Earnings Call Transcript - JKHY Q3 2022

Operator, Operator

Welcome to the Jack Henry & Associates Third Quarter Fiscal Year 2022 Earnings Conference Call. I would now like to turn the call over to Mr. Kevin Williams, Chief Financial Officer and Treasurer. Please proceed.

Kevin Williams, CFO

Thanks, Tom. Good morning, and thank you for joining us for the Jack Henry & Associates Third Quarter Fiscal 2022 Earnings Call. I'm Kevin Williams, CFO and Treasurer. And on the call with me today is David Foss, Board Chair and CEO. In just a minute, I will turn the call over to Dave, so he can provide some of his thoughts about the state of our business, the financial and sales performance for the quarter, some comments regarding the industry in general, and some other key initiatives that we have in place. Then after Dave concludes his comments, I will provide some additional thoughts and comments regarding the press release we put out yesterday after market close and also provide comments regarding our updated guidance for the remainder of our fiscal year 2022. We will then open the call for Q&A. First, I need to remind you that this call includes certain forward-looking statements, including remarks or responses to questions concerning future expectations, events, objectives, strategies, trends, or results. Like any statement about the future, these are subject to a number of factors that could cause actual results or events to differ materially from those which we anticipate due to a number of risks and uncertainties. The company undertakes no obligation to update or revise these statements. For a summary of these risk factors and additional information, please refer to yesterday's press release and the sections in our 10-K entitled Risk Factors and Forward-Looking Statements. Also on this call, we will discuss certain non-GAAP financial measures, including non-GAAP revenue and non-GAAP operating income. The reconciliations for historical non-GAAP financial measures can be found in yesterday's press release. With that, I'll now turn the call over to Dave.

David Foss, CEO

Thank you, Kevin. Good morning, everyone. We're very pleased to report another quarter of revenue and operating income growth and an overall solid performance by our business. As always, I'd like to begin today by thanking our associates for all the hard work and commitment that went into producing those results for our third fiscal quarter. For Q3 of fiscal 2022, total revenue increased 10% for the quarter and increased 7% on a non-GAAP basis. As projected on our last call, deconversion fees were up more than $13 million over the prior year quarter. Turning to the segments, we again had a good quarter in the core segment of our business. Revenue increased 12% for the quarter and increased by 7% on a non-GAAP basis. Our payments segment performed very well, posting a 10% increase in revenue this quarter and a 9% increase on a non-GAAP basis. We also had a strong quarter in our complementary solutions businesses, with a 10% increase in revenue this quarter and a 7% increase on a non-GAAP basis. As I mentioned in the press release, our core sales teams again had an extremely solid quarter, and we continue to see core activity consistent with our pre-pandemic run rate. During the quarter, we inked 14 competitive core takeaways, so we continue at the approximately 1 deal per week run rate I've discussed on recent calls. In addition to our success signing new core clients, we signed 9 existing on-prem core customers to move to our private cloud environment. In addition to the tremendous success we experienced in our core business this quarter, we continued to sign new clients to our digital banking suite. During the third quarter, we signed 38 new clients to our Banno platform, and we continue to see increased interest in this offering as well as the rest of our digital suite. On our last quarterly call, I mentioned that the sales team set an all-time sales booking record in our fiscal Q2. Although we didn't break that record in Q3, we did set a record for the strongest Q3 in history with sales bookings coming in almost 40% higher than the same quarter last year. This extraordinary sales performance in a quarter that is normally lighter than others is reflective of the interest in our company and demand for Jack Henry technology solutions in our market. Regarding our Banno Digital suite, as of March 31, we have just over 7.1 million users live on the Banno Platform. We continue to enjoy the highest consumer rating in the App Store, and we are regularly recognized as the fastest application in the industry. As I've said before, I expect our success in this area to grow as we continue to add new functionality and features to the platform. On our last quarterly call, I shared an announcement regarding our technology modernization strategy and how we believe it will help position our clients for greater success in the future. As many of you know, that announcement has been received very positively by many experts in our industry, and our strategy has been highlighted in a wide variety of publications. Several pieces are still in production, but so far, we've been interviewed for close to 40 different articles, podcast interviews, and video podcasts for publications with a combined subscriber base of more than 53 million people. Hopefully, you've all seen the new corporate sustainability report that we published on March 31. I think it's an excellent representation of the key initiatives and accomplishments we've been working on since we published our last report more than a year ago. In this new report, we provided more detail on the demographic makeup of our workforce, a summary of our employee engagement survey results, more information about our data privacy and cybersecurity practices and a significantly enhanced update on climate-related risks. This year's report also includes an appendix with detailed disclosures aligned with the Sustainability Accounting Standards Board, or SASB, and the Task Force on Climate-related Financial Disclosure, or TCFD. We continue to make great strides in the key areas of ESG and are committed to providing more detailed information about our progress over time. Although you regularly see Jack Henry recognized as the best place to work in various contests around the country, we received 2 new designations last quarter that recognize us as a company that isn't simply an outstanding employer. Inc. Magazine recognized us as one of America's best-led companies, and Newsweek recognized us as one of America's most responsible companies. Both awards are great recognition for our ongoing commitment to do the right thing for all of our Jack Henry stakeholders. As we announced a few months ago, Ted Bilke will be retiring at the end of June after 17 years with our company. Ted ran the Symitar division for many years but shifted to become our Chief Technology Officer a few years ago to help us define and finalize our technology modernization strategy. Our modernization strategy benefited significantly from Ted's years of experience speaking directly with our customers about their technology wants and needs. I'd like to thank Ted for his many years of leadership and for helping us to drive consistent success for our customers and shareholders. As you are also aware, we've been working to find a new CFO so Kevin can enjoy a much-deserved retirement. That process has been slower than I had hoped, but we expect to name a new CFO in the near future. Kevin has graciously agreed to stay with us until we're ready to make the transition, so we still have no formal departure date for him. Today, however, we're announcing that Renee Swearingen has been named Senior Vice President and Chief Accounting Officer for Jack Henry. Renee has been with the company for more than 25 years and is a key leader on our management team. You'll see a press release with this announcement later today, but I want to take this opportunity to congratulate Renee and thank her for her partnership for these many years. As we look forward to the end of our fiscal year, our sales pipeline is very strong, and we continue to be optimistic about the strength of our technology solutions, our ability to deliver outstanding service to our customers, our ability to expand our customer relationships, the spending environment, and our long-term prospects for success. I look forward to seeing and chatting with many of you at our Investor Day in Dallas next Monday. With that, I'll turn it over to Kevin for some detail on the numbers.

Kevin Williams, CFO

Thanks, Dave. Our service and support revenue rose by 11% in the third quarter of fiscal 2022 compared to the same quarter from the previous year. As Dave noted, our deconversion revenue increased by $13.1 million this quarter compared to last year. Combined revenue from licenses, hardware, and implementations remained stable compared to the prior year, while our data processing hosting fees in both private and public cloud offerings showed significant growth, increasing by 11% for the quarter. On a non-GAAP basis, total support and services revenue grew by 6% for the quarter year over year. It's important to note that on a non-GAAP basis, we exclude the deconversion revenue recognized during the quarter. Our processing revenue experienced a 9% increase in the third quarter of fiscal 2022 over the same quarter last year on both GAAP and non-GAAP bases. The growth is mainly driven by higher card volumes, while digital revenue continues to surge due to strong demand for our Banno Digital Platform. Overall revenue rose by 10% for the quarter compared to last year on a GAAP basis, and increased by 7% on a non-GAAP basis. The cost of revenue was up 5% compared to last year's third quarter, primarily due to higher customer maintenance and license costs, along with an increase in card and transaction processing expenses aligning with revenue growth, and higher personnel costs compared to last year. Research and development expenses increased by 12% for the third quarter of fiscal 2022 over last year, resulting from higher personnel costs. SG&A expenses rose by 13% in the third quarter compared to the same quarter last year, primarily due to increased personnel and travel-related costs. Our consolidated operating margins have increased from 21% last year to 23.3% this year, a 220-basis-point improvement. On a non-GAAP basis, our operating margins expanded from 20.3% last year to 20.9% this year, showing a 60-basis-point growth. The effective tax rate for the third quarter of fiscal 2022 rose to 23.6% compared to 21.5% in the same quarter last year, consistent with our annual guidance. Net income rose by 19% to $84.7 million for the third fiscal quarter, compared to $71.4 million last year, with earnings per share at $1.16 for the current quarter versus $0.95 last year, marking a $0.21 or 22% increase over the previous year. Regarding cash flow, our total amortization increased by 2.6% year-to-date compared to last year, due to capitalized software projects being placed into service. This includes amortization of intangibles related to acquisitions, which decreased to $12.4 million this year-to-date from $13.3 million in the same period last year. We observed a 3.7% decrease in depreciation compared to the first nine months of the preceding fiscal year. Operating cash flow was recorded at $301.4 million year-to-date, up from $266.3 million last year, driven primarily by increased net income and changes in various operating assets and liabilities included in the calculation of operating cash flow. We reinvested $145.1 million into our company through capital expenditures and capitalized software. Our free cash flow, calculated as operating cash flow minus CapEx and capitalized software plus net proceeds from asset disposals, was $156.4 million for the first nine months of the fiscal year. During this time, we also spent $193.9 million to repurchase 1.25 million shares for the treasury, with none in the current quarter, and distributed dividends totaling $103.4 million, amounting to a total return to shareholders of $297.3 million in the first nine months of fiscal 2022. On our balance sheet, as of June 30, our cash amount was $39.8 million, down from $70.1 million a year earlier. Our revolver balance stood at $225 million compared to $200 million last year, with changes in cash and debt mainly due to the 4.1 million shares repurchased over the last 24 months. Our return on average assets for the trailing 12 months was 16%, return on average equity was 27.2%, and return on invested capital was 23.4%, all demonstrating solid returns. For updated guidance, we provided both GAAP and non-GAAP revenue guidance in the press release yesterday, along with a reconciliation from GAAP to non-GAAP revenue following the segment information. It's crucial to note that this guidance assumes continued economic improvement and country openings. Our GAAP revenue growth for fiscal 2022, based on the information in yesterday's release, indicates a little over 10% growth compared to fiscal 2021, with expected deconversion revenue around $49 million to $50 million for the entire fiscal year. As anticipated, some of Q4's revenue has shifted to Q3; thus, we do not expect much deconversion revenue in Q4. For non-GAAP revenue growth, we expect just under 9% growth for the fiscal year. We continue to project both GAAP and non-GAAP operating margins to improve slightly in fiscal 2022 compared to last year. However, I remain cautious about significantly guiding non-GAAP operating margin expansion due to headwinds on license and hardware revenue as we transition core customers to our private cloud. Additionally, travel costs have notably increased compared to the prior year. Nonetheless, we remain confident that full-year non-GAAP operating margins will expand by approximately 50 basis points or more, keeping in mind that Q1 is typically our highest margin quarter due to software subscriptions. The effective tax rate for the year is anticipated to be slightly above 23%, compared to the previous year’s rate. Additionally, our updated fiscal 2022 GAAP EPS guidance is now projected in the range of $4.80 to $4.85, an increase from the earlier guidance of $4.75 to $4.80 per share. That concludes our opening comments, and we are now prepared to take questions. Tom, please open the lines for questions.

Operator, Operator

Our first question comes from Rayna Kumar with UBS.

Rayna Kumar, Analyst

Good morning, David and Kevin. Your guidance to adjusted revenue growth will accelerate in the fourth quarter versus the third quarter against more difficult comps. What gives you confidence that revenue growth is going to accelerate from here?

Kevin Williams, CFO

Well, Rayna, as Dave mentioned, our sales continue to be very strong. Our pipeline is strong. And all of our primary drivers continue to hit on all cylinders, which is primarily our private cloud. We continue to have good movement of our on-prem customers' private cloud, and our card and remittance and digital businesses all continue to grow extremely well. And so yes, we're very comfortable that we're going to have a little higher growth in Q4 compared to the previous year.

Rayna Kumar, Analyst

Got it. And then can we have some early thoughts on FY '23 in terms of what you're seeing out there on demand and pricing and how that translates to revenue and margin opportunity?

Kevin Williams, CFO

Yes. As far as demand is concerned, Dave mentioned several times over his comments that we continue to see a very, very robust demand for our products in the sales organization with record sales in just about every quarter for the last 3 quarters. So we look to be very good. Pricing, I mean, obviously, this is a very mature market. I don't see much change in pricing, Rayna. Obviously, we're very early in our budget process for next year. But I'd just go out on a limb and say, I see no reason why we can't continue to grow top line, non-GAAP revenue in that 8.5% to 9% similar to this year for FY '23 and also get some leverage to the operating margin line on a non-GAAP basis of at least 50 bps or so. So I think FY '23, forget about the deconversion revenue because again, we can't predict that. But I think FY '23 is probably going to look a lot like FY '22.

Rayna Kumar, Analyst

Got it. That's very helpful. And if I can sneak one final question in here. What are the key milestones we should be looking out for as you progress in your technology modernization strategy in the near term?

David Foss, CEO

Yes, Rayna, it's Dave. We'll have releases this summer. As I mentioned on the call last time, we have customers in beta right now. So this summer, we'll announce customers going live, they'll come out of beta, and they'll go live with the first module. So sometime this summer, I don't have an exact date to give you. But sometime this summer, you'll hear me talk about customers going live with the first modules on the new platform later this year, and we'll talk about this at the Investor Day on Monday. But later this year, we'll provide a roadmap to our customers and to you all so you can kind of track our progress more specifically as far as things that we're planning to roll out. But I think the first indicator for you will be this summer when we talk about customers going live with the first modules in the tech modernization strategy.

Operator, Operator

The next question comes from Kartik Mehta with Northcoast Research.

Kartik Mehta, Analyst

Dave, I believe both you and Kevin have discussed the strong demand environment and Jack Henry's performance. Are you experiencing any capacity issues? Kevin, you mentioned a potential growth of 8.5% to 9% for fiscal year '23. If demand remains strong, could revenue increase at a faster rate, or are you now at a stage where you need to extend timelines?

David Foss, CEO

Yes. Well, I would say neither. So is revenue going to grow faster? It might grow just a little bit faster. The thing you always have to keep in mind is almost everything we signed today is hosted contracts. So it's a long-term commitment where we're layering revenue in as opposed to something that gives us a revenue pop in the quarter. And that just continues to be true. So almost all of the sales success are with contracts that are long-term commitments layered in over time. But as I mentioned a couple of calls ago, I think we were facing capacity issues as far as doing core conversions. And so we stood up another team on the banking side of our business. A few months ago, we did another team on the credit union side. Now we've done another one on the banking side. So we are slowly but surely adding teams to make sure that our backlog doesn't get stretched out with any of our product lines. And so we're having good success in adding capacity as we need to add capacity so our customers don't get frustrated that they're looking at a year or 2 before they can go through a conversion. But it's a constant process of measuring what do we have in the backlog, what's customer expectation, what's coming from the sales pipe. And as I just mentioned, we've set an all-time sales record in Q2. Q3, normally a lighter sales quarter, had 40% higher bookings than last year's Q3 and more than any other Q3 in history. And so there is a great deal of demand, but our teams are doing well, I think, in managing the implementation side of that equation and making sure that we get these contracts into production at a reasonable rate.

Kartik Mehta, Analyst

Kevin, you provided some insights into fiscal year '23, mentioning that margins could increase by around 50 basis points. I'm curious about the impact of inflation on those margins. Are they being affected by the costs you're incurring due to inflation, or have you been able to raise prices sufficiently to offset those effects?

Kevin Williams, CFO

Yes, the offset is pretty negligible, Kartik. I mean, yes, there is some inflation impact primarily in personnel costs and especially in different areas and pockets within the company that we're going to be facing. I mean, obviously, if it wasn't for that and inflation, I'd probably predict that we could get more expansion than that. So there are some headwinds on the margin from those things, but at this point, and again, we're very early in the budget process, but I think we're pretty comfortable that we can get that margin expansion even in lieu of the inflation and everything else that's going on in the world today.

Operator, Operator

The next question comes from David Togut with Evercore ISI.

David Togut, Analyst

Dave, could you give a little more detail on the new bookings? You called out 38 new Banno platform signings. I didn't hear you call out new core wins in the quarter.

David Foss, CEO

Yes, it was 14. I definitely called it out, 14 new core wins in the quarter. I think 3 of them were multibillion-dollar banks, if I remember correctly, but 14. As I said in my opening statement, we are absolutely continuing on this run rate of 1 a week. Again, it's lumpy, but continuing to see great success. And as I sit here well into the fourth fiscal quarter, I can tell you that has not slowed down since the end of March.

David Togut, Analyst

Got it. And Kevin, maybe you could just give a little more detail on the preliminary FY '23 guide. You called out an initial view of 8.5% to 9% non-GAAP revenue growth. Approximately, how might that break down at the segment level?

Kevin Williams, CFO

At the segment level, that's a good question. Clearly, our payment segment is expected to remain our strongest area of growth. Currently, the payment segment accounts for 38% of our total revenue, and it is likely to continue growing. While we are still early in the budgeting process, I would estimate its growth to be around 9% to 10%, with core and complementary segments following closely behind at 7% to 8.5%.

David Togut, Analyst

Got it. Just a quick final question. Could you unpack kind of the 3 major subsegments within payments, bill pay, card, and enterprise payments in terms of their growth in the March quarter? And how would you see them trending going forward?

Kevin Williams, CFO

Well, the strongest grower and has been for quite some time is our EPS line of business. I don't see that slowing as we continue to add merchants. Even though the number of checks per merchant continues to decrease slightly, we continue to add more than enough merchants each quarter to continue to have that very strong growth in the mid-teens. Right behind that is card. Now that we're a year past the migration of the new platform, we're adding a lot of new customers, both debit and full-service credit. So that's going to continue to grow in the high single to low double digits. And then the slowest grower is online bill pay. We've pretty much saturated the market. We've got 3,500 FIs on our online bill pay. So it's growing, but low single digits. I don't see any of those changing in FY '23, Dave.

Operator, Operator

The next question comes from Vasu Govil with KBW.

Vasundhara Govil, Analyst

I have a question regarding the growth in the complementary segment. It seems to be a bit lower than we anticipated on a non-GAAP basis, showing a slowdown from the previous quarter. Can you provide any insights on which products may have underperformed? I understand that Banno is still performing well, but I'd appreciate any additional comments on the other product suites and your outlook for the fourth quarter.

Kevin Williams, CFO

I don't know that there was anything significant that I would call out that impacted. It's more just a matter of timing of different revenue coming in, but there's no specific products or services that I would call out that was a drag.

Vasundhara Govil, Analyst

Understood. And then on the sales booking, 40% growth, very impressive number. I got the comments on sort of the core and Banno wins. Any other areas, sort of the composition of like where all the strength is coming from besides those two areas?

David Foss, CEO

No, Vasu, it's across the board. Kevin highlighted that our EPS, Enterprise Payment Solutions business is growing nicely. We're signing a lot of contracts in that area. I don't normally highlight it on this call, but that's one that was a little bit larger than the normal run rate this quarter. We had good success with our debit, signing new customers coming to our debit platform. Credit, we're continuing to add customers. It was just across the board, just a really solid performance from the sales team this quarter.

Vasundhara Govil, Analyst

Understood. If I could sneak in a last one for you, Dave. It seems like the Director of CFPB made some comments to the banking industry recently about not enough competition in the industry, anticompetitive contracting practices. Just sort of any comments from you on how you would respond to that?

David Foss, CEO

Yes. So it's interesting, and I certainly have read through the script of the Director's comments and other follow-on presentations by other people in the CFPB. We're highly regulated at Jack Henry. We deal with the regulatory bodies regularly. CFPB has also been engaged with us as they've engaged with all the other players in our space. The challenge that we have sometimes, I think, is that we get lumped in with everybody else. Jack Henry gets lumped in with everybody else as far as business practices. I think Jack Henry has distinguished ourselves for years as doing business differently, very bank and credit union friendly, I think, in our approach. And I think if and when there is more request from the CFPB for us to be engaged with them, I think they will learn more about how Jack Henry does business and how it's different. I'll say that we've been through this with ABA; for example, ABA at one point was kind of lumping Jack Henry and with everybody else and saying, Jack Henry does things the same way. And then once we really got into those detailed discussions with the ABA committees, they realized and stated that we now recognize Jack Henry is doing things differently and is much more kind of supporting the community and regional financial institution environment with our business practices. So we're prepared if there is requests for us to engage more directly.

Operator, Operator

The next question comes from Peter Heckmann with D.A. Davidson.

Peter Heckmann, Analyst

I'm wondering, as you work with the Fed on the upcoming FedNow release, do you have any updated thoughts on real-time payments and maybe perhaps some of the first use cases that we'll see in the U.S. and how you think if that could change parts of your business? I know Jack Henry has been very innovative and kind of forward-thinking in terms of real-time payments. But I'd be curious to see if you think that's going to be a big splash or a very gradual increase in volumes.

David Foss, CEO

It's a good question, Pete. We've been discussing this topic frequently. I spoke with the Fed governor from Kansas City, who oversees the FedNow program, about a month ago regarding its status and timelines. Currently, they are targeting a mid-2023 release date and remain on track to meet that. We hope it stays on schedule. Regarding real-time payments, I want to highlight that over 60% of U.S. financial institutions using the real-time payments network through the clearinghouse are Jack Henry customers. We are the leading provider in real-time payments based on the number of institutions utilizing the RTP network. Our PayCenter solution has seen significant adoption and supports FedNow, which means we're ready when it launches, having collaborated with the Fed for quite some time. The rate of adoption for FedNow will be intriguing to observe. When Zelle was introduced, I indicated that its usability posed a potential threat to Venmo. However, Zelle didn't quite deliver on that ease of use and is somewhat clunky. While we all support it in the financial technology sector, it wasn't a real threat to Venmo. The question now is whether FedNow will offer a user-friendly experience that encourages widespread adoption. Most banks and credit unions seem prepared to adopt and support FedNow, and I hope it proves easy to use to foster broad acceptance, which would benefit us. We have developed several use cases we believe banks and credit unions will find valuable, but ultimately, it must be appealing to users; adoption can't be mandated.

Peter Heckmann, Analyst

Definitely. Do you have any early thoughts on the revenue model or how the pricing of FedNow may compare to other existing real-time networks in the U.S. or same-day ACH?

David Foss, CEO

Yes. There's a lot of discussion on that topic right now. So I'm not going to predict publicly where that's going to end up because that's a real key to this whole equation is how does the Fed end up pricing and how competitive do they want to be as compared to other offerings out there. So I don't know where that's all going to end up, but that is a big topic of discussion right now.

Operator, Operator

The next question comes from Dominick Gabriele with Oppenheimer.

Dominick Gabriele, Analyst

Have you heard about rising tech talent costs putting an accelerant on your services for companies to outsource their core or other processes to the cloud? Is there an area of the business where rising wages would put a particular set of products in higher demand? And then I just have a follow-up.

David Foss, CEO

Yes. It's an interesting question, Dominick. In fact, it's something that I was just talking about this week with a couple of our customers and with our team internally. So it's less about rising costs and more about banks and credit unions being challenged to find the talent that they need. We all know about the great resignation. We talk about it; most companies are experiencing higher turnover than they normally experience, and in a lot of cases, it's hard to find the talent you need. Banks and credit unions are experiencing the same thing. And so that is certainly creating some demand to come to companies like Jack Henry to provide services that we've done for a long time. The interesting thing that's happening now is there are also more requests for us to provide more back-office assistance, back-office guidance because they have lost talent in the back office for the bank or credit union. I can't decide if that's a blip or if it's a long-term opportunity that's going to create opportunities for us to sell more technology, more workflow technology as an example. You can use workflow technology when you don't have the people to do the manual work. So we're trying to figure out if that's a short-term opportunity or a long-term opportunity. We don't really want to be in the business of being a consultant to body shop as far as consulting. We certainly do a lot of that, but that's not our core competency. So we're trying to weigh all that and kind of figure out where is the opportunity and is it a short-term opportunity or a long-term opportunity. But it's certainly a topic.

Dominick Gabriele, Analyst

Great, great. And then maybe just one more. Given the strong demand for your products and given the sales growth, do you think we're seeing not only just really strong execution given the strategy shift and the demand for your current products but also perhaps an accelerating overall banking and credit union industry tech demand for software leaving the pandemic on top of that? So we could see even higher than 9% revenue growth maybe in core.

David Foss, CEO

I think we've made significant progress. On Monday at the Investor Day, I will present some specific charts related to industry projections. During these calls, I generally share insights based on the latest surveys regarding overall industry demand. I plan to provide more detailed information on this during the Investor Day. The spending is indeed increasing across the industry, and Jack Henry is certainly benefiting from this trend. This aligns with everything Kevin mentioned earlier about our outlook for fiscal year 2023, our current experiences, and what we anticipate moving forward. This information isn’t new to us; we started noticing these trends with the initial surveys that emerged last September. Everything we’ve observed since then has confirmed that perspective. We have incorporated this into our plans and budgeting for fiscal year 2023.

Dominick Gabriele, Analyst

Great. Excellent execution this quarter.

Operator, Operator

The next question comes from Dave Koning with Baird.

Dave Koning, Analyst

Great job. And maybe if I could kick it off on the payment segment. David Togut kind of asked about the breakdown. But debit, I think, decelerated in general across the industry. So no surprise that you did a little bit. But what's kind of interesting is last year, yours accelerated a ton in Q4. And I actually don't know if that creates a tough comp for Q4 this year or if that was just a normalization, you could actually still grow 9% to 10% in Q4 of this year. I just want to kind of understand that.

Kevin Williams, CFO

Well, a couple of things, Dave. Last year was a little more rapid growth coming out of COVID compared to the previous year. Remember, the previous year, our Q4 was very weak, just like everybody else in the industry. So it is a little tougher comp. But with the backlog of sales that we're having, I still feel we're going to have some really solid growth in all of our lines of payments in Q4 compared to last year, even with a little tougher comps.

Dave Koning, Analyst

Yes. That's what it looked like. No, that's great. And then secondly, there are a lot of comp issues for other companies that have either stimulus benefits or wallets that all kind of tie in with stimulus. You seem to have none of that, but is there actually almost a benefit that you get as we kind of went through this cycle where a lot of people got these wallets and cash app and all this stuff? And maybe come back now and say, okay, that worked for a little bit, but I just want to bank now that you might benefit from some consumer demand that way?

David Foss, CEO

That's a good question. I can't definitively say if that is happening or if we will benefit from it. I believe there hasn't been a decrease in demand or interest in our services from customers. Our customers haven't lost significant market share due to others experimenting with new applications or fintech solutions. Therefore, I wouldn't characterize this as a major opportunity, assuming people will go back to primarily working with their bank or credit union simply because their financial institution has improved technology. I don't believe they stopped engaging with their bank or credit union. It's important to note that in our primary business, we earn revenue based on the number of customers we support, the number of accounts, and the number of assets. There is also transaction volume, but since we're not acquirers but issuers, we typically receive compensation regardless. So, I wouldn't rely on this as a significant opportunity, although I could be overlooking something.

Operator, Operator

The next question comes from John Davis with Raymond James.

John Davis, Analyst

Kevin, I'd like to begin by discussing your initial outlook for the payments segment next year, which you mentioned will be around 9% to 10%. I understand it’s early to set this in stone. Have you thought about whether there will be any further normalization in the debit mix? Additionally, are you seeing any impact from credit becoming a larger part of the mix as we move beyond the pandemic?

Kevin Williams, CFO

We have not seen a lot of that, JD, but obviously, the other thing I would say is we are now offering full-service credit, which we weren't even offering that a year ago. So even as it moves to credit, we've got that opportunity in front of us now. I think we're going to see some shift from debit to credit. But so far, we've not seen much of an impact on our business.

John Davis, Analyst

Okay. And then, Dave, maybe switching to capital allocation for a second. No buybacks in the quarter. You guys have a great currency. Thoughts on M&A as some of these valuations have come in. Should we read into anything with no buybacks this quarter despite, obviously, a very, very healthy balance sheet? Just any comments there would be helpful.

David Foss, CEO

I have expressed my optimism about 2022 being a year where Jack Henry can re-engage in mergers and acquisitions. Acquisitions are our top priority, and we have a strong track record as disciplined acquirers who integrate companies effectively. Over the past few months, I've noted that several companies that went public last year may not have been ready, resulting in significant drops in their valuations. These companies now have shareholders uncertain about their futures, which presents potential opportunities. Furthermore, many companies in our sector that were preparing for IPOs, encouraged by the market's previous activity, have now stepped back. Those companies might be considering capital raises or looking for strategic partners like Jack Henry, and I believe they would seriously consider discussions with us. We are ready for these opportunities, and I am hopeful that we will see some of them this year.

John Davis, Analyst

Okay. And I'm going to squeeze one more in if I can. Just there's been a lot of talk amongst investors around CPI escalators in the industry just broadly. I think most management teams have kind of talked down the impact just given that there are caps. But obviously, with inflation running as hot as it is right now, just curious on how you guys think about CPI inflators or escalators? How material are they? Any color there would be helpful.

David Foss, CEO

Yes. So we do have CPI escalators in virtually all of our contracts. Keeping in mind, we've acquired a lot of companies over the last few years, and some of those contracts are still in place. I can't say absolutely that every single contract has a CPI escalator opportunity, but virtually all of them have escalators. We have already in several cases deployed those already this year. We have others that are coming up with our annual billings that happen here now and next month, I guess it is, or this month. So they are happening. But the thing I always remind everybody, our business, our customers are bankers, they’re banks and credit unions. They understand what's going on in the economy, right? They understand what's reasonable and what's not. And at Jack Henry, we've always taken the position that just because we could do X percent as a CPI accelerator, if that's not a reasonable number, we're not going to go up 2x. And so we have taken a position that I think is reasonable. It supports the business model that we have. It's also been taken as reasonable by our customers. So I think it offsets much of what we see happening in the market. But it's the approach that we're going to continue to take. We'll do reasonable escalations using the CPI opportunity where it makes sense.

Operator, Operator

The next question comes from Ken Suchoski with Autonomous Research.

Kenneth Suchoski, Analyst

I want to ask about the fiscal fourth quarter margin guidance. It seems there may be some pressure on margins next quarter, and we're estimating a 150 basis points year-over-year impact due to lower deconversion fees. However, I was expecting some margin expansion excluding that impact. Can you share your thoughts on what is affecting the margin? Also, could you discuss the capital expenditures and expense expectations related to the next-generation technology strategy you are pursuing?

Kevin Williams, CFO

For Q4 margins on a non-GAAP basis, we expect slight margin expansion, though not as much as in the first three quarters. You're correct that from a GAAP perspective, we are only anticipating $1 million or $2 million in deconversion fees compared to last year; there will be some margin pressure on a GAAP basis in Q4. However, we believe the margins, particularly on a non-GAAP basis, will remain strong. I’ll let Dave discuss the CapEx related to the new technology.

David Foss, CEO

So keep in mind, we've been absorbing both the expense line and the CapEx line. We've been absorbing for more than 2.5 years, as I stressed on the last call. So this isn't something new. It's been baked into the P&L. The numbers have been flowing through the P&L for 2.5 years. We just never called it out as part of the P&L. And so that rate is going to continue essentially at the same rate. I said on the last call, and I'll say it again, we're committed to 14% of revenue as an R&D investment that includes this technology modernization strategy. If you look back 5 years or so, you'll see us running at roughly 14% of revenue that we're putting back into R&D, and we're going to continue at that rate going forward, including this tech modernization strategy. So you won't see any great big spike in either the cap side of the equation or the P&L impact, direct expense side of the equation because of this strategy.

Kevin Williams, CFO

And this is very similar to everything we've done for years. This is not a big bang approach. As we get the various components done, like the ones that are in beta right now, those will be rolled out into production, and the amortization will begin at that time. So it's not like we're going to wait until the whole thing is done in 10 years and then start expensing the whole thing. They will be rolled out as components go into general availability.

Kenneth Suchoski, Analyst

Okay. That makes a lot of sense. And then the bookings were really strong in the quarter. Can you just talk about what's driving that sales success? I mean how much of that is driven by the offering you have in the overall environment versus something you're doing that's unique in your go-to-market strategy? And then maybe you could touch on the full-service credit offering that you now have. I mean how are sales progressing there?

David Foss, CEO

Yes, those factors are not mutually exclusive. You asked if the recent developments are a result of industry trends or specific actions by Jack Henry; I would say it's a combination of both. The overall industry environment has improved, benefiting all players, including Jack Henry. Our spending environment has definitely strengthened over the past year. In addition, the diverse range of new products we've introduced over the last few years plays a significant role. Although we recently made our tech modernization strategy public, we had already been engaging with potential customers under confidentiality agreements for months. These customers were evaluating whether to partner with Jack Henry and were interested in our technological future. Almost all of them chose to proceed with us, recognizing the positive direction Jack Henry is heading. This aspect is unique to us. Additionally, the enhanced spending environment and the widespread acknowledgment of Jack Henry’s innovative efforts, including our commitment to serve community and regional financial institutions in the U.S., have contributed to our sales success. Our decision not to enter the merchant acquiring business has also assured our customers that our primary focus is their success, which continues to open new opportunities for Jack Henry.

Kenneth Suchoski, Analyst

Absolutely. And maybe I could sneak one more in. Just the free cash flow conversion, I mean, still a little bit below 100% on a trailing 12-month basis but ticked up a little bit versus last quarter. Can you just provide your expectations on how you expect that to trend into fiscal year '23?

Kevin Williams, CFO

I believe it will trend back to around 100%, if not higher. You need to remember that our Q4 and Q1 are our strongest quarters for free cash flow due to the annual maintenance billings for our on-prem customers, which are issued on June 1st. Therefore, both our operating cash flow and particularly free cash flow are at their highest in Q4 and Q1. When looking at a year-over-year fiscal perspective, some of that can depend on the timing of when we receive those payments from our customers, whether it’s in Q4 or Q1. However, over the trailing 12 months, we should be close to achieving nearly 100% conversion.

Operator, Operator

The next question comes from Charles Nabhan.

Charles Nabhan, Analyst

It's good to see the normalization in core wins over the past couple of quarters. And I know you alluded to a couple of multibillion-dollar banks in that 14 this quarter. But I'm curious, just looking back, would you say that the average size of the bank or credit union that you're winning is larger than it has been over the past couple of years? And secondly, if we think about the systems that those banks or credit unions may be running, could you speak to the nature of the systems that you're displacing within your takeaways?

David Foss, CEO

Sure, Chuck. An intuitive question on your part, I'll definitely tell you that. So absolutely, the size of institutions that we're winning has gone up and in some cases fairly significantly. We just had our sales budget planning meeting was last week for preparing for FY '23. Financial budgets, we're just starting, but you have to do the sales budget planning before you can do financial budgets. And that was a big topic of conversation with our sales leaders, so that in the past couple of years, the size of institution that we're winning overall has definitely gone up. And like I say, in some cases, fairly significantly. And then what was the second half of your question, sorry? Or Kevin, do you have it? Chuck, would you repeat that?

Charles Nabhan, Analyst

The types of systems that you're displacing, whether it's first generation, in-house, et cetera?

David Foss, CEO

Yes. We are definitely attracting some in-house customers who are currently using on-prem solutions. It's interesting to note that most of our recent wins, compared to a couple of years ago, now come from a broader range of competitors. Previously, our wins primarily came from companies that were maintaining older systems, which frustrated their customers due to insufficient investment in those systems. Nowadays, while many older systems still exist with frustrated users, we are capitalizing on those opportunities. Additionally, we are successfully securing deals with flagship customers who utilize the leading solutions from some of our competitors. This marks a significant shift, as it used to be quite challenging to displace a major competitor's flagship solution, but now that is occurring more frequently than in the past.

Charles Nabhan, Analyst

As a follow-up, I believe this will be a topic of discussion at the Analyst Day next week, but I wanted to get some insights on your product roadmap. How do you view mergers and acquisitions compared to organic product development? Additionally, is your product roadmap primarily aimed at enhancing existing solutions or is it also exploring areas where you have less presence?

David Foss, CEO

Yes. Looking back at our company 15 years ago, we engaged in numerous mergers and acquisitions to incorporate innovative technology. In one year, we completed six acquisitions, each offering different products. However, in recent years, closing deals has been nearly impossible due to outrageous valuations. Consequently, we have concentrated on enhancing our organic development efforts. Before the pandemic, we excelled at conducting the build-buy-partner analysis at Jack Henry. When opportunities arise, we follow this process to determine whether it's best to build the solution ourselves, acquire it, or pursue a partnership. I believe we maintain a healthy balance among these strategies, and with valuation conditions shifting slightly, I think we're ready to re-enter that phase. It's worth noting that our product portfolio is relatively robust, and we aren't urgently searching for solutions to fill gaps, as customer demand remains strong. Our product suite is largely complete. Therefore, most acquisitions we consider are aimed at enhancing our existing offerings, creating synergistic benefits for Jack Henry customers. We are continuously on the lookout for these opportunities. Additionally, in terms of new development, we are consistently creating new solutions, including a new fraud solution currently in development that we will discuss further on Monday. These efforts are ongoing, resulting in a healthy mix of acquisition considerations and organic growth for our company.

Operator, Operator

Ladies and gentlemen, this concludes our question-and-answer session. I'll turn the conference back over to Mr. Kevin Williams for any closing remarks.

Kevin Williams, CFO

Thanks, Tom. Again, as Dave mentioned, we do look forward to hosting many of you on the call next Monday in Dallas at our Annual Investor Day, which is being held at the Hyatt DFW, Dallas Fort Worth Airport, beginning at 1:00 p.m. with registration beginning about 11:00 a.m. Again, after the presentations, we will have a mini tech fair to showcase some of our newer hardware products that are out there. With that, we are pleased with the results from our ongoing operations, and we are excited for the future. I want to thank all of our associates for the way they have handled these challenges by taking care of themselves and our customers and continue to work hard to improve our company to continue moving forward for the future. All of us at Jack Henry continue to focus on what is best for our customers and shareholders. I want to thank you again for joining us today. And with that, Tom, will you please provide the replay number?

Operator, Operator

Yes. The phone number you dial is for United States toll-free 1-877-344-7529, and the United States local toll number being 1-412-317-0088. When prompted to enter a code, please enter 4203516. Again, that replay code is 4203516. Thank you all very much for attending. This conference has now concluded. You may now disconnect.