Fair Isaac Corp Q2 FY2022 Earnings Call

Greetings, thank you for standing by. Welcome to the Fair Isaac Corporation Quarterly Earnings Call. During the presentation, all participants will be in a listen-only mode. Afterward, we'll conduct a question-and-answer session. This conference is being recorded, Wednesday, April 27, 2022. And now, I'd like to turn the conference over to Steve Weber. Please go ahead.

Thank you. Good afternoon, everyone and thank you for joining FICO's second-quarter earnings call. I'm Steve Weber, Vice President of Investor Relations and I'm joined today by Will Lansing, our CEO and our CFO, Mike McLaughlin. Today, we issued a press release that describes our financial results compared to the prior year. On this call, management will also discuss results in comparison to the prior quarter in order to facilitate an understanding of the run rate of our business. Certain statements made in this presentation may be characterized as forward-looking under the Private Securities Litigation Reform Act of 1995. Those statements involve many uncertainties, including the impact of COVID-19 on macroeconomic conditions and the company's business, operations, and personnel that could cause actual results to differ materially. Information concerning these uncertainties is contained in the company's filings with the SEC, particularly the risk factors and forward-looking statements portions of such filings. Copies are available from the SEC, from the FICO website, or from our Investor Relations team. This call will also include statements regarding certain non-GAAP financial measures. Please refer to the company's earnings release and Regulation G schedule issued today for a reconciliation of each of these non-GAAP financial measures to the most comparable GAAP measure. The earnings release and Regulation G schedule are available on the Investor Relations page of the company's website at fico.com or on the SEC's website at sec.gov. A replay of this webcast will be available through April 27, 2023. And now, I'll turn the call over to Will Lansing.

Thanks, Steve and thanks to all of you who are joining us for our second quarter earnings call. On the Investor Relations section of our website, we posted some slides that offer financial highlights of our second quarter. I'm pleased to report that we continue to deliver strong results as we pursue our strategic initiatives in both Scores and Software. Today, I'll talk about this quarter's results and how we view our business at the midpoint of our fiscal year. As you can see on page two of the presentation, we reported revenues of $357 million, which is an increase of 8% over the same period last year. We delivered $104 million of GAAP net income and GAAP earnings of $3.95 per share, up 52% and 70%, respectively. On a non-GAAP basis, net income was $124 million, up 37% and earnings per share of $4.68 were up 53% from last year. On the Scores side, the business continues to perform well. Scores were up 9% in the quarter versus the prior year as you can see on page six. On the B2B side, revenues were up 5%. As others have reported, we continue to see a slowdown in mortgage activity as interest rates rise. Mortgage origination revenues were down 23% versus last year. Mortgage revenues account for about 14% of our Scores revenues and 7% of our total company revenues. Auto origination revenues were up 9%. Personal loan origination revenues were up 27%. While the mortgage declines have been significant, we do remain confident in our revenues given other areas of strength and pricing increases. Our B2C revenues continue to be strong, up 18% versus the prior-year quarter. We saw strong growth through both our own myFICO business and also through our channel partners. In our Software segment, we delivered $173 million of revenue, up 7% from last year. We continue to drive growth in this segment, particularly on our platform. As you can see on page seven, total ARR was up 11% and the platform ARR grew 60%. We continue to deliver strong NRR as well demonstrating our existing customers' eagerness to find new ways to expand their usage. Total NRR for the quarter, which you can see on page eight, was 110%. Platform NRR was 141%, and we continue to sign more deals and bigger deals. Our ACV bookings, as seen on page nine, were up 55% over last year. I'll have some final comments including a revision of our guidance in a few minutes, but first, I'll turn the call over to Mike for further financial details.

Thanks, Will, and good afternoon everyone. As Will mentioned, we are experiencing strong growth across the business. Total revenue for the second quarter reached $357 million, representing an 8% increase compared to the previous year, or a 13% increase when excluding the divestiture of our Collections and Recovery product line last June. In our Scores segment, revenues hit a record $184 million, up 9% from the same period last year. B2B Scores revenue increased by 5% compared to the prior year. As anticipated, mortgage origination revenues declined by 23% year-over-year, but this decline was more than compensated by growth in other areas. Revenues from credit card and personal loan originations rose by 27%, while auto origination revenues grew by 9%. B2B non-originations revenues, which include FICO scores used for pre-screening, account management, and insurance, increased by 16%. B2C Scores revenues were up by 18% from the same period last year, with significant growth from both myFICO.com and partner B2C revenues. The software segment generated $173 million in revenues for the first quarter, reflecting a 7% increase from the same period last year. Adjusting for the divestiture of our Collections and Recovery business, software revenues increased by about 19%. Software license revenue recognized upfront was $27 million this quarter, compared to $12 million in the same period last year. We are strategically deemphasizing our lower margin professional services revenues, which totaled $24 million this quarter, down from $37 million last year. This quarter, 78% of our total company revenues were from the Americas region, while the Asia-Pacific region contributed 12% and EMEA made up the remaining 10%. Our software ARR at the end of the second fiscal quarter of 2022 was $550 million, an 11% increase from the previous year. Our platform ARR stood at $97 million, accounting for 18% of our total second quarter ARR, with a growth rate of 60% year-over-year. Non-platform ARR was $453 million in the second quarter, up by 4% compared to the prior year. To note, our reported ARR and related metrics exclude all revenue from divestitures in previous periods. The dollar-based net retention rate for the quarter was 110%, with significant expansion from our platform customers. The dollar-based net retention rate for platform software was 141% in the second quarter, while non-platform software usage was stable, reflecting a non-platform net retention rate of 103%. Software sales were robust once again, with annual contract value bookings of $20.6 million compared to $13.3 million last year, marking a 55% increase. It’s important to remember that ACV bookings represent only the annually recurring value of software sales and exclude professional services. Now, regarding our expenses for the quarter, total operating expenses were $205 million, down from $230 million in the same quarter last year. This decline is mainly due to the divestiture of our Collections and Recovery business and various cost reduction strategies. Our non-GAAP operating margin was 51% for the quarter, reflecting an expansion of 1,200 basis points year-over-year. GAAP net income for the quarter was $104 million, up by 52% compared to the same quarter last year, and our GAAP EPS was $3.95, an increase of 75% or 70% from the prior year. Our non-GAAP net income amounted to $124 million for the quarter, a 37% increase from the same quarter last year. The effective tax rate for the quarter was 21%, and we expect our FY 2022 recurring tax rate to be around 25% to 26%, before considering any excess tax benefits or other discrete items, leading to an estimated net effective tax rate of about 24%. Free cash flow for the quarter was $120 million, down from $152 million in the same period last year. By the end of the quarter, we had $207 million in cash and marketable investments, with total debt at $1.81 billion and a weighted average interest rate of 3.70%. Regarding return of capital, we repurchased 580,000 shares in the second quarter at an average price of $455 per share. During this quarter, we exhausted the previous Board repurchase authorization and, as previously communicated, a new $500 million authorization was approved. At the end of March, we had approximately $400 million remaining from that authorization and will continue our share repurchases as a favorable use of cash. Now, I will turn it back to Will for his thoughts on the remainder of FY 2022.

Thank you, Mike. As I said in my opening remarks, we continue to deliver strong results, and I have confidence in our team as we move forward. Our Scores business continues to deliver strong growth, even in a volatile macro environment. As I've said in the past, our diversification through different credit verticals means that we're less dependent on specific types of lending, which is important in a rising rate environment. On the software side, we continue to see more evidence that we're on the right strategic path. We've now delivered 10 straight quarters of platform ARR growth in excess of 40%. And we're excited to demonstrate to new and existing customers the best-in-class capabilities that can revolutionize the way they interact with consumers. As always, we remain focused on execution and are committed to delivering value to our shareholders and visibility to the progress we're making. Finally, today, we're raising our full-year guidance as we enter the back half of our fiscal year. We are raising our full year revenue guidance to $1.355 billion. As we've noted, we're facing difficult comps in mortgage, but we're seeing strong growth in the unsecured lending markets and in most of our software markets. Some of these trends were anticipated, but there is clearly uncertainty as we move through the next half year. We're also increasing our GAAP and non-GAAP net income as well as EPS. Our GAAP net income is now expected to be $350 million. GAAP earnings per share are now expected to be $13.11. Non-GAAP net income is now expected to be $429 million and non-GAAP EPS are now $16.08. I'll now turn the call back to Steve and we will take the questions. Steve?

Thanks, Will. This does conclude our prepared remarks and we will now take your questions. Operator, please open up the line.

Thank you. And our first question is from Kyle Peterson with Needham. Please go ahead, your line is open.

Hey, good afternoon, guys. Thanks for taking the questions. I wanted to touch on your margins, really impressive this quarter. The expenses kind of come in leaner than expected. I know a lot of companies have been talking about inflation dynamics and cost pressures. How are you guys managing the cost? And is there anything kind of one-time in terms of like timing of spending that we need to keep in mind as we progress through the year?

Well, our expenses will be a bit higher in the second half than they were in the first half, but we're doing a pretty good job of managing expenses. Some things like travel and real estate are the kinds of things we expect coming out of COVID. They're still under control and less than they were in the old days. So there is that kind of cost control. But I would say that we're also doing a pretty good job on the software side of bringing down our COGS and we're starting to see some benefits from our increasing focus on engineering our products and solutions for cost and efficiency and scaling. And so, all that's coming together and improving our margins.

That's helpful. And then I guess just a follow-up on the guidance raise on the topline, I know there's quite a few moving pieces, but just wanted to see if you guys could give any color on the dynamics between the pricing benefit and I’m also assuming it's some lower volume assumptions, at least on the mortgage side of things. So, just wondered if you could give some of the puts and takes of kind of the pricing versus volume and the net impact of those in your updated assumptions.

It varies by the segment of Scores you're talking about, but there is definitely price benefit in there. Some volumes are down, some volumes are up, but prices are offsetting the declines.

All right. Thanks, guys. Nice quarter.

Thank you.

Our next question comes from Manav Patnaik with Barclays. Please go ahead, your line is open.

Thank you. Good evening. Will, could you elaborate on your comments regarding the diversified lending categories? You mentioned that mortgages accounted for 14% this quarter. Could you provide details on auto loans, personal loans, and others, as well as your guidance assumptions for those?

Hey, Manav, it's Mike. Consistent with what we've shared in the past, the three segments of the originations, part of our B2B business, are roughly the same size. That varies from quarter to quarter, one grows or shrinks, but in approximate terms, that's the way to think about and we don't get into specifics beyond that.

Okay. When you mention the same size, are you referring to the 14% for mortgages being equivalent to the figures for cars and auto?

In terms of dollars for B2B originations, that's correct.

Sure. With the current market uncertainties, could you explain how your pricing strategy might adapt if we enter a period of slowdown?

Well, we take it every year year-by-year and we're committed to consistently increasing our revenue and net income and EPS. We do what we have to do on price to make sure that that remains true. I think you can expect that from us. It would take fairly calamitous change in the cycle for that to not be true. But that's really what goes into figuring out how aggressively we move on price and you've also heard us talk about the pacing and the moderation in the way we go at pricing. We don't want to shock the system. And so it's that balancing act. I think that we put a very high value on consistency of growth. And so, I think you should expect that even as the cycle spins down a little bit, and we do what we have to do on pricing to make that happen.

Fair enough, thank you.

Our next question is from George Tong with Goldman Sachs. Please go ahead, your line is open.

Hi, thanks. Good afternoon. So just wanted to dive further into the special pricing increases, can you share what the customer receptivity has been so far this year, two price increases, and then as you look across the verticals, which vertical has seen more price increases than others? In the last year when mortgage volumes were very strong, price increases were not as high in the mortgage vertical. So are we seeing a reversal there? Just any additional commentary would be great there.

George, I've mentioned this before, and it's important to note that no one enjoys price increases. While customers would generally prefer to avoid them, they do anticipate reasonable and appropriate increases from us, which we have successfully implemented. These increases have been well received; we haven't experienced any significant customer loss or threats to our major accounts. I believe we've managed to find a good balance that allows us to continue driving revenue and earnings without causing any major disruptions. In summary, I would characterize our approach as conservative, and it is effectively working within the current market environment.

And then the part on where you're seeing more or less price increases by vertical mortgage versus card versus autos?

Well, so as I said in the past, we are increasingly trying to spread the price increases in ways that they are less visible to the customers and less visible to you. Our goal in a perfect world would be we could even point our fingers at where the price increase happened. So there is a fairly elaborate exercise that we do internally to figure out where are the pockets of inelasticity where we can do price increases without losing volume. And so, we do that and we're getting better and better at that and that lets us do it in a way that's not nearly as visible and not as easy to describe. So I can't really give you a lot more detail there.

Got it. That's helpful. And then I just wanted to get sort of your experience in working with the FHFA so far, whether you are in regular conversations with them? And where in the process you believe they are in terms of ultimately reaching a decision on mortgage source?

I can’t provide a timeline for when they will make a decision. We are waiting for a decision just like everyone else. What I can share is that we still believe we have the most predictive score. We are proud of what we submitted for evaluation. That’s where we stand; we are waiting to hear the results.

Okay, got it. Thank you.

We have a question from Ashish Sabadra with RBC Capital Markets. Please go ahead, your line is open.

Thanks for taking my question. I was wondering if you could provide some more details around the large software license deal, whether that was a platform or enterprise deal? Any color will be helpful. Thanks.

Hi Ashish, it's Mike. It was mainly platform, not entirely. It's a multi-year deal with what we believe is a great customer.

That's great. And I just wanted to follow up on an earlier question. Obviously, the mortgage has worsened compared to your prior guidance. The expectations there have come down, but I was just wondering how have expectations for cars and autos changed since the last guidance? Those seem to be holding up really well and the market there is pretty strong. I was just wondering how do those flow into the updated revenue guidance? Any color will be helpful. Thanks.

You can see from the external data that auto sales for the first of our two fiscal quarters have been lower than the forecasts we made when we set guidance originally, with supply chain being one of the main reasons. As a result, we have adjusted our assumptions for auto credit originations, which were included in our guidance last November, to align with the best external forecasts. We remain optimistic about credit card, personal loans, and other originations, as there hasn’t been much change in our expectations since we established guidance at the beginning of the year, although the mortgage situation continues to be negative.

That's very helpful color. Thanks.

And we have a question from the line of Jeff Meuler with Baird. Please go ahead, your line is open.

Yeah, thanks. So we've had a couple of the bureau partners guide to the calendar year mortgage inquiries being down 30% to low 30%. Does your guidance assume something similar?

It assumes something similar, yes. I mean, there's a little bit of a lag with us because we lag the bureaus, but we're affected by some of the same headwinds.

Okay. I know you answered the question on expense management, but can you give us a similar take on the question but in the context of guidance just stands out, how much the adjusted net income guidance has increased relative to the magnitude of the revenue guidance increase? So if you could help us bridge that, that'd be helpful.

So without getting into too much granular detail, I can give you the buckets that you can think about. First one is COVID related T&E, travel and entertainment, as well as big customer events. We've returned to normal there slower than we expected we would when we set guidance at the beginning of the year. We still think that's going to increase in the second half of the year. We know it's going to increase because we have our FICO World event coming up next month and we also had our internal event, what we call Success, last month, actually it was in April, so it hit Q3. So we'll see increases there but relative to what we forecast the beginning of the year, we saw less in Q1 and Q2 and we think we'll continue to see less than we had thought we would in Q3, Q4. The second bucket, Will mentioned it, is just reduction in the cost of delivering our SaaS products, COGS for SaaS, as well as other operational improvements that we've been able to achieve, mostly in the software business. We have line of sight on some of them, but we've frankly done a little better than we hoped and so we feel it's appropriate to reflect that in the guidance. And then the third bit is, probably not a surprise if you cover other companies in the American economy that hiring is harder these days, just in terms of pace of being able to find people and get them on board. And so, we are hiring rapidly. We think we're getting good people, but it's just happening at a slower pace than we had assumed in the guidance. So, personnel costs are a little bit lower. Those are the three buckets.

Got it. And then just maybe another comment on platform ARR and pipeline. I get that you had a monster sequential growth last quarter, so there is probably some pull forward into Q1, but just maybe if you could comment on the sequential growth or the pipeline, because I think that you said the mega win benefited platform and I would think that benefits platform ARR and it was fairly small sequential growth this quarter, if you could just talk through that. Thanks.

Yeah, it's a fair question. The ARR for that large deal will not hit our reported ARR until next quarter. We have certain definitional rules about when a deal qualifies for ARR and others. We don't want deals that sign at 11:59 in the last day of quarter to boost ARR by millions and millions of dollars. It doesn't seem like it's a fair reflection. So we have a cut-off period in ARR that's different than the cut-off period for ACV bookings or revenue, so you'll see that in the next quarter. And also keep in mind that our business, whether you think about it in ACV bookings terms or ARR terms, is lumpy from quarter to quarter. We did big deals and sometimes they hit in a quarter, sometimes they hit three, four days after the quarter. It was a good quarter, but in terms of the platform deals, we just happened to have a nice chunky one signed a few days ago for Q3. So don't fret too much about the quarter to quarter because of that and then specifically that big deal, it shows up in our revenue recognized at a point in time and ACV bookings disclosure did not hit ARR this quarter.

Okay, thank you.

And there are no further questions at this time.

Thank you. Thank you everyone for joining today. That concludes our call and we look forward to talking with you again soon. Thank you for joining.

That concludes the call. We thank you for your participation and ask that you please disconnect your lines.