Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

MasterCard Incorporated (NYSE:MA)

Q2 2013 Earnings Conference Call

July 31, 2013 09:00 ET

Executives

Barbara Gasper - Head of Investor Relations

Ajay Banga - President and Chief Executive Officer

Martina Hund-Mejean - Chief Financial Officer

Noah Hanft - Chief Franchise Integrity Officer, General Counsel and Secretary

Analysts

Craig Maurer - CLSA

Jason Kupferberg – Jefferies

Moshe Orenbuch - Credit Suisse

Darrin Peller - Barclays

Smittipon Srethapramote - Morgan Stanley

Chris Brendler – Stifel

Glenn Fodor - Autonomous Research

Bryan Keane - Deutsche Bank

Julio Quinteros - Goldman Sachs

Rod Bourgeois - Sanford C. Bernstein

Bill Carcache - Nomura Securities

David Hochstim - Buckingham Research

Tom McCrohan - Janney Montgomery Scott

Tien-tsin Huang - JP Morgan

Operator

Welcome to the MasterCard’s Second Quarter 2013 Earnings Conference Call. My name is Glenn and I’ll be your operator today. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note that this conference is being recorded.

I would now like to turn the call over to Ms. Barbara Gasper, Head of Investor Relations. Ms. Gasper, you may begin.

Barbara Gasper

Thank you, Glenn. Good morning, everyone, and thank you for joining us for a discussion about our second quarter 2013 financial results. With me on the call this morning are Ajay Banga, our President and Chief Executive Officer; and Martina Hund-Mejean, our Chief Financial Officer. Following comments from Ajay and Martina, the operator will announce your opportunity to get into the queue for the Q&A session. Until then, no one is actually registered to ask a question.

This morning’s earnings release and the slide deck that will be referenced on this call can be found in the Investor Relations section of our website, mastercard.com. Both the earnings release and the slide deck include reconciliations of any non-GAAP measures to their GAAP equivalents. All of these documents have also been attached to an 8-K that we filed with the SEC earlier this morning. A replay of this call will be posted on our website for one week through August 7.

Finally, as set forth in more detail in today’s earnings release, I need to remind everyone that today’s call may include some forward-looking statements about MasterCard’s future performance. Actual performance could differ materially from what is suggested by our comments today. Information about the factors that could affect future performance are summarized at the end of our press release, as well as contained in our recent SEC filing.

With that, I will now turn the call over to our CEO, Ajay Banga. Ajay?

Ajay Banga

Good morning, everybody. We are very pleased to report EPS growth of 23% for the second quarter. Our net revenue growth of 15%, operating expenses grew 5%, and we continued to execute on our global strategy and navigate through what we all know is a somewhat uncertain economic environment.

So, let’s take a look first of the U.S. consumer spending was up last quarter. Retail sales growth was better than expected. Housing indicators continued to show signs of recovery. Our spending pulse data for the second quarter showed a growth in U.S. retail sales ex-auto was 4%, that is over the same quarter of the prior year, and that is up from 2.6% as the same number for the first quarter. So, contributing to the growth was a steady improvement in consumer confidence and some stabilization in the employment levels in the country. Our own U.S. business reflected these improving trends with 6% volume growth, up from last quarter’s 4% growth.

Moving on to Europe, the environment is somewhat similar to what we saw. Over the last several quarters, there are a few upbeat notes there. Economic trends were similar for the UK and for parts of Continental Europe. During the second quarter, consumer confidence increased there. Business sentiment was a little weak in the second quarter there. Although recent PMI studies indicate that business sentiment now may also be turning up. In spite of those mixed economic signals, we are still seeing opportunities to expand our business and take advantage of that secular shift from cash through electronic and that shows up in our solid second quarter volume growth of 14% in Europe.

In the Asia, consumer spending in the second quarter was on the rise. In the majority of markets, consumer confidence levels are doing well across the regions with key markets like Korea and Japan being marked improvements. Business sentiment across the region is mixed and that's kind of due to the lingering concerns about the effects of the sluggish Chinese and European markets may have on the broader Asian export dependent economy. Our business in the region however continues to do well. We had volume growth of 21% in Asia.

Latin America, consumer confidence in both Brazil and Mexico is somewhat challenged for all the reasons you read about and expectation for GPD growth in Mexico have recently been lowered. But we are still growing our volume in Latin America at almost 17% but clearly we are watching the wider economic trend there very carefully. So before we go over to some recent business highlights, I thought I'd spend a minute on the legal and regulatory front and particularly with regard to the U.S. Merchant litigation, the merchant opt-out period ended in late May and as most of you already know about 8000 merchants decided to opt-out of the cash settlement. The represents just marginally over 25% of the total purchase volume over the settlement's time frame.

The defendants as a group have the right to terminate the settlement agreement because the volume threshold of 25% was exceeded, but elected not to do so. We expect most of the larger merchants who opted-out will file separate actions to recover damages and many of them have already started to do so. The final approval hearing is scheduled to begin on September the 12th. We remain confident that the settlement will be approved. We are also pleased that the Canadian Competition Tribunal recently upheld our no surcharge Honour-All-Cards and No-Discrimination rules in Canada.

And in Europe, I know that Javier and Noah were on a call with most of you last Thursday to discuss the EC's proposed legislation.

So I'm going to spend less time on that, but I do want to offer a couple of thoughts that I have in my mind on the topic. We partner with governments around the world in many areas related to electronic payments but there will be times when the interest of some of our stake holders require us to raise concerns of our proposed action, this is one of those times. We support the European Commission’s gold of a secure, efficient, competitive innovative European payments industry. We believe that they have made a good start towards recognizing the importance of a level playing field. It also appears that there is actually potential to further open up and get competition in place for domestic processing.

However we remain concerned that some of the proposed legislation could have unintended consequences of hindering competition, and innovation, and we remain concerned that it could be harmful to consumers and small merchants in Europe. And so in the upcoming debate as this legislation, the proposed legislation winds its way through the process, we are going to engage all participants in the process. We will try and ensure the best possible outcome in the best possible way.

Finally I want to reiterate Javier’s confidence that our model, our business model will adapt as necessary to allow us to compete effectively and continue to provide innovative payment products and services that our customers want to offer, consumers want to use, merchants want to accept and that's where we are focused on.

So moving from there on to some recent business activity. You will get a chance to see a lot of things that are invested in September. So I’m going to focus our progress here around a few key themes and keep in short.

During the quarter we continued to sign new agreements, supporting the expansion of our credit and debit business that's the first theme including the following examples. In Europe, Danske Bank, the largest bank in Denmark will be issuing MasterCard consumer debit, credit, and commercial cards in 10 countries. And together with what we did with Fred (ph) Bank, Nordea as our wins (ph) there, we expect to grow our total market share by 50% in the Nordic and Baltic region over the next five years.

In Korea we have two new debit card wins to help lock in our debit market leadership position. First is the (inaudible) Card the recent spin-off of the card division of one of Korea's largest retail banks and they are now issuing platinum debit cards with us. We also recently signed an agreement with Hana SK that will further increase our dominant share of their debit portfolio. In the U.S., we continued to aggressively pursue all opportunities in the consumer credit and co-brand space as they arise. We’re pretty confident and are showing regular progress as and when they come up and we can announce them.

Moving to cross-border, which as you know is an important part of our business that's the second theme. Let me give you a flavor of some of our new travel and affluent (ph) programs around the world. In the UK our access prepaid business recently launched four new multi-currency cash passport programs, all of which are available online. One example is British Airways launching their Executive Club Cash Passport card, which is capable of having up to seven currencies loaded on the card.

South Africa, (inaudible) bank in South Africa launched the country’s first re-loadable prepaid travel multi-currency card. This allows for four currencies to be loaded on to the card. And one of the largest financial institutions in the Middle East, the Riyad Bank in Saudi Arabia just launched a gold-plated World Elite card for their private banking client, and these benefits include everything from unlimited lounge access at our cross-border rewards program and the like.

So, the third theme, leading the transition to digital payments, we are focused on creating better shopping experiences for the consumer, more value for the merchant. And then I will give you a couple of examples. First, MasterPass Digital Wallet, that rollout has now expanded to four countries. Canada launched the past quarter. The UK is launching as you read in the media as we speak. With the addition of web.com, that’s a provider of internet services for small businesses in the U.S. and Canada, this wallet is now accepted at more than 20,000 merchants globally. In Singapore with the addition of SingTel’s recent launch of their mCASH program, all three telcos in Singapore, SingTel, StarHub, and M1 now have wallets MasterCard as the only open loop payment card option.

Last theme, IPS, or issuer processing platform for debit, ATM, and prepaid. As you know, IPS enables our consumers and our customers rather to decrease their reliance on their legacy systems, increase their ability to drive innovation, get to market quicker reduces some of that cost of complying with some of the increasingly complex regulatory requirements. In the U.S., e-bank (inaudible) and USAA, all recently completed conversions for IPS. Wells Fargo is completing a conversion later this year for a commercial prepaid offering. IPS also part of the access prepaid, which is our prepaid program manager to support global travel programs, such as the Qantas multi-currency card, which I have talked about last quarter.

So, just to give you a headline on this, in the last couple of years, we have increased our IPS customer base from 5 to 16. We are now in 23 countries and 17 languages. We can scale and we will scale and we will expand the platform. So, now let me turn the call over to Martina for a detailed update on our financial results and operational metrics. Martina?

Martina Hund-Mejean

Thanks, Ajay, and good morning everyone. Let me begin on page three of our slide deck, where you can see this quarter the as reported as well as the FX adjusted growth rate by essentially the same.

As Ajay said, we are very pleased with our performance this quarter given the continued slow growth economic environment. Net revenue growth of 15% combines with operating expense growth of 5% supported our net income growth of 19%. And EPS growth of 23% also benefited from our share repurchase programs. Cash flow from operations was $742 million, and we ended the quarter with cash, cash equivalents, and other liquid investments of about $5.1 billion. During the quarter, we repurchased almost 1.1 million shares of Class A common stock at a cost of approximately $580 million. Through July 25, we repurchased almost 300,000 shares at a cost of $174 million, and we now have $1.1 billion remaining under the current Board authorization. You will continue to look to repurchase shares on an opportunistic basis.

So, let me turn to page four, and here you can see the operational metrics for the second quarter. Our worldwide gross dollar volume, or GDV, was up 13% on a local currency basis to just over $1 trillion. U.S. GDV grew 6% with credit volumes growing 3%. And U.S. commercial credit growth was in the low teens similar to last quarter. U.S. consumer credit growth was slightly positive also an improvement from last quarter. Our U.S. debit growth was 9% driven by higher growth across all of our consumer and commercial debit as well as prepaid programs. And outside of the U.S., volume growth was 17% on a local currency basis. This continues to be driven by APMEA with more than 20% growth and solid 14% and 17% growth in Europe and LAC respectively. First quarter volume grew 17% on a local currency basis including more than 20% in LAC and APMEA and growth in the high-teens in Europe.

So turning to page five, process transactions grew over 11% globally. In the U.S. Retail growth of 5% which was lower than last quarter as we anniversary our pin debit processing wins. As you know, we are managing pin debit transactions to optimize our revenue and our transaction level has remained about the same over the past several quarters. Outside the U.S. process transactions grew 20%. We saw increased growth in all regions but particular strength in Brazil, Russia, Australia, Netherlands and South Africa. Globally the number of cards grew 8% to 1.9 billion MasterCard and Maestro-branded cards.

Let me now turn to page six with some insights on our revenue. Within our net revenue growth of 15%, gross revenue grew 12% in-line with volume and transaction drivers as well as some pricing. Rebates and incentives only increased by 2%. As you know the rebates and incentive line can move around on a quarter-to-quarter basis depending on the timing of deals.

Specifically in the second quarter, we had two factors that contributed to this relatively low growth rate. First, some contracts were not yet signed by quarter close and second we had some lumpiness due to the performance of a few contracts. Overall these factors represented about 2.5 percentage points of our total 15% net revenue growth.

Similar to the prior quarter, growth in domestic assessment was again driven by strong growth outside of the U.S. which comes at a lower yield. And the gap between the growth in first quarter volume and revenue continued to be due a higher mix of intra-Europe activity excluding the impact of pricing.

So let's look at the components of total operating expenses which you see on page seven. The increase in G&A expense was primarily driven by the impacts of higher compensation costs as a result of the increase in the number of employees compared to the same last year, to the same time last year to support our growth initiatives.

The slight increase in advertising and marketing expense was mainly due to the impact of new and renewed sponsorships.

Turning to slide eight, let's discuss what we have seen for the third quarter through July 28.

Globally our cross-border volume grew about 15%, so that's just slightly below of what we saw in the second quarter. And this was primarily driven by slower growth outside the U.S. due to the timing of Ramadan.

In the U.S., our processed volume grew 9%, up from our second quarter growth due to improvements in both credit and debit. Process volume growth outside of the U.S. grew 16% that's about equal to what we saw in the second quarter. And in particular our European process volume growth was in the mid-teens very similar to what we saw in the second quarter.

Globally process transaction growth was 14% to up from the 11% that we saw in the second quarter driven by higher growth in the U.S. for both credit and debit. Looking forward let me start with our long term performance objectives which have not changed. We remain confident that our business can deliver an 11% to 14% net revenue CAGR and at least 20% EPS CAGR over the 2013 to 2015 period and these growth rates are on a constant currency basis and they exclude any new acquisitions. We also remain committed to our annual operating margin target of at least 50%. However, assuming that the economic environment remains similar to where it is today, we now expect that net revenue and EPS growth in the early part of this three year period will likely be at the low-end of our stated ranges for net revenue growth and EPS growth and that is slightly better than we previously anticipated.

Now, I would like to share with you a few specific thoughts about 2013. So, given our stronger than expected second quarter net revenue growth and what we see for rebates and incentives for the balance of the year, we now believe that second half net revenue growth will be similar to what we saw in the first half. We continued to anticipate total 2013 operating expenses to grow a bit below the 8% currency adjusted growth rate that we saw in 2012 as we continued to spend on the right things to support our growth initiatives while keeping an eye on more discretionary spending.

We also continue to foresee some operating margin expansion in 2013. The amount of any improvement as you know will depend on both top line growth and the investment opportunities that may surface during the year. And for your modeling purposes, we now think that you could see a full year tax rate of about 31%. With respect to FX, if rates remain the same as they are today, so that is the euro continues to trade at the 133 level and the Brazilian real at the 226 level for the rest of the year. The impact of the euro and the real will essentially offset each other for full year 2013.

So, now let me turn the call back to Barbara to begin the Q&A session. Barbara?

Barbara Gasper

Thanks Martina. We are now ready to begin the Q&A period. In order to get to as many people as possible, we ask that you limit yourself to a single question and then queue back in for additional questions. Operator?

Question-and-Answer Session

Operator

Thank you. We'll now being the question-and-answer session. (Operator Instructions) Our first question comes from Craig Maurer from CLSA. You may go ahead.

Craig Maurer - CLSA

Yes, good morning. I wanted to ask a follow-up to the European discussion, in terms of EU assessment revenue, what percentage of that is earned on a per volume – on a volume basis versus a card licensing basis as it would seem that there might be some rules preventing you from assessing on transactions where your scheme was not used to process even though your brand was present?

Martina Hund-Mejean

Hey, Craig, it’s Martina. I think I will take that question. So, first of all, what I presume that you are actually asking about Article A8 on co-batching and the EC proposed legislation right. So, no look, we obviously know the number when you just strictly look at volume based assessment fees that we earned in Europe on domestic transactions that we do not process. And by the way, it’s not material to our overall MasterCard numbers. But I am a little bit reluctant to put out this number here at this point in time and really for a couple of reasons. One, this is one of the sections of the proposal where the language is actually unclear. And second, there are number of puts and takes in the entire legislation, which makes it clearly difficult for us at this point to estimate what part of this revenue figure might actually be subject to this potential provision. It all is basically wrapped out in terms for us being difficult to understand the intent of this co-batching provision.

So, imagine, when an issuer elect to put our brand on a card they must have a reason for doing so, presumably because their consumer recognizes and values our brand and therefore uses his or her card with the MasterCard brand on it. That brings value to our stakeholders in the system. Of course, we are not going to provide our brand for free. And we don’t believe that, that could be the intention of the EC. On the other hand, there are also some other provisions in the proposal, which could as you know allow for more competition in domestic processing, which we would certainly welcome. So, why don't we get more clarification from the EC, we think that we still have quite a bit of work to do given our hands around the provision and how that could impact us if at all.

Operator

Our next question comes from Sanjay Sakhrani from KBW. You may go ahead.

Sanjay Sakhrani - KBW

Thank you. I guess I had a question about the rebates and incentives volume. It looks like there was some kind of restatement as well; it was about $21 million or so for last year's number. I was wondering if Martina you can just talk about that a little bit. And then just as far as your, the assumption going forward on rebate, should we expect that those levels remain fairly low consistent with the second quarter? Thanks.

Martina Hund-Mejean

Sanjay, so let me take the first one which is really a reclassification. So we had some of our advisor services both reflected in the growth revenue line and in the contra (ph) line all we did is we collapse them in the growth revenue line.

So from a net revenue point of view there is absolutely no difference and all we did is the, reclass the number to 2012 so that as the accounting change came in on January of 2013, you were looking at apples-to-apples, okay? So that's on the reclass.

In terms of the rebates and incentives, what you saw in Q2 was really a much lower growth rate on a rebates and incentives than we would normally see. All right and I said there are two factors. One is, we didn't get to sign all of the contracts that we thought we would sign by the end of the quarter, and those contracts will be showing up either in the third quarter or in the fourth quarter, so you cannot assume this level of rebates and incentives going forward. It will go back to our, what you normally see the lumpiness; this is a little bit more lumpy of course in the second quarter than we normally have. And then secondly I think I did explain that we had a couple of performances on the number of contracts where we paid out lower incentives than otherwise anticipated.

So do not take this increase in rebates and incentives for Q2 and apply it for the rest of the year you really need to go back to my comments where I said that net revenues for the second half of the year will probably come in similar to what we saw in the first half of the year and that's baked in our assumptions in rebates and incentives.

Operator

Our next question comes from Jason Kupferberg from Jefferies. You may go ahead.

Jason Kupferberg – Jefferies

Thanks guys, so just wanted to ask on the revenue side of things. It looked like both the purchase volume yields on domestic assessment as well as the revenue per process transaction or I should say the TP revs (ph) or process transaction were both down year-over-year I think on the purchase volume yields and the domestic assessments it was the lowest we have seen in a while and on the transaction processing revs for process transaction it was down year-over-year in Q2, I think almost as much as in Q1 despite the Durbin routing dynamics anniversary and can you just comment on those metrics if there were anomalies in those numbers or how we might think about them for the second half?

Martina Hund-Mejean

Yeah Jason first of all this trend we have now for a number of quarters. First of all let's talk about the domestic assessment right? What we have, we have particular growth coming in terms of jurisdictions outside of the United States often enough we have to obviously compete with what's going on from a domestic pricing point of view. So where we have the growth they do come at a lower yield, that’s number one.

Number two; you also see when you look at our statistics that we put out that we have a relatively larger growth on cash transactions in those jurisdictions versus the U.S. transactions and those two impact the yields too. So by the way this is nothing different, as we are going to grow in those kinds of jurisdictions and really expand our business outside of the United States even more, you will see these trends continuing.

From a transaction point of view, I think I said something as part of the transaction volume that we're seeing, we saw particular growth in Brazil, in Russia, in actually Poland, Netherlands, some Australia and those actually do drive also that differential between what you see on transaction growth versus what you see from a transaction yield point of view. Again nothing different than what we had before.

Ajay Banga

Just think about all the, what will add to that first part of the question. Think about things like we are doing in Nigeria and South Africa with social security payments, what tends to happen is the consumer who gets an electronic card for the first time tends to in beginning go even more for cash than the average consumer in our portfolio. So, if we keep doing this well and we keep trying to intervene in the cash flow between governments and consumers, which is a large part of where the cash comes from, you will first find them growing the cash, then all the efforts taken around what we call the five-step program to take people from using cash at an ATM to eventually going more and more to delivering at a point of sales and that five step program takes certain number of years and a certain set of events to happen. So, we are going to speed this build and develop. I mean, that’s an important part of the nature of what we are trying to provide.

Jason Kupferberg - Jefferies

Alright. So, it’s the mix shift during the transition. Okay, thanks.

Ajay Banga

Yes, absolutely. And you know Jason starting the transition that will happen in a year or two, this thing as you can imagine with 85% of the world’s transaction in cash, so the whole game to be played out here. So, you are going to get this mix of cash and POS and then in some countries, the POS picks up and others cash remains strong and it takes certain time for that mix to go the right way.

Jason Kupferberg - Jefferies

Okay, understood. Thank you.

Ajay Banga

You’re welcome.

Operator

Our next question comes from Moshe Orenbuch from Credit Suisse. You may go ahead.

Moshe Orenbuch - Credit Suisse

Great, thanks. I guess, as we sort of kind of discussed on previous calls, U.S. credit you had said was slightly positive and slightly better than the first quarter, but obviously the first quarter was a weak quarter because of the comparison. And it seems like it kind of accelerated somewhat less even then kind of what you had cited as overall retail spending and as your debit spending. We have seen a little bit of success in what you have done with Bank of America on the credit side. Anything else that you can kind of point to in terms of strategies and tactics, and can you also give us an update on the American Airlines contract?

Ajay Banga

So, no update on American Airlines, because it ain't anywhere what I can tell you anything about it, and if I knew anything you can appreciate, I wouldn’t tell you and recall like this. So, that one won’t happen. We are in negotiations with them as is everybody else. So, there is a lot going on there, but we are all in negotiation. The first part, nothing has changed, we know that U.S. consumer credit is what we have to work on. We have got a series of things that we’ve been doing over the last period of time to try and improve the trajectory of our U.S. consumer credit spend growth. Some of it is caused by deals we are winning whether it be all the things we have announced over time, we have talked to with Bank of America doing things with us.

So, there is a series of other deals from Maestro and Intercontinental Hotel Group through other banks like KeyBank and stuff we have done with Huntington and SunTrust and all that, that’s going on. For all those things, they have certain time to begin accumulating in the book just as lawsuit take a certain time to reflect in the book as you know in the past. So, we are kind of working of ways to it. There is number of opportunities around co-branding. There is number of opportunities around things like we are doing with Bank of America, where it’s not a wholesale cliff, but it’s the opportunity to work together in specific areas as we are working with. Some of those deals couldn’t get announced, because they weren’t signed. Some of those got signed. And so that’s one of the lumpiness in our numbers in Q2. So, stuffs going on and we will have ups and downs as we go along, but we have got a pretty clear pathway through working on both co-brand and the effort to win business with banks that are currently higher market share with other competitors. That’s the work. The third aspect is that the nature of our book and its performance depends a little bit on the nature of our customers' book and their performance. And as the banking industry more and more of the banking industry comes back to a normal deal on the credit book as the economy improves. I think these are the net beneficiary of that as well. I don’t think that showed up adequately as yet in our book. So, we’ve got to get these three things going on.

Moshe Orenbuch - Credit Suisse

Great, thanks so much.

Operator

Our next question comes from Darrin Peller from Barclays. You may go ahead.

Darrin Peller - Barclays

Thank guys. You beat across number of matters clearly in the quarter, including incentives and also your cross-border yield came pretty strong. When you are seeing that raised expectations obviously versus the low end of – or to the low end of your range versus obviously the early years being below that previously. Can you just give us a sense specifically which metrics are coming in now better than you initially anticipated at the beginning of the year to drive that? And then maybe more specifically on cross-border second part of the question, the volume growth of 17% versus revenues of 20%, how much of that is actually pricing versus mix, just because we want to, especially since we have seen volume growth exceeding revenue growth over the lot several quarters? Thanks a lot.

Martina Hund-Mejean

So, Darren, on the metrics, first of all, what we are seeing is that from a domestic volume point of view, we see improvements in a number of regions versus what we have seen before. To see what's going on in the U.S even though we would still think this is a pretty slow growth environment it is feeling a little bit better than earlier this year and certainly than late last year. Look at all of the price that is coming out of Europe, it's starting to feel better. In fact all of our European countries grew except for Spain, Spain there is a little bit of an issue but if you read the recent articles, it seems like that even that country starts to feel a little bit better going forward.

So I think we’re just seeing a little bit of more robust that's coming in than what we assumed before. In terms of your question on the cross-border volume versus the revenue side, what you really have to contrast is our cross-border volumes grew 17%. And you saw that our revenues grew 19%. Really what we have in there is we have this quarter the U.S. Acquirer Support fee coming in, that's the first quarter that is coming in, it will be with us for another three quarters that reflects about 8 percentage points of that 19%. So if you take that out, if you compare 11% revenue growth to the 17% volume and that difference, that 6 percentage points difference is exactly what we have before in all of our prior quarters in terms of what's happening from the intra-Europe mix on cross-border versus inter-Europe mix.

Remember intra-Europe mix comes at a lower yield than inter and so that's, again nothing new continuing trend and that's what we're seeing.

Ajay Banga

So the only thing I'd add to that Darrin is that remember I have been saying for a while that I expected the second half in the U.S. to be better than the first half. I have said that now for three quarters, and I still believe that. The difference is the second quarter came in better in U.S. spending than we thought it would when we first made that statement. So what's happening is a little bit of that improvement that we thought we get in the U.S in the second half feels like its come a couple of months before what we had already factored in for our thinking when we spoke to you about our estimates of how this year would go some time back.

So that a little extra is what you're seeing us show up in the second quarter results, one other thing that's driving it. There is a lot of others, there is cross-border, there is stuff in other countries and all that but the U.S. is at the end of the day 40% of our revenue give or take and so that number still drives a change in what we think. And that's kind of an important part of the context.

Operator

Our next question comes from Smittipon Srethapramote from Morgan Stanley. You may go ahead.

Smittipon Srethapramote - Morgan Stanley

I was wondering if you can give us an update on what you expect to see happen in China, our understanding was that the government over there was supposed to respond to the WTO by actually today?

Ajay Banga

Yeah, so I think the way they are looking at it; my sense is that they are supposed to clarify certain things but their actual policy I think they believe they still have a month or two to respond in. So we’re kind of waiting for that to come out there, periodically talking to us as well as other players and clarifying that they have certain thoughts on how to open up. But in in truth we don't have enough of a picture to be able to give you a better answer. Just we're there talking to them all the time and they're working their way through their thoughts.

Meanwhile life carries on. There is the normal issuance of co-brand cards going on and as I've been telling you we've been winning most of those deals, we're still in that same position. We've just got a couple of approvals for co-branded cards there we've issued those; work has started on those you have had the deal Alibaba, that's kind of moving in the direction. We wanted it to go, we have had that whole report about one cross-border e-commerce kind of player who used to do clearing in Renminbi in Hong Kong which the PDOC itself was not quite within what they want to do going forward that one has held up. But everything else is carrying on, so China is going along where it is today but everybody is waiting for the new policy.

Martina Hund-Mejean

Operator next question please.

Operator

Our next question comes from Chris Brendler from Stifel. You may go ahead.

Chris Brendler – Stifel

Can you talk about, I know we have hit this a lot on process transaction growth and transaction growth but the numbers in Europe particularly look really strong especially on a core basis accelerating sequentially, is that macro or are you still seeing the benefit of deals like the Netherlands and Italy and are there new deals that you potentially are signing in Europe, just the European transaction and core numbers look very strong. And just one additional question if I could, I just see a Bloomberg headline about a judge rejecting the debit fee regulations in the fed any color there would be helpful? Thanks.

Ajay Banga

So, the Bloomberg headlines just talking to you, so we don’t have access to Bloomberg so I have no idea what the one is about. Noah, do you know anything about it?

Noah Hanft

Don’t know about it. I separate calculation. The Europe one of the best way to answer is both. You are getting some improvement in macro, but we continue as we can tell you in our conversation, we have continued to win deals and then share both with institutions in Europe, but also remember we are continuing to get some transactions out of different places as the step of migration allows us to win some domestic processing across the country, across the countries in Europe. Martina?

Martina Hund-Mejean

Yes, let me just add something to that Chris, because actually mentioned the last Thursday’s conference call that we process well below 50% of the POS transactions done on our cards in the EEA. And actually when we put all the numbers properly together and it's actually just below 40%, and by the way if you include both POS and cash transactions, we only process about 25% of the transactions done on our cards. And so that’s why we are saying there is just absolutely plenty of opportunities for us to compete in domestic processing be standard over the last 4 or 5 years since I came in. And hopefully with some of the changes in the regulation, we might be able to do even more there.

Chris Brendler - Stifel

Ajay, can I just ask more quickly your thoughts on whether or not the regulation in Europe would slow the progress on MasterCard’s ability to gain processing share or somehow increase it or is it at the same?

Ajay Banga

So, what Martina was saying just that would indicate that I don’t believe it’s going to slow it down, and that’s kind of where we both are. We have kind of as you can imagine we have had a fair series of discussions in the company around this. The fact is that until everything becomes really clear, until it goes through the next, it could take a year, it could take two years for this to become really implemented. So, I don’t know how to answer that any better, because that just to be the European legislative process will work. In the meantime, they are carrying on building domestic processing business, because there is so much space for us to win. We were a very small portion of domestic processing till a few years ago.

Chris Brendler - Stifel

Thank you.

Ajay Banga

Thanks a lot.

Operator

Our next question comes from Glenn Fodor from Autonomous Research. You may go ahead.

Glenn Fodor - Autonomous Research

Hi, good morning. Thanks for taking my question. Just wanted to dig into your financial goals just a little bit, I mean you made it very clear you are aggressively focusing on energizing the U.S. credit portfolio, but that takes time investment and obviously intensive, so can you just give us sense of how much improvement here such as new customer wins and such you have baked into these three-year financial goals?

Martina Hund-Mejean

Look, Glenn, you just have to go back to what we have put up at the last Investor Day. This is just one chart, which clearly shows you the three drivers of our growth, right. One is TCE growth, right, and we assume 4% to 5% per year on average over long-term. The second one is the secular growth, which is basically the conversion from cash to check to electronic forms of payment that's 4% to 6% per annum roughly over longer term. And then in addition to that, you saw over 2, 3, 4 percentage points on top of it in terms of strategic investments. And strategic investments actually includes a number of things, it includes things that we are doing in the digital space. It includes things that we might be doing from a market share point of view. Those are all of the things that we have baked in and that’s out there and we haven’t changed our view on that (inaudible).

Glenn Fodor - Autonomous Research

Yes, thanks Martina.

Operator

Our next question comes from Bryan Keane from Deutsche Bank. You may go ahead.

Bryan Keane - Deutsche Bank

Hi guys. Most of my questions have been answered, but just curious going back to the big news of last quarter around this Chase deal. Has there been any new perspective you guys have gotten from other bank participants and how you guys are thinking about that relationship as you know with other potential banks MasterCard works with? That’s kind of question A. And then question B, still curious to know if you guys have any idea if Chase is going to move some volume off of MasterCard over to Visa as a result of this deal? Thanks.

Ajay Banga

Hey, Bryan. So, why I wonder what the other questions were, so, the first one Visa Chase, no nothing new, there is actually the same series of conversations that are going on, a number of the other banks and obviously are concerned about what this means longer term but everybody is kind of waiting and watching to see how this gets implemented. And I know we're in those dialogues, a number of them. It does help to help open doors for us without a doubt, but beyond that I have got no new perspective for you there. Will Chase move volume over the Visa? I mean we've also got volume coming to us from Chase, the Intercontinental Hotel Group co-brand is a Chase co-brand, which we just won. So will they move volume? I assume they would move some, but I'm not sort of inside of Chase discussing this, but as being a banker in my previous life I would still like to keep doors open with more than one network, because it suits me when I'm a banker. Does that mean that the shares will not change and the proportions will not change? I would assume that the proportions will move towards the one you have chosen to put more investment with. And so I actually believe that to be the case. I just don't know factually what they will do.

Operator

Our next question comes from Julio Quinteros from Goldman Sachs. You may go ahead.

Julio Quinteros - Goldman Sachs

When we are in at the last Investor Day together you had mentioned that once you show us margin above 55% it can be hard to go backwards, we’re running two quarters into the year at north of 58%. The full year guidance suggests just something around 50% I mean what's the delta there for the rest of the year as you guys think about the margin profile and why should your margin step back here from the sort of 58% level or so?

Ajay Banga

I don't think it's going to go back to 50, we never said 50 is the guidance, we just said a minimum of 50. As I told you I did that when I came in because I found that at that time we were out testing, we’re going to continuously increase our margin by a few 100 basis points every year and I didn't feel that was a strategic goal for the company compared to growing our franchise, growing our revenue and converting cash. I just thought that's a much better way of thinking for what the company is trying to do than trying to put a margin growth target but you already have a relatively attractive margin in the company.

Having said that our margins tend to be a little variable by quarter. So the fact that it's about 50 years right now from what I recollect normally the fourth quarter has a relatively low margin and I think that's been the case for the three or four years now. It's been the case for these three or four years that I have seen it. So I think the annual margin tends to settle at a different number but it's really since the fourth quarter also is a relatively large quarter in many other ways.

So I don't know that you would assume that 58 is fixed, I would tell you this we are very focused on not going in and throwing away money just because the margin is higher, we would also focused as I said on taking away pricing as the only way to grow although as I have said many times we work on many lines of pricing every quarter and the results show up this quarter. There is certain amount of pricing. This pricing will give us some benefit for a couple of more quarters to come. We think at it around pricing every quarter, there are thousands of lines in 200 countries and that's a fair opportunity.

So will it be a high increase in pricing, low increase in pricing? Remember this; I am not into pricing as the way to grow revenue. I mean we’re trying to fight that 85%. So, we will do what we can at the right time with pricing and margin. So, I still stick around with that 50% minimum that's to reassure investors that we’re not going to throw the money away.

But I am not going to give you an estimate that it will go down or up just because we have quarterly variances and all we have to do is put some more money into a series of investments and we will take a couple of quarters where the margin will be lower than it is today. It'll still be for the year about 50 that I promise you.

Operator

Our next question comes from Rod Bourgeois from Bernstein. You may go ahead.

Rod Bourgeois - Sanford C. Bernstein

Yeah and so I guess on a related note on the margin front, I mean it's encouraging to hear that macro is starting to improve some in certain parts of your business particularly in the U.S. and maybe even some early signs in Europe, does that at all change your view on margins going forward? In other words in years with the revenue growth is weak you seem to give some margin expansion to help with the earnings growth. But as the macro continues to get better, how does that affect the outlook on the margin front?

Martina Hund-Mejean

Hey Rod let me just jump in here. First of all we, you know we are not running the business based on a particular margin. As Ajay just said, we put a margin minimum in place to make absolutely ensure that our investors understand that we look at every investment that we do in the company critically, and as we do it in such a way that we get returns from it. That’s how we look investments. And really how we run the company is looking at these investments, making these investments every year, every quarter as we see that, and we think that based on our current business trajectory the way the business that we have today that we will be at a minimum 50% margin. We do not run them as business for margin expansion per se.

Ajay Banga

That's across whether the economy is doing better or worse and that’s not what we are doing. And so I wouldn’t assume any change based on the U.S. economy looking better or not better nothing has changed in our strategy.

Rod Bourgeois - Sanford C. Bernstein

And just to clarify on that, does that mean as we move into 2014 your view on margins is still sort of keeping margins around 50% range?

Martina Hund-Mejean

Absolutely, Rod, our annual operating margin minimum that we put out for three years is 50% and is the minimum, that doesn’t mean that it couldn’t go higher, because mostly because of revenue growth, but it’s a combination of where the revenue growth comes in and the investments we decide to make in the company.

Rod Bourgeois - Sanford C. Bernstein

Understood. And then on the pricing front, you mentioned that pricing was somewhat of a benefit, can you quantify was it sort of a 1% benefit and you are….

Martina Hund-Mejean

No, Rod it was 4% in total on the revenue line.

Rod Bourgeois - Sanford C. Bernstein

4% in total. And then that benefit, does it taper off in the next couple of quarters?

Martina Hund-Mejean

No, there are couple of pricing in there. One I already mentioned, which was the U.S. hiring support fee, we just started this quarter. That’s going to be with us for the next three quarters and that was probably about half of the price changes. And then we had a couple of other small ones. One anniversary this quarter I would just say acquire our licensee fee which we have talked about. And then there is a very small one, which you know that we have been starting to put through, which is pricing related to the digital wallet operators, but we are talking about smaller numbers again going forward. Operator, next question please.

Operator

Our next question comes from Bill Carcache from Nomura Securities. You may go ahead.

Bill Carcache - Nomura Securities

Thanks. Good morning. Ajay, I was hoping you could give us a sense of whether in your conversations you see any indication of certain groups in the industry moving closer to thinking of debit as just being debit with the distinction between hidden signature just not being as important, for example, like in your discussions with issuers is given that their economics are identical for both now or do you see the distinction continuing to be drawn? And then I guess for the industry as a whole, I guess ex-market share shifts do you have a sense for whether there has been any kind of a notable shift in the mix of signature versus pin transactions post of the Durbin regulation?

Ajay Banga

Both great questions, Bill. So, the second one, so what about industry as a whole has there has been a move from signature to pin, actually not identifiably so, has there been a move from debit to credit, not identifiably so. Do people talk about in the banking industry and in the merchants business? Do they talk about expecting changes? Yes, but it’s been about a year now and it hasn’t really delivered great change. And I think finally it’s not about the bank and the merchants, it’s about the consumer and what they want to do. I think the consumer is un-impacted by this dialogue in most ways other than seeing indirect impact caused by an increase in checking fees that have dropped in free checking accounts and so on. They don’t in their minds necessarily connect one to the other. And I think they are still behaving the way they choose to behave which to use their debit when they want and their credit when they want. They have impacted more by overall trends in the economy. So, I think as the U.S. economy continues to recover generate jobs and the like you will probably speak and increase in credit spending that may be faster than debit. But that still is out fare to be seen. That’s just past cycles I am talking about. So, I would say nothing much right now.

Bill Carcache - Nomura Securities

Okay, that’s really helpful, Ajay. If I may one last follow-up here, can you comment on the Isis announcement of international rollout and we have seen a number of reports suggesting that the rollout of NFC is just pretty unexciting, but can you share your thoughts on the growth outlook for NFC as you see it over the course of next say 12 to 18 months? Thanks.

Ajay Banga

NFC to me has opportunities, because it is a technology that is applicable not just to payments, but also delivering things around security, and things around loyalty and so on and so forth. I think anything that goes beyond just payment to the whole shopping experience, to the whole consumer experience; to the merchants experience is an important aspect in the upcoming transition that's going on between physical and digital, right? That's how I think about it, I don't think these are 12 and 18 months things built because just think of the ecosystem and the infrastructure, that needs to be built for any of these to happen and so I tend to look on it as a longer term effort and I think that most people would say if you look at contactless payments in Australia as an example I was looking at the data the other day, something like 25% or 30% of all transactions in Australia under Australian $100 comes out of contact, that's a big number compared to where they used to be two years ago. Now, will it go even higher? Probably. Will it take years to happen? Probably.

So some countries like Australia, Canada and Turkey are further ahead in NFC than others. But it's kind of, we run our business in so many countries it is a mixed bag and it's tough to generalize across all of them. But in general I think NFC has got opportunity I am not sure that I can tell it you in 12 or 18 months.

Operator

Our next question comes from David Hochstim from Buckingham Research. You may go ahead.

David Hochstim - Buckingham Research

I wonder could you give us an update on your joint venture with Telefonica in Latin America, and sort of what's happening there and what you've learned so far?

Ajay Banga

Sure. So we've got two different JVs with them. We've got the one that's in 12 countries excluding Brazil what we call Wanda. And then we've got Zoom which is in Brazil that's because of the way Telefonica was constructed when these JVs were signed. So in the first one Argentina was the first one to go out and they actually use the mobile wallet that exists in the joint venture we have with Smart Telecom in the Philippines called MTS. So that's the first one out there. The second one Zoom had just launched in April actually I think just around the time of our first quarter earnings call or just after or just before I am kind of forgetting, that's the first mobile program in the region that has a MasterCard prepaid Companion Card in addition to the mobile wallet.

So two different kinds of flavors, my sense is the concept of having a prepaid card as a companion card, a cash to the mobile payment will probably drive this faster than just a mobile payment by itself only because, to answer to Bill's question building ecosystems around new things takes time. The card acceptance system even if it's not completely built out in Brazil is way more built out than a mobile-only payment system. So that's the first learning we've got and I think we've got a lot of learning’s about working with Telefonica, we've now actually in the, I don’t know last three, four months, I forget when, we've launched two more initiatives with them both in Europe. I think there is something in the Czech Republic and there is something with them in Germany that we are doing. So the relation has expanded a little bit beyond the original construct in Latin America.

Martina Hund-Mejean

Operator next question please.

Operator

Our next question comes from Tom McCrohan from Janney. You may go ahead.

Tom McCrohan - Janney Montgomery Scott

Most of the questions on the quarter are answered. I'll ask a bigger picture question. When you joined MasterCard three years ago, you talked about innovations and the importance of that. And I was wondering if there is any way you kind of speak to, kind of how you are tracking to creating that culture in terms of financials like how much of our revenue for example revenue growth over the last few years was a function of new product introductions and new innovations. And as you look forward and see you’re in a kind of three-year financial outlook. How much of that is going to be -- how much of the growth is going to be attributable to some sort of innovation as that MasterCard is developing today?

Ajay Banga

So we haven't put provided a measure of an innovation index, which is kind of what you're referring to. But as Martina just explained in an answer to Rod a little while ago, if you think about our three year projection on revenue growth, those 2, 3, 4 percentage points at the end that she was talking about are from innovation in new products from things like data analytics which to me is a relatively new product all the way to the changes in market share and growth whether it be U.S. Credit or frankly U.S. Debit or all the things we are doing overseas as well.

So you can see it in that ballpark in that block of 2%, 3%, 4%. My whole attempt around innovation was to change the way we went to market, so that we didn't just sell credit, debit, prepaid and commercial but we looked at diversifying that growth from the core products both in terms of geographies and in terms of the kind of clients we worked with. So there you can see 30 odd deals that mobile telecom operators in the last two years, we had none three or four years ago in fact the dialogue used to be, how they wouldn't need the banks and the networks to be able to grow I think that demonstrates clearly that we have been able to show that our product set and technology adapted to mobile payments can work with them. I just was talking about Telefonica. So there are examples like that and a number of others. I talked about SingTel and the other Telcos in my call as well.

So that's the first part. The second part around innovation has to do with mobile payments, eCommerce and the whole aspect of information services. We are making a lot of progress on all three. Mobile I just talked about. We've done a lot of work in information services and data analytics.

So that's where we are. I don't have an innovation index that I'm going to give you publicly because the issue is what's the new product. In a consumer product company you can evaluate it in different ways, what's the new product for us, is a credit card with a new set of features a new product or a new product only that which comes in a new delivery channel and then we'll get into endless discussions about that. I'm much more focused on measuring our ability to generate new ideas in the company, do solution based selling to our clients and see the impact on our brands.

And our brands has gone from being number 87 in the brand index evaluated by clients to number 20 in four years. And we spend about the same or a little less money than we used to. That's all part, if you look at that brand index it talks about innovation as being a big driver of the change. So that's kind of how I measure it right now.

May a few years down the road, Martina will actually allow me to talk about an innovation index and I will let you deal with her on that one.

Martina Hund-Mejean

Operator I think we have time for one last question.

Operator

Our final question comes from Tien-tsin Huang from JP Morgan. You may go ahead.

Tien-tsin Huang - JP Morgan

Just want to ask a couple of follow ups. Just I guess on product innovation, at Visa's Investor Day, they talked about, I was trying to look up the number something like $200 million in the last two years in product innovation. I'm curious, how does that compare roughly to what MasterCard spent in product innovation? And then my follow-up was just want to clarify from Martina, the other line was a little bit better than we had modeled, does that capture the pricing you referred to be on the cross-broader change?

Martina Hund-Mejean

So Tien-tsin let me first take other revenues first. So in other revenues actually what you’re seeing is, showing up is some really nice growth in our Access Prepaid business as well as in our Advisors business. And you know Ajay already talked about some of the foreign (ph) structures in Australia that we’re doing in both of those businesses. In addition to couple of the price increases that I talked about which are reflected in other revenues.

Ajay Banga

The first part Tien-tsin I don't know how Charlie measured the number. So I haven't had a chance to understand what's inside that number. I kind of, Investor Day is not that far away. So we'll chat with you then on that topic. But the issue is what's inside as I was answering to the earlier question makes all the difference. So for example all the work we’re doing on fraud tools is that innovation in a sense that probably is because it's developing entire new forms of technology. All the work we’re doing on tokenization is that innovation probably is if it delivers a new way of dealing with safety. All the work we are doing with Truaxis to drive merchant funded loyalty programs around the world is that innovation and R&D probably, we've got MasterCard labs, we've got different portions that are delivering this answer.

I actually don't look at it that way. I look at it as I said in the earlier question of funding this in many different ways but most importantly in changing the way we talk to merchants and banks and governments about relating with them in a more solution based selling way. So the example with Nigeria where they were trying to do an ID scheme which ended up being not just that but also a payment scheme with a card that's two sided with a chip. We spend money on that, is that innovation, we spend money on biometric identification for the UID in India. So I don't want to get into, I’ve counted this and not counted that and create some new metric that everybody will try and track but you should know that there are a ton of people in this company whose only job is if they want to come to work on January 01, 2014. They better have new ideas or they won't be allowed. That I can promise.

Martina Hund-Mejean

Ajay do you have some closing comments?

Ajay Banga

I do. Okay after all that, okay. So what do I think about this, we delivered pretty solid results for the first half of this year. Driven off as we have talked about a little bit volume and transaction growth around the world and world-wide GDP across the 1 trillion level for the first time in the second quarter and Martina was reading that out I was looking at that as a milestone in some ways but on to the next trillion already. And our first half net revenue growth was a bit better than the forecasted for all the reasons we talked about. We remain confident about this three year performance objective that we have got out there and we’re working hard to deliver on another good year in spite of what I consider to be somewhat unpredictable economic condition. My view is that the secular trends in our industry are just of great interest to me, they are strong drivers for top-line growth even in slower economic environments. So I’m looking forward to seeing many of you in the Investor Day in September. I think you will get a chance to hear about our strategic focus areas, you will experience as you have done for the last couple of years. Some of our innovative products and services. We have got some really cool ones lined up for you this year so hopefully that will be fun. In the meantime, thank you for your support and thank you for being on the call with us today.

Operator

Thank you ladies and gentlemen. This concludes today’s conference. Thank you for participating. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: MasterCard's CEO Discusses Q2 2013 Results - Earnings Call Transcript
This Transcript
All Transcripts