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Heartland Payment Systems (NYSE:HPY)

Q3 2011 Earnings Call

October 27, 2011 8:30 am ET

Executives

Robert O. Carr - Executive Chairman and Chief Executive Officer

Robert H. B. Baldwin - President

Maria Rueda - Chief Financial Officer

Analysts

Greg Smith - Sterne Agee & Leach Inc., Research Division

Christopher Shutler - William Blair & Company L.L.C., Research Division

Steven Kwok - Keefe, Bruyette, & Woods, Inc., Research Division

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

Kartik Mehta - Northcoast Research

Meghna Ladha - Susquehanna Financial Group, LLLP, Research Division

Tien-Tsin T Huang - JP Morgan Chase & Co, Research Division

Roman Leal - Goldman Sachs Group Inc., Research Division

Robert J. Dodd - Morgan Keegan & Company, Inc., Research Division

Thomas C. McCrohan - Janney Montgomery Scott LLC, Research Division

Unknown Analyst -

Richard Cheever - SunTrust Robinson Humphrey

Timothy W. Willi - Wells Fargo Securities, LLC, Research Division

David J. Koning - Robert W. Baird & Co. Incorporated, Research Division

Operator

Good day, and welcome to the Heartland Payment Systems Third Quarter 2011 Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Maria Rueda. Please go ahead.

Maria Rueda

Good morning. Thank you, and good morning, everyone. I'd like to welcome you to our third quarter 2011 earnings call. Joining me this morning is Bob Carr, Chairman and CEO; and Bob Baldwin, President. Today, Bob Carr will begin our discussion with an overview of the quarter, and then I'll return to go through some of the financials in detail before taking your questions.

Before we begin, I'd like to remind you that some of our discussions may contain statements of a forward-looking in nature, which represent management's beliefs and assumptions concerning future events. Forward-looking statements involve risks, uncertainties and assumptions that are based on information currently available to us.

Actual results may differ materially from those expressed in the forward-looking statements due to many factors. Information concerning those factors is contained in the reports of our financial results we released early this morning, as well as in the company's SEC filings. We undertake no obligation to update any forward-looking statements to reflect events or circumstances that may arise after this call.

Now I'd like to turn the call over to Bob Carr, Chairman and CEO.

Robert O. Carr

Thank you, Maria, and good morning, everyone. I'd like to thank you all for joining us today and for your interest in Heartland. And by now you should've seen our financial results for the third quarter that we released this morning.

For the quarter, we reported net income of $12.7 million or $0.31 per fully diluted share on an adjusted basis, increases of 59% and 55%, respectively, compared to the same quarter of last year. We've achieved consistent strong performance this year across our key metrics: Card processing volume, same-store sales and volume attrition. We have also improved sales productivity and achieved cost efficiencies throughout the organization, all of which have contributed to exceptional earnings performance. Cash returns on our investment have been even better, and we are using that cash to strategically grow the business as well as reward our shareholders through both dividends and a share repurchase program that we announced this morning.

One of the uses of cash in the third quarter was the purchase of terrific company, School-Link Technologies, which provides K-12 school nutrition and point-of-sale solutions, including school meals payments processing. Considered together with our 3 other K-12 service providers acquired over the past 10 months, we are now the leading provider of K-12 payments in the U.S. with a nearly 20% market share. Our K-12 strategy is another growth initiative that leverages our core processing capabilities similar to our loyalties, SmartLink and payroll products. And this quarter, all of those products achieved double-digit revenue growth.

In addition to the fundamental attractiveness of the K-12 business, our 20% market share provides us with a proprietary marketing channel to the parents of the 12.5 million students, who passed through the lunch lines in the schools we serve.

Of course, our success so far in 2011 has preceded the October 1 implementation of the Durbin Amendment, which many of us believe has the potential to upset the balance of industry power as we think it should. Through our Durbin Dollars campaign, we are accentuating our fair dealing philosophy by passing along 100% of all debit interchange reductions to our merchants across the U.S. Durbin Dollars should be put where they belong: into merchant's bank accounts. We believe that the intent of Durbin was not to temporarily increase the profits for processors. And while we understand this may not be the case with the vast majority of our competitors, our fair deal and transparency are the fundamental principles by which we have always operated so this has effectively no real change for Heartland. We believe our business model is sustainable and will allow us to continue our organic growth well into the future, which we do not believe may be the case for those who sacrificed their customers' interest for the sake of their own short-term profitability and 2012 bonuses.

Durbin has been like an adrenaline boost for our sales organization and our partners, and we expect it to empower our relationship managers just like the Wal-Mart settlement did 8 years ago.

In addition, the many associations which endorse us, including the National Restaurant Association, the American Hotel & Lodging Association, 45 state restaurant associations and 38 hotel associations are telling us that they feel very good about that they have selected the right partner. They are energized because they see us treating their members fairly.

And the proof is indisputable. To this point in October, we have passed in excess of $12.5 million back to our merchants under our Durbin Dollars campaign. Durbin also seems to be helping with our recruiting efforts. Headcount in the sales organization is up sequentially from the second quarter. And more importantly, it appears that momentum is building. For instance, by the third week of October, we had hired more new relationship managers than we did in all of September.

Our ability to concentrate increased efforts on recruiting is due to the terrific productivity level being achieved by our existing relationship managers. The productivity of our sales force reached a new record again this quarter with sales productivity up more than 150% compared to 15 months ago. As a result of this initiative, we now have a truly elite sales organization where our relationship managers are all making a good living while sleeping comfortably knowing that we are treating their merchants, often their friends, neighbors, family members and church members fairly. Now we want to take that success and build on it, growing our sales divisions consistently and methodically. In fact, if anyone on the call knows of a hard-working experienced B2B salesperson looking for a great job with a great company, please have them contact me directly.

We are not going to speculate on the impact Durbin will have an our new business initiatives, but this past quarter was our best quarter of new margin installed for the year. And within the quarter, September was our best month of the entire year. Anecdotally, our relationship managers attribute September's success at least in part to the beginning of Durbin. Merchants will begin to open their post -- their first post-Durbin statement next week, and you can be assured that our relationship managers will be out in force to ensure that all merchants, especially our prospects, understand that Heartland merchants are getting 100% of the savings to which they are entitled.

Now let me turn the call over back to you, Maria. Thanks.

Maria Rueda

Thanks, Bob. For the third quarter of 2011, Heartland reported GAAP net income of $12.6 million or $0.31 per share. On an adjusted basis, excluding separately identified processing system intrusion costs, net income was $12.7 million; also $0.31 per share, increases of 59% and 55%, respectively, from third quarter 2010 adjusted net income and earnings per share. This quarter's $0.31 is also net of $0.02 per share of stock compensation expense. Small and mid-sized merchant card processing volume was a record $17.9 billion for the quarter, up 6.9% from a year ago. SME transaction processing volume reflects improvements in same-store sales and new margin installed as well as a reduction in volume attrition.

Our best performing industries in the quarter were petroleum, quick serve restaurants and hotel, with entertainment, the only industry vertical that declined. Please refer to the statistical supplement on our website for additional details. We continue to grow our petroleum business, with Network Services processing a record 873 million transactions in the quarter, a 5.8% year-over-year gain. We also saw some nice contribution to net revenue from growth outside of our core card processing products, with loyalty and gifts marketing up 40% and payroll up 15%.

Our new K-12 vertical generated over $1.4 million in net revenue this quarter. And with the September 30 addition of School-Link, K-12 debt revenue is expected to immediately increase to approximately $7 million per quarter. In the aggregate, the growth in processing volumes and non-card revenue generated a 5.9% increase in net revenue to $122.2 million for the quarter.

Total cost of services for the quarter were up only 4.1% from a year ago, mainly on the strength of a reduction in all of our major controllable costs: processing and servicing, customer acquisition and depreciation and amortization. General and administrative costs were up 26.6% in the quarter. This resulted from a combination of factors including costs for the implementation of our processing center consolidation plan, some one-timers associated with acquisition activity, restoration of some incentive-based compensation and increased staff expense. The net effect is that for the quarter, we expanded the operating margin on net revenue by almost 540 basis points to 17.7% as we continue to make progress toward our 20% goal.

As Bob noted in his opening remarks, we are generating cash that significantly exceeds our reported earnings. For the quarter, our GAAP operating cash flow was $21.5 million. GAAP treatment presumes that all working capital account changes represent cash flows. But the reality is that many of our working capital components represent either the establishment or reduction of accruals or our temporary flows, such as the due to sponsor bank and our merchant receivables.

Therefore, we focus on a management cash flow metric in which we take the traditional sources of operating cash starting with net income, add back non-cash items such as stock compensation expense, depreciation and amortization and reduce that figure by signing bonuses and buyouts paid, which are true cash outflows. On this basis, our operating cash generation is $21.5 million in the third quarter, up from $7.6 million last year when we executed a special $18 million onetime accrued buyout liability purchase. This measure of cash generation equates to $0.63 per share for the third quarter and $1.77 per share for the first 9 months of 2011.

On the balance sheet, this quarter, we once again reduced our term loan, paid for the School-Link acquisition and invested over $7 million in capital improvements exclusive of our service center without tapping our $50 million revolving credit facility. Consequently, our financial condition is the strongest it's been in years.

Beyond reinvestments and acquisitions, we are consistently generating sufficient cash to also aggressively enhance shareholder value by returning cash to shareholders in the form of both dividends and beginning today, share repurchases.

Let me wrap up with our new guidance. Based on current business trends, we expect full year earnings to be between $1.04 and $1.06 per share. Contributing to our increased expectations is a new forecast for same-store sales to be up 2% to 3% this year above our previous 1% to 2% projections. We now expect net revenue growth in the 8% to 9% range.

Our earnings per share expectations are net of approximately $0.13 of 123R stock compensation expense. The company's guidance does not include any estimates for potential losses, expenses and accruals or recoveries resulting from the 2008 processing system intrusion.

Before I turn the call back to Bob, please note that starting in the fourth quarter, there will be a noticeable decrease in interchange in our income statement as a result of the Durbin interchange reduction. Since total revenues include the interchange we bill our customers, total revenues will go down by the equivalent amount. This, however, will have no impact on net revenue, which is presented net of interchange dues and assessment.

Also please note that in our press release, depreciation and amortization line for the third quarter should be $3.27 million, but it's showing as the $3.72 million. However, the accompanied financial statements are all correct. Back to you, Bob.

Robert O. Carr

Thanks, Maria. Over the first 3 quarters of this year, we have achieved the growth and productivity objectives as we identified as the keys to strengthening our franchise in what we felt would be a low growth economy. For that, we are grateful for the diligent efforts of our many dedicated employees, who are working with more energy than ever before.

Our plans for the balance of 2011 and into 2012 do not rely on any significant benefit from an economic expansion. And in fact, we'll start to lap the higher bar we've set with a recovery in our new margin installed and productivity gains. Overcoming those challenges has always been in our plan. What's relatively new to our plan is the unprecedented opportunity to clearly and unequivocally differentiate our fair deal from all of the various schemes the market is using to hide the merchants' true cost of processing. We are energized, our various association partners are energized, and we believe that every merchant should be equally energized.

By -- at the end of the day, we are confident in the fundamental strength of our core operations, and we have increased our guidance accordingly. We are generating significant cash that is enabling us to create additional value through both organic growth and acquisitions, as well as by returning cash to our shareholders. To that end, the Board of Directors has authorized a $50 million share repurchase program.

We've made a lot of progress over the past several years that has put us in a strong position to capitalize on opportunities in our industry, both in the near term as well as over the long term.

Before closing today's call and opening it up to questions, I am pleased to announce that our Board of Directors has declared a fourth quarter dividend of $0.04 per share payable December 15 to holders of record on November 24.

And with that, Celia, we'd like to open up the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] We'll go first to Greg Smith with Sterne Agee.

Greg Smith - Sterne Agee & Leach Inc., Research Division

Just looking at the fourth quarter, the implication is the margin will be down from what we've seen over the past couple of quarters. I mean, I'm obviously looking at net revenues. We understand the interchange issue, but can you just talk through the fourth quarter a little bit what we should expect for margins and what the seasonality is in the business, please?

Maria Rueda

Our call is covering the third quarter, of course. But traditionally, the third quarter is our strongest margin followed by the second, fourth and first quarter. We, in the third quarter, showed a 17.7% operating margin which again repeated the success of our second quarter 17.7% operating margin. So at this point, we are still focused on our 20% operating margin going forward.

Robert O. Carr

That's our goal for the future. The fourth quarter should be relatively comparable to the third quarter in my view. Bob, do you have anything to add?

Robert H. B. Baldwin

No. It's -- there is also, as always, a certain level of conservatism in there. And as you get closer to the fourth quarter, the range narrows down some. But we typically expect the fourth quarter to be a little bit lighter on margin because it's a lower volume quarter for us than the third quarter and the second quarter.

Greg Smith - Sterne Agee & Leach Inc., Research Division

Okay, that's helpful. And then just in the third quarter, is there a way to quantify what were truly one-time items?

Maria Rueda

Well, yes, Greg. As we discussed, we completed the acquisition and announced our acquisition of School-Link on September 30. And there are some costs, one-timers included and they're related to our School-Link acquisition.

Greg Smith - Sterne Agee & Leach Inc., Research Division

Any way to quantify that?

Maria Rueda

Under $1 million.

Greg Smith - Sterne Agee & Leach Inc., Research Division

Okay, but weren't there some others I thought you mentioned?

Maria Rueda

No. Those are principally the costs, Greg.

Greg Smith - Sterne Agee & Leach Inc., Research Division

An then just a broader question, how are you guys handling the routing of debit when you have the option to route to multiple networks potentially? How are you making those decisions, is it purely based on lowest costs?

Robert O. Carr

The answer right now is that we're not doing anything differently than we've always done that in the very limited cases where we're controlling the routing, we do it on a lease cost basis. The routing process really is going to be implemented on April 1 of next year, and there will be some more -- there was certainly more discretion between us and our merchants on that score at that time. But importantly, it's relatively -- there's relatively little flexibility in our SME business as far as routing. So if a consumer walks in with a Visa card, guess what, since we do very little PIN debit, it's going to be a Visa transaction. If it's a MasterCard, it's going to be a MasterCard transaction. In the SME portfolio, there is some PIN debit, and we'll be exploring best ways to optimize those routing decisions a lot more interesting and complex dynamics on the Network Services portfolio where PIN debit is much more prevalent, and we're going to be working with our team and with our customers to figure out the best approaches.

Greg Smith - Sterne Agee & Leach Inc., Research Division

And I guess that leads to the question, would you accept payments, incentive payments, from the networks who are routing or does that sort of go against your business model?

Robert O. Carr

That's not something that we're going to go into particularly. We -- I don't think there's anything necessarily adverse to our customers' interests with -- if there were such an offer. So I'd say we're not going to do something that's detrimental to our merchants in cases where we would control the choice.

Operator

We'll go next to Dave Koning with Baird.

David J. Koning - Robert W. Baird & Co. Incorporated, Research Division

My first question, just revenue guidance got taken down kind of to the lower half of the range and EPS is still very good, so no real concern. But I'm just wondering why revenue guidance was taken down a bit when you raised same-store sales, installs are going well with Durbin kind of now kicking in and you made a little acquisition. So it feels like the revenue side would've maybe almost gone higher than lower.

Robert O. Carr

Well, it's really hard to -- I mean when you get 3 quarters of the year done, you're sort of baked on a lot of your overall averages. And as you know, the year-to-date net revenue growth is under the 8%. So obviously, this reflects the acquisition of School-Link. And it's just that it would be surprising to us if we went above the 9% number. So widely, the 10 in there is part of the guidance.

David J. Koning - Robert W. Baird & Co. Incorporated, Research Division

In processing and servicing expenses, they're near or kind of right around this corner your all-time low, I believe, kind of around the 2007 levels which that was pre-NWS, which you kind of have a lower margin profile just given that you have NWS in your numbers now. So that's pretty impressive that you've gone to this level. Is there much more, I guess, margin potential just from lowering processing and servicing, or are we at kind of a point now where you've kind of rung out the costs and we're at a good, kind of stable, level?

Maria Rueda

David, it's Maria. We believe that we have a little bit further to go, but we have successfully lowered the cost of NWS front-end processing as we have moved that on to our own proprietary platform spread end.

Robert O. Carr

There's also a little bit of movement from -- of processing costs into the G&A lines. So our G&A is up, and our cost of processing is down. A little bit of that is as change of geography due to the nature of our cost structure. So it's easy to read too much into both of those numbers I think. Year-over-year, we'll be better next year when we anniversary this.

David J. Koning - Robert W. Baird & Co. Incorporated, Research Division

Great, and just a final quick one. Any read into October so far? Is it looking somewhat like the last few months, or any changes in pattern?

Maria Rueda

We haven't noted any changes in patterns yet from September, David. I would say it's pretty much going on as expected.

Robert O. Carr

Our recruiting is the exception to that. We really got a jump in recruiting. So let all your friends know that we're recruiting.

Operator

We'll go next to Sanjay Sakhrani with KBW.

Steven Kwok - Keefe, Bruyette, & Woods, Inc., Research Division

It's actually Steven Kwok, filling in for Sanjay. Just a quick question with regards to the sales force. I was wondering -- saw a little bit of an uptick in that and I was wondering where do we think sales force could be in like 1 year or 2 years?

Robert O. Carr

We really worked hard this past year to establish a high level of productivity in our sales organization. It had really diminished a lot through the economic downturn and our processing intrusion. So we're expecting it to continue to grow back up frankly to where it was. Only, we're going to grow slower and more deliberate, and we're going to maintain the productivity levels that we have. Our -- we're very excited about it. We think we can properly call ourselves in a lead organization where our people are earning 6 figures as sort of a minimum. After they've been with us for 1 year, 1.5 years, that's where we want to be, that's where we're at today, and we think it's going to help us a lot to build back our organization. We have 98 divisions across the country and some of them are very strong. But we have lots of opportunities to grow the weaker divisions, and that's what we're looking to do.

Steven Kwok - Keefe, Bruyette, & Woods, Inc., Research Division

Sure, and then I was just wondering if you could comment on kind of the same-store sales. Any particular area that you guys are focused on?

Maria Rueda

Well, as you saw from our statistical supplement, we are continuing to see expansion in all the categories that we track with the exception of the entertainment industry. But the majority of our volumes continue to come from the restaurant business, lodging, hotels.

Robert O. Carr

Yes, and the reason that we will track it -- we track it and give it out for as an observation, not as anything we could, can or should do anything about it. It doesn't impact in any way our behavior in terms of trying to sign-up, install as much margin as we can and trying to keep as many merchants as we have. So just to be clear, the same-store sales is something that's interesting and it's relevant to our financial results. But it's something over which we have absolutely no control and give it out there as a piece of the pie so you can understand our financials better.

Operator

We'll go next to Chris Shutler with William Blair.

Christopher Shutler - William Blair & Company L.L.C., Research Division

With regards to Durbin, what are you seeing other acquirers do so far? Have you run across any of them? They're actually passing all the savings along, or is it really just you guys?

Robert O. Carr

I think we're either the geniuses or the idiots. We don't know of anybody else that's doing it. Not anybody of any size anyway. There's a couple of ISOs that are doing it, smaller ISOs. But they're very small in number from what we've seen so far. What we're seeing now is statement saying guess what, there's good news for October there's no rate increase.

Christopher Shutler - William Blair & Company L.L.C., Research Division

On K-12, maybe if you could just refresh us on that strategy quickly given the acquisition and discuss what the competitive landscape looks like there. And as a follow-up, maybe you could talk about the seasonality in that business and what kind of impact all the acquisitions in that space this year will have on Q4 revenue and earnings. I know that's a lot of questions in one, sorry.

Robert O. Carr

Yes, I'll take part of that and let Maria and Bob pick up on some of it. The K-12 business, we feel like we have a special opportunity to expand that business because of our "feet on the street" across the country. Our idea is primarily to expand the usage by getting more parents to go online. We have a nutrition service whereby we can tell the parents what their children are eating, even show them a picture of their tray. And to put nutritional information out there, we think that's going to attract a lot more parents. We also are making available to the schools the opportunity to pay for the cheerleader uniforms, the pencils from the bookstore, the activity fees of all kinds. So we think we're going to get a lot of organic growth that way. And we also have access through our payments portal to the parents, and we want to encourage the parents and the local merchants to reward students in special ways. So we're working on a community card concept, where we have strong penetration in a local community. So we're very excited about it. Also, in many of our school districts such as the New York City public schools, there's -- not all the schools are using this service yet, and we have ways to encourage them to adopt the program throughout their network of all the schools to overcome their capital constraints that they have today.

Robert H. B. Baldwin

And on the financial metrics, really a couple of dynamics. One is with this acquisition, we brought the K-12 group to being meaningful for our financials. Quarterly run rate net revenue is in the order of 7 million pro forma for this acquisition of the whole unit, so it's meaningful for the company as a whole. Second, in terms of profit dynamics, obviously to date in this financials is very small and there isn't anything dramatic that happens at the outset. But the focus is having bought these companies at reasonable multiples of a pretty stable EBITDA, as Bob was saying, the really opportunity is to penetrate these customers, and we actually represent about 12.5 million students across the country now. There's a lot of opportunity to penetrate these schools with additional payment solutions that take revenue and enhance the profitability considerably. So lots of space on that.

Maria Rueda

Yes, the only thing I'd like to add to Bob's comments are we also see this as being accretive to our operating margin. This is a very positive stance for us, and it brings us to a recurring revenue stream which is very beneficial to Heartland to be at the leading edge of this very logical payment progression.

Christopher Shutler - William Blair & Company L.L.C., Research Division

Okay. But in terms of revenue, $7 million annually is the way to think about School-Link?

Robert O. Carr

Quarterly.

Christopher Shutler - William Blair & Company L.L.C., Research Division

Quarterly, sorry. And that's just this most recent acquisition or that's all of the K-12 business?

Robert O. Carr

That's all of K-12.

Maria Rueda

Yes, we've -- this is our fourth acquisition in this space, and this brings us to a leadership position in this market niche.

Christopher Shutler - William Blair & Company L.L.C., Research Division

Okay. And then the seasonality, I'm assuming that it's a lot lighter in the summer than it is. I'm assuming Q4 is a big quarter. I'm just trying to figure out what's really baked into the implied guidance.

Maria Rueda

Well, Q4, School-Link is really our largest acquisition in this space and we only completed it on September 30. So there will be minimal impact from School-Link on Q4 at this point because it reflects the costs of the acquisition as well as the results. But going into 2012, we'll see more accretive results from the acquisition and the entire rollup of these 4 payment processors in this space.

Christopher Shutler - William Blair & Company L.L.C., Research Division

Fair to think though that is it is seasonally strong in Q4, correct, in that business?

Maria Rueda

Yes.

Christopher Shutler - William Blair & Company L.L.C., Research Division

Okay, and then final question for me just on the sales force. Maybe just talk about retention amongst your top relationship managers over the last call it 3, 4, 5 months versus what you saw last year.

Robert O. Carr

The retention of our highest producers has continued to be high throughout the -- even the reduction of the reps. The weaker reps are the ones who have left typically. I think we look at this -- we have a vesting process and we sort of use that as a benchmark. The number of vested reps who left the organization in the last few months is I think under 5, which is about 10% of the people that have left. So it's a very small number. We keep our good people, our most productive people. And the people who are least productive are the ones that have left. That's been true right along.

Operator

We'll go next to Tim Willi with Wells Fargo.

Timothy W. Willi - Wells Fargo Securities, LLC, Research Division

On the sales force, and I apologize if you said this earlier, I got a bit distracted for 1 minute or 2. But could you talk about, I guess, you talked about an improvement in recruiting. It sounds like October is the best month so far versus other months. Is there anything around where you're attracting people that have surprised you or led you to see a ramp-up, or just why do you think we are seeing that? Is it purely just that people know they can come to Heartland now and make a lot of money because every else is still there, or do you find a different vertical to go into to recruit or how has that occurred, do you think?

Robert O. Carr

Yes, that really a great question. In fact, what we did a year ago was we said, "Stop recruiting, we're focused on productivity." And earlier this year, we opened up to allow our people to start hiring again. And just recently, we set up a campaign here internally within the company the refer to win program, where we're incenting our employees. We have almost 3,000 employees, and that's a lot of people to go out and tell -- talk about our opportunities. So with the increase in productivity of our salespeople and the earnings of our salespeople, we have a lot of employees referring friends and family members because they know the chances of them being successful are much higher now than ever. And then we're just really focused on that. We've asked each division manager to recruit one new person and get them trained and onboarded very successfully. We're not just looking at headcount here. We're looking at the productivity of the new hires. So we haven't uncovered any new secret sauce or anything. We're just using the resources available to us and letting people know that we have a nice successful model where the chances of success are much higher today coming out of the gate than ever before, and it's energized our whole company.

Timothy W. Willi - Wells Fargo Securities, LLC, Research Division

Excellent. And just a couple of other quick follow-ups. On the K-12, the comment around margin, does that indicate anything around sort of the type of pricing you get relative to the SME markets? Should we think about that impacting that revenue yield as it grows and becomes a bigger part of the business?

Robert O. Carr

Well, let me take a shot at that, Tim. I mean the revenue yield, it's all -- the revenues there are all net revenue.

Timothy W. Willi - Wells Fargo Securities, LLC, Research Division

And that's what I'm thinking about when I talk about revenue yield that's on a net basis.

Robert O. Carr

Yes. And in terms of profitability, it's as Maria said, it's something that goes to a accretive operating margin to our 20% goal pretty quickly. And so it is strong on that book sense as well.

Timothy W. Willi - Wells Fargo Securities, LLC, Research Division

Okay. Attrition, quite low. Can we at all split sort of why that number continues to be pretty impressive versus the industry? Is it just a lack of continued ramping down in business failures? Have you seen internal customer service metrics or anything like that really ramp up that's just having an impact?

Robert O. Carr

We have struggled with -- we've always thought our attrition's too darn high. We still think it's too darn high. But over the last 5 or 6 years, we tried to find a way to have the right balance of infield servicing people versus proactive servicing out of our service center. I think we might have found the right balance now. We have 112 account managers in the field now that helps with installations and with required urgent service calls. That's a lower number than we'd had in the past. And we have this really great operation in our service center called the portfolio management team, and they're proactively working with merchants when a merchant calls in for a pricing issue or they have a problem of any kind whatsoever or there have been multiple calls, it goes over to specialists who deal with retention of merchants. And we just started that last year, and we've grown it. It's working on very, very well. I think we may have found -- find a good balance finally in the right level of infield service versus service center service, and we're expecting that attrition number to help. And also in talking with our competitors, I think that the attrition of the industry has come down. It seems like it has, at least based on anecdotal comments that people make. I think we're still below the average by quite a lot, but I think the churn in merchants has reduced now. We're hoping that Durbin increases the churn from them to us. We're working hard to make that happen, too.

Operator

[Operator Instructions] We'll go next to Robert Dodd with Morgan Keegan.

Robert J. Dodd - Morgan Keegan & Company, Inc., Research Division

Just looking at School-Link again, I mean at $7 million quarterly for the fourth quarter, $28 million in the year, 20% market share, and I'm throwing a lot of numbers out, implies the kind of a market opportunity right now of 140 million for the whole market. How much bigger do you think that can be when you add in cheerleader uniforms sales and everything else? And that's the first part. The second part is could you contrast the K-12 and the sales effort there, how that's going, versus your college and your university effort and how that's going. We haven't heard much about that recently, is it dragging a bit?

Robert O. Carr

Actually, it's not dragging at all. I'll take the first cut at this and let Bob and Maria chime in here as well. We think that the K-12 opportunity is just really beginning to develop. A lot of the schools that use the point-of-sales systems of the companies that we have acquired do not use our payment service, so we have a tremendous opportunity to add schools and we've been very successful in doing that since the first of the year when we began this process. So there's -- we think that this is a $1 billion market easily, and we want to conquer as much of it as we possibly can. In terms of our college market, we have just had 2 major wins in competition with some of the major players. We have secured the business of the state of Tennessee, higher education for tuition refunds with our Discover card program, open loop for tuition refunds. We've also won the business of the San Antonio Community College district, the Alamo Community College are just 2 of the biggest awards for tuition refunds in the last -- in this fiscal year. So the campus business is going well. We've continued to add more campuses. We don't talk a lot about it because we have so many things that are -- to talk about, and it's not driving the bottom line of the company in a significant way, although we expect it to continue to be helpful. We think -- there's really not a lot of connection, frankly, between the campus business and the K-12 business in terms of the applications or the technology, the sales efforts or anything else. They're 2 different animals. We are working towards migrating the closed loop student ID cards in the campus world to a more open loop in approach where we're the issuer of the card and can benefit from the interchange. So there's a lot going on there, but we don't have a lot of financial results to report independently at this -- quite yet.

Operator

We'll go next to Roman Leal with Goldman Sachs.

Roman Leal - Goldman Sachs Group Inc., Research Division

I have a long one question as well on Durbin. First, there's been a lot of chatter on the unintended consequences there, especially on small businesses. And just wondering just given the price increases and the potential for a national effect of price increase in some of these merchants that have a lot of low ticket items or volume there. How are those conversations going with your businesses, and do you see this as a potential threat to your Durbin Dollars campaign?

Robert O. Carr

It's not a threat to Durbin Dollars at all. The $11 is the magic number. The Durbin, with all the changes that were made after the announcement by the Fed with the small ticket interchange rates, any transaction that's over $11 is going to benefit from Durbin. And transactions under $11 are being penalized because of the small ticket interchange fiasco, my term. So what's happening is merchants are putting up signs saying, we do not accept credit cards below $10, which is legal. And they're working on trying to find ways of using prepaid cards so that they don't have these transaction fees on small tickets. And we're working with the associations to try to minimize the impact for our laundry and vending machine business. But this is not all resolved. There's a lot in the works here. We're hopeful that we'll -- the market will find a way to overcome the very, very high cost of taking a very low ticket right now through either not accepting cards or through aggregation or prepaid activities.

Operator

We'll go next to Andrew Jeffrey with SunTrust.

Richard Cheever - SunTrust Robinson Humphrey

This is Rich on for Andrew. I wanted to switch gears a little bit and talk about margin projection. I know you haven't really talked about 2012 yet, but I wanted to get a sense of when you think you would be hitting the 20% operating margin level.

Robert O. Carr

I'll give you a very specific answer on that: as soon as possible.

Robert H. B. Baldwin

Just elaborate a little bit, we've set out 20% as a goal. We're not going to block ourselves into any particular number for 2012 because there are opportunities in the marketplace that might drive you to add some costs. On the other hand, it may not. But I think that to have that as a goal coming from where we are, if you look at the implied 2011 margin, it sort of -- if you improve by less than 100 basis points a year, you're not getting to that target. It's not a meaningful target. So that's sort of what we see as a minimum that we would hold ourselves to, but might aspire to more than that depending on circumstances.

Robert J. Dodd - Morgan Keegan & Company, Inc., Research Division

Do these little tuck-in acquisitions facilitate that goal, or do they create a bit of a headwind?

Maria Rueda

Well, as we mentioned, the School-Link acquisition that we've just completed will definitely move us towards that goal as we add School-Link to our other 3 school-related acquisitions.

Robert O. Carr

It's not going to drive it, though. What Maria said, I endorsed. The big -- the core processing, that's what our target is. That's going to always continue to be our target. These acquisitions that we're doing are all intended to drive our core businesses, which is recurring payments for businesses, recurring payments of all kinds. So what's driving it is our scale, and we have a great IT organization that's working on cutting the processing costs. And we feel like we'll be able to do that by just managing the business. I think the results of the last year have demonstrated that we have the ability to do that, and we have a long way to go and we're going to hit 20% just as soon as we can. And management is highly incented to make that happen.

Operator

And we'll go next to Kartik Mehta with Northcoast Research.

Kartik Mehta - Northcoast Research

Bob, a question for you on the Durbin side. You said you haven't seen yet other processors react to your aggressive marketing campaign. And I'm wondering just -- is it just too early in your opinion for the processors to react, or do you think the market is just too fragmented for small businesses and that's a result you're not seeing others take the same strategy you have?

Robert O. Carr

I think the market has reacted. I think the -- we know, we've all sort of put our flag in the ground. The processors are generally thought that the short-term gain of keeping the Durbin Dollars, either all of them or just a part of it, is a better financial outcome for them than giving it back to the merchants. And we believe that the short-term gains are not worth it. That interchange plus pricing is something that works for us for all merchants. It helps us keep our organization energized being the fair deal people. So I think the marketplace has definitely spoken here, and the desire to keep these extra money is driving what's happening and it's going to create a lot of nice bonuses for our competitors in the spring.

Kartik Mehta - Northcoast Research

And then one last question, Bob. Last time we talked, obviously you have some cost coming up because of government regulations that go into effect in 2012. And I'm just wondering, how you are consider recouping some of those costs so that you can continue to achieve your margin goals?

Robert O. Carr

Well, we're evaluating that, and we do intend to recover our costs -- our additional costs that have been imposed because of regulatory mandates.

Operator

Our next question comes from Brett Huff with Stephens Inc.

Unknown Analyst -

It's John Kemp [ph] in for Brett Huff. Just one last quick question on Durbin. Bob, you mentioned the Durbin impact earlier and just kind of mention that you guys were looking to offset the balance of the power in the industry, so could you just maybe provide a little more color there? And maybe more specifically, just how could you guys see your competitive position changing due to Durbin?

Robert O. Carr

Well, it really is a matter of a lot of our employees, our sales organization just feels energized. And I think it helps our recruiting. We're not going to go from -- we're not going to increase our market share by double. With the Wal-Mart suit 8 years ago, we're able to increase our business by 40%. The following year, we're not expecting to have that big of an impact. We're a much bigger company right now, but we think it's already created some very nice momentum. And I think we're going to see a nice opportunity for our organic growth to improve over what it's been the last couple of years, and this is just giving us a nice impetus to do that. There's a lot of confusion in the marketplace, though merchants don't understand this. They're so confused. It's a big effort to get a merchant to pay enough attention about what's happening. So the different approach is they are going to be interesting and someday, there will be a nice case study made about how this all worked out.

Unknown Analyst -

Absolutely. And then one last quick question. I guess there's been a lot of positive and negative, I guess, depending on your stance. So press just kind of covering Durbin leading up to the amendment then following it. And then I guess we've lately seen some attempts to kind of reverse the amendment. So do you guys have any real concerns there?

Robert O. Carr

No. I mean that's a lot of politics, a lot of noise. If something happens, it happens. But it would be extraordinarily difficult. There was an effort last spring to reverse it. It would be hard to contemplate that being likely, but it's not in our control. We'll just keep working on the real world as we experience it now, not what could happen.

Operator

We'll go next to Tom McCrohan with Janney Capital Markets.

Thomas C. McCrohan - Janney Montgomery Scott LLC, Research Division

Do you folks still expects the average savings per merchant to be about $1,400 a year?

Maria Rueda

It's Maria. We actually put out a number a little lower than that. We never said $1,400 per year and these are estimates. But we're thinking a little bit in excess of $1,000 depending on the individual merchants' circumstance.

Robert O. Carr

Yes, and we did have a higher number before this small ticket interchange was changed. So the timing of our estimates have been based upon the current -- what is in effect at the time, and so we are estimating about $1,000 on average. But on average, that means there's going to be nothing for small ticket merchants, very small ticket merchants, and it's going to be much higher for large ticket merchants. The higher the average ticket, the more savings per $100,000.

Thomas C. McCrohan - Janney Montgomery Scott LLC, Research Division

And just one final question on the small ticket, Bob, is there -- you used currently service merchants that on average do have tickets under -- that breakeven $11 and then predominantly debit or actually costing them more now post-October 1?

Robert O. Carr

We do, and we're encouraging those merchants to do aggregation, go to prepaid or whatever in order to counter that. So the market is going to react to this, and it's going to be interesting to see what does happen. But definitely the convenient store people, the laundry folks, vending folks are all impacted by this small ticket.

Robert H. B. Baldwin

But for perspective in August at somewhere close to 6 billion of SME, and this is important. Our Network Services business had some very major players -- seasonal players, and this is impacting their business. But in the SME, actually something on -- under $100 million of our $6 billion was under $10 ticket in terms of total transactions. And of course, that includes many merchants to a small percentage of their volumes. So we don't have that many merchants that their average ticket is $5, $6, $7, $8. That's pretty rare. It's much more that sum of everybody's transaction come in that level.

Operator

We'll go next to Tien-Tsin Huang with JPMorgan.

Tien-Tsin T Huang - JP Morgan Chase & Co, Research Division

I just wanted to ask Bob. For new margin installs starting October 1, I guess for the next couple of quarters, what do you expect there, given some of the efforts you're going to push with the Durbin side?

Robert O. Carr

We're hoping and expecting for improvement as much as possible to what our results for the prior years.

Tien-Tsin T Huang - JP Morgan Chase & Co, Research Division

Right. I know you said that it's not going to look like post Wal-Mart. But I'm just guessing, I'm just trying to understand the progression of improvement. Does it typically come right away, or does it get weighted a couple of quarters out? Just trying to understand that better for modeling purposes.

Robert O. Carr

Well, once the merchants start seeing their statements which will start happening next week, we expect an uptick. So we're expecting some uptick. We don't know how big it's going to be, and we think the recruiting ability for us to expand our organization with this high productivity level is the biggest driver of our future growth. And we're not building in any heroic numbers into our forecast, but we're working hard to get them anyway. But we'll see how it works out.

Tien-Tsin T Huang - JP Morgan Chase & Co, Research Division

Okay. So it sounds like it's probably more of a Q1 event. Last one, the buyback, what's sort of the methodology for buying back stocks? Is it going to be a 10b5 or is it going to be more opportunistic?

Robert O. Carr

Right now it's going to be -- it's going to be measured, and we will establish in all likelihood the 10b5 to handle the periods when we're blacked out. But it really will be based on comparison of the use of this capital compared to other potential uses and the overall attractiveness of it. So we have a methodology going into it to drive how much we'll buy, and we'll stick to that plan based on how the market price of the stock is.

Operator

We'll go next to Chris Brendler with Stifel, Nicolaus.

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

I just have a couple of hopefully quick follow-ups on the Durbin issues. First, you said that you haven't seen any of your competitors really respond with your type of 100% pass-through. Is there any noticeable difference? It may be too early to this question, but I'm going to ask anyway. Any noticeable difference between the ISO competitors and the large bank competitors as you see them implementing these changes?

Robert O. Carr

Well, the only folks that we have seen that have committed to 100% pass-through are a couple of small, and I mean small, ISOs. We haven't seen any of the big players commit to that at all. Of course the big merchants, the merchants that are interchange plus, they all do get 100% pass-through. At least they're supposed to.

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

And on the SME segment, if you've got...

Robert O. Carr

I don't know of anybody that's doing 100% pass-through, frankly, except for 2 small ISOs.

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

Where do you put the pass-through if you can guess? Is it 50%, is it the 25%?

Robert O. Carr

We have no way of speculating. You can speculate on that as well as you could. I mean, we don't know.

Robert H. B. Baldwin

And there will be a gap between what people are saying to their merchants and what they're actually doing because of the lack of transparency in the marketplace and the general confusion over what a merchants' price really is. So there are people out there saying I'm going to charge you 60 basis points on your processing because of the Durbin that can do that. Well, that's not true and that's the ongoing reality in our business. But we can't really opine on what other people are doing. We know what we're going to do, and we're going to be out there helping the merchants understand what they are paying as these statements come in. That's going to be when we're going to find out a lot more about what the competition is doing. We really haven't seen it at this point.

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

Right, and November should be the bigger month for understanding what's going on.

Robert O. Carr

We'll know a lot more in November, absolutely.

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

Okay. From your strategic perspective, if I think about the constraints to taking advantage of this opportunity, which in my mind is a limited opportunity. At some point, all of the Durbin Dollars will be completed away by the larger acquirers and a lot of them have said 1 year or maybe 18 months before we get to a new normal. As you think about your opportunity to take advantage of this window, are there any constraints besides the sales force? It sounds like you're looking to hire, you're pretty excited and that seems like one constraint. Are there any earnings or cash flow constraints, or anything else that's constraining your ability to gain market share here?

Robert O. Carr

Not that we know of. No, I don't think there's a lot of constraints. I will just make this parenthetical comment. I hope the industry stops talking about margin compression for a while because this is a big margin enhancer, keeping this Durbin money.

Operator

And we'll take our next question from Meghna Ladha with Susquehanna.

Meghna Ladha - Susquehanna Financial Group, LLLP, Research Division

Just a quick question on Durbin. Are you -- are there any fees that you might be planning to charge merchants for passing through the interchange post-Durbin?

Robert O. Carr

Our business model is to do interchange plus pricing for all of our merchants, and we're not changing that.

Maria Rueda

And we actually have many communications out through press releases helping our merchants to incentivize them in to look to see what is in their bills, so we can communicate and educate to them the transparency of our pricing offering.

Operator

We'll go next to Dave Koning with Baird.

David J. Koning - Robert W. Baird & Co. Incorporated, Research Division

Just one last question about the acquisition. I think you bought it for about $23 million based on the cash flow statement. It looks like revenue is in the ballpark of $20 million, so kind of a onetime revenue acquisition. Typically, when the companies generate this much margin and have this much market share, I would think of a more like 3-time rev. So I'm just wondering, why were they willing to sell to you at such, what appears, attractive valuation?

Robert O. Carr

Well, I think that's -- the danger with back of the envelope stuff is just that the business where we bought at a reasonable multiple of the EBITDA, it's a stable EBITDA business primarily. From their perspective, the upside and excitement for us is the penetration of those same customers with new earnings generation capabilities with the payments. And so it is a reasonable price. It's not a dirt cheap price relative to their current profitability. But relative to the potential profitability, we think it's a very attractive acquisition.

And thank you all. I appreciate your being on the call this morning and look forward to talking to you next quarter.

Operator

And that concludes today's conference. We thank you for your participation.

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