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

Executives

Nathan Rozof

Charles D. Drucker - Chief Executive Officer, President and Director

Mark L. Heimbouch - Chief Financial Officer, Principal Accounting Officer and Director

Analysts

Georgios Mihalos - Crédit Suisse AG, Research Division

Tien-tsin Huang - JP Morgan Chase & Co, Research Division

Jason Kupferberg - Jefferies LLC, Research Division

Ashwin Shirvaikar - Citigroup Inc, Research Division

David Togut - Evercore Partners Inc., Research Division

Timothy Wojs - Robert W. Baird & Co. Incorporated, Research Division

Daniel R. Perlin - RBC Capital Markets, LLC, Research Division

Smittipon Srethapramote - Morgan Stanley, Research Division

Bryan Keane - Deutsche Bank AG, Research Division

Darrin D. Peller - Barclays Capital, Research Division

Vantiv (VNTV) Q4 2013 Earnings Call February 13, 2014 8:00 AM ET

Operator

Good day, and welcome to the Vantiv Fourth Quarter and Full Year 2013 Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Nathan Rozof, Senior Vice President of Investor Relations. Please go ahead, sir.

Nathan Rozof

Good morning, and thank you for joining us today. By now, everyone should have access to our fourth quarter and full year 2013 earnings release, which can be found at vantiv.com under the Investor Relations section.

During the call, Charles Drucker, our President and Chief Executive Officer, will discuss Vantiv's fourth quarter and full year operating performance and address our outlook for 2014. Mark Heimbouch, our Chief Financial Officer, will then review fourth quarter and full year financial results.

Throughout this conference call, we'll be presenting non-GAAP and pro forma financial information, including net revenue, adjusted EBITDA, pro forma adjusted net income and pro forma adjusted net income per share. These are important financial performance measures for the company but are not financial performance measures as defined by GAAP. Reconciliations of our non-GAAP pro forma financial information to the GAAP financial information appear in today's press release.

Finally, before we begin our formal remarks, I need to remind everyone that our discussion today will include forward-looking statements. These forward-looking statements are not guarantees of future performance, and therefore, you should not put undue reliance upon them. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. Please refer to the forward-looking statement disclosure on our earnings release and in our periodic filings with the SEC. Additional details concerning our business risks and the factors that could cause actual results to materially deviate from our forward-looking statements can be found in our annual report on Form 10-K under the headings Risk Factors and MD&A and in our subsequent filings with the Securities and Exchange Commission, which are available at sec.gov.

Now I'll turn the call over to Charles Drucker, our CEO. Charles?

Charles D. Drucker

Thank you, Nate, and thanks to everyone for joining today's call. We delivered strong results in the fourth quarter, superior performance in our Merchant business, including our expansion into new strategic channels and high-growth verticals, contributed to a strong double-digit growth.

Net revenue growth was 14% in the quarter to $309 million, and pro forma adjusted net income per share growth was 18% to $0.45. Our results are strong for the full year as well, both in absolute terms and relative to the market, with net revenue growth of 15% and pro forma adjusted net income per share growth of 28%, increasing to $1.56 per share.

Let me briefly cover a few highlights from each of our business segments and then provide you with the update on our strategic initiatives. The Merchant business generated superior 20% net revenue growth during the quarter. Growth was driven by solid transaction growth of 9% and 10% in net revenue per transaction. Net revenue per transaction increased as we expanded into strategic channels and diversified our client base.

Net revenue was flat in the Financial Institution segments during this fourth quarter. Transactions grew 5%, but a shift in the mix of our client portfolio resulted in lower average net revenue per transaction. For the full year, net revenue growth was 4% and transaction growth was 5%.

Our traditional Merchant and Financial Institution businesses continued to benefit from the core advantages we built, including our single integrated processing platform, which allows us to quickly deploy new products and services, as well as maintain superior margin. That comprehensive suite of solutions allows us to develop very deep, long-term relationships with our clients by acting as a trusted adviser. We have aggressively pursued new referral partners and built a highly productive sales force in order to penetrate both existing and new strategic channels.

In addition to these core advantages, we have expanded our capabilities through acquisitions. Litle and Element represent great examples of our ability to expand into new channels and diversify our client base. Expanding our business through acquisitions has become a core competency of ours, and one that will continue to be a platform for the future growth.

Turning to our strategic initiatives, I'd like to review several notable accomplishments for 2013 contributing to our ability to continue to grow and win share. First of all, we signed large, national merchant relationships and continue to build our sales pipeline. As you're aware, at the end of the year, we signed an agreement with Walmart to process a portion of their volume. This volume is beginning to ramp, and we are extremely excited to have the opportunity to work with Walmart moving forward. Net revenue from our newer strategic channels more than doubled in 2013, becoming a more significant part of our business.

Contributing to the strong growth was our expansion into ecommerce where we again won several important new clients, including 2 of the largest ecommerce retailers. We also developed relationships with several new technology partners, including with Microsoft, to deliver a new range of solutions for mobile POS and cloud-connected payments.

And finally, we significantly improved our penetration of the merchant bank channel by increasing our scale and productivity. We accomplished this by growing our branch count to approximately 1,500 referring branches, as well as increasing the number of new merchant referrals that each branch generates. In fact, in 2014, we expect a number of new client referrals coming through our merchant bank channel to approach the number coming from our traditional Fifth Third Bank channel.

The merchant bank channel also creates cross-selling opportunities in our Financial Institution business by combining the Merchant Services with our traditional FI processing business. We're excited about the opportunity to build relationship with both new and existing clients by providing them both merchant acquiring, as well as issuer processing and related services.

In addition to our strategic channels, we have also penetrated high-growth verticals that leverage technology integration, such as online gaming. During the fourth quarter, Vantiv began processing payments for several online state lotteries, as well as approved gaming websites in the state of New Jersey.

We've also expanded our suite of mobile solutions, including Vantiv Select and Vantiv Mobile Checkout, our tablet-based solution. In order to expand the distribution of these products, we recently formed new relationships with large wireless telcom carriers, including Sprint and AT&T. By partnering with these leading companies, we are gaining access to new sales channels that are focused on mobile solutions.

Finally, we've demonstrated our commitment to disciplined capital allocation. We've reinvested free cash flow into the business, executed on strategic acquisitions and returned capital to our shareholders.

Since going public, we have strategically deployed over $1 billion of capital delivering strong results -- returns. Today, we also announced that our Board of Directors authorized a new $300 million share repurchase program in addition to the $137 million previously authorized program. We remain focused on allocating capital to support superior growth and returning excess capital to support shareholder returns.

Our leadership team has done a great job of executing on our strategic initiatives and operating objectives in 2013, enabling us to successfully mitigate the lower-than-expected consumer spending trend and more aggressively pursue new channels. As we enter 2014, we will further expand our business into new channels, diversify our client base and enable new payment technologies to drive industry-leading growth.

Before I turn the call over to Mark, I'd like to talk about our outlook for 2014. Based upon the current trends and new business activity, we expect to generate net revenue for the full year of $1.255 billion to $1.285 billion, representing growth of 7% to 10%. In terms of earnings growth, our superior cost structure and disciplined capital allocation strategy enable superior levels of profitability and EPS growth. We, therefore, expect pro forma adjusted net income per share of $1.77 to $1.83 for 2014, representing growth of 14% to 17% for the full year. This range does not include the potential impact of the newly authorized $300 million buyback program. For the first quarter, we expect net revenue of $285 million to $291 million and pro forma adjusted net income per share of $0.36 to $0.37.

In conclusion, we finished the year strong and look forward to continued success in 2014. Our integrated business model is based on a single processing platform, comprehensive suite of solutions and diverse distribution channels, all of which are unique competitive advantages that have enabled us to consistently win market share. We continue to win new business and invest for growth, including expansion into strategic channels, as well as high-growth verticals.

Now I'll turn the call over to Mark Heimbouch, who'll review our financial results and our outlook in more detail. Mark?

Mark L. Heimbouch

Thanks, Charles, and good morning, everyone. As Charles indicated, our business generated strong net revenue and profit growth in the fourth quarter. Specifically in the fourth quarter, net revenue increased 14% to $309 million as transactions grew by 8% and net revenue per transaction increased by 5%, both driven by continued superior growth on our Merchant segment. Pro forma adjusted net income increased 11% to $90 million and pro forma adjusted net income per share increased 18% to $0.45.

The scale and efficiency of our business model enable superior profitability as we generated an adjusted EBITDA margin of approximately 51% for the quarter. EBITDA margin wouldn't -- would've been stronger but expansion was somewhat offset by the impact of the Element acquisition, as well as investments in our strategic initiatives.

For the full year, our business generated a 10% increase in transactions and a 15% increase in net revenue. The combination of double-digit net revenue growth and profitability resulted in pro forma adjusted net income growth of 23% to $321 million or $1.56 in pro forma adjusted net income per share.

Turning to the segments. In the fourth quarter, our Merchant segment generated net revenue growth of 20%. Growth in the segment was due primarily to 9% transaction growth and a 10% increase in net revenue per transaction as we continue to diversify our client base by expanding into new strategic distribution channels. Transaction growth within the Financial Institutions business was 5%, fairly consistent with prior quarters. As Charles mentioned, net revenue was flat due to a shift in the mix of our client portfolio, resulting in lower average net revenue per transaction.

In terms of expenses, sales and marketing expenses increased 18% to $80 million during the quarter. Sales and marketing expenses in the Merchant segment increased by 17% in connection with revenue growth as we continue to expand our distribution. Sales and marketing expense increased by 25% in our FI business, due primarily to personnel-related costs associated with our product initiatives.

Other operating costs increased 28% to $49 million, and general and administrative expenses increased 9% to $23 million, both principally due to the impact of our recent acquisitions and an increase in personnel-related costs. In aggregate, total expenses increased 19% during the quarter. Total expenses adjusted to exclude the impact of cost related to acquisitions increased by less than 10%.

Depreciation and amortization expense, excluding the impact of amortization of intangibles related to acquisitions, increased by 40% to $17 million, primarily due to ongoing investment and capital expenditures. Depreciation expense has continued to grow at elevated level since our separation from Fifth Third as our assets have effectively been acquired within the last 5 years. Elevated growth in depreciation expense will continue through 2014. Following 2014, the rate of growth is expected to slow significantly as these assets reach the end of their depreciable lives. Further, we do not expect additional CapEx required to replace these assets. Net interest expense increased to $11 million for the quarter due to our second quarter debt refinancing and new issuance.

Turning to strategic capital allocation. Our priorities remained unchanged. Our first priority is investment for growth, including M&A. Litle and Element are good examples of the growth and strategic characteristics that we look for when evaluating opportunity.

Next, we will return excess capital to shareholders, either through highly accretive transactions like the TRA termination that we completed last quarter or share buybacks. As Charles mentioned, we received authorization from the board to repurchase an additional $300 million of stock, which we would expect to utilize over the next 12 months. With respect to our prior $137 million share repurchase authorization, we repurchased $103 million or approximately 3.5 million shares to the end of 2013 and are substantially complete with this authorization.

Before I hand the call back to Charles, I'd like to address a couple of assumptions with respect to our 2014 guidance. As compared to 2013, we have taken a more conservative approach in terms of expectations regarding both consumer spending trends and the ramping of new business initiatives. Another important metric is net revenue per transaction. We expect merchant net revenue per transaction to decline modestly in 2014 as transaction processing volume from Walmart ramps. Excluding this impact, we would expect net revenue per transaction trends to remain stable to up.

Turning to our Financial Institution segment. We expect both transaction and net revenue growth to be in the mid-single digits for 2014 as our teams continue to win new business, roll out additional products and as we leverage our merchant bank offering to cross-sell the new FIs.

With respect to quarterly trends, there are a couple of issues that we expect will result in lower growth in the first quarter as compared to the remainder of the year. First of all, transaction volume growth trends have been impacted by severe weather conditions, thus far, through the first quarter, particularly affecting brick-and-mortar locations. Second, growth in the first quarter is expected to be affected by the Easter holiday and associated spending moving to the second quarter of 2014 as compared to such spending occurring during the first quarter of last year.

While these items are expected to impact first quarter growth, I remind you that the first quarter is the lowest in terms of total revenue and profitability, and therefore, these impacts have a much smaller effect on our full year expectations. Therefore, we expect growth trends improve after the first quarter, given better comps and as Walmart and other new business continues to ramp.

I'll now turn the call back to Charles for closing comments. Charles?

Charles D. Drucker

Thanks, Mark. So to conclude, a double-digit growth in the fourth quarter and full year 2013 demonstrates the strength of our business model. A single integrated processing platform, comprehensive suite of solutions and diverse distribution channels are competitive advantages that have consistently enabled us to win market share. As we enter 2014, we continue to win new business and invest for growth, including expansion into strategic channels and high-growth verticals. We finished the year strong and look forward to continued success in 2014.

Thanks for your time this morning. And operator, let's open the call up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from George Mihalos at Crédit Suisse.

Georgios Mihalos - Crédit Suisse AG, Research Division

Was hoping you guys can break out for us the same-store sales trends that you saw in the fourth quarter, maybe also between your large direct merchants and your smaller merchants and sort of your expectations in 2014 guidance as it relates to same-store sales.

Mark L. Heimbouch

George, it's Mark. So in terms of same-store sales trends, really for the fourth quarter and I would say consistent throughout 2013, we're actually very stable. And we saw some of the other trends that you've heard others talk about with respect to December being slightly lower in the quarter. But for -- really for the fourth quarter and for all of '13, we saw same-store sales trends really be consistent between 5% and 6%, holding very stable. So the way we kind of really thought about that for -- moving from 2013 and 2014 is to really hold the line on same-store sales trends. Now to that point, we, of course, talked about what we're seeing around the United States, regionally in the Midwest and the Northeast, some of those storms affecting, we believe, first quarter spending. And so I would expect first quarter to be a little bit lower. But really, for the course of the year, we've assumed that same-store sales holds at that mid single-digit trend and does not move up.

Georgios Mihalos - Crédit Suisse AG, Research Division

Okay, that's helpful. And just in terms of the contribution from Element in the quarter, can you break that out for us? Was it about $10 million? And is that going to add about 2 points to growth for 2014? Is that sort of...

Mark L. Heimbouch

Yes. You're right on with respect '14. It adds about 2 percentage point in terms of net revenue growth for 2014, and it was, as well, low single digits in terms of revenue contribution for the fourth quarter. Our organic growth in the fourth quarter, particularly in the Merchant business, was really double digits, low double digits in terms of organic growth. Merchant business performed very, very strong in the fourth quarter.

Georgios Mihalos - Crédit Suisse AG, Research Division

Okay, great. And just last question for me. Just how should we think about the margins going forward in 2014? You highlighted some strategic investments. Will those continue now into '14?

Mark L. Heimbouch

Yes. I mean, some of those continue to be ongoing, particularly as we think about the new channels. There's a modest assumption in terms of EBITDA margin improvement in 2014 and in -- consistent with our view of our low-cost platform, our ability to scale and our ability to diversify our channels and clients, which, of course, have a higher revenue yield. So there's a modest expectation in terms of EBITDA expansion.

Operator

Our next question comes from Tien-tsin Huang.

Tien-tsin Huang - JP Morgan Chase & Co, Research Division

Just to follow up on some of George's question. The timing of the Walmart conversion, when will that be fully ramped? And I heard the revenue per transaction will be modestly down. So obviously, the timing of that conversion will influence that. So trying to get some guidance there.

Charles D. Drucker

So Tien-tsin, as you're aware, we signed the agreement with Walmart to process a portion of their volume at the end of the year. The volume is just starting to begin to ramp. And we're excited about the opportunity, and we'll continue to ramp up as we add the stores. Walmart's a great win for us. It really demonstrates the strength of our platform.

Mark L. Heimbouch

And with respect to the second part of your question, it is going to have an impact in terms of rate. It'll probably start to creep in the end of first quarter but be more noticeable as we go through the rest of the year. So it's beginning to ramp, and will continue to ramp. So therefore, looking kind of second, third and fourth quarter, I'd expect revenue per transaction to be down a little bit. And as we go through the year, we'll walk you through what we continue to see excluding that trend. But standing here today, our expectations, like it has been in the past, would be for rate to continue to be stable to up.

Tien-tsin Huang - JP Morgan Chase & Co, Research Division

Got it.

Mark L. Heimbouch

Excluding the impact of Walmart. And by the way, excluding the impact of any other large national merchant as well.

Tien-tsin Huang - JP Morgan Chase & Co, Research Division

Yes. I guess just as a follow through on the outlook. I understand the conservative comments. So trying to test how conservative these targets are, looking at the low end of the range would imply quite a bit of a deceleration. What could happen to take you to the low end versus the high end of the range?

Mark L. Heimbouch

We try to address in the comments really around the quarter. The way I think -- the way we continue to think about our businesses is we continue to have very strong growth characteristics. But we have -- and you guys have seen that, right, solid double-digit growth through our history, solid cash flow generation, and we continue to be very constructive in terms of capital allocation. The way I think we are doing 2014 is taking a conservative approach. And I think that -- maybe the headline here might be the expectations around the first quarter. But truth of the matter, it is the smallest on an absolute relative basis as you think about the full year. And if you start to look at the second quarter forward, I mean, we returned a very strong net revenue growth and low double digits over the remaining of the year. I want to be clear, there is not a significant ramp expected as you go through the year, i.e., Q3 being higher than Q2 and Q4. It's a very modest ramp in terms of revenue growth. It's more about what we've seen in the first quarter leading us to be a little bit bearish in terms of how the first quarter might wrap up -- ramp up.

Tien-tsin Huang - JP Morgan Chase & Co, Research Division

Understood. Now it's clear, I mean, your Merchant growth is obviously still above industry. So last question for me, just on the buyback. I heard that it was not factored into the guide. But what is the buyback philosophy? Are you going to put a 10b-5 in place? Obviously, I guess your M&A appetite and what you close will influence that. Can you give us some color there?

Mark L. Heimbouch

Yes. I mean, the -- we haven't spoken really about plans in terms of the prior program or the ongoing program. But I think the view is, as Charles indicated, continue to invest in growth. And in that vein, with respect to mergers and acquisitions opportunity, being strategic, being accretive. And then we always kind of compare that to what the alternative is in terms of returning capital. So I would lay -- I would stay with the priorities we've stated previously, and that M&A is important, accretive M&A is important. And to the extent those opportunities don't exist, be opportunistic with respect to share repurchase to support strong revenue growth and strong returns.

Operator

Our next question comes from Jason Kupferberg at Jefferies.

Jason Kupferberg - Jefferies LLC, Research Division

So just on the Merchant side for 2014. Want to deconstruct a couple of pieces a little bit. I know you gave us the Element color, which is helpful. We've been assuming that Walmart maybe is about $15 million or so in revenue for the year. So if you can comment on the validity of that. And then on that Litle side of things, we've estimated maybe about $65 million in 2013. Is that kind of in the ballpark? And if so, what sort of growth are you assuming on the Litle piece in 2014?

Mark L. Heimbouch

Want to -- lot of questions in there. Here's the way we -- Element we spoke to is going to be a couple of percentage points in terms of net revenue growth on the Merchant business in 2014. I don't want to get in into the specifics around Walmart, just given confidentiality of the relationship. So the way I would kind of guide you is transactions should be in the teens in terms of transaction growth, solid teens in terms of transaction growth in 2014. The impact on rate will pull net revenue growth down, but we still expect the Merchant business to be in the low double digits in terms of net revenue growth. Walmart is a significant win for us and continues to grow, but it's a more modest impact in terms of net revenue growth as you think about 2014. That help at all?

Jason Kupferberg - Jefferies LLC, Research Division

Sure. Tell me more about on the Litle side?

Mark L. Heimbouch

Litle continues to grow very solid double digits. So all of our strategic channels, including our direct channel, continue to deliver very solid growth. The strategic channels, which we're defining as ecommerce, which should include Litle, partner, which would include PayFac, ISV and VAR and Merchant bank are all growing very solid double digits.

Jason Kupferberg - Jefferies LLC, Research Division

Okay. And then tax rate and sales and marketing expense for 2014, what are you assuming there?

Mark L. Heimbouch

Tax rate, we're assuming to be pretty consistent. As you know, our capital structure -- so we continue to provide a tax rate that we would assume would be stable, could be a little bit better, certainly not increasing. What was the last question?

Jason Kupferberg - Jefferies LLC, Research Division

Sales and marketing. But before you go there, just to make sure I got the tax rate comment right. Do you mean consistent with Q4? I mean, I think you came in on an adjusted basis around 30%, 30.2% or so. Is that what we're talking about, or is it something different?

Nathan Rozof

I'd say -- Jason, it's Nate. It's consistent with our prior comments around the effect of the TRA last quarter and the tax benefits from that. So no change to that view.

Jason Kupferberg - Jefferies LLC, Research Division

Okay. And just on the sales and marketing side?

Mark L. Heimbouch

Yes. Sales and marketing on the Merchant business will continue to grow. Sales and marketing on the FI line, I know we talked about 25% growth in the fourth quarter. Going forward into 2014, it's actually fairly flat.

Jason Kupferberg - Jefferies LLC, Research Division

Okay. And then just one last one, if I can sneak it in. I'm just curious, in the wake of all the retailer POS security breaches, are you seeing any increase in demand from Merchant for your Tokenization or your end-to-end encryption-type solutions? And then if you can just talk a little bit about how those are priced? Is it more of a onetime sale or a per transaction fee?

Charles D. Drucker

Yes. So I'd tell you our clients have always been focused on security. But what we're really seeing is the security increase in their priority queue and how they want to implement is really moving up the queue. So they've always been focused on our solutions. We've been talking about it. But the priority with our retailers have significantly moved up in their IT queues. And we help our clients through securing the card data. We have comprehensive products, like the end-to-end encryption, Tokenization. And that is more of a per-click type of -- or transaction basis. So it's not necessarily a one-timer. It's more click-based.

Operator

Our next question comes from Ashwin Shirvaikar at Citi.

Ashwin Shirvaikar - Citigroup Inc, Research Division

Wanted to ask about your comment on the shift in mix of client portfolio on the FI side. And also on the FI side, what's -- I mean, are we sort of permanently down to this flat to very low single digit, or is there any kind of a recovery down the road possible? What would drive that?

Mark L. Heimbouch

Yes. I mean, I think that our view on the FI business remains consistent. With respect to the mix impact that we've seen, just to kind of give you clarity on that, it's basically higher growth at relatively lower-priced financial institutions as compared to being attrition-related or mix -- or new client-related. But it's more about growth and mix. So our expectation is still for FI to be a mid single-digit grower, both in terms of transactions and revenue per transaction. And I think yielding to that rate will be the impact of some of the solutions in 2014, including fraud-based solutions, some of the data and analytics solutions. So we'd still stay around that mid single digits on both.

Nathan Rozof

And just to clarify that, that's -- we would expect it to be mid single digit in terms of transactions and net revenue.

Mark L. Heimbouch

Yes.

Ashwin Shirvaikar - Citigroup Inc, Research Division

But is that the comment on 2014, or is that more of a interim midterm kind of comment?

Mark L. Heimbouch

That's the comment with respect to 2014.

Ashwin Shirvaikar - Citigroup Inc, Research Division

Okay, got it. And I may have missed this, cash flow from operations and CapEx guide. And has anything changed with regards to your overall cash contribution from TRA later this year?

Mark L. Heimbouch

No. I mean, our free cash flow generation, as you know, continues to be very strong. Approximately cash earnings are in the range of 50% of EBITDA. That continues. In CapEx, I think we've always guided to around 5% to 6% of net revenue in terms of CapEx. So some quarters or years, it's higher or lower. But I think our views remained consistent there.

Ashwin Shirvaikar - Citigroup Inc, Research Division

Okay. And last question, really a clarification. The 7% to 10% overall that you're looking at, basically from an organic standpoint, is that basically then 5% to 8%? Is that what you're saying or...

Mark L. Heimbouch

I mean, we haven't really pulled out the specifics. I think we talked about the Element representing a couple of percentage points. So we've -- as we stated earlier in the guidance, we have taken a conservative approach this year in terms of thinking about the year. And I think we're still very positive on the growth. I would say we've just taken a more conservative approach in terms of guidance this year.

Ashwin Shirvaikar - Citigroup Inc, Research Division

Right, right. No, I was just kind of thinking because the -- I think Tien-tsin may have asked this earlier, the level of conservatism that is sort of important, probably going to be leading question all day today. So I'm just trying to get to that.

Mark L. Heimbouch

Okay. Element represents 2 percentage points. The effect of that would be the remaining business is all organic growth.

Operator

Our next question is from David Togut at Evercore.

David Togut - Evercore Partners Inc., Research Division

Charles, could you talk about some of your initiatives to accelerate growth in the bank branch channel and also in some of the higher growth verticals that you referenced in your comments?

Charles D. Drucker

It's about -- let me start by the merchant bank. We've really improved that penetration of the merchant bank channel. And our branch count of -- this is non-Fifth Third branches, are approaching 1,500. And what we're seeing as we talked about last year is really an increase in the number of referrals that each branch is generating. So we're seeing the traction as we're bringing up the branches -- they just brought up [ph] the branches last year and we're seeing the referrals coming. So it's growing in importance. It's really relative to that business. In 2014, we expect a number of referrals from the merchant branches, the new merchant banks, to approach what Fifth Third channel, which was historically our primary channel when we first carved out, to be about the same. In addition, we're seeing some cross-selling activity as we kind of put the FI issuing and Merchant acquiring together. So we're remaining pretty confident about -- this is the right strategic direction, and we're seeing the traction starting to happen and move forward. So we're excited about the bank itself. We're having advantages in the -- still getting the wins in the ecommerce space. Ecommerce has been important. We have our sales force stacked against it. Litle is winning business in the mid-market area, and we're pitching on large e-retailers to move. So those things are going well. The ISV channel with Element is really starting to take hold, combining our sales force, plus our scale with a lot of these software vendors. We're starting to get very, very good traction on that, even though Element just happened at the end of the year. We're seeing a lot of good traction in that area. So we're feeling very good about these new channels and how they're starting to move and position us for 2014.

David Togut - Evercore Partners Inc., Research Division

That's very helpful. Just a quick follow-up. You referenced the merchant bank channel is approaching where you are or where you were at the peak with Fifth Third. Can you give us some context around how big that was at the peak?

Charles D. Drucker

Mark, did we talk about...

Mark L. Heimbouch

We've got 50 -- yes, go ahead.

Charles D. Drucker

No, you go.

Mark L. Heimbouch

So the question is around the size of the merchant bank channel. We haven't got specifics. But if you think about a few years ago, it was really Fifth Third that was driving a majority of our leads. That's become -- it still remains our largest direct channel, but it's become meaningfully smaller as the business has grown. And the way we're thinking about the merchant bank branches outside of the Fifth Third network is that it's actually starting to approach the size of that Fifth Third referral channel. So the 2 combined together are pretty powerful and pretty meaningful in terms of driving new referrals. I don't have the specific percentage. Perhaps we can follow up with you on that. But it's less than half of our leads in the direct business anymore.

Operator

Our next question comes from Tim Wojs at Baird.

Timothy Wojs - Robert W. Baird & Co. Incorporated, Research Division

I guess just on -- just to go back to Walmart. In terms of the run rate, I mean, is it fair to think that you guys should be at the transaction run rate by -- about the end of -- maybe Q2 or into Q3?

Mark L. Heimbouch

Yes. I think our expectation would be that we probably start to kind of season that in -- during second quarter.

Timothy Wojs - Robert W. Baird & Co. Incorporated, Research Division

Okay, okay. And then I guess just the pace of the buyback in Q4. Was that mostly weighted towards the back half of December, and then maybe a little bit in January? I just want to make sure I get the share count right.

Mark L. Heimbouch

I think we actually disclosed the share count in the filing. I think it was 3.5 million shares through the end of the year. Want to say a $103 million, so the remainder of that has come since the end of the year.

Timothy Wojs - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then I guess -- just on leverage. I think you guys are a little bit below -- on the net debt to EBITDA, a little below 3. I mean, what's your comfort level in terms of leverage on the business?

Mark L. Heimbouch

I mean, we're -- as we said before, we're comfortable with leverage, particularly at Fifth. It can be used in a constructive way to drive returns. So twice since the IPO, we've taken leverage on a gross basis up to 3.5x and delevered very quickly. So we're comfortable. That being said, we want to be thoughtful in terms of how best to use leverage, whether it be through M&A or delivering returns. So we're comfortable where we are and think it leaves us flexibility to do strategic M&A, as well as support the growth of the business. We have not put a target out there. And I think certainly, in today's environment, targets of 2 years ago probably don't apply given the lower rate environment and the strength of the credit market. We're comfortable.

Operator

Our next question is from Dan Perlin at RBC Capital Markets.

Daniel R. Perlin - RBC Capital Markets, LLC, Research Division

So just a couple of questions. As we thought about how the fourth quarter unfolded a bit, there's a lot of discussions kind of late quarter, where a lot of transactions shifted on ecommerce. I'm wondering, one, did you see that in Litle? And two, just kind of expectations around that type of shift as opposed to just winning new business.

Charles D. Drucker

I think we -- in Litle, we saw good growth in the Litle and we saw a shift in our -- in the customers that we have. I would tell you, Litle, at this point, we're winning business, and Litle is integrated into our entire business. So it's really Vantiv as a whole. So we're seeing wins, and we're seeing the ecommerce clients and grow more rapidly than some of the brick-and-mortar clients. The challenge that we have and more -- is more of an opportunity is that it's only a smaller portion of our base of clients. So as we continue to win these clients, it would help accelerate our growth in the future because their same-store growth is growing much quicker than the brick-and-mortar.

Daniel R. Perlin - RBC Capital Markets, LLC, Research Division

Okay. And then along that line of same-store sales growth. I know you had said you thought it was stable in the fourth quarter at 5% to 6%, let's say, but you didn't necessarily call out how the ISO channels were trending. And I know that in the past, you had called out. So I was wondering if you'd be willing to do that again. And if your commentary is stable, then that is -- is that implying more like a 2% growth at that level?

Mark L. Heimbouch

Yes. I -- this is Mark. Yes, I -- that's a fair statement. I mean, we continue to see same-store sales trends in the smaller merchants, I would put it, be slightly lower. So I think that kind of relationship has continued to hold as well.

Daniel R. Perlin - RBC Capital Markets, LLC, Research Division

Okay. And then when you talk about the referral rate being equal to Fifth Third, can you just -- what is that -- how should we think about that in terms of context? I mean, like the conversion rate, I know you guys have been enormously successful in signing branches and the problem had been the productivity. It sounds like you're solving that a little bit. But I'm trying to get a sense of what that really -- how should we be looking at that as an outsider looking in?

Charles D. Drucker

So let me give you general and I'll -- then I'll throw it to Mark to see about the specifics. But what -- our challenge was early last year is that we were signing the branches but the underlying productivity wasn't happening as quick as we'd like. We've deployed different strategies against that. And towards the end of the year, they start to take very good traction. We start to get the hearts and minds of the referring branches, and the activity has significantly picked up for us. And, Mark, I don't know if you described before the number or -- per branch?

Mark L. Heimbouch

We tried -- we talked about it -- I think to kind of give you a range in terms of -- from a branch slow productivity to higher productivity is probably 1 to 2 referrals per month. And what we've seen occur -- no, we -- of the 1,500 branches that we referenced, they're not all turned on yet. But what we're seeing across the average is that average starting to approach kind of our traditional high referral rate on the Fifth Third branch network. So it is starting to work. Productivity is starting to ramp. There are new branches that we would expect to come up over the course of the year. And the pipeline, in terms of some important relationships, is also pretty strong. So we're pretty optimistic on that channel. And just to touch on that, the attributes of that channel as well are very attractive. It comes with generally a low- to mid-sized Merchant client mix, as well as very sticky retention. So the attrition of that channel is very low.

Daniel R. Perlin - RBC Capital Markets, LLC, Research Division

Okay. And the kind of proof point of all of that ultimately is that you've educated the people that need to sell this and that Merchant acquiring is this kind of wedge, and so you're marrying those 2 and you convinced them of that. Is that the real trick?

Charles D. Drucker

It's -- we've always -- I don't want to -- we've always convinced the senior leadership of these organizations that it's the wedge, it's the right thing. It's getting the soldiers on the streets that are talking to the clients convinced. And we've employed ways and training like I talked about, and it's taking hold. And we're employing them earlier now on new business that we signed in the branches. So the answer to that would -- is yes.

Daniel R. Perlin - RBC Capital Markets, LLC, Research Division

Okay. And then just one last one. I'll jump off. The -- I know there's a lot of talk about security. But is there any benefit to you guys in terms of reissuance of cards that are the result of the target breach and others? And if so, would we start to see that in the first quarter?

Charles D. Drucker

The issuers and some of our issuers are like anyone else is -- are reissuing cards. So there would be more cards issued in the first quarter time period. Mark, I don't know if that's material?

Mark L. Heimbouch

Yes, it's probably not material. But I think our view is that there is a little bit of benefit in terms of reissuance, as well as some impact on the Merchant side as people are thinking a lot more aggressively about security and fraud solutions.

Operator

Our next question is from Smitti Srethapramote at Morgan Stanley.

Smittipon Srethapramote - Morgan Stanley, Research Division

A couple of days ago, Whole Foods announced that they were going to be using the Square Register and Square Stand product in select store locations. Can you talk about any potential risk to your relationship with Whole Foods? And also maybe can you give us an update on your integrated plan of sales strategy?

Charles D. Drucker

Yes. So I'd tell you our relationship with Whole Food is strong and it's been expanding. But there's a lot of innovation happening at the checkout, and the Whole Food being one that test various solutions to bring frictionless or improve their customer experience. So they're very focused on their customer experience. The announcement focused on some of the -- some locations that they have placements of the Square Register at the coffee counters and other select locations within the store. And that's not going to be, overall, we believe, material to our business. I'd say also, what we've been focused on with the Checkout and Mobility with the large clients is we've been focused on delivering an integrated solution that really can serve the whole store and the entire store with front checkout versus what I'd call one-off solutions. So Square has -- Square continues to do good jobs. They have a niche product in these shops. Our focus has been the front checkout, the whole solution. So we've recently done something with Microsoft that is focused on addressing the whole checkout and solutions, and we have other partners to do that.

Smittipon Srethapramote - Morgan Stanley, Research Division

And then maybe can you give us any details regarding any headwinds you may have seen from the Target data breach? I think they reported same-store sales in the latter half of December falling and obviously, they're one of your largest customers. Just to what extent were your Q4 numbers negatively impacted?

Mark L. Heimbouch

Yes. Let me -- certainly not going to provide guidance as it pertains to a given client. But the way I would think about that question is -- where we're pretty unique, is we really don't have high level of concentration on any given client. If you guys recall, we put a pie chart out I think over last year, the last couple of years, certainly, that provides you with client concentration. And just as you think through that, obviously, Fifth Third is our largest client. And even at that level there, I think mid single digits, 5%, 6%, 7% in terms of our total net revenue. And after that, the next largest client would be 1% to 2% of that revenue, and then it falls off pretty drastically. So no given client by itself really has a significant impact on our same-store sales trends or revenue trends.

Operator

Our next question is from Bryan Keane at Deutsche Bank.

Bryan Keane - Deutsche Bank AG, Research Division

Just on the first quarter. Are you expecting same-store sales to be in the 2% to 3%? I'm just trying to get an idea of where that number is coming at?

Charles D. Drucker

Yes. I think we kind of thought about it in terms of what we're seeing on a total basis because it's also affecting -- the weather we kind of see is also affecting the new business, meaning that clients have come on. They're also a little bit lower than we would've expected. So it probably -- it's certainly going to be below the mid single digits. Whether it comes up between 3% to 5%, it's certainly going to be lower that we -- what we've seen over the entire course of 2013. That being said, maybe it's going to get -- you sit on the West Coast where it's been a little bit warmer. Some of us unfortunately are not sitting out on the West Coast. Hopefully, this weather is going to turn and things will get better and everybody will be running out and spending lots of money and things will return and be better, so.

Bryan Keane - Deutsche Bank AG, Research Division

Yes. We don't know what all the weather problems are all about out here.

Mark L. Heimbouch

Yes. You southern guys with your hair thrown back, we understand that.

Bryan Keane - Deutsche Bank AG, Research Division

Exactly. And then just to kind of take another step further. When we think about the pickup into the second quarter from that first quarter, probably about 3 points or so on my estimate. Is that just a little better same-store sales, Walmart fully ramped and then additional new clients? Is that how to think about the reason for the pickup between first and second?

Mark L. Heimbouch

Yes. I actually think that -- or the way our model has the rest of the year is we kind of -- as we get through this weather stuff, we're actually back at the same mid single digits in terms of same-store sales growth. Just to kind of recap the way our business really grows, right? Say, total transaction growth tends to exceed same-store sales growth because of the net new adds or new clients coming on. And Walmart is certainly going to have an impact on that, among the other new businesses that's been added over the past 12 months. So in addition to that, we would expect a modest improvement from revenue per transaction as well. So if you think about the rest of the year, the quarters are fairly consistent, just a slight uptick Q2, Q3, Q4 and given the seasonality in Q4 going into the holiday period now being bigger. Just a slight uptick, really, as you go over the course, the remaining quarters. So it's not that there's a significant ramp from Q2 to Q4 in terms of rate of growth.

Bryan Keane - Deutsche Bank AG, Research Division

Okay. And then just last question for me. On the EBITDA margins, I think you talked about -- well, at the end of the second quarter, there was supposed to be 100 basis points margin expansion. And I think last quarter, you took it down to 20 to 30 basis points margin expansion for EBITDA. And then obviously, those -- I think EBITDA margins were actually down. So I'm just trying to get a sense of what's happened kind of compared to your guidance. Is that all just investments in the business, or what's exactly driving that to be lower than your forecast?

Mark L. Heimbouch

Yes. As I said on the call, we were -- it was a little bit under pressure, just given the Element acquisition closing and additional expenses. I mean, it's a smaller business not performing at the same 50% EBITDA margin. So it's a drag on margins. As well as to your point, some of the strategic initiatives offsetting what we would've thought to be greater expansion. So that's exactly the point.

Bryan Keane - Deutsche Bank AG, Research Division

And you're confident you can get a little bit of margin expansion this year as some of those investments, I guess, anniversary?

Mark L. Heimbouch

Yes.

Operator

Next question comes from Darrin Peller at Barclays.

Darrin D. Peller - Barclays Capital, Research Division

Listen, I just want to quickly follow up on the margin question again. I mean, I guess with regards to the synergies that you find, you might have left from either Element or just overall scale in the model, can you just help us understand where they --- what might be out there in terms of -- walk us through a little bit of it and how we should think about the synergies left on the table around Element, as well as some of the other deals you've done? And then maybe add to that your thoughts around -- are there any other deals out there? Are we -- do we have the full package right now for 2014 in terms of the deals you've done between Litle and Element over the last couple of years, or are there other, let's call it, integrated POS vendors out there that might make sense to add as a tuck-in as well?

Charles D. Drucker

So I think we -- these 2 Element -- Element and Litle, check some of our strategic boxes that are helping us grow. But that doesn't -- M&A and deploying capital in the right way doesn't preclude us from other opportunities coming up. So whether there are other ones that have tuck-ins or other things, we'd be open to various M&A focus on that. So -- but as far as what's in our numbers, those are the 2 acquisitions. Mark would just point to the...

Mark L. Heimbouch

Yes. The key drivers to margin -- I mean, Element is small, but it is -- but it does really represent a small drag on the margin. And that probably gets a little bit better over '14, but it still continues to be a drag on margin. Really, the key drivers in terms of EBITDA expansion, we clearly get margin expansion on the sales and marketing on that line, but more so on the FI side of the business. And we also start to see some expansion through operating cost. And G&A really starts to perform more like a fixed cost. I mean, we're lapping the Element piece right now. But over time, that's really becoming more of a single-digit fixed expense type of growth.

Darrin D. Peller - Barclays Capital, Research Division

Right. I mean -- I guess just to follow on that. With regard to Element, in particular, we -- the checks being done on Element suggest that at the pricing you have in the market around it was, I guess, somewhat lower than what you're seeing -- what we're seeing other integrated POS providers charge in some instances. And so I think that was an area you thought you'd be able to raise over time to bring it more in line with industry average for companies with the -- with expertise there. Can we expect that? Is that embedded in your guidance? Is that upside? I mean, just -- can you talk a little bit about pricing on that front?

Charles D. Drucker

So we usually don't go into pricing in detail. But I'd tell you, Element has the product that -- our initial focus is grabbing market share and using their product and features along with our scale. I would think we're very disciplined around market pricing. And I would say just in general, we're very focused and strategically looking at pricing opportunities across the entire portfolio which would include them if they're short of the market expectation or not getting paid for the delivery of products that we're doing. So the answer overall is we continually look at our portfolio. And if the survey shows a portion of our base that may be at lower price in the market that -- of course, that portfolio of those things are on our radar.

Darrin D. Peller - Barclays Capital, Research Division

All right. Just last question for me. I mean, any updated thoughts on your plans from an international standpoint?

Charles D. Drucker

Yes. From an international standpoint, international expansion is really still on our roadmap for growth. Our expansion into international is really going to be opportunistic, such as an acquisition or partnerships. So we're starting to explore that. And finally, what I've said before, which we haven't really change, is ecommerce really remains an interest as it look -- as properties or other things internationally may become available. So it's on our roadmap, and we're going to be exploring international in the future.

Nathan Rozof

Great. So why don't we wrap it up there. Charles, you want to close the call?

Charles D. Drucker

Yes. So thank you. So really, to conclude, a double-digit growth in the fourth quarter and full year 2013 demonstrates the strength of our business model. As I said before, a single integrated processing platform, comprehensive suite of solutions and diverse distribution channel are competitive advantages. They really have consistently enabled us to win market share.

As we enter 2014 and hopefully as you see on this call, we'll continue to win business and invest for growth, including expansion into strategic channels and high-growth verticals. Really proud of our team, how we finished this year strong, and we look forward to continued success in 2014.

I want to thank everyone for taking the time this morning on this call, and thank you for joining the call today.

Operator

That does conclude today's conference. We thank you for your participation.

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: Vantiv Management Discusses Q4 2013 Results - Earnings Call Transcript
This Transcript
All Transcripts