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Executives

Julie Prozeller – Financial Dynamics

Edward J. Heffernan – President and Chief Executive Officer

Charles L. Horn – Executive Vice President and Chief Financial Officer

Analysts

Jim Kissane – Bank of America/Merrill Lynch

Andrew Jeffrey – SunTrust Robinson Humphrey

Darrin Peller – Barclays Capital

Daniel Perlin – RBC Capital Markets

Sanjay Sakhrani – Keefe, Bruyette and Woods

David M. Scharf – JMP Securities

Bill Carcache – Macquarie Capital

Alliance Data Systems Corporation (ADS) Q2 2011 Earnings Call July 21, 2011 8:30 AM ET

Operator

Good morning. My name is Jennifer and I will be your conference operator today. At this time, I’d like to welcome everyone to the Alliance Data Second Quarter 2011 Earnings Conference call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks there will be a question-and-answer session. (Operator Instructions) Thank you.

At this time I’d like to turn the call over to Ms. Julie Prozeller of Financial Dynamics. Please go ahead.

Julie Prozeller

Thank you, operator. By now you should have received a copy of the Company's second quarter 2011 earnings release. If you haven't, please call FD at 212-850-5721.

On the call today we have Ed Heffernan, President and Chief Executive Officer, and Charles Horn, Chief Financial Officer of Alliance Data

Before we begin, I would like to remind you that some of the comments made on today's call in some of the responses to your questions may contain forward-looking statements. These statements are subject to the risks and the uncertainties described in the Company's earnings release and other filings with the SEC. Alliance Data has no obligation to update the information presented on the call.

Also on today's call, our speakers will reference certain non-GAAP financial measures, which we believe will provide useful information for investors. A reconciliation of those measures to GAAP will be posted on the Investor Relations website at www.alliancedata.com.

With that I'd like to turn the call over to Ed Heffernan. Ed?

Edward J. Heffernan

Thanks, Julie. I appreciate everyone getting up early especially in the West Coast. Hopefully you have a nice bowl of Cheerios going and we’re going to get right after it here today. I’m going to turn it over immediately to Charles Horn, our CFO, who is once again back by popular demand to take us through the quarter. And then I'll talk a little bit about our outlook for the remainder of the year and then give a little bit of a viewpoint into where we see 2012 and 2013. That being said, Charles?

Charles L. Horn

Thanks, Ed, and to a great start to 2011 with a record first quarter, we continued strong building momentum for the back half of 2011. Of note, Epsilon achieved record revenue and adjusted EBITDA for the quarter while Private Label continue to exceed our expectations regarding its portfolio performance.

In total, consolidated revenue increased 11% to $740 million. All three segments achieved revenue growth with Epsilon increasing 38% compared to the second quarter of 2010. In addition, Epsilon again achieved double-digit organic revenue growth.

Core EPS increased 27% to $1.75 considerably beating the company's guidance of $1.60, while GAAP EPS increasing even better 43% to $1.19 per share. Both increases were achieved despite a $2.4 million increase in diluted share count due to phantom shares associated with our convertible notes.

The reason we call them phantom shares is that these particular shares are covered by economic hedges with counterparties. The company has no obligation now or in the future to issue these shares. It is purely an accounting convention that places them into diluted share count. Upon maturity of the convertible notes, phantom shares disappear from the diluted share count. Said in another way, until the convertible notes mature, our true EPS numbers will be understated.

Adjusted EBITDA increased 15% to $239 million, while adjusted EBITDA net of funding cost increased an even stronger 27% to $198 million. Funding cost benefited from $5 million mark-to-market gain on the interest-rate derivatives. As discussed in our earnings release, this benefit of approximately $0.05 was excluded from core EPS.

In summary, for the second quarter, we more than achieved our targets of double-digit revenue, adjusted EBITDA and EPS growth.

Let's turn to the next page and talk about LoyaltyOne. Overall LoyaltyOne met expectations for the second quarter. Notably, miles issued increased 5%. Revenue increased 5% if you exclude the foreign exchange translation gains and the negative grow-over deferred revenue, which fully amortized in the second quarter of 2010.

Adjusted EBITDA increased 1% again excluding the foreign exchange translation gains and the negative grow-over our differed revenue. Adjusted EBITDA margin for Canada remains strong at 28%. The margin for this segment was reduced nominally due to higher operating losses associated with our international expansion activities. Miles redeemed increased 2% dropping the current period redemption rate to 67% in line with our expectations for the remainder of 2011.

As discussed before miles issued grew 5% for the quarter keeping LoyaltyOne on track for a mid single-digit increase for the year. The growth was a balance of credit card spending, high frequency in specialty retail growth and the return of some promotional activity in the grocery space.

Miles redeemed increased 2% as certain routine changes made to the AIR MILES reward program during the first half of 2011 dampens collector redemptions during the quarter. As discussed during our last earnings call, we fully expected this. While the changes makes slightly lower revenue growth, they will create, likely creates higher EBITDA margins in the future as well as support our ultimate redemption rate of 72%.

The Dotz loyalty program in Brazil continues to meet our expectations. With the signing of Banco do Brasil as the national anchor sponsor we are looking to take the platform to a national level. They will be done in the following steps: first, during the third quarter of this year we will complete the acquisition and conversion of a portion of Banco’s over 30 million accounts into the program. We currently estimate 2 million to 3 million of these accounts to participate in the Dotz program over the near term.

Second, during the fourth quarter of this year, we will proceed with the states rollout with our national partners. And third, during 2012, we will look to secure additional high-frequency partners and look to move into new geographic regions.

As we’ve talked about before, we currently own about 35% of Dotz. We increase our ownership position as we inject the capital into Dotz to fund growth and could eventually take majority ownership. Our goal for Dotz is to reach EPs accretion in 2013. With a target population of more than 70 million collectors in the country’s 200 million residence, we believe the long-term potential of Brazil equates to a similar level to what we’ve experienced in Canada, which currently generates over $250 million a year in operating cash flow.

We continue to look for opportunities to make similar, measured investments in other attractive markets. During the second quarter we did just that acquiring a minority interest in Direxions Global Solutions, a leading royalty, customer relations management and data analytics company in India.

Let's go to the next page and talk about Epsilon. Epsilon posted excellent results once again this quarter, and with the Aspen acquisition contributing to a record quarter for Epsilon both top and bottom line. Revenue increased to $188 million, up 38%, net adjusted EBITDA increased $39 million, up 26%, both compared to the second quarter of 2010.

If we break it down by business line the database digital revenue grew 20% compared to the second quarter of 2010, continuing the standard set in the first quarter of this year. This business line is composed primarily of large contracts with global brands to support data driven marketing platforms. These platforms are utilized by Epsilon clients to drive relevance, marketing messages and programs across various consumer channels including websites, call centers, point-of-sale, mobile, e-mail, social, and direct mail. Growth in this core business is well balanced, driven by combination of new clients, up-sell, cross-sell projects with existing clients and growth in digital volumes.

Digital volumes, which is our permission-based e-mail, powered through a temporary slowdown in conjunction with the security incident discussed in our last earnings call, and quickly return to double-digit growth as clients continue to shift marketing dollars into the data driven direct communication channel to adjust permission-based e-mail.

Additionally, since this security incident, Epsilon has continued to move forward with a number of key enhancements to the security of its e-mail platform, following through in our commitment to put in place the best security measures in the industry, what Ed refers to as our Fort Knox strategy. Well, for obvious reasons, we will not broadcast these additions; they include enhanced authentication requirements for our global user base along with sophisticated custom technology that monitors and near new real-time malicious IP hits and suspicious behavior patterns in and around Epsilon’s network. We are pleased that clients remain supportive and our outlook for this business is strong.

On the second business line, which is data, the data revenue grew 28% for the quarter. The data business principally includes our Abacus, which is a market leading data corporative for retailers, cataloguers and other verticals and DMS, a consumer demographic business acquired in July of 2010. Excluding DMS revenue growth was essentially flat year-over-year as Abacus’ second quarter 2010 revenue was stimulated by discounted postage rates to major retail cataloguers.

The third business line, which is Agency/analytics, revenue grew 140% primarily due to the acquisition of Aspen on May 31, 2011. Excluding Aspen, revenue growth was still solid at 6% due to initiatives previously undertaken. We will discuss Aspen in more detail in a few minutes.

Summing up, all components of the Epsilon platform were performing well, with earnings coming in at all-time highs. We weathered the security incident back in March 2011 with no material impact on digital volumes or client relationships.

Let's turn to the next page and we’ll talk briefly about the Epsilon business model. If we take a step back, before Aspen, Epsilon through organic growth in previous acquisitions had deep capabilities before of our five key product offerings. The first is data, which provides unique insights to help clients identify consumers and businesses and communicate relevance to them.

The second is Database, which is the heavy lifting required to process and store massive amounts of data and provide sophisticated marketing of loyalty tools to operate programs. The third is Analytics, which is deploying real time segmentation models and predictive algorithms to optimize clients’ dialog with their consumers. The fourth Distribution, which utilizes analytics, enable communications across all channels, both traditional and emerging digital channels.

And the fifth is Agency Creative, and this is where Aspen brings significant size and capability to this category. Agency Creative includes working with the Fortune 1000 chief marketing officers to develop and design the marketing programs that the other product offerings execute. In addition Aspen brings significant presence in new verticals, increase these strong opportunity for Epsilon to up-sell and cross-sell this broader service offering into existing clients.

In summary, with the closing of Aspen, Epsilon is in a strong position with a well rounded and more balanced business model.

Overall, Epsilon stands today with a combined pipeline at an all-time high and is well underway with the Aspen integration. Each of the core offerings are driving growth and are benefitting from the ongoing macro trends as global funds continue to shift money into the measurable, ROI-based marketing categories Epsilon supports. With the addition of Aspen we expect Epsilon to have a strong finish to 2011 with both top and bottom line acceleration. For 2012, Epsilon is in position to top $1 billion in top line and $1.25 billion in adjusted EBITDA.

Let’s turn to Private Label. Private Label continued its strong 2011 performance with the revenue up 2% and adjusted EBITDA net of funding costs of 30% for the second quarter and 2011. Excluding a $5 million mark-to-market gain on interest rate swaps, which lowered funding costs for the quarter, adjusted EBITDA net still increased a stellar 44% compared to the second quarter of 2010.

Revenue increased 2% despite a 3% decrease in credit card receivables because of a higher growth yield. The growth yield is up year-over-year due to program changes made throughout 2010 and now in the mid 27% range of approximate to normal run rate. The provision for loan loss expense decreased 36% year-over-year to $60 million due to a 180 basis point improvement in charge off rates.

Lastly, funding cost dropped from the second quarter of 2010 due to a 12 basis point improvement in cash funding rates, lower average credit card balances, and the mark-to-market gains discussed before.

Looking at the key fundamentals of Private Label, cardholder spending continue to gain momentum and grew by 9% for the quarter following a 5% gain in the first quarter of 2011. This consisted of a 12% growth from our active clients, less than 3% drag from terminated or defunct clients.

Year-over-year, there was solid improvement in most areas of the retail world. Specialty retailers and catalogers were strong this quarter, while some of the larger ticket merchants continued to be impacted by the macro environments.

Average credit card receivables decreased about 3% during the quarter. Payments continued to be strong in the quarter as consumers continued to push down debt levels. Payment rates have now returned to levels last seen back in 2007. Overall, payment rates did moderate during the second quarter in the mid 18% range. Once the higher payment rates anniversary, which we expect in the third quarter 2011, we believe the strong cardholder spending will stick and drive receivables growth.

If we look at delinquencies, while higher payment rates due pressure receivables growth they are beneficial to delinquency levels. For the quarter, average delinquency rates decreased to 4.5% of average credit card receivables. This is a 90 basis point improvements versus the same quarter last year. Falling delinquency rates are a leading indicator that charge off rates will decline in the future.

Lastly, the principal charge off rate was 7.2% for the second quarter of 2011, again representing a 180 basis point improvement over the prior year quarter. Clearly, portfolio performance has [delinked] from unemployment rates, and to some degree, the choppy economy.

Let's go to the next page and we’ll go over a couple of charts. But first we will talk about [HRX’s] Private Label charge off rates compared to the Moody’s Credit Card Index. A reminder, the Moody’s Credit Card Index is based upon credit performance, data for approximately 230 individual credit card based securities rated by Moody’s. The index sample includes approximately 290 billion of bank credit card receivables, which back securities rated and monitored by Moody's.

As you can see in the chart, our Private Label charge off rates performed significantly better than the index during the worst of the recession, peaking at about 10% and is now tracking with the index, which was consistent with our expectations. Eventually, we believe our charge off rates will normalize in the low 6% range. Before, then we believe the charge off rates could dip below 6% on a short-term basis as the charge off rate trend overshoots a normalized runrate.

Let’s flip to the next slide, and this is something you probably heard Ed talk about before and that's a concept of a barbell effect in our Private Label program. And Ed said on one end of the barbell, you have the higher income individuals who are spending, they are paying at a higher rates and on a timely basis and this is a fairly big group.

In the middle, which is the handle, is the middle-income individuals who are sparse, with little opportunity to extend or expand credits to this group, it's a very small group. On the other end of the barbell, which is again a large group is lower income individuals, many chronically unemployed due to length of the recession and have burned through the credit system. So the result is the charge off rates sparse and the industry continue to drop even its high unemployment rates certainly persist.

For us, historically charge-off rates would exceed the unemployment rate by about 100 basis points; we have seen a complete decoupling of the two metrics. Accordingly, we expect charge-off rates to continue to trend downwards regardless of unemployment rates.

Let's turn to the next page and talk about liquidity. Corporate liquidity at June 30, 2011 was approximately $410 million. A new credit facility coupled with the resumption of dividends from our banks allowed corporate liquidity to grow from the end of Q1 2011 even though we used approximately $360 million during the quarter to acquire Aspen.

Our debt levels remained very manageable. The key long covenant ratio, which is corporate debt-to-adjusted EBITDA was 2.5 to 1 at June 30, 2011 substantially below the covenant ratio of 3.5 to 1.

At the bank level, we have approximately $3.3 billion of available liquidity at June 30. Two conduit facilities aggregating $1.5 billion were renewed during the quarter at favorable terms. Regulatory ratios at our banks remained strong with WFNNB capital ratios at 15% for tier 1, 14% for leverage and 17% for total risk-based as of June 30, 2011. Importantly, dividends resumed in the second quarter after a two-year hiatus. WFNNB made $60 million dividend payment to ADS during the second quarter and we expect similar amounts in future quarters.

The share repurchase program continues to be one of our anchor strategies. During the second quarter, we spent $55 million acquiring 650,000 outstanding common shares. Year-to-date we spent $170 million acquiring 1.5 1million outstanding common shares. As of June 30, 2011 we have $211 million to spend under the program through the end of 2011.

In summary, for the quarter, we bolstered liquidity by growing the company through acquisition and driving shareholder value through our repurchase program. With that I will turn it over to Ed, to talk about our 2011 outlook and our updated guidance.

Edward J. Heffernan

Thanks, Charles. The slide should read 2011 key accomplishments, and frankly it has been the most productive first-half for the company that I can recall in recent memory. We tend to put together about a dozen critical tasks at the beginning of each year and obviously try to knock them off one by one as the year progresses. It’s only halfway through the year and I would say we're 90% to 95% of the way through which is great news. So specifically let's talk about the critical deliverables and how we knock them off as the year has progressed.

Let’s start first with LoyaltyOne, which is primarily the AIR MILES program in Canada. The most critical item we had up there was the metric that defines essentially how we make money and that is the ability to issue miles or points or however you want to define them and that metric had been stagnant for three years, 2008, ’09,’10 at about 4.5 billion miles.

So it’s critical that we got this thing going again. There was some concern out there that the business was so big and so dominant in Canada that it had plateaued, we did not feel that and as a result we put our shoulder into getting this thing going again, and sure enough our goal is to be running miles issued at about 5%. And sure enough year to-date we are running up 5%, we expect that to hold for the remainder of the year that’s extremely good news. If you add the 5% growth with a couple of points for CPI inflators it essentially translates into high single digits organic growth top line and about 10% EBITDA growth over the long term, and that we would consider to be a very nice, long term growth outlook for the business up there.

How we do it? Obviously we kept everyone, all of our sponsors and we also had a great deal of success for the first time penetrating the retail vertical, specifically Children’s Place, Zale Canada. And with all our renewals in very good shape, this new vertical in place there is a good shot that we may announce one or two additional new sponsors in the program this year which of course have bode very well for 2012.

And then finally as Charles mentioned with the signing of Banco do Brasil, we are getting ready to launch this coalition nationally across Brazil. And it’s been a great success in the first area Belo Horizonte that we announced thus far and have been in pilot for the past year. We have 500,000 or 600,000 households actively engaged and enrolled. We would like to get by the end of this year about 1.5 million households enrolled, and that should jump nicely to above 5 million households by the end of 2012.

So again, it’s going to be a very quick climb in Brazil and we are looking also in addition to the national role of – actually rolling out on a regional basis, another regional part of Brazil some time later this year, early next year as well, which could further accelerate the ramp up down there. Also as Charles mentioned, if this thing does hit its stride it certainly could be the size of our Canadian business, which again is about $0.25 billion of operating cash flow. So very, very pleased with the progress at LoyaltyOne.

Turning now to Epsilon, look, there not a lot to say about it other than it’s just (inaudible) at this point. Double-digit organic revenue growth in the mid-teens, along with the acquisition of Aspen, it is making this quite a year for Epsilon.

One of the things I did want to step back on and talk a little bit about was the data incident and just give everyone an update on where we are. Probably three items coming out of that, the first is, we’ve gotten questions about is this a big hit? Was there a big cost it? Putting the security features in place et cetera, et cetera, the answer is no. Essentially this is – any of the incremental costs associated with the data incident have been absorbed and at this point they are not material.

Second, as Charles also alluded to, we are well on our way or actually we believe we’ve pretty much completed our Fort Knox strategy. And we’re not going to get into a lot of the details of it, but suffice to say, its fairly impressive and we had also now taken that approach and we are checking and improving other systems within the company to make sure that there are no gaps or holes and we’ll be doing that on an ongoing basis.

And then finally, from the concern about client attrition, at this point, we are very pleased to say there has been no significant client who has left us. And you can see that in the volumes that are up well into the double digits for the second quarter. And I think for the time this year, we will finally get to that $40 billion number of permission-based emails put out for the year. So that’s exciting as well.

And then finally, the last piece of the puzzle that we talked about in the five pieces of Epsilon, which include sort of the digital agency, creative piece, the data piece, the database piece, the analytical piece and then the distribution channels that we have out there. We were light on one piece, which was the digital agency piece and we needed to bolster that up to the point where all five pieces of the puzzle are head critical math.

And with the Aspen acquisition, we believe we are there, Aspen brings bulk, it brings a great reputation, it brings some unique verticals to us and also it extends and greatly expands our presence in the digital arena. And again a lot of people talk about it. But what we’re talking here is obviously where digital would involve like e-mail, social, mobile, and the web channels, and obviously we’re very, very strong on e-mail to begin with, but the other three this will give us some nice help there.

Also, if you were to look at our overall business, which is transactional-based micro-targeted marketing, that blanket statement covers the entire company. And that marketplace is about $300 billion today, marketing and advertising spend. If you start slicing and dicing it and you get the distinction between direct marketing versus general marketing, we play only in direct, that actually is a market that is taking share away from general and you’ve heard me talk about that a lot.

And then specifically, within direct, if you drill down deep enough, you will find that there are really only two areas of direct that are growing with any consistency. One would be considered old world and one is new world. And old world would be very targeted direct mail and people are sometimes surprised of that, but it is growing four or five points a year.

And then the other would be all the different digital channels, which are growing somewhere in the mid to high teens. If you put them together for our businesses, we are playing across the board in a market that is about $80 billion today and it will be growing double-digit organically for the foreseeable future. So we are big fans of finding markets that have nice growth and that's a critical part of our strategy going forward. That's where we’re going to play.

Finally, we turn to our Private Label business, again as Charles mentioned, very, very nice acceleration on the use of our cards, that’s found in our credit sales metric, moving from plus five in Q1 to plus nine in Q1. We expect the back half to finally tip over into double-digit. And we expect our file in August to finally pass the point where it starts growing again and we would expect about, up 5% for the year.

We are realizing significant over achievement in credit quality despite the macro conditions. Again, Charles, spent some time on what we believe is in fact going on up there, which is the barbell affect. The recession was so long and so severe that what happened is you burned off so many different layers of credit, then what’s left is a very, very pristine file and what you also have left is a situation where the long-term relationship between unemployment and credit losses has broken down.

And we see no reason for that relationship to re-establish itself in the near future, essentially what you have at a very high level is if you assumed in the good times unemployment was 5%. Well, maybe 1% of that was what we would call structural unemployment long-term chronic unemployment. And those are folks who would not be in our file. What you have today is an unemployment rate at 9%, but some folks are suggesting anywhere between 4 to 5 points of that rather than one point has to do with the long-term structural unemployed, which have already been burned out of the file.

So it's a very interesting and unique situation and I frankly have never seen such a complete decoupling between the two, but there is no reason to think it won’t continue and we're seeing it in all of our metrics as well.

Okay, finishing up at the ADS Corporate Level, very pleased to secure $1.6 billion credit facility, very nice deal. We had a lot of folks in the global banking community participate. The deal was a very, very nice deal for us and we’re pleased to get that done.

And then finally this is a little bit of a commercial, but I’ll do it anyhow, we did celebrate our 10-year anniversary of going public, last June. And we got to go down there and bang the hammer at the exchange, which was very exciting for all of us and our associates. But the goal that we had going into it is, we wanted to be considered among the absolutely best top performers of all public companies and sure enough by the time the 10 year anniversary came around, after going public at 12 a share, we wind up in the top 1% of all public companies over the last decade.

So thank you, to our associates, thank you to our shareholders who have hung with us through “some interesting times” over the years. And more importantly I guess to the folks on the phone, we are pretty jazzed up about the rest of this year and going into ‘12 and ‘13.

So let’s turn the page and talk about, well, we think we got just about everything done, we got a couple more things on our plate. Probably the biggest thing that’s hanging out there is we continue to be disappointed with our signings at Private Label. We do still expect to have six new clients signed. We’ve signed two thus far during the year and we expect the other four to come out. We think we’ve got two coming out in the next month or so and that will leave us with two left. So it’s moving through the pipeline but it’s slow and we’re a little disappointed at the progress, we expect to get that going again. We are putting additional resources against it to take advantage of some of the turmoil in the marketplace between other players out there.

So if you think about it if we get our file up to about 5% growth by year-end, if we add about six new clients that’s a vantage as we call it and whether they are start-up or existing files eventually those six clients will typically school up into about $300 million total portfolio for those six clients, you added to the 5% from the existing business and that’s where you get sort of long term 10% file growth rate. So it’s very important to get that stuff done and we’re on it.

And then finally, it wasn’t a goal at the beginning of the year, is I think a new goal we just put in place and that is hopefully as things settle down a little bit more in the debt markets we will be out there looking to raise some incremental liquidity over and above what we’ve already accomplished. We don’t have a use for it at the moment. However, I think it’s time we started thinking about what’s next.

And we’ve completed sort of the big push which was spending over $2 billion on buybacks primarily at the depths of the recession plus filling out our data business with the Equifax data acquisition last year and then the Aspen acquisition this year. But all that being said with our leverage still moderate and very, very strong free cash flow, we think now of course is a good time to start thinking about rebuilding the war chest so that we can be very opportunistic for some things that may be floating around out there whether it’s to return capital to our shareholders or whether it’s to further bolster our growth rate through acquisitions, we’ll wait and see. But we're going to see how the markets go and then we’ll step in if we think there is a good opportunity.

The bottom line here is despite a lot of the noise from the sovereign risk and from what’s going on in DC, does it affect ADS? We're not seeing it at this point. Obviously if there is some huge downturn from a macro perspective, obviously it’s going to hit everyone. But right now, all three engines seem to be coking along very nicely. We got Brazil on top of that moving and with Apsen onboard, we're feeling pretty darn good about how things are going.

From a guidance perspective, last October, I mentioned we are looking to $6.70, and we thought that was a pretty decent number coming out of the gate. We then raised it after Q1 to $0.07 and we're going to raise it again to $7.20. It just looks like everything is coming together for the year. But my job specifically is to make sure while the year looks great and everyone can be excited, what does 2012 and ‘13 need in order for them to be a success and so that is where we’ll be spending a lot of our time. And hopefully the only things left for 2011 will be may be a final tweak to our guidance when we release Q3.

The critical item as we move into 2012 that we want to get across is balance. As we move into 2012, we're going to have three businesses each of which can generate approximately $1 billion or more for revenues and at least $0.25 billion of EBITDA. So all three of our businesses have the balance and have the critical mass.

And on top of that what makes our model kind of interesting is all three are cycling in a different way. Think of it as having a different philosophy. Specifically Epsilon is in what we would call hyper-growth mode right now. We're also supplementing mid-teens organic growth at Epsilon with some moderate tuck-in M&A deals. So very different from that is Private Label, which is obviously having a heck of a year, and we expect the next couple to be as very nice as well. They are just generating huge organic free cash flow, I mean, they are just throwing off a ton of free cash right now. And then you contrast that with LoyaltyOne, which has turned the Canadian business back around to a nice growth business as well as driving all of our organic international expansion, that’s their job.

So each of the businesses each very large, each critical mass, each following a different philosophy for growth, and we think when you put them together, it’s fairly compelling. So we expect 2012, 2013 to be good years.

All right, let’s get to what everyone is waiting for, which is guidance. We already talked about on the raising guidance, we are bumping it up to 720 and I always like to see double-digit on everything, on revenues, in EBITDA, and core EPS, and GAAP EPS, and everything else. So it’s going to be a very strong year there’s no one-offs in any of the norms, so these are also very, very pristine from a reporting perspective, which again was one of our goals.

Also Charles referred to the ‘Phantom shares’, which are those shares, which will go away upon expiration of those converts. And therefore, they do not have any economic value, but they do saddle our share count until those converts expire. If you would have backed those out since they will go away, you will find our share count would be very, very much flat year-over-year. And I don’t need to tell you if would throw that into earnings per share, it would increase it quite dramatically. So that’s something that’s a little gift that’s going to come as our converts expires.

And next up on Q3, we will be looking for core EPS of about $1.85 or about 20% growth, a couple of items here. You should expect to see loss rates from a seasonal perspective tend to be lowest in Q3. So we’re looking at mid 7% loss rates for the year, year-to-date, we are at about 7%, 6%. Seasonally, you will see Q3 probably go below 7% into the high 6s, but don’t forget it will pop back in Q4 to probably the low 7s.

Okay. Q4, we should probably also mention, someone’s going to backing the numbers and say, okay that seems relatively flat to last year. Again, a lot of that is the Phantom shares with the share price run off, if you take the Phantom shares out, you will find that the actual earnings are up about 8%, which again reflects the fact that, if you recall in Q4, we are expecting a very nice ramp in the portfolio, we have to put reserves against that, those will reverse in Q1 as people pay down their holiday balances. So it's a little bit of a timing issue. Also we may be looking to accelerate our quick expansion in Brazil, by adding a new region in addition to the Banco conversion, we’re going to that right now and we would prefer to put some investment dollars in there if we get things quicker.

You saw, we put our toe into India. We’re still working out whether there is a few million that we want to put in before the end of the year. And then obviously with what we would call the uncertainty around a global macro situation in our general conservative nature, we do keep our reserves level in our Private Label business fairly robust. And well north of the actual loss rates, we run at least 100 to 130 basis points above our loss rate, which is little unusual in a declining loss environment. But frankly, it lets us sleep nicely at night.

And I'll leave with and of course, if things continue to go well, there is always the chance of a little bit of extra room there that we’ll let you know in Q3 if things continue rip along the way they are doing for a final tweak in guidance.

All right, free cash flow, which is our final page, you’ll see we raised that again. We’re originally around the $7 range of pure free cash, and again that takes into account everything from securitization funding cost, CD cost, corporate debt, CapEx, regulatory capital, blah blah blah all that stuff. The net result is, we’re going to be doing close to $500 million this year, $0.5 billion of pure free cash, almost 8.5 bucks this year.

So this thing from a cash flow perspective is, pretty amazing, we don’t have huge CapEx, we don’t do huge acquisitions. So as a result you’re looking at a company as we exit ’11 and going into ’12 and ’13 that’s going to turning off $0.5 billion of pure free cash growing double-digit organically each year. And so that’s something that will allow us obviously a lot of flexibility when it comes to either buybacks, tuck-in acquisitions, portfolio acquisitions, international expansion or other ways of returning capital to shareholders.

So that being said, I think we'll open it up for questions now, but if the bottom line is for all of us and our 9,000 associates. It's been a great first half; we're looking forward to pack it to the second half. And again, right now as I look at 2012 and ‘13, I'm feeling pretty good about ’12, right now. So let's hope that the macro thing sort of sorts itself out and get that uncertainty out of people's mind, so we can do our job here.

All right, let's open up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Jim Kissane with Bank of America Merrill/Lynch.

Jim Kissane – Bank of America/Merrill Lynch

Hey, Ed and Charles, great job. Can you provide a little more color on your confidence in going to mid single-digit receivables growth by the end of the year? I mean is that, assume some of those signs come on board or any portfolio of acquisitions, just a little more color? Thanks.

Charles L. Horn

You bet. Yeah, actually it doesn't really assume that there is much there in terms of the signings. In fact the signing were hoping for, if we get a portfolio and that would be great, but frankly our business is based on the vantage ramp ups from starting something from scratch and ramping those up, which really makes the out of years look good.

It’s really, I guess the saying is its math at this point. We had a couple of things dragging us in the first half and the year one was the couple of files, that where as Charles call them, (inaudible). And on top of that what happened was our card holders actually were paying down their balances quite a bit faster than they had been during the great recession, which kind of makes sense, but again that's not accelerating. What's basically happening is people have gone back to payment rates of 2007 that started last August.

So what we expect is the anniversary of those higher payment rates to hit in August, and as a result you don't have that drag for the rest of the year. That means that, if we have sales growth of 9%, 10%, which is what we’re running at that will finally stick in terms of portfolio growth and so you would expect low single-digit in Q3 and then about 5% by year-end.

So it's really the whole, it’s the existing client base, we’re not counting on anything new to make that 5% number. It's really a question of payment rates, which goes back to our cardholders, tend to be in pretty good shape that they’re paying off at levels prerecession. You get the kits obviously on the other side, which is much lower delinquencies and losses. So it’s a bit of a trade-off.

Jim Kissane – Bank of America/Merrill Lynch

Okay and Edward, credit sales up, why are the transaction revenues declining? Is that a function of some of your large renewals, bigger customer’s bank that are pricing?

Edward J. Heffernan

Charles?

Charles L. Horn

Jim, it’s a situation where we do at those various rebate programs with our key retail clients, which do offset the merchandize charge. So if they drop the revenue often these will give them a little bit higher rebate, which means that our transaction fees were staying in stagnant?

Edward J. Heffernan

Yeah. The goal here is since a 100% of our new account growth rate is at stores, some over the catalogues that is our channel. And so if the card isn’t being pushed in the establishment we’re not going to get the accounts and we’re not going to get the growth and so providing funds to the merchants to help various promotional programs to push the card, as long as is it to push the card, we feel that’s a good use of our funds. I mean our costs for acquisition to compare it to a bankcard, which is in the hundreds of dollars, ours is probably three or five bucks.

Jim Kissane – Bank of America/Merrill Lynch

Yeah. That’s great. And just one last question, as you look out to 2012 and you’ve kind of anniversary some of the changes in AIR MILES, would you expect redemption growth to normalize?

Edward J. Heffernan

Yeah. I mean we would expect redemption growth to probably be somewhere in the mid single digits, which would put your burn rate, we’re reserving it 72%, your burn rate would be 70-ish little bit below that. So as long as the miles issued, continue to track along the way they are, you’re going to have a nice curve of miles issued growing mid single digits as well and half of it a bit much bigger base?

Jim Kissane – Bank of America/Merrill Lynch

Right. Thank you.

Operator

Your next question comes from Andrew Jeffrey with SunTrust.

Andrew Jeffrey – SunTrust Robinson Humphrey

Hey, guys. Thanks for taking the question. Couple of things, when I look at Aspen and the revenue contribution made this quarter. I’m just trying to put that to your full year Epsilon revenue roof guidance in the mid 30s, it seems like that’s pretty conservative if Epsilon is going to continue to grow double-digit organically unless there is some seasonality at Epsilon. Can you just (inaudible) at Aspen, sorry. So can you help me with that a little bit?

Charles L. Horn

I would say it’s more than former, maybe a little bit conservative from a seasonal standpoint Epsilon tends to ramp up in Q3, Q4. So we do expect some acceleration and revenue growth and EBITDA growth in the second half. So it could be a case forward to stand toward the low-end of that growth expectation.

Andrew Jeffrey – SunTrust Robinson Humphrey

Okay. And Ed, you mentioned no lasting effects from the data incident on the existing account base and also you referenced a big pipeline, a record pipeline, could you just give us a little sense of how you think about sales cycles, our customers, your potential customers asking more questions, digging a little deeper than they might have in the past. Could there be some bleed through over to Private Label and may that be affecting the sales cycles in that business too, just kind of overall view of that?

Edward J. Heffernan

Sure. You bet. Good question. I mean, I think, you started with the fact that within 48 hours of these data incidents, when that occurred we had a bunch of clients calling up saying, okay, I got to get things out the door, so let’s get going here. So we were, we had a handful of clients who slowdown there permission-based emailing dramatically for two, three weeks. Well, they got comfortable with the new Fort Knox we were building, but everyone is back. It’s essentially one of these things Andrew, it’s a critical channel that our customers need and they can’t wait that long or they are going to lose the opportunity for incremental sales.

So they for the most part I’d say, except for a handful of clients who slow things down, but they all came back after a few weeks. So it really does hasn’t seem to have a lasting impression in terms of the sales cycle of course. Has it slow down the sales cycle, I’d say no. Has it put a spot light on pretty much across every aspect of the business and from what I heard from other CEOs, their businesses as well, there is the whole new if you want to call it check the box that’s going on right now about security procedures that we are already there except to check the box now has about 20 boxes instead of one. So yes, it takes, I don’t think it’s slowing the process, but for the first time, security concerns regarding the safety of the data is now a critical piece with the sales process.

Andrew Jeffrey – SunTrust Robinson Humphrey

Okay. So perhaps as everybody in the process becomes more comfortable with that, it get streamlined under the efficiency of the sales and contract signing process improves a little bit, I guess it’s part of your thinking as you look out to ’12?

Edward J. Heffernan

Yeah, I mean, I don’t think it’s really slowed down anything. I think, it’s just more, we put more resources into getting people comfortable that, everything they could possibly want has been built into Fort Knox. So I certainly wouldn't use it as an excuse to say that things has slowed down in terms of signing. The pipeline at Epsilon actually in terms of signings this year is actually up about 20% from where it was last year and those big database builds, that's where the real juice is. So we have not seen the defect, the backlog at Epsilon we haven't, I can’t sit there and say, well that's the reason we haven't signed all six of our new Private Label accounts either, so I would say it's more of this is a new big check the box for all clients and my guess is, it’s not just with us.

Andrew Jeffrey – SunTrust Robinson Humphrey

Okay. Thanks, that's helpful. I’ll jump back in the queue.

Operator

Your next question comes from Darrin Peller with Barclays Capital.

Darrin Peller – Barclays Capital

Thanks. I just want to touch longer term a bit, the trends in Loyalty are fine, I mean they’re obviously strong and stable and your build on in Brazil and India are on track, it’s going well. Epsilon obviously is going extremely well with us and acquisition settlement to get, so longer-term seems like you have very good plans there. On the Private Label side, I just want to understand, I mean, it seems like those first two segments are growth segments. You’ve touched on this in the past, I’d love to hear, both your, Ed or Charles, updated thoughts, just touch on actions you expect, portfolio acquisitions or you maybe just separating in the business how spending it out longer term, what are your thoughts as of now?

Edward J. Heffernan

I'll take the first shot at it and then Charles conclude, I mean this thing as you can tell is, I don't know how to say, it build the Aspen and it built Canada. So it's a pretty important part of the company. I think obviously it's having a huge record year this year, primarily obviously because of the huge improvement in credit quality, it will working at a 150 basis points or so that's a big number, funding costs are down, but your point Darrin, you’re exactly right. That's a gift that is nice to have and it's something that hopefully will be with us for a longer-term at these lower rates levels.

But by 2013, we're going to be all the way down to that 6% range and there is no more juice to squeeze there, I mean hopefully, we keep at that 6% range which is great, but it comes back to, we need to have 10% growth in the file year after year after year, and if we can get that then we can have 8% to 10% organic growth in the business for sometime to come and giving the margins that we generate there in the free cash flow, that to us is a business that’s worth keeping, because I think it’s certainly very compelling.

The question is, we have been slow out of the gate on getting some of these deals signed, it is up to us to make sure that we do get our six that need each year. If we sign six deals a year it essentially provides about five points of growth in the file, the other five points come from the existing file, and with 10% file growth that’s what we’ve been doing for the last 13 years, you will have a very, very compelling business.

We do not play with the top 25 files that are out there. We can let GE and Citi and CapitalOne or whoever else is out there, let them battle back and forth. But in our marketplace, we still feel there is heck of an opportunity with only about 150 clients, folks in our sandbox, have some type of private-label program of which we have 100 plus, there is another 150 out there who have never had a private-label program. So we’re looking at a market for us, it’s only half penetrated and therefore, we think we’re going to give it the old college try to make sure we can make this thing like an 8% organic growth cash flow machine for many years to come.

Charles L. Horn

You’re looking at that Darrin is when we look at it; clearly, we have the same outlook we want to be a growth entity. So when your card holder spending in going up 8%, 9%, 10%, 11%, you know down the road when you’re paying that rate anniversary and they become flat or stagnant year-over-year, you’re going to get growth coming through 8%, 9%, 10%, 11%.

The other thing you look at it’s the backlog in the market and there is a fairly substantial pipeline after potential no deals. Clearly, some of the events going on around HSBC other potential portfolios that’s going to increase an added pipeline for us as well. So we have good card holder spending that shows the growth entity, add into it a very strong pipeline that we can add, add-on through new portfolios or new programs, we still very much seated a growth company.

Darrin Peller – Barclays Capital

All right, I mean are there actually deals out there portfolio, call it a $100 million, $200 million size deals out there that are to be acquired potentially?

Edward J. Heffernan

Yes, I would say, if we were going to sign six deals, I would say, four would be our typical, ramp it from the beginning at zero all the way up and there is probably the other one or two would be in that range that you’re talking about. And as Charles alluded to, we certainly would like to stick our nose into some of the turmoil that’s going on right now and see if we can get people to leave the dark side and join us.

Darrin Peller – Barclays Capital

Okay. One just follow-up on the actual – maybe for Charles on the economics in the portfolio, the yield was up 27% I think year-over-year to 27% year-over-year. A, is that sustainable putting aside seasonality for a minute? And then also just – about to touch on the allowance level, I mean, again, I think you and I touched on this in the past, but 9.5% is, in our estimate about 50 basis points higher than what you really needed to do base line calculations on trailing charge-offs in forward looking metrics. What kind of assumptions are you making economically on that to need you have such a big buffer, I mean it is an extremely conservative allowance level for this environment?

Charles L. Horn

Going back first to the gross yield, I do think the range 27.5% to 28% will be a normalized run rate gross yield, absent any changes coming through which we don’t see any at the movement. So I think that is the normal run rate.

On the reserve, you’re right; we tend to look at a forward look at portfolio, but also a backward look at our portfolio. We have been looking at it on more on a trailing basis as charge-off rates come down; we do take some benefits through the rate.

To your point; there is some flexibility when you determine a reserve base from a macro environment. Our role rate analysis, our migration models consider unemployment rates, it considers interest rates, there is a number of factors that can influence what this spread is through actual charge-off rates.

Right now, with the unemployment still high we dropped that into the migration models to get this a fairly healthy reserve percentage. So to your point as the year unwind and we see improvement in the macro and we see continued trends downward in our charge-off rate, I would expect the reserve to come down. Generally, I would expect you can have a range anywhere from 80 basis points over the charge off rate to 130 basis points and that difference is going to be driven more by your macro factors.

Darrin Peller – Barclays Capital

Great. All right. Thanks, guys.

Operator

Your next question comes from Daniel Perlin with RBC Capital Markets.

Daniel Perlin – RBC Capital Markets

Thanks. On Epsilon’s database revenue, you talk about the backlog, I’m just curios, how the backlog sets up in the second half of the year in terms of launches that you are expecting relative to what you were able to launch in the first half?

Edward J. Heffernan

Yeah, I mean, it’s going to be fairly consistent. We have a number of big builds that we have from last year and I don’t think there is going to be any big spike nor there’s going to any fall up, it’s going pretty much consistent series of builds through the remainder of this year and into 2012. So that’s where you are going to see sort of that consistency on the growth. There is no big spike up and there is no big low that we are looking at.

Daniel Perlin – RBC Capital Markets

Okay. So deals to get launched are kind of similar size to first half?

Edward J. Heffernan

Yeah.

Daniel Perlin – RBC Capital Markets

Okay. And then second half margins on our business are always better for a number of reasons, I'm just wondering that, has Aspen impact that ramp in any meaningful way that you had to call out now?

Edward J. Heffernan

You are correct. It’s only the back half margins are higher. I don't think that Aspen will materially impact it now.

Daniel Perlin – RBC Capital Markets

Okay. As we think about the provisioning expenses for the third quarter based on lower loss rates, but a potential growth and I’d expect they’re going to be similar to what we saw in second?

Edward J. Heffernan

Yeah.

Charles L. Horn

Talking – Dan, in terms of expense?

Daniel Perlin – RBC Capital Markets

Absolute dollar provisioning in the second and the third quarter, so you do, I think its $60 million in this quarter, I'm assuming it’s going to be similar to third?

Edward J. Heffernan

It will be consistent, yes.

Daniel Perlin – RBC Capital Markets

Okay. And then I'm wondering with Epsilon, how you guys positioned within mobile payments, either NFC-enabled or otherwise, are your clients asking for help with this yet, and if they are, what do they need?

Edward J. Heffernan

Yeah, it’s just at Epsilon, it’s really a cross the business itself. So if you're looking at with this state Private Label for example, what you’ll see is the first phase being, that will hold mobile wallet and we have a number of clients to our testing outs, the ability to have someone walk into store, lets say and call 1800 number, use their phone and get an application and gets caught immediately then go up to the cash register and have that purchase effected. So you move from the actual commerce side of it into SMS, MMS, we of course are very much involved in that. Our clients are asking for the full suite of service, which of course is the ability to get out there and micro target on an opt-in basis, so we have to make sure we're doing that.

On an opt-in basis, a growing portion of Epsilon’s client base who use mobile as their primary device. So yes, we’re involved in all aspects of mobile strategy, obviously, it differs, it differs by demographic, I’d love to sit here and tell you that Alliance is a mobile company and everything else, but we're not. It's – to us, it’s a very important distribution channel and we think mobile will be very important for us to drive new application volumes in our Private Label business, it seems to be a big hit, especially with the younger crowd, in addition, guys, who don’t like to carry a bunch of plastic in their wallet.

The fact you’re just going to drop an icon onto your mobile phone, I think, it will have a nice effect as well. But as it relates to Epsilon in Canada, absolutely, in Canada, it could be a sponsor who wants to get out the word that there is a two-for-one AIR MILES promotion going on at one of their establishments, we can facilitate that, same thing at Epsilon, whether it’s permission-based email, whether it’s direct mail or whether it’s a mobile text, it doesn’t matter to us, we go into the client with the ability to offer the full suite of services.

So to finish up in your answer about [pro] NFC and everything else, that’s not going to matter to us. What we – our job is to make sure that what we do can be effective regardless of what the front-end technology is. So it maybe as simple as a web-enabled phone today moving into the much more sophisticated and slick NFC type technology going forward and the tapping go and all that other stuff, that to us is, makes our job a little bit easier, but we are agnostic when it comes to what the front-end will eventually be.

Daniel Perlin – RBC Capital Markets

Okay. Two quick ones if I could, you talk about grocery loyalty programs increasing as if the large client that pullback originally has never come back?

Edward J. Heffernan

Yes.

Daniel Perlin – RBC Capital Markets

Great.

Edward J. Heffernan

And again, it’s not huge, but we’re seeing a little bit of promotion where as last year it was zero.

Daniel Perlin – RBC Capital Markets

But they were huge.

Edward J. Heffernan

Yeah. It’s a big sponsor, yes.

Daniel Perlin – RBC Capital Markets

All right. And then lastly the non-Canadian operating loss is hurting LoyaltyOne’s margins, where were those – where is the hot spot for it?

Edward J. Hefferna

Primarily Brazil.

Daniel Perlin – RBC Capital Markets

Okay. Got it thanks.

Edward J. Hefferna

We pick up 35% of the operating loss for the dotz entity.

Daniel Perlin – RBC Capital Markets

Yeah, I should know that. Okay, thanks.

Operator

The next question comes from Sanjay Sakhrani with KBW.

Sanjay Sakhrani – Keefe, Bruyette and Woods

Ed, you mentioned that you’re kind of disappointed with your signings in Private Label, but there are opportunities out there, what’s really been the sticking point there? That’s question one. I guess two, congrats on the India opportunity. I was just wondering if you could just talk about what exactly this investment gives you who – what’s the scope of competition and kind of how soon it could be a contributor to earnings? Thanks.

Edward J. Heffernan

Yeah. On the first one, it’s the classic case of where you bring home your report card and you got five A’s and a C and everyone knows the fact about C, so that’s fair enough. I think we have not put our best foot forward in terms of how we’re approaching prospects. I think so much time, energy and effort over the past three years has been spent on liquidity and the credit quality issue, and then finally of course as you know so well, all the regulatory issues that were out there that quite frankly that’s where most of our resources were focused.

We are now turning the ship clearly in the direction of becoming much more active in not only going after traditional folks who don’t have a program, but also as we alluded to, we will be very active in the turmoil at some of the larger players and hoping to convince some people to came over. So we put it this way, we’re making that job number one at Private Label going forward.

On the India piece, boy! Your guess is as good as mine. What we’re trying to do is, plant the flag in what we consider the top potential markets in the world. We think Brazil is obviously critical, we think India at the rate of growth of their middle class, what that’s expected to be how could you not just dip your tail in the water and see what’s going on there. Our eventual strategy maybe perhaps all of Latin America is where we want to focus our attention, don’t know. But we know that Brazil is moving along nicely. My guess is with India, our goal would be to see if we could cobble together a pilot much like we did in Brazil a year and half ago and get that pilot up and running to have proof of concept sometime in 2012. And if there is a good reaction in 2012, we would roll it in 2013.

So what you have is sort of a feathering of Canada has turned, now you’ve got Brazil doing a national roll out, which we hope to be EPS accretive in ‘13. And in ‘13 if we could have India beginning to roll that would be great and there is will be couple more countries we would add. And if we could build a portfolio of coalition programs in the markets we want, it could be a long-term gift that keeps on giving.

Sanjay Sakhrani – Keefe, Bruyette and Woods

Well, I’ll add one housekeeping question, just Charles for Aspen, do you have an expense number there?

Charles L. Horn

In terms of, you mean like integration expense, transaction expense?

Sanjay Sakhrani – Keefe, Bruyette and Woods

No, the actual expenses from Aspen.

Charles L. Horn

No, I mean we had one mile worth of performance, we had very nominal integration costs associated with, so what I would assume is about one twelfth of the run rate that we gave you in our release back a long time ago when we announced Aspen. So I'm not sure what you're talking about, you can call me afterwards, I’ll see if I can understand it.

Sanjay Sakhrani – Keefe, Bruyette and Woods

I’ll do it. Thanks.

Operator

The next question comes from David Scharf of JMP Securities.

David M. Scharf JMP Securities

Great, thank you. Just a couple of quick things, one, I don't want to kind of belabor the point Ed, just kind of drilling down once again into portfolio growth. But I'm wondering, historically, was there any kind of relationship or lag period that you can draw between credit sales and portfolio growth perhaps one or two quarters later, because 12% credit sales when we exclude there’s couple that were running off. That’s a material acceleration, we haven't seen that kind of spending growth in your customer base in quite some time. I mean even if you are unable to bring on board a couple of new files or acquire one, but those the 12% should that give us a awful lot of confidence you should be able to be at 5% growth by the end of the year even without some additional business?

Edward J. Heffernan

Yeah, I mean, it's again as you correctly suspect, it’s pretty straightforward to top, it’s a brain surgery, it’s all payment rates if you have high payment rates, versus people stretching out their payments during the slower periods, that's going to be a headwind as we mentioned. That anniversary is in August and we are already seeing it begin to the gap to narrow. So simply stated, you do 10% credit sales growth, five should stick to portfolio growth and if you went back 10 years, you’d find that relationship is very solid, so that’s exactly what we're saying is, we just need people to hit that anniversary level and you do 10% sales growth, five stick to portfolio growth and it’s as simple as that.

David M. Scharf JMP Securities

Okay, and I'll just kind of finish up, just kind of a mundane sort of housekeeping item, but just to sort of help us keep some of these numbers on an apples-to-apples basis, can you give us a sense for what diluted share count is actually implied in the Q3 and Q4 guidance, and more appropriately, when we get rid of these Phantom shares, I mean, what is the actual diluted number you’re looking at, kind of help up put these core earnings figures on a consistent basis?

Charles L. Horn

For Q2, we’re at 58.1, for Q3, Q4 I would assume it would be in the low 59s. And that’s again based upon maintaining current price levels and that’s on the weighted average outstanding diluted shares.

David M. Scharf JMP Securities

Right. It show, I mean, at the stock or where it is today and let’s assume these converts, converted or went away today, I mean, what is the actual true diluted number when we get rid of these Phantom shares?

Charles L. Horn

It moves about 10%.

Edward J. Heffernan

Yeah, we’d take off about $5.5 million.

David M. Scharf JMP Securities

From the low 59 level?

Edward J. Heffernan

That’s correct.

Charles L. Horn

Yeah, so basically you get back and then slightly below where we were last year at this time.

David M. Scharf JMP Securities

Gotcha. That’s helpful. Thank you.

Charles L. Horn

Yeah, it’s – the accounting behind these Phantom shares, I got to tell you, I’m not a huge fan of it, but, yeah, it’s one of those things where as they go away, you’re going to have a 10% (inaudible) via a lower share count.

David M. Scharf JMP Securities

Perfect. Okay, that’s all. Thank you.

Edward J. Heffernan

Okay. One more.

Operator

Your next question comes from Bill Carcache with Macquarie Capital.

Bill Carcache – Macquarie Capital

Good morning. Ed, I was hoping you could address a question that’s come up a few times in some of the conversations that I had with investors that you’ve had expressed some concern over the sustainability of the high returns that you generate in the private label segment particularly in a Postcard Act World where private label looks pretty attractive and so the idea that you’re trying to generate a little track competition that ultimately drive returns lower. Can you just speak to that and maybe just highlight some of the competitive advantages that you enjoy in private label that would be difficult for competitors to replicate?

Edward J. Heffernan

You bet. And again it goes back to whether you buy into what this company does, which is transactional based marketing. It’s important to note that when you look at private label of course, especially over the past few years everyone focuses on a credit, credit exposure and then the home vineyards, but the fact the matter that there are four businesses of that if you were to look in the marketplace are four separate verticals that are all rolled into one in private label.

You have the credit component very similar to a city or a cap owner or someone like that. But where they stop we continue on and do all the network and processing similar to a first data in a total systems. And then where they stop, we continue on and do all the high-end customer care where we have, all of our associates here in the States as opposed to outsourcing overseas. Again that’s a different vertical from the first two and then finally everything rolls together in our whole marketing and database channel, similar to what we do at Epsilon and up in Canada where we’re doing highly focused, highly targeted customer communications, customer acquisitions, et cetera, et cetera.

So, I think that overall, what you’re looking at is the returns you see in our private label for someone to be competitive against our product offering, you would need to bring together four different business segments. And frankly right now, there is no one out there who does that, if they do, they could probably get the same type of return, but you’re talking about bringing four businesses together and right now, pretty much everyone likes to stick in to their own vertical.

So we just, we don’t see it, it also killer sometimes on the sales process because it’s however nothing with us. You sign up for the full deal or you can go piecemeal it out somewhere else, but once we hook someone it’s pretty much for life. Okay? Anyone else?

Operator

There are no further questions. Are there any closing remarks?

Edward J. Heffernan

No, we’re closed.

Operator

This does conclude today’s conference call. You may now disconnect.

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