CPI Card Group Inc. Q1 2023 Earnings Call
Yeah.
Welcome to the C. P. I card group's first quarter 2023 earnings call. My name is Barry and I will be your operator today.
Youre viewing on the webcast you may advance the slides forward by pressing the arrow button.
The call will be opened for questions. After the company's remarks, if you would like to get in queue for question simply press Star followed by the number one on your telephone keypad. If you would like to withdraw your question again press Star and one.
And now I will turn the call over to Mike Salop G. P is head of Investor Relations.
Thanks, operator, and good morning, everyone welcome to the CPI card group first quarter 2023 earnings webcast and conference call. Today's date is May nine 2023 and on the call today from CPI card group is Scott Salmon, President and Chief Executive Officer, and I'm, a door cycle Chief Financial Officer.
Before we begin I'd like to remind everyone that this call may contain forward looking statements.
Are defined under the private Securities Litigation Reform Act of 1995. These statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those expressed in the forward looking statements.
Such risks and uncertainties. Please see CPI card group's most recent filings with the SEC.
All forward looking statements made today reflect our current expectations only and we undertake no obligation to update any statements to reflect events that occur after this call.
Also during the course of today's call the company will be discussing one or more non-GAAP financial measures, including but not limited to EBITDA adjusted EBITDA adjusted EBITDA margin net leverage ratio and free cash flow reconciliations.
Reconciliations of these non-GAAP financial measures. The most directly comparable GAAP measures are included in the press release and slide presentation. We issued this morning copies of today's press release as well as the presentation that accompanies this conference call are accessible on Cpi's Investor Relations website investor adopt CPI card group Dot Com. In addition, Cpi's Form 10-Q for the quarter ended March 31.
2023 will be available on Cpi's Investor Relations website.
Now I'd like to turn the call over to President and Chief Executive Officer, Scott Sorry.
Thanks, Mike and good morning, everyone. During today's call I will discuss <unk> first quarter performance.
Reiterate our outlook for the full year and review our long term strategy.
Turning to our overview of the financial results in more detail and then we'll open up the call for questions.
We will start on slide four.
Overall, I'm very pleased with our first quarter performance.
We increased sales by 8% despite comparisons with a very strong first quarter in 2022, which benefited from large eco focused card orders and significant instant issuance printer upgrade sales.
Growth in this year's first quarter was led by ongoing strength in sales of contactless cards and we also delivered good growth from other areas across our debit and credit portfolio.
We grew adjusted EBITDA, 11% to $25 million and increase the adjusted EBITDA margin 50 basis points to 27%.
Driven by operating leverage we.
We increased net income by 81% to nearly $11 billion aided by sales growth operating leverage a lower tax rate and lower interest expense as we have utilized cash flow to reduce our average borrowings.
We also improved our overall financial position in the quarter generating nearly $4 million of positive free cash flow retiring an additional $8 million of our senior notes and reducing our net leverage ratio to two nine times at quarter end.
As we mentioned in March this year, we are focused on continuing to execute our strategies grow the business when share in the marketplace increased cash flow and reduce leverage.
We believe the first quarter demonstrated good progress against each of these goals.
As we look to the rest of the year. Our sales efforts will remain focused on gaining market share with our differentiated portfolio of innovative products and services and end to end solutions and leading quality and customer service.
Turning to our outlook on slide five.
Today, we are affirming the financial outlook, we provided in March.
We believe continued strong performance from contactless cards additional sales of end to end solution and further penetration of instant issuance will drive sales growth for the full year.
However, there is more risk and uncertainty in the market the banking industry stress that emerged following the collapse of Silicon Valley Bank in March has contributed to more cautious spending environment among issuers.
Although we do not have any significant direct exposure to the three major banks that failed we have recently seen softening customer demand and our debit and credit segment and consequently, do not expect second quarter results to be as strong as the first quarter.
Near term, it's difficult to project the extents of the banking industry stress or how long that will continue to impact us.
However, given the uncertainty we have implemented various new initiatives to drive sales and manage expenses more tightly in 2023.
Based on what we know today and the strong first quarter performance, we have affirmed our full year outlook, we provided in March.
Despite the near term challenges, we continue to believe we operate in an attractive long term growth market.
Secular card trends have remained healthy as evidenced by the 11% compounded annual growth rate on Mastercard and visa U S cards in circulation for the three year period, ending December 31 2022.
And the ongoing movements towards eco focused cards and contactless cards should continue to aid growth.
I would also remind you that the card business is reoccurring in nature with historically, approximately 90% of payment cards issuance being for reassurance and replacements for the restaurant support for the market over time.
We have successfully gained share in a growing markets over the past five years by focusing on our key strategies and we expect those to continue to be the foundation for our growth.
Specifically turning to slide six our key strategic priorities remain deep customer focus.
Market, leading quality products and customer service.
Antinous innovation in a market competitive business model.
We believe the first quarter results demonstrated further advances against these priorities.
Although eco focused card sales were down compared to some very large orders in the prior year, we still sold nearly 7 million of our innovative cards made with recovered ocean bound plastic core in the quarter.
And continue to be a leader in the U S Eco focused card space.
We also continue to leverage our high quality in the end solutions driving growth in contactless cards.
Amortization services.
And our card it was SaaS based instant issuance business.
Prepaid was down slightly in the quarter, but we did continue to have success with new customer types.
And we demonstrated a competitive business model, we generated operating leverage despite ongoing inflationary impacts on key material costs and continue to balance pricing with managing long term customer relationships.
These four key strategic priorities will continue to guide our actions to grow and gain market share.
And we also plan to pursue additional opportunities in the market.
Our expansion of prepaid use cases and development of complementary digital offerings.
We remain confident in the long term growth prospects for the market and in our ability to execute against our strategies to win business and grow share.
Now I will turn the call over to Amit to review, our first quarter results and our outlook in more detail our mature.
Thank you Scott and good morning, everyone.
I'll begin my overview on slide eight.
First quarter net sales increased 8% to $129 million compared to the prior year quarter led by the debit and credit segment, which increased 11%.
As Scott mentioned debit and credit sales growth was driven by strong sales of contactless cards and personalization services also contributed solid sales growth.
As Dan Carter wants instant issuance solutions.
Prepaid debit segment net sales decreased 2% compared with the prior year and we continue to expect full year prepaid sales to be similar to 2022 levels.
Overall pricing contributed a little less than half of the sales growth in the quarter, primarily due to pricing actions implemented over the course of 2022.
First quarter gross profit of $43 $1 million increased 10% from the prior year, while gross profit.
Gross margin increased from 35, 3% to 35, 7% driven by operating leverage from sales growth, including benefits from price increases, partially offset by the impacts of inflation on our materials costs and expenses incurred related to a production staffing model change in our prepaid segment.
SG&A expenses increased by approximately $1 million in the quarter compared to the prior year.
Due to increased headcount and related compensation expenses to support our growth and strategic execution, partially offset by a reduction in professional services expenses, primarily related to third party Sox costs incurred in the prior year.
Our tax rate was 27% in the quarter, which compared to 38, 3% in the prior year quarter due to higher interest expense deductibility, and a favorable adjustment to reflect a change in state tax law.
We would project a normalized rate, excluding any adjustment items of between 25% and 30%, but including the Q1 adjustment benefit. We currently expect the overall 2023 rate to be at the lower end of that range.
Net income in the first quarter increased 81% to $10 $9 million and adjusted EBITDA increased 11% to $25 $1 million.
Adjusted EBITDA margin improved from 22% in the prior year to 27% driven by operating leverage from sales, including pricing benefits. While net income growth also benefited from the lower tax rate and lower interest expense.
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.
Income from operations for the debit and credit segment increased 25% in the quarter to $30 million driven by the higher net sales and operating leverage including the benefits of price increases.
Prepaid debit segment income from operations decreased 38% in the first quarter to $3 $7 million.
Prepaid income was negatively impacted by approximately $1 million cost incurred related to the conversion from a temporary to full time staffing model at our prepaid production facility.
And was also negatively impacted by the reduction in sales.
We expect the prepaid margins to be stronger over the remainder of the year as we gain efficiencies from the labor conversion and benefit from more beneficial mix and operating leverage.
Turning to the balance sheet liquidity and cash flow on slide 10.
We made substantial progress with our financial position in the first quarter.
We generated $8 million of cash flow from operating activities in the quarter.
The $4 1 million on capital expenditures.
The resulted in free cash flow of $3 $9 million.
This compared to the free cash flow usage of $19 $1 million in the prior year period.
With a strong improvement driven by increased net income and reduced working capital usage.
Accounts receivable balances decreased $4 million from year end as we collected the receivables related to the high sales levels in the fourth quarter and inventories only increased $1 million or less than 2%.
On the balance sheet at March 31, we had $14 million of cash and $13 million of borrowings outstanding on our $75 million ABL revolver.
We had $277 million of senior secured notes outstanding at quarter end, we repurchased $8 million of notes in the open market in the first quarter.
Subsequent to quarter end, we repurchased an additional $7 million in the second quarter.
Our capital structure and allocation priorities remain focused on maintaining ample liquidity and investing in the business.
<unk> possible strategic acquisitions.
Leveraging the balance sheet and potentially returning funds to stockholders.
Overall, the first quarter results were strong and we have affirmed our 2023 full year outlook.
Specifically for 2023, we continue to expect mid single digit net sales growth with higher growth in the debit and credit segment and prepaid sales similar to 2022 levels.
Mid to high single digit adjusted EBITDA growth free cash flow to more than double from the 2022 level as we grow earnings and optimize working capital and a more stable supply chain environment.
And net leverage ratio improvement to between two five and three times as we generate strong cash flow and continue to reduce our senior notes balance.
Our outlook assumes the turmoil in the banking industry effect second quarter results, but it does not worsen and we return to a more normalized environment over the course of the year.
I will now pass the call back to Scott for some closing remarks on slide 11, Scott.
Scott.
Thanks, Tom mature.
Before opening the call for questions I would like to welcome Jeff Hough stent to the CPI team.
We announced today that Jeff will become our new Chief Financial Officer effective May 15.
Pricing on mature who had previously declared his plans to resign in 2023 due to family related personal reasons.
Jeff is a proven strategic later, who brings a vast background a diverse business and financial experience to CPI.
He most recently had his own company, providing strategic and financial consulting services, which followed his career at Western Union from 2006 through 2021, including roles as Chief strategy Officer, and senior Vice President and head of global financial planning.
Jeff has also held various financial and strategic positions with first data Morgan Stanley IBM and price Waterhouse among others.
Inventory will stay with CPI full time through the end of the second quarter and.
And then will continue as an advisor for a period of time.
To summarize todays call we had a strong performance in the first quarter, increasing sales adjusted EBITDA margins and free cash flow and driving further improvements in our net leverage ratio.
Although we have seen some new risks arise from the banking industry turmoil of recent weeks, we're taking responsive actions and have affirmed our full year outlook.
Overall, we remain focused on continuing to execute our strategies grow the business win share in the marketplace increased cash flow and reduce net leverage and 2023.
Thank you for joining our call today, and we will now open up the call for any questions.
And we will now open up the call for your questions. If you would like to ask a question simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question again press star and White and we will pause for just a moment to compile the Q&A roster.
And your first question will come from Jason Schmidt Your line is open.
Hey, guys. Thanks for taking my questions and congrats on a really nice start to the year.
Scott just wanted to dig into your caution around Q2 is this softening demand more related to push outs or are you seeing cancellations as well.
What I would describe it as we move through the month of April just saw softening in customer demand or customer orders coming in.
Some customers that might be not placing an order some customers who might be pushing the order.
To say that the third quarter or fourth quarter.
So it really seems to have tied back to the Silicon Valley Bank and subsequent I'm going to use the word banking turmoil adjacent ware.
Customers feel.
Certain about the future.
We believe theyre, probably tightening their spending just to see how things will enroll over the weeks may be the months to come from that standpoint, but again I have a lot of confidence in the long term business.
There is a lot of secular trends in place for sure.
Cards continue to grow card payments are growing at the expense of cash.
As we shared in the script.
He's a mastercard.
Cards in circulation have grown at 11% CAGR over the last three years.
Ending December 31 2022.
I believe contactless cards are still a really good opportunity for us we think at the end of 'twenty two the market was 50% to 60% converted a contactless we think that will be over 80% by 'twenty five.
I'd also just emphasize our eco cards right.
Broadly of banks end user consumers.
The issuers the networks everybody is trying to be more sustainable and we are definitely a market leader with eco focused cards issuing over $95 million. So I think there are some near term challenges, but <unk>.
Long term I'm very positive on the business and believe there is.
Continued opportunity to gain share and grow over the long term.
Okay that makes sense and all really helpful and I think you probably answered sorry, what my next question was going to be on the confidence that Q2 is simply this air pocket and you would resume to a more normalized environment is this really just due to kind of customers, noting that these launches have.
Simply been delayed into the second half.
Well, there I would say there is.
Some of that right.
There are things that are happening in the market, where I would say the regulators and the government are continuing to try and do things to provide more confidence to end user consumers with banks.
They have done in my view some of the right things to get these banks recapitalize or take them over so.
Hopefully this banking turmoil will subside in the coming weeks or months.
If you will.
But again as we called out in the earnings release.
Are the script comments that we assumed that the turmoil in the banking industry effects, the second quarter, but does not worsen.
We believe we will return to more normalized environment over the course of the year, but we will have.
We will have to play it out from that standpoint, but.
So far in the month of April customer demand has been has been soft.
Okay got it and then just the last one from me and I'll jump back into queue. Just curious if you could expand on some of these new initiatives that you've implemented to drive sales.
Sure sure no.
And what you probably appreciate Jason for competitive reasons, I don't want to get into a lot of detail here, but.
Over the last week to 10 days that the teams have been meeting and they've come up with a number of ideas that I believe will be helpful to drive the topline.
Some demand in the marketplace and then also we're just closely like probably many companies arent right now just closely managing our expenses and making some decisions on some expenses that maybe can be pushed off to later in the year or.
2024, so it's a combination of those but again for competitive reasons I don't want to get into a lot of detail on how we're driving demand.
Okay totally understand.
That's it for me Thanks, a lot guys.
Thanks for joining Jason.
And your next question comes from Lyanne Hayden Dan Your line is open.
Yes, Hi, this is Ed Najarian and van Hayden at Es Hutton how are you.
Good how are you how are you guys doing this morning.
We're doing great. Thank you.
So two quick questions.
First on the senior secured notes could you give us some context about just on a couple of things number one how quickly you art.
Kind of contemplating paying that down over the next year or two.
And I guess secondarily on that what kind of purchase costs youre seen on on the senior secured notes relative to par.
Then.
The rate on it looks like the ABL revolver is sort of replacing some of that debt to some extent what are you getting some rate arbitrage there relative to the eight 6%.
On the secured notes that's.
That's the first question. Thanks.
Yes, let me I'll start.
Go ahead Amit.
Go ahead, Scott is going to start okay.
Hey.
Thanks for joining the call. Thank you for your question first I would say we.
We've been committing committed to deleveraging the balance sheet.
Both through growing our profitability and reducing using our cash flow to reduce our debt outstanding.
As we think about 'twenty three without getting into real specifics.
So far we've bought back $15 million of our debt.
Im going to call. It it's been a tad bit below a dollar or below par. So we think it's a good value a good thing for the shareholders to do that.
Where we think the leverage you'll end up in 2023 as we guided is somewhere between two five and three times, we closed Q1 at $2 nine X. So.
Broadly I would say, we continue to be committed to deleverage the balance sheet.
And inventory you want to speak about the rate between the senior notes in the revolver.
Yes, I mean, there is there is a little bit of a differential and.
Ill, let you guys kind of do the math by looking at our disclosures in terms of the rate that we've got on the ABL versus the senior notes, but there is a.
Positive rate differential between the two if we borrow on the ABL versus.
Having those balances still remain outstanding on the senior notes and as it relates to the repurchases.
We have been able to do those.
Repurchases below par.
And clearly as we kind of look forward at <unk>.
What we will do going forward here in the future. We've indicated that we do on our leverage ratio to be between two five and three by the time, we hit to the end of the year and clearly we'll look at what makes sense in terms of either repurchasing notes are utilizing cash flow or any other activities out there but.
We continue to have one of our key mantra is as it relates to our capital structure strategy deleveraging our balance sheet.
Okay, great. Thank you.
You are at two 9% or $2 nine on the leverage ratio now.
Don't want to I guess, maybe I'm trying a little bit putting words in your mouth would it be reasonable to think we could get to the lower end of that two two and a half to three range where at the end of the year.
Thank you.
If you at it.
It depends answer.
We gave a range.
Just so that we've got flexibility if you will again, we're committed to deleveraging the balance sheet, but as we think about the uses of our cash or capital we want to make sure we've got ample liquidity, but also.
Invest in the business, whether that's through Capex or working capital.
Things that will help us grow the business long term, we are actively looking at how do we deploy that cash. So it has the best return to our shareholders at the end of the day. So thats why there was a bit of a range. There just so that as we move through the year if theres opportunities.
We can take a hard look at those and make the best best decisions for our shareholders.
Right. Okay understood I appreciate that thank you and then just one more quick question I don't know if you may be willing to go here or not but in terms of the.
A bit of weakness I guess in the second quarter relative to <unk>.
Hope broader situation with regional banks.
Any ability to put any context or parameters around that from a.
No.
Revenue or a sales standpoint, or just to give us any kind of range of how to think about that magnitude.
Yes, Youre right I don't want to go there but.
But.
What I would tell you is that we've reaffirmed the full year outlook.
Q1 results are actuals now.
But our.
Color really has been around that we just expect.
Second quarter results.
To not be as strong as first quarter, just due to softening demand so again.
And part of that just depends upon how we progressed through the second quarter, the timing of orders and so forth. So again I want to get our.
Investors or potential investors really focused on the long term opportunities here, there's a lot of great secular trends that we spoke about with contactless cards.
Co cards clear.
Clearly cards will continue to grow in our opinion.
In our instant issuance card at once business SaaS based business, we've got by far the best solution in the marketplace. So over the long term I believe there's a lot of opportunities for us to grow and continue to gain.
<unk> share, possibly gain market share just as we have historically.
Okay great. Thank.
Thank you very much for taking our questions.
Thank you for dialing in and I appreciate the question.
Yes.
And with no further questions that concludes todays CPI card group first quarter earnings call. Thank you for joining.
Thanks, Thank you.
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