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Intersections (NASDAQ:INTX)

Q4 2012 Earnings Call

March 18, 2013 5:00 pm ET

Executives

Michael R. Stanfield - Chairman, Chief Executive Officer and Member of Executive Committee

John G. Scanlon - Chief Financial Officer and Executive Vice President

Analysts

Donald D. Destino - Harvest Capital Strategies LLC

Operator

Good afternoon, ladies and gentlemen, and welcome to Intersections Inc.'s Fourth Quarter and Full Year 2012 Earnings and Annual Business Update Call. [Operator Instructions] As a reminder, this call is being recorded for replay purposes.

During this call, Intersections will make certain projections and forward-looking statements, including, without limitation, statements relating to the company's future revenues and earnings, plans, strategies, objectives, expectations and intentions. These projections and forward-looking statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that such forward-looking statements are inherently subject to risks and uncertainties, many of which cannot be predicted with accuracy, and that actual results could differ materially from those results projected in these forward-looking statements.

For some of the factors that could cause actual results to differ materially, you should review the SEC filings at our corporate website at www.intersections.com. We do not intend to and do not undertake any obligation to update any forward-looking statements or projections we may make. The financial highlights and certain non-GAAP financial measures discussed during this call are also available in the press release Intersections distributed this afternoon, which is available currently on our website at www.intersections.com. In addition, the reconciliations of non-GAAP financial measures to the most directly comparable GAAP financial measures and related notes can be found in the GAAP/non-GAAP Measures link under the Investor & Media page on our website at www.intersections.com.

I will now introduce Michael Stanfield, Chairman and Chief Executive Officer of Intersections Inc. Mr. Stanfield, you may begin the call.

Michael R. Stanfield

Thank you. Good afternoon, and welcome to Intersections' annual business update call. Our agenda today is as follows: John Scanlon, our Chief Financial Officer, will review our fourth quarter and calendar 2012 financial performance. I will then provide a brief strategic update to our business and set high-level expectations for 2013, and we'll then have time for questions.

And with that, I'll turn it over to John.

John G. Scanlon

Thank you, Michael, and good afternoon, everyone. Today, we reported revenue of $349.2 million in 2012, a decrease of 6.4% from 2011. We also reported adjusted EBITDA of $58.7 million in 2012. Throughout this presentation, adjusted EBITDA refers to earnings before interest, taxes, depreciation and amortization prior to noncash share-based compensation, cash dividend equivalent payments to option and RSU holders and noncash asset impairment charges. 2012 adjusted EBITDA grew 12.7% from 2011 and represents a new calendar year record for Intersections. For 2012, our diluted earnings per share from continuing operations rose by 7.2% to $1.04 per share, also a new record. Our full year 2012 revenue of $349.2 million was on the high end of our most recent guidance provided last November and above the guidance we provided at the beginning of 2012. The $58.7 million for adjusted EBITDA exceeded our full year 2012 guidance.

Our Consumer Products and Services or CP&S segment, as usual, accounted for over 99% of our consolidated full year 2012 revenue and all of the earnings generated in 2012. Our 2 other business segments combined accounted for $3.1 million in revenue and a loss from operations of $2.1 million. The decrease in revenue for Intersections overall is largely attributable to the reduction in marketing and, to a lesser extent, selective subscriber cancellations by certain large financial institution clients in response to greater regulatory scrutiny surrounding their sales and marketing of so-called add-on products, including our identity theft production products, as well as greater regulatory scrutiny of their oversight of third-party suppliers, including us. This decrease in marketing from large financial institution clients was partially offset by revenue growth in our direct-to-consumer and nonbanking-endorsed clients, as well as better-than-planned retention of our subscriber base.

The increase in overall adjusted EBITDA in 2012 versus 2011 was driven primarily by reduced marketing costs, lower commission expense and lower costs of revenue due to lower sales and lower subscriber counts. This was partially offset by increased operating expenses due to an increase in our effective per-unit rates for some data sources and higher general and administrative or G&A expenses. Our consolidated G&A expenses were approximately $82 million in 2012 compared to $74.3 million in 2011, an increase of $7.6 million. This 10% year-over-year increase was driven primarily by higher legal and compliance costs as we respond to the still-changing regulatory environment, a lower proportion of our software development expenses being capitalized in 2012 compared to 2011 and higher compensation expense related to dividend equivalent payments to RSU and option holders, primarily due to the onetime special cash dividend paid to all shareholders in November of 2012.

We ended 2012 with 4.5 million subscribers compared to 4.9 million subscribers at the end of 2011. Of this year-end 2012 total, approximately 500,000 subscribers are currently not being billed for their subscriptions at the request of our financial institution clients. We expect the majority of this on-hold population will be canceled in the current year. Nonsubscriber customers decreased to 3.5 million at the end of 2012 from 4.5 million at the end of 2011. Nonsubscriber customers typically receive limited product benefits, often without a charge, and account for an insignificant portion of our overall revenue and earnings. The decrease is attributable to the cancellation of a converted portfolio of nonsubscriber customers originated by another service provider for which we receive insignificant revenue.

For the full year 2012, we added approximately 1.1 million new subscribers, including 181,000 in the fourth quarter of 2012, compared to 2.7 million new subscriber additions for the full year of 2011, which included a portfolio conversion of approximately 300,000 subscribers. In 2012, approximately 54% of our new subscribers were indirect compared to approximately 59% in 2011. For the fourth quarter of 2012, 26% of new subscribers were indirect, and the majority of new subscriber additions in the fourth quarter of 2012 came from direct-to-consumer and endorsed clients outside the top 10 U.S. banks.

We experienced improved retention rates in 2012 despite the previously mentioned selective cancellation of some subscribers by our financial institution clients. Our overall retention rate was 74.7% at the end of 2012, an increase from the 72.2% reported at the end of 2011. We calculate overall retention as the subscribers at the end of a 12-month period divided by the sum of the subscribers at the beginning of that 12-month period, plus additions in that 12-month period. The reduction in new subscriber additions, in part, accounts for this improved attrition statistic since, historically, our cancels have been the highest in the early stages of a subscriber service life.

Consolidated revenue for the fourth quarter of 2012 was $84.4 million, a decrease of 10.3% from the same quarter last year -- or in the prior year. We generated adjusted EBITDA of $11.3 million in the fourth quarter of 2012, virtually the same as reported in the fourth quarter of 2011. Our diluted earnings per share from continuing operations for the fourth quarter was $0.08 in 2012 compared to $0.22 in 2011.

We recorded impairment charges totaling $1.8 million in the fourth quarter of 2012. These impairment -- these charges represent system investments we made for a client who is no longer planning to use the new functionality previously requested as well as a write-down of our investment in a product feature supplier.

In 2012, we generated $48.9 million in cash flow provided by operating activities. We paid down $20 million on our revolving credit facility and ended the year with a strong balance sheet, with over $25 million in cash and short-term equivalents and a $30 million available -- in available borrowings under our credit agreement with Bank of America signed late last year, which now has a maturity date of November 2015. We currently continue to have no borrowings under this credit agreement.

In 2012, we returned over $24 million to shareholders through cash dividends and share repurchases. This includes approximately $9 million in the form of a onetime $0.50 per share special cash dividend paid in November of 2012 and approximately $14.3 million in ordinary quarterly dividend. Last November, we announced a share repurchase program, which resulted in the purchase of 50,000 shares at an average price of $9.22 in December of 2012. As previously announced, this buyback program will be active unless canceled through May of 2013, at which time we will consider whether to enter into a new program. We have purchased additional shares under this program in 2013. As of the end of 2012, we had approximately $19.3 million authorized by our board for future share repurchases. Based on our board's confidence in our continued cash generation capability, last Friday, we paid our 11th consecutive ordinary quarterly cash dividend. At $0.20 per share of common stock, this represents a dividend yield of 7.4% based on the closing price on Friday of $10.85 a share.

Now I will turn the call back over to Michael.

Michael R. Stanfield

Thank you, John. In the last 2 years, our company has produced record results on nearly every financial metric. John described just some of those accomplishments in 2012. Our solid results exemplify the resiliency, the monthly pay subscription model and the hard work of the team in Intersections. Since 2010, we have returned over $61 million to our shareholders through dividends and stock repurchases in recognition of our strong results.

Our products and services have been and continue to be designed to deliver value to customers. It has always been our goal to deliver benefits to help customers understand their credit and personal information and to use that understanding to protect themselves against identity theft. We have enabled financial institutions and other businesses to deliver valuable products to their customers while enhancing customer experience and loyalty.

During the past few years, however, there has been increased regulatory scrutiny of sales practices when so-called add-on products are marketed by financial institutions. As a result of this scrutiny of add-on sales practices, we have seen a significant contraction in the sales by financial institutions of various kinds of add-on products. In this regulatory environment, many major financial institutions either have stopped marketing add-on products or are marketing at significantly reduced levels. Whether these financial institutions will resume marketing of our products or increase their levels of marketing is not certain. Some financial institutions may wish to again market identity theft and credit information products in the future, while others may distribute them in a different way, such as embedding them in their core offerings.

As we have discussed for almost 2 years now, our marketing arrangements with large financial institutions have been moving to our indirect model, which entails lower per-subscriber revenue and lifetime subscriber value for Intersections but which may be well suited for the new norms of marketing and distribution in the financial institution environment. We believe our financial institution relationships and our unique knowledge of the banking world leaves us in a strong position to benefit if and when banks resume marketing or distributing these kinds of products. We're making the necessary investments to work with our financial institution partners to meet the new requirements and standards of our industry as they evolve.

Despite the changes taking place in the banking industry, identity, privacy, security and credit concerns of consumers continue to increase and now include the risky world of smartphones, tablets, mobile apps and the cloud. Accordingly, we continue to believe that consumer need for quality products in our industry remains high. For example, in 2012, identity theft was once again the #1 consumer complaint received by the FTC for the 13th consecutive year. According to Javelin Research's latest identity theft report, ID theft increased 11.6% in the latest year. We are seeing a continued need for good products that help consumers understand their information and privacy profiles and particularly strong interest among nonbank clients who offer those products. Faced with the changes in the banking environment, we must and are adjusting our marketing and distribution strategies to increase available marketing channels and to expand our reach in the direct-to-consumer marketplace.

We are reformulating our industry-leading identity theft and information services for high-growth nonbanking verticals. This includes Internet service providers, wireless carriers, insurance providers, national retailers, home security companies and smaller financial institutions. We expect less customization with these types of clients, creating greater efficiency, faster product development and higher marginal sales. As a part of this effort, we are pursuing new or enhanced privacy and security products and services that will help consumers contend with the rapid changes in technology, social media activity and web behavior.

We plan to grow our IDENTITY GUARD brand at an accelerated pace with new product extensions and an increased but well-targeted marketing investment. Direct-to-consumer marketing continues to increase in the current environment, and we look forward to capturing a greater share of this market with our quality products.

As we refocus our identity and credit business to meet the changing regulatory world, we continue to make investments in diversified businesses unrelated to our traditional identity theft services. Our Online Brand Protection and Bail Bonds segments are examples of these investments, and we believe both of these businesses will develop into profit contributors over the next 2 years. In addition, we are currently incubating another recurring revenue, technology and data-driven service unrelated to identity theft that we hope to bring to market by the end of the year and which we anticipate has potential to become a large and rapidly growing business line if successful. We plan to disclose more about this business later in the year.

Despite the recent changes in the financial institution marketplace, we have entered 2013 confident that we have developed the plans, products and future growth initiatives needed to reenergize our success. We expect 2013 to be another strong year for cash generation, although reduced compared to 2012. We currently expect to use a portion of this cash to continue paying quarterly dividends of $0.20 per share for the foreseeable future as well as to invest in the strategy just described. Of course, actual dividend declarations will be subject to board approval and will depend on, among other things, our operating results, capital requirements and other relevant factors.

Subject to these substantial uncertainties, we can offer the following guidance based on our current forecast: we anticipate revenue will be 10% to 15% lower in 2013 as compared to 2012, and adjusted EBITDA will be between 40% and 50% lower in 2013 as compared to 2012. The primary factors driving these numbers in 2013 as compared to 2012 are expected to be the following: a decrease in revenues and earnings from business with large financial institutions; an increase of about $4 million in marketing expense in our Consumer Direct business; and a loss from operations of approximately $10 million from the investments to develop the new and diversified businesses discussed earlier and to continue product development in the identity and security arena.

As I have explained, these forecasts constitute forward-looking statements within the meaning of the Federal Securities laws and are subject to substantial uncertainties, including: changes in our financial institution business or the regulatory environment; adjustments to our investments in our Consumer Direct and new businesses as we evaluate their progress and prospects; and the factors and risks disclosed in our SEC filings.

This clearly has been and will continue to be a time of transition for our company. We have confidence we'll make a successful transition and are excited about the opportunities ahead for us. We believe we're making good progress, but as with most successful business transitions, ours will take time. We have always managed our business for the long run and have not sacrificed long-term value creation for short-term earnings. We believe it is vital for us to manage our business to be in the best position when our financial institution partners start expanding their marketing of third-party products, including ours. We have and will continue to reduce G&A and operational costs where appropriate. But in 2013, much of the dollars reduced in the core banking business has shifted to support the new growth initiatives and to continue to support our first-class regulatory and compliance infrastructure.

As we have done over and over again, we're using creativity, infrastructure and knowledge to continue to grow the business and drive greater shareholder value.

With that, I would like to thank you. And operator, we'll open it to questions.

Question-and-Answer Session

Operator

[Operator Instructions] And it looks like our first question comes from the line of Kevin Hanrahan [ph] with KMH Capital Advisors.

Unknown Analyst

Can you -- I know you said it on the call, but you said it fast and I didn't catch it. How much is authorized in the buyback? I guess, both in the full buyback and in the buyback that you announced -- the $3 million that you announced in November of last year?

John G. Scanlon

So the buyback from -- that we announced in November is just $3 million total. And what we disclosed today is that, in December, we purchased 50,000 shares at $9.22. So you can piece the math together there. Overall, our board authorization for buybacks as of the end of last year was at $19.3 million.

Operator

[Operator Instructions] Up next, we have Don Destino with Harvest Capital.

Donald D. Destino - Harvest Capital Strategies LLC

I understand that the financial institutions business seems to be in decline, and maybe it will rebound some day, and that the kind of direct-to-consumer is something you want to grow. Can you just kind of talk a little bit about -- I appreciate the higher investment in 2013, but it seems like a fraction of at least the other identity theft protection company that I know of, the other public one. And they're spending, I don't know, $130 million, $140 million a year. Is that -- is it reasonable to think that you can compete with that kind of a marketing budget?

Michael R. Stanfield

Let me answer the question as follows. First of all, historically, our IDENTITY GUARD product has been, in many ways, second fiddle to the banking business inside our company for reasons of profitability, volume available from the large institutions and also a desire not to compete too much with our financial institution partners. So we are going through what I would consider a transition of what IDENTITY GUARD will be doing in the future. We will be adjusting some of our IDENTITY GUARD products, and we will be expanding our marketing substantially over time. Our current budget for this year has a modest increase, as we're starting to put our toe into some new areas of media and marketing. It is possible that, that number could expand later in the year, or it may be early next year before that number comes -- becomes substantial. But your point that $18 million compared to $130 million is a small amount is absolutely true. And certainly, if we're going to be a competitor in that market, that number will have to grow. It's a question of when that number will start to grow.

Operator

[Operator Instructions] All right, ladies and gentlemen, that will conclude the Q&A portion of our event. I would now like to turn the presentation back over to Mr. Stanfield for closing remarks.

Michael R. Stanfield

Okay. Well, we simply would like to thank you for joining us, and we look forward to reporting down the road as we progress on our plans to move our company in some slightly different directions. Thank you very much.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a wonderful day.

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