Cardtronics, Inc. (NASDAQ:CATM)
Goldman Sachs Third Annual Financial Technology Conference Call
September 18, 2013 09:45 ET
Steve Rathgaber - Chief Executive Officer
Brad Conrad - Chief Accounting Officer
Alright, everyone. Why don’t we keep pace here? Thanks Eric for the good update on FleetCor. Next, we actually have a first time presenter to our FinTech Conference. We are very excited to have Cardtronics here with us. We have Steve Rathgaber, the CEO and Brad Conrad, the CAO.
With that, I will turn it over to Steve to talk about the Cardtronics’ story.
Steve Rathgaber - Chief Executive Officer
Thank you, Joe. Okay, good morning everyone. I wanted to start with some observations about Cardtronics and describe a little about who we are and what we do before we get to the hopefully Q&A.
Cardtronics fits right in smack in the middle of the three key constituent groups, retailers, finance institutions and consumers. And we basically act as an ATM placed in a retail store is essentially the core of our model. We are also a collection of companies that have integrated very nicely into a single company, Cardtronics. We at this point represent 26 acquisitions that we have done over the past I guess 13 years at this point in time.
From a retailer perspective, we deploy in over 80,000 locations across five countries, okay, from a FI perspective, we brand terminals for finance institutions, so they can place their brand and have it look like their ATM by renting that space from us in effect and we brand over 19,000 ATMs in the U.S. today. We also make available free access to those ATMs versus surcharge access or convenience fee through the Allpoint Network, which allows people – which allows banks to sign up on behalf of their consumers to get access to these ATMs globally. And for consumers, we are providing 27 transactions per second, almost $60 billion dispensed in 2012 out of our ATMs, so not a small piece of change, not quite government money, but still meaningful money. And we are looking over time to add more and more to the cash experience coupons or the values to help drive retailer sales, which is a core ingredient.
So we operate as I have said in five countries today, and these countries each have different profiles. When I was sitting in the first presentation this morning, I heard the statement cash is almost dead, that couldn’t be further from the truth in terms of the way cash is used by consumers. Certainly, electronic payments are growing. Certainly, they are growing dramatically. Certainly, checks have declined, but cash is very dynamic, very active and it actually in many cases growing in various markets.
To give you a sense of different markets and how they add value, in the United States today where perhaps 30-plus percent of the transactions at the point-of-sale will happen with cash. In Canada, where we also do well, a 10% of the transactions at the point-of-sale, that’s the smallest cash market I am aware of. Delightfully in Germany which we have just through an acquisition entered that market with 800 ATMs, that’s almost 80% of transactions at the point-of-sale happen with cash, okay, so a very different market opportunity. UK, about a 55% of the transactions at the point-of-sale happen with cash. We make money in each of these markets doing what we do, okay. And that’s part of the key to Cardtronics’ ability to leverage our scale and our business model to find the value in various cash markets.
In terms of how we are growing recently, we did an acquisition earlier this year called i-design, a company in Dundee, Scotland that adds a new dimension of the model for Cardtronics. It brings a software capability that allows us to deploy on our ATMs, things like customer preferences. So for example, if you have used our ATM once before, will recognize when you come back with this software and offer you the same transaction to simplify the number of steps that you walk through to use our ATM, creates the familiarity, hopefully a loyalty with the ATM, but i-design also brings another revenue source that we will be looking to develop in the future, which is advertising revenues.
In the UK today, we have advertisements of things like Pizza Hut and Mars candy bars and things of that nature on over 2,000 of our ATMs and we get paid for deploying that advertising on behalf of those retailers. Coupons accompany those things and had helped drive sales in the store for particular activities that are advertised on those ATMs.
We also announced recently this summer a major acquisition in the UK that brought us into Germany as well and we now have a business in the UK that is about 25% of Cardtronics total revenues. The UK and Germany now represent to us about $230 million of revenue going forward. We are very excited about what we have done in the UK recently in terms of increasing margins and generating solid profits, and we believe the scale economies that are going to come from this combination are going to be very beneficial for our shareholders. And we are delighted to be operating in Germany, where most of the ATMs in Germany are presently owned by banks. There is not a lot of ATMs deployed relative to other markets we operate in. There is a great opportunity to fill in a lot of white space in the German market and we think because the German markets mirrors the U.S. market in terms of larger financial institutions there will be multiple opportunities to branding and other services that we’ve offered to value in the German marketplace. So we are excited about being in Germany and so excited that we’ve named that whole area Cardtronics Europe in terms of operating our business there and look forward to additional international expansion driven from the UK offices over time.
In terms of how Cardtronics makes money, this is sort of one of the key points for how we operate our business. We get paid essentially twice every time somebody does a transaction that is significant in the sense that folks we compete with like large financial institutions don’t get paid at all when they deploy an ATM in a retail location, for them it’s more of a marketing expense, okay. So that creates an opportunity from a revenue and economics event to give us an advantage for attracting sites over time with better value for the retailer. So in terms of just going through some of these there is multiple sources of revenue and there is multiple customer types and all of these are operating on an individual ATM, a single ATM. So we can have an independent consumer work up unaffiliated, well pay us the surcharge and we will collect an interchange fee from the financial institution as a result of that transaction. We can have a bank choose the brand with us, place their brand on our ATM. Their customers though when they use it will also pay an interchange fee and the bank will pay us a fixed monthly fee for that access the branding on that ATM, two sources of revenue from a branding customer.
On the Allpoint Network, which we own and operate and set interchange for financial institutions will pay a monthly participation fee plus the usage fee in the form of interchange each time one of those customers uses one of our ATMs. So it creates a great flow of revenue much of which gets shared with the retailer but it creates a great flow of revenue and it’s a model we’d look to deploy in other markets. Now not all markets operate the same way as the U.S. market does, some of those markets just have one price point or another but we are learning to operate in each of those markets through efficient profit generation.
In terms of where we deploy our ATMs, we were in the company of some very good merchant brands and we are delighted to be a trusted partner of these folks. And the key here is that we’ve got all different types of markets available to us. One of the exciting things about this business is the increasing number of international clients that we have. Companies like Shell or Travelex, clients that we can possibly grow with into other markets as we go forward with our deployment strategies internationally.
One example of a very successful partnership for us is CVS. This year crossed the 5,000 ATM milestone with them in terms of deployments and that’s still not all of the locations that they have, so we continue to have opportunity to extend our presence and grow with our partners. It’s one of the key underlying growth elements for Cardtronics as our partners grow we grow with them, okay. Valero is the sale we closed last year and that was a company that had ATMs deployed by a single bank that bank withdrew for reasons of economy and strategy and other things and we were able to go in there and optimize the fleet usage by deploying in multiple markets for this one retailer multiple brands that carry powerful presence in their local markets. So that again replaces one kind of traffic with a richer kind of traffic that we can deliver through our multiple partner relationships.
In terms of financial institutions what’s significant about this chart is the fact that we have all kinds of banks that we serve, all kinds financial institutions that we serve. Certainly critical for our growth in recent years has been the prepaid footprint one of the things I love about prepaid and this is one of these myths about how cash is “dead”. First thing a prepaid customer does when they get balance loaded on for the card is come to an ATM and take about 40% or 50% of that value off, that’s the way they like to transact, that’s the way they like to spend. The notion that the funds are being deployed on to one of these cards doesn’t mean that the consumer is now electronic in terms of the way they use the card. And there is a variety of social reasons that they do that.
We have nationwide banks. We have large regional banks. We have community banks and credit unions that are part of the mix. And another one of my favorite groupings although I love them all is virtual banks, because they have no physical presence except us, and we are an entity that can make a virtual entity nationwide overnight. We can give them access like making international overnight in terms of access to ATM footprint on a custom deal basis. So we think that each of these entities has a strategic reason to leverage Cardtronics ATM placements for brand utilization, for competitive access against the largest banks in the land that have a lot more ATMs than a smaller bank may. Each segment here has an opportunity to leverage Cardtronics and we are delighted to be able to serve them all.
Examples USAA is a very good customer of ours and they are one of those virtual bank examples, and the key here is the relationship keeps growing. Started years ago, just as an Allpoint participation, they want a surcharge free access to the ATMs, since as you know, they offer free access to their entire base for number of transactions from us. This is a way to help them with the economics of that access and to give them more convenient access, because our ATMs are in retail locations, where their customers go rather than to some other bank branch, where their customers don’t typically go.
And we have been growing the relationship with branding through the years and you can see up in the photo the fact that they can now have the receipt with their name on it and a brand presence. And we have seen delightful feedback from this customer’s customers, in that we have seen things on tweeted in such that where the customers will say found a USAA ATM, felt like I was in heaven sort of bank who cannot use the finding the USAA brand that way. So there has been great customer feedback from the branding process that’s going on and hopefully that’s one relationship that will continue to grow very nicely for us.
Scotiabank is an example of an entirely different entity. Scotia is a very international presence and we started with them with a handful of ATMs in Puerto Rico and have since grown to more than 1,000 ATMs branded including Canada. And we are looking at other country opportunities with Scotia for deploying services on a partnership basis. We are delighted with that relationship and really have found a company that is interested in leveraging our model as much as they possibly can, because they see the value in it and we think that’s a wonderful model for others to follow.
In terms of our revenue, we have had a good couple of years I would say. Revenue has grown about almost 60% since 2008 through 2012. And one of the banks we focus on is making our revenues third year. Okay, what do I mean by that? Well, surcharging was historically a big feast of our revenues, the convenience fees that consumers pay for getting the convenience of access to their cash in a retail location versus having to make a trip to their bank. And we think that convenience fees are great things, but convenience fees are not as secure in my mind as business-to-business relationships. So we have been working to convert more and more of our transaction activity on a business-to-business basis with the banks and Cardtronics, okay. And the results of that is even though our surcharge revenues in absolute terms have grown very handsomely through the years, we have managed to reduce the surcharge amount, which occasionally comes under a look by regulatory agencies for how is it working. We have managed to reduce that from 56% down to 46% over the last several years. And I would like to continue to work that down to 30% or below as we go forward even though it continues to be a substantial number.
What I look to do is replace it with business-to-business relationships where the financial institution is guiding its customers to our ATMs on a contracted basis, so that revenue in effect is third year. How does that work? Well, if you look at the pale green slice and I’ve got to get better colors like to name here that 12% in 2008 that’s grown to 20% in 2013. Those are branding relationships driving revenue to our machines, not only the branding revenue, but the interchange revenue that comes from the transactions associated with those. So it’s a very successful model for creating fixed deal revenues that are not subject to regulatory oversight or anything of that type of nature.
If you look at what has happened with interchange the sort of orangey type color. Well, we have managed to move what we call protected interchange where we have contracted with the finance institution from 9% down in 2008 up to 26% in 2013 thereby reducing the unprotected from 21% down to 6% even as we have been growing this revenue source. What that means is when associations change interchange rates if they cut them, we are less exposed to that (indiscernible) on the part of the card the MasterCards or the Visas of the world. So we think that’s a good thing for strengthening the fabric of our revenue model. I would like to be in control of our pricing and this is the way of establishing that control as opposed to being subject to interchange like so many other businesses that are here today we will be talking about.
So I think the meeting opened today with someone talking about the fact that cash and checks are sort of effectively dead and again not the case currently in circulation continues to increase twenties in circulation, continue to increase in U.S. very specifically. We are seeing transactions at the point of sale. Remain relatively absolute or growing a little bit in terms of dollars spent, okay. As a percentage of total transactions there might be some decline, but in terms of overall growth of the economy there is a continuing substantial number of transactions that are cash based transactions and we help those transactions occur with our ATM deployments. Cash remains the only method that is 100% ubiquitous and certainly we’ve seen lot of technologies come out that are sort of in search of purpose and no one yet has created a better payment experience I think then cash seems to do on the routine transactions of life, not necessarily talking about buying a big screen TV, but the routine transactions the $50 and under transactions.
So we think that there is great opportunity for cash to continue and the more research we get involved with at the consumer level at other partner levels that we talk to the Federal Reserve as it does its research. No one is thinking that the cash is dead at this point in time and in fact everyone is thinking of that cash has decades of viability and it’s just a question of the balance and usage as other payment mechanisms seek to find their footing. And when you certainly throw in the economic distortions of the whole Durbin amendment pricing models on debit and credit, one can only begin to guess at what might be the consequences of those pricing decisions on the way cards are deployed and used in the future. I certainly couldn’t tell you what the outcome will be, but certainly that puts pressure on all of those economic models and a lot of the models that were working to create an alternative to some of those vehicles.
So one of the facts is that MasterCard published way back not too far back actually is that United States alone recognizing that a few merchants account for the big box accounts for a lot of activity. But on a pure merchant account 70% of the total number of merchants, approximately 19 million do not accept electronic payments, that doesn’t change on Tuesday, okay. That is the nature of business in – of many, many parts of the country that is just another one of these underpinnings of how cash will continue to be a viable product.
In terms of how we grow the Cardtronics model is very strong in terms of multiple dimensions of growth. We can grow with our existing merchants by increasing surcharges by – as they grow, we grow with them. We can grow like in the CVS example where there is an inventory of store locations we have yet to deploy in. We can grow by signing new merchants and we routinely do that in multiple countries now new locations, new deployment of ATMs, new opportunities to add branding services. We can grow with bank branding. We have a large inventory of ATMs that are still not fully branded and we are working at selling that inventory across the country and across the footprint. We have the Allpoint Network with about 1200 finance institutions recently added Discover debit cards to the Allpoint Network and again another virtual sort of bank model that Discover is looking to rollout and they are now part of the Allpoint family.
We have new product offerings that enrich the mix. One of the ones that I am particularly fond of is a product called FeeAlert, where when a customer we connect into the bank’s VDA system and when a customer does pays a surcharge at a non-Cardtronics ATM, we are able to alert that customer through the mobile instrument and through the month end statement that they have done a transaction where they have paid something. And on a geocoded location basis, we tell them they could have gone across the street to this store and gotten it for free. So there is an attempt after the fact to train them for the next time.
We have a LocatorSearch product that is an attempt to get them before the transaction. If they are looking, we can see things on the mobile app that will direct them to a store that Cardtronics has an ATM in as part of the locator service we make available to financial institutions. So before during and after the transaction during focusing on advertising opportunities couponing that sort of thing to create value for the consumer as we go forward. And we can certainly grow with international experience, which is best evidenced by the recent acquisition, international expansion which was best evidenced by the recent acquisition in the UK.
In terms of opportunities, we estimate through our years, decades of experience in my case in terms of the transactions available in the U.S., this is if the U.S. pie that there is something close to $9 billion withdrawal transactions, just withdrawal transactions at all the ATMs in the country. We have a very small share of that 3%. While we have ATMs in the most convenient places in the country, no one has to drive to a branch, get out of their car and just do an ATM withdrawal. They can go shopping and they can stop and get cash by just adding it on to the shopping list. And we just have to enable the right pricing mechanisms, which were hard at work doing with vehicles like Allpoint in branding and FeeAlert products and LocatorSearch products to drive that share to our ATMs. It’s in that share driving through our ATMs that the Cardtronics model has so much future benefit in terms of margin expansion opportunities, because I don’t have to invest any capital if I am just driving more transactions to the same ATM footprint that are out there. And it’s why we believe there is continuing margin expansion opportunities in the Cardtronics business model.
I would close before turning it over to Brad for a few minutes with this traffics driving model. Historically, folks just walk up to ATMs and pay the surcharge. We added branding, the first to do that. I think we invented that as the concept many years ago. We have added surcharge free networks with the acquisition of Allpoint and other product offerings that we are operating in local markets that are different than Allpoint, but have similar attributes and do things like LocatorSearch, FeeAlert and other products in our product pipeline, we are working to drive foot traffic to our retailers to do transactions. And when they get in our retailers, they do shopping, they do purchases with cash, with debit and credit and we know that, that is a great value add for the retailers and we are increasingly looking to identify that value add, track it and help establish how to make it grow. So at the end of the day we are not about vending machines of cash, we are about helping retailers drive sales. And this is part of the journey of getting there.
And with that, I will turn it over to Brad for a few quick comments on the financials.
Brad Conrad - Chief Accounting Officer
Yes, thanks Steve. I will go through this pretty quickly to give you guys a few minutes to ask some questions, but obviously we got a pretty good track record of growing the top line over the last 4.5 years kind of in the high-teens. That’s a combination of both organic revenue growth and growth from acquisitions roughly about half of each. So our organic growth rate has typically been in the high single-digit range and sometimes in the low-teens.
The revenues that we generate as Steve mentioned are secured by long-term contracts with both our merchants and FIs and historically transaction base. So they are fairly predictable and consistent. And so we don’t see tremendous amount of volatility, but as Steve illustrated, we have had several levers of success for growing the top line and has executed on that in different ways in different years. And in each year we have been able to successfully expand our units with both existing merchants and new merchants. And so as Steve mentioned as some of our larger merchants 7-Eleven and CVS continue to expand, we expand with them and so we add new ATMs and so that’s been a driver of organic growth. We’ve also grown our transactions as well and things like bank branding, Allpoint are driving incremental transactions to our ATMs. And so that’s been a driver of organic growth as well. We’ve added new products things like ATM locator search, advertising that’s also driving incremental revenue growth. And of course strategic acquisitions we’ve done a number of tuck-in acquisitions in the U.S. as Steve mentioned we did a large acquisition with operations in the UK and Germany just last month.
Moving on to the bottom line, obviously we’ve been successfully able to leverage that revenue growth into even a higher earnings growth. And as you can see our adjusted earnings has grown by over 30% on a compounded annual growth rate over the last 4 years. We are expecting that trend to continue this year and next year. This past quarter it’s a great illustration of the power of the revenue growth. We grew the top line by 8% and the bottom line was up 29%. And how we are able to do that? It’s a combination of a partially fixed cost infrastructure, so we have monitoring and support functions that we are able to leverage over a bigger scale and also we get more density. It’s a – it requires people in trucks to service the ATMs and the cash in transit and maintenance and so that the higher density you have it’s where your costs are going to be, where you guys successfully leverage our costs with our vendors that we outsource. And with our acquisitions we typically are able to gain cost synergies as well. And just we’re able to realize those fairly quickly in some cases, in some cases it takes a couple of years to fully cycle through.
Just quickly on the balance sheet and cash flow this business does generate quite a bit of free cash flow. And as you can see for 2013, we are looking to generate about $180 million roughly in operating cash flow prior to CapEx. For this year we are expecting about $75 million in CapEx and that CapEx is growth CapEx and maintenance CapEx probably more growth than maintenance in that number. And so we’ve got about $100 million or so to invest in acquisitions and other strategic opportunities, so obviously we used up all of that and some with the recent acquisition in August.
Just quickly on the balance sheet in terms of leverage profile we are currently leveraged about 2 to 1 in terms of debt to adjusted EBITDA that’s from about 1.5 just prior to recent acquisition and that’s down substantially from just under 5 when the company went public at the end of 2007. So with that, I will conclude and open it up for any questions.
Steve Rathgaber - Chief Executive Officer
I have a question here at 2 o’clock. It’s my understanding that ATM growth globally is plateauing, you can correct me if I am wrong, and so in that broader context what’s the future of the ATM from your point of view?
Well, it’s difficult to make a statement about ATM growth slowing internationally. There are – each country has so many differences in it. If you’d look India there is nothing, but opportunity for placements in India and it’s only begun to see it’s not 5% penetrated in my estimation. If you look at Germany, it’s way under-populated relative to classic metrics of ATMs per person in terms of traffic particularly for a society that’s so cash intensive. So I think as you pick different markets there are different ways for Cardtronics to collect value. So for example, in Canada we enter the market that was fairly saturated, but we’ve managed to enter it with existing partners in a way that creates value for our shareholders and we have entered it small with an opportunity to grow, consolidate local players and drive shareholder value creation through small acquisitions and additional deals. There is a marketplace there that’s tired. Okay, it has all players in it that didn’t bring any innovation. We have an opportunity to go in and bring innovation. So I would say that in there are lots of markets where there is great opportunity for growth and in markets where growth is not going to be great, there is great opportunities for Cardtronics to deploy our scale model and our service model to create value for our shareholders.
Do you guys run Vcom?
Any thoughts on advanced functionality ATMs?
Well, I think the advanced functionality ATM story is a choppy one. So we haven’t seen tremendous growth in bill payment type activities things like that, but we do believe that there is an opportunity as demonstrated by what the banks have done. It’s funny you talk about checks being dead, while all the banks over the last three or four years have invested millions and millions of dollars to put check readers’ capability on their ATMs, so they could do deposits at their ATMs. And it’s been very successful for them. We were one of the first to do that and largely in our 7-Eleven locations and continue to believe that there is image deposit opportunity available on ATM locations, but I would say that’s one of the more active elements rather than just a whole variety of other advanced functionality services, not a big part of our revenue. Other questions?
You got a minute and 16 seconds left.
Can you talk a bit more about the economics with your retailer who actually funds the CapEx on the attempts on the breakevens on each ATM?
Okay. I will talk a little bit about that and Brad maybe you can chime in as well. The model with a large retailer is essentially wouldn’t say cookie cutter, but essentially framed as a following way. We will deploy the capital. We will spend the capital to deploy the ATM and in fact we like doing that, because that’s a great barrier to entry. Somebody want to take us out of certain markets, they got in CVS, for example, they have got to buy 7,000 ATMs, okay. That’s not an easy capital outlay for somebody. We are happy to do that, because we have the scale to leverage those opportunities. Typically, surcharges mostly go to the retailer, okay. Surcharging is actually our least profitable offering, but things like Allpoint and branding mostly stay with us in terms of the economic model, and that’s another reason why we are interested in driving people to those products, but also those products drive more consistent foot traffic to the retailer, so the retailer is happy with that as well, okay. They are less concerned about getting a piece of the action than they are with getting a new sale at the counter. And I think they are not concerned about piece of the action don’t get me wrong, but they are very committed to trying to grow their sales line and that’s where we are trying to focus our efforts. I will just (go) for questions.
Yes, just I mean what Steve said is correct on the large retailer chains. I mean, we typically own and operate those and we can offer a broad array of services and putting the branding in Allpoint on. We also operate with independently owned operated merchants and typically the merchant will own and buy the ATM and they do a lot of the servicing. So the models are slightly different, but we do both.
Steve Rathgaber - Chief Executive Officer
Any other questions? Well, then thank you for your attention this morning and have a great rest of the conference.
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