't get into real granular detail for sure but.
If you look back historically.
What we believe if you go back to the 2020 timeframe and prior that probably 90% of the cards issued in the industry, where I would describe as replacement in nature. So they might be due to lost or stolen.
Card re issuance.
Portfolio churn.
That 90% probably is not quite as high in 2022, because new card issuance across the banks have been very strong in 2022.
I would say broadly how we're winning in the marketplace I would say, both that's with existing customers and new customers.
Our secure guard business, we've gained share.
Historically and I believe we're on a good path to continue to gain share in 2022, when we finally measure it at the beginning of the year and I think that's really driven by our quality products, our strong customer service, but also our differentiated products, our retail money or excuse me.
Ocean bound plastic card.
We said earlier in the year that we expect that to grow by greater than 50% in 2022, and it is going to continue to grow in.
Is that fair.
50%, So I believe we're continuing to win in the marketplace and gain share.
We move forward again, I hope that's helpful, but as I mentioned for competitive reasons I don't want to get too granular on some of these items.
Okay understood. Thank you so much.
Okay. Thank you.
As a reminder, if you would like to ask a question. Please press star followed by one on your telephone keypad now.
And then if the questions. So this concludes todays CPI card group second quarter earnings call. Thank you for joining you may now disconnect.
Yeah.