Fidelity National Information Services, Inc. Q4 FY2022 Earnings Call

Thank you, operator. Good morning, everyone. Thank you for joining us today for the FIS fourth quarter 2022 earnings conference call. This call is being webcasted. Today’s news release, corresponding presentation and webcast are all available on our website at fisglobal.com. With me on the call this morning are Stephanie Ferris, our CEO and President; and Erik Hoag, our CFO. Stephanie will lead the call with a strategic and operational update, followed by Erik reviewing our financial results and providing forward guidance. Turning to Slide 3, today’s remarks will contain forward-looking statements. These statements are subject to risks and uncertainties as described in the press release and other filings with the SEC. The company undertakes no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise except as required by law. Please refer to the Safe Harbor language. Also, throughout this conference call, we will be presenting non-GAAP information, including adjusted EBITDA, adjusted net earnings, adjusted net earnings per share and free cash flow. These are important financial performance measures for the company, but are not financial measures as defined by GAAP. Reconciliation of our non-GAAP information to the GAAP financial information is presented in our earnings release. With that, I will turn the call over to Stephanie.

Thank you, George, and thank you all for joining us this morning. Today marks my first earnings call as the CEO of FIS. Let me begin by saying I feel incredibly privileged by the opportunity to reflect on our past, restart our future, and recommit to our clients, colleagues, and investors. FIS is a tremendous company with world-class assets and a marquee set of clients. We are an industry leader with more than five decades of history, positioning where change, challenge, and opportunity intersect. Today, I will present to you the next chapter. We have a lot of ground to cover, including our fourth quarter financial results, 2023 guidance, and specific outcomes of our strategic review which includes the planned spin-off of our merchant business Worldpay. Let me start by sharing that I am pleased to report that we met our financial goals for the fourth quarter. While this is a good first step, we recognize that we have a lot of work to do to meet our expectations going forward. Today, we will share a number of decisive actions we are taking to better align our business with the needs of our clients and the expectations of our shareholders. Let me take you through our path forward. Turning to Slide 5, we have set a new agenda to improve the operational performance of the business, sharpen our client focus, and improve both the free cash flow of the company as well as the earnings quality. We will do this by following three key principles that will underpin all of our go-forward actions to drive value. First, we will ensure that clients are at the center of everything we do by creating a client-centric culture. Second, we will continue to innovate across our portfolio of solutions to ensure growth for our clients. And third, we will simplify and streamline our operations, decision-making, and time to market to improve profitability. Combined, these principles form the foundation of our efforts to drive efficiency, effectiveness, and profitable growth. Turning to Slide 6. Over the past 60 days, we have moved with the highest sense of urgency and focus to advance a number of strategically important initiatives. First, in December, we announced that we initiated with the Board of Directors a comprehensive assessment of the company’s strategy, operations, and structure with the goal of positioning FIS to drive stronger results, increase shareholder value, and enhance client experience. As an outcome of this ongoing assessment, we announced today we are pursuing a spin-off of our merchant business, creating two world-class public companies, FIS and Worldpay. It is my pleasure to also announce that Charles Drucker, Worldpay’s former CEO, has agreed to return as a strategic adviser to me. Charles, who is my close friend and colleague, will lead the preparedness phase of the planned spin-off and is expected to become Worldpay’s CEO upon the closing of the transaction. Second, we announced in November that we are launching an enterprise transformation program. This program, which we have branded Future Forward, is moving ahead with speed to improve the operational performance of the company by driving efficiency, effectiveness, and profitable growth across every facet of the enterprise. When we launched Future Forward, we targeted to deliver cash savings across the company of $500 million by year-end 2024. I am happy to share that we now expect to exceed our $500 million original target by the end of this year, and I am increasing our target to $1.25 billion in net savings prior to the effect of the spin-off exiting 2024. As I mentioned earlier, we are and will continue to be intensely focused on cost management, cash generation, and earnings quality. Third, we are realigning our incentive programs to be tied to shareholder value creation, company performance, and client satisfaction scores. In order for us to deliver on our commitments, this realignment is critical. And fourth, consistent with our December announcement, we have continued to reshape our Board of Directors for independent governance. I am proud of what we have been able to do in the first 60 days. This is just the beginning for us. Slide 7 describes our rationale for separating the two businesses. The pace of disruption in payments is rapidly accelerating, requiring increased investment for growth and a different capital allocation strategy for our merchant business. The separation of Worldpay from FIS will result in the creation of two standalone market leaders, each well-positioned to capitalize on the significant value-creation opportunities ahead in their respective markets. It is expected that FIS and Worldpay will maintain a close commercial partnership to deliver critical capabilities like embedded finance and loyalty through premium payback, preserving a key value proposition for clients of both businesses and limiting potential dis-synergy. It should also simplify our operations and give each management team additional flexibility to operate the business in the way that best delivers value for all clients and shareholders alike. Specifically, it will enable FIS to pursue a strong investment-grade credit rating while enabling Worldpay to invest more aggressively in growth. A separation also enables FIS and Worldpay to implement different capital allocation strategies which align to their growth targets and underlying market needs.

Thanks, Stephanie. I’d like to start today by outlining some of our priorities as a new management team before touching on our financial results. As I stated last call, a priority of ours is to be transparent about our future expectations, and we delivered results in line with that revised outlook. Today, I’d like to lay out a few more priorities for 2023 and beyond. First, we will manage FIS as a high-quality compounder with predictable and consistent earnings growth. Our operational structure and long-term capital allocation strategy will prioritize delivering double-digit total shareholder returns. This is the core tenet of a compounder investment thesis, which FIS is operationally and financially positioned to achieve. Next, as Stephanie mentioned, we are focused on enhancing the cash flow characteristics of FIS. In 2023, despite an anticipated reduction in EBITDA and earnings, we are taking actionable steps to increase our cash flow on a year-over-year basis. This increase in cash will be primarily driven by decreasing our capital expenditures by approximately $200 million. We are also taking conscious actions to reduce one-time spend associated with transformation and integration programs. I am confident we are taking the correct actions to deliver strong shareholder returns over the longer term. With that as the backdrop, let’s quickly touch on our fourth quarter results. On a consolidated basis, revenue increased 4% organically to $3.7 billion, with an adjusted EBITDA margin of 43.2%, yielding an adjusted EPS of $1.71. At the segment level, banking grew 4% organically in the quarter. Banking margins were pressured due to unfavorable revenue mix and inflationary cost pressures. We had an exceptionally strong quarter in capital markets with 10% organic revenue growth and 220 basis points of margin expansion. Fourth quarter revenue growth included a 4-point benefit associated with the timing of license renewals, which drove a 22% increase in non-recurring revenue. As I look to proactively message any one-off tailwinds or headwinds, this license benefit in the quarter should be flagged as a potential headwind in the fourth quarter of 2023. Excluding this tailwind, capital markets increased 6% organically, well ahead of historical trends. Additionally, recurring revenue grew 11%, marking the fifth consecutive quarter of recurring revenue growth greater than 8%. Our strategy to transition to durable SaaS deployments continues to resonate in the market. Merchant grew 2% on a constant currency basis in the fourth quarter, including a point of headwind associated with Russia and Ukraine. E-commerce revenue growth remained strong, increasing 16% on a constant currency basis. Our card-present channel and SMB experienced softness as lower sales did not outpace attrition and compression trends. These trends in SMB reflect a lack of new product investment, which we believe the spin will best enable us to remedy. And in enterprise, we saw economic weakness in the UK and anticipate further deterioration this year. Touching quickly on cash flow and balance sheet, we generated roughly $3 billion of free cash flow in 2022, which was lower than originally expected, primarily due to negative working capital, more specifically the timing of receivables within the Merchant segment. Total debt as of 12/31 was approximately $20 billion with a weighted average interest rate of 2.6%, and leverage was approximately 3.2x. Turning to Slide 16 for our 2023 guidance. Our philosophy remains conservative in our forward projections as we look to build credibility and deliver on our commitments. With that in mind, for the year, we anticipate consolidated organic revenue growth of negative 1% to positive 1% or $14.2 billion to $14.45 billion of revenue, adjusted EBITDA of $5.9 billion to $6.1 billion or margins of 41.5% to 42.2%, and adjusted earnings per share of $5.70 to $6. This outlook assumes further macro deterioration, including a global recession impacting our Merchant segment. To be clear, our guidance assumes macroeconomic trends continue to deteriorate throughout the year. We expect total company margins to improve over the course of 2023 as we ramp the benefits associated with Future Forward. At the segment level, we expect banking organic revenue growth of 0% to 2%, which includes lapping difficult compares associated with non-recurring revenue cycles, non-recurring revenues as well as the near-term impact of elongated sales cycles. Banking margins will improve throughout the year, with a return to margin expansion in the second half. In Capital Markets, we expect 4% to 6% organic revenue growth coupled with continued margin expansion. This segment continues to benefit over our multi-year shift towards sustainable SaaS deployment over license revenue. In Merchant, we’re anticipating organic revenue decline of 2% to 4%. This guide reflects a 300 basis point headwind associated with attrition and compression in the SMB sub-segment, and further macro deterioration impacting growth by an additional 500 basis points. We expect Worldpay to reaccelerate post-spin as it leverages its scale with both organic and inorganic investments to once again differentiate itself in the market. Lastly, we’re focused on our cash flow fundamentals and anticipate expanding our free cash flow conversion to over 80% in 2023.

Hi, thanks so much. Stephanie, a lot of thought and hard work went into the spin decision. So I wanted to ask on that. And what changed to move away from project Amplify, which I know we’ve talked about as well and the promise of cross-selling, etcetera, versus fluctuating here the spin and simplifying management focus, that kind of thing? And then I have a follow-up.

Yes, Tien-Tsin, thank you. So yes, as you might imagine, I’m very excited about what we’ve been able to accomplish in a very short time period. It really came down to capital allocation and our ability to allocate capital, both M&A and organic, to what is looking like to be two separate end markets. So the payments market, as you know, needs a lot more M&A associated with it than the Banking and Capital Markets piece. So as we came in and we looked at that, we really needed to set those two separately from each other. And so that was the primary driver. I think secondly and thirdly, obviously, operational simplification and management focus is always important as you think about simplifying operating models and breaking things apart. I would say, finally, on the Amplify piece, we’re actually full speed ahead on that in terms of cross-selling across all three of our divisions, and it will become very important. We will establish commercial partnerships between both Worldpay and FIS to facilitate that cross-sell. So we still view that as a big opportunity. We will just set those up as commercial partnerships with the respective revenue shares to make sure that we don’t lose the dis-synergy and opportunity there.

Good morning, guys. Thanks for taking my question. As you mentioned, your guidance assumes a recession in the U.S. and the UK. I’m just curious how your overall growth would look if economic conditions persist as they are today?

So the existing guide does include a recession. There are a couple of underlying drivers to that. First, as you said, we’ve got the UK macro. The second piece is in the U.S., we’re seeing a shift from goods to services predominantly in our enterprise sub-segment. We are seeing some elongation in the sales cycle that we’ve spoken about for the last several quarters in our banking business. And as we – as you saw in the deck, roughly, we’ve incorporated roughly 500 basis points of headwind in our merchant guide associated with macro.

Hi there. Thanks for taking my question. A lot of good stuff, good detail here, guys. Thank you. I wanted to talk – I know it’s early days. I know we will get more detail, but just any commentary you can give on your expected – how you’re going to handle, I guess, the unwinding of the cost synergies that you saw from the FIS Worldpay acquisition, that merger together? Like how are you thinking about kind of managing through the separation or the re-separation of the businesses? Should we be assuming that a lot of those costs have to come back in? Or are there ways to mitigate that? Thank you.

Yes. Thanks, Lisa. So we – so Charles and I feel very confident, given this will be the third time we will have spun it out, sold it, and spun it back out. So we’re really familiar with the cost structures and the benefits that come with putting it in and taking it out. I think the way to think about it is we did realize a lot of cost synergies bringing it in. I think we know what those are, we would enter into as many commercial relationships as we can to not have as many dis-synergies. We think the dis-synergies are fairly manageable. So we think through the combination of commercial partnerships as well as continuing to lean into Future Forward. Future Forward will continue for both Worldpay and FIS. So, to the extent that we continue to push that lever forward, we think that will also offset the dis-synergies. But look, we’re not going to stop at that. They are there, and we had the benefit of them coming in, but we will tightly manage them on both sides as we come out.

Yes. Hey, guys. Thank you. And I guess my first question on merchant, I think in the first quarter, it’s going to be down slightly, but the full year is down a little more. Could you give a little context on when that might bottom? And then kind of how do you see the longer term and even Payrix, I think it’s been pretty stable through the year. I think it was expected to grow a lot. And just how maybe that’s transpiring as well?

Yes, I might qualitatively take it, Dave. And if Erik thinks we need more fine points on the numbers, that would be good. I think broadly, we would say we have seen in the fourth quarter, obviously continued deterioration from a recession standpoint in the UK. And in the U.S., consistent with what Visa Mastercard talked about, a shift from goods to services. And so we have baked in our guide throughout the year, that continued shift. I think Erik just talked about the overall economic impact in merchant to be about 500 basis points. On a positive note, we are seeing a positive January, but we wouldn’t expect to flow that through. So from a broad-based recession standpoint, that’s how we’re thinking about the business. I think that we just have that continuing throughout 2023. We do think as those recessionary ties reside or come back and with the allocation of more M&A capital, this business can really get back to a mid-single-digit grower and be back in a growth trajectory.

Yes. Hey, good morning. Thanks for the question. So a couple of things – hey, good morning. In walking the 22 to 23 number, there are two predominant drivers here. One is the lapping of large deals. So we spent some time in the second quarter, third quarter calls talking about some of the very large deals, total contract value in excess of $50 million. Those deals have elongated, which is driving roughly half of the step down from 22 to 23. And the second is a reduction in non-recurring revenues. Non-recurring revenues predominantly license fees and termination fees, which over the longer term will drive higher recurring revenue and improve the overall health of the banking segment. Yes, sure. So the enterprise sub-segment, which is roughly half the book, is down mid-single-digits; this is where the UK sits, the SMB sub-segment, down low double-digits. And our e-commerce book continues to perform well, up double-digits.

Hi. Thanks, guys. If I want to just – if we could just follow-up for a minute on the Banking segment and for – and frankly, the Cap Markets segment as well, Cap Markets showed strong or Banking. Your guidance is, as you talked about, has some items in it, but help us just touch on the balance between your cost-saving initiatives and the investments you need in that business to really sustain the growth you want it to be in term. I mean I know you have some good assets, whether it’s Modern Banking or PaymentsOne or Digital One or others. But anything you can give us on your conviction level in that business returning to that mid-single digit rate of growth despite where the costs are coming out of will not affect the growth profile?

Yes. Darrin, happy to take that a little bit. So, in terms of making sure that we have the right amount of investment associated with the revenue, I think the business has benefited over the last 3 to 5 years from a significant amount of capital investment to deliver some of the best-in-class products you see out there, Modern Banking platform, as you mentioned, PaymentsOne, Digital One, etcetera. All that investment has really played out nicely for us in terms of being in market, driving real recurring revenue growth as we move forward. So, we feel very comfortable around reducing the investments associated with that to what we consider more normal run rate. So, a lot of our reductions and expenses are around capital – around one-time. And then on the operating expense side, as you would expect, we are definitely protecting the business to ensure that we can deliver on the recurring revenue growth, so focused on more infrastructure costs or costs in the functional side of things. We believe very strongly in the ability for this business to have underlying margin expansion. As you know, it has a high margin of new business coming on. We believe and are committed to the 3% to 5%. We believe it will reaccelerate in 2024, as Erik said, in terms of the two items really impacting it. So, we feel very good about the underlying revenue growth as well as our ability to continue to expand margins. And our Future Forward initiatives, as we laid out, really aren’t about cost cutting or cost-cutting sake. You can see that we are really focused on faster time to market, faster implementations speed, agility, etcetera, and making the engine go faster versus just a flat-out reduction of expenses.

Hi. Thank you for taking my questions. I wanted to follow-up on Ashwin’s question, his first question, and just inquire as to whether you would be open to entertaining possible bids on parts of the merchant business? Would it be conceivable between now and the spin to potentially sell some of the higher growth, more attractive parts of that business, or whether we should think about that part of the strategic review and keeping that business intact over the long run is sort of the final step?

Yes. I think we are focused on the spin of the whole business. I think the fundamentals of a Merchant business are that they are a scaled platform with global distribution. We certainly looked at pieces and parts, but I think the best path for this particular business is to spin the whole thing and let the management team on the other side then determine structurally what they want to do from there. For us, again, the catalyst here is really the need for a different capital allocation structure. So, pieces and parts don’t really help that because I, as FIS, can’t feed into the M&A need.

Hey. Thanks for squeezing me in, Stephanie, I appreciate it and congrats on the decision. I just want to know, maybe just a housekeeping thing, maybe I missed it, but does the Banking and Capital Markets guidance for ‘23 also assume a recession? And then I have a very short follow-up.

Hey. Good morning Dan, that’s right. We have – I would say, broadly speaking, as Stephanie talked about a couple of minutes ago, the elongation of sales cycles is the predominant element that we have included in our guide for Banking and Capital Markets.

Thank you for joining everyone on such short notice. I very much appreciate it. As I noted earlier, 2023 will be a year of recommitment for FIS. And with that in mind, we are making great strides and taking bold actions to move the company forward with a focus on creating incremental value for shareholders and clients alike. I am proud of our FIS colleagues across the globe and the great progress we are making in just a few short months towards delivering on our commitments to our stakeholders. I look forward to keeping you updated on our journey moving FIS into the future. Thank you.