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Home » Mastercard’s (MA) CEO Ajay Banga on Q2 2014 Results – Earnings Call Transcript

Mastercard’s (MA) CEO Ajay Banga on Q2 2014 Results – Earnings Call Transcript

Source: Seeking Alpha

 

Mastercard Inc. (NYSE:MA)

Q2 2014 Earnings Conference Call

July 31, 2014 9:00 AM ET

Executives

Barbara Gasper – Head, IR

Ajay Banga – President and CEO

Martina Hund-Mejean – CFO

Analysts

Tien-tsin Huang – JP Morgan

Bryan Keane – Deutsche Bank

David Hochstim – Buckingham Research

Sanjay Sakhrani – KBW

Moshe Orenbuch – Credit Suisse

Jim Schneider – Goldman Sachs

Moshe Katri – Cowen & Co

Darrin Peller – Barclays Capital

Chris Brendler – Stifel Nicolaus

James Friedman – Susquehanna Financial Group

Glenn Greene – Oppenheimer & Co

Bob Napoli – William Blair

Operator

Welcome to the MasterCard’s Second Quarter 2014 Earnings Conference Call. My name is Christine, and I will be your operator for today’s call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note that this conference is being recorded.

I will now turn the call over to Barbara Gasper, Head of Investor Relations. You may begin.

Barbara Gasper

Thank you, Christine, and good morning to everyone. Thank you for joining us for a discussion about our second quarter 2014 financial results. With me on the call today are Ajay Banga, our President and Chief Executive Officer; and Martina Hund-Mejean, our Chief Financial Officer.

Following comments from Ajay and Martina, the operator will announce your opportunity to get into the queue for the Q&A session. Up until then, no one is actually registered to ask a question. Even if you think you have already dialed into the queue, you will need to register again following our prepared comments.

This morning’s earnings release and the slide deck that will be referenced on this call can be found in the Investor Relations section of our website at mastercard.com. These documents have also been attached to an 8-K that we filed with the SEC earlier this morning. A replay of this call will be posted on our website for one week through August 7.

Finally, as set forth in more detail in today’s earnings release, I need to remind everyone that today’s call may include some forward-looking statements about MasterCard’s future performance. Actual performance could differ materially from what is suggested by our comments today. Information about the factors that could affect future performance are summarized at the end of our press release, as well as contained in our most recent SEC filings.

With that, I will now turn the call over to Ajay Banga. Ajay?

Ajay Banga

Thank you, Barbara, and good morning everybody. So for the second quarter, we are very pleased to report a net revenue growth of 13%, both as-reported and adjusted for currency. That increase is driven by healthy volume and transaction growth, which resulted in net income growth of 10% as-reported or 9% adjusted for currency and an EPS growth of 14%. And these results include the impact of all the acquisitions that we’ve completed so far this year.

So let’s start with looking at the underlying global economic trends with the United States where the economy seems to be improving but not without some challenges. Our second quarter SpendingPulse data showed U.S. retail sales, ex-auto, growing at 3.8% and that’s a noticeable improvement over the first quarter number of growth of 2.3%.

However over that quarter, the monthly trend decelerated partially as a result of lower gasoline spending, which consumers did not appear to rollover into additional discretionary spend. Having said that, overall we think that current U.S. economic recovery is very much a work in progress. We see some favorable indicators, the continued improvement in unemployment figures, consumer confidence levels and so on.

But in fact early indications for July retail sales, again ex-auto, are showing further improvement over the second quarter. But there are some factors that could weigh on that economic recovery, like the slowing recovery in housing and the improvement in unemployment coming in part from an upswing in part-time workers rather than just full-time positions.

So despite those mixed segments, our U.S. business saw an improvement in the quarter, primarily driven by stronger growth in our consumer credit volume and continued good growth in commercial credit.

Europe. Europe continues a slow recovery path. PCE growth projections remain unchanged for the year at 3.5%. Consumer confidence, economic sentiment, unemployment rates all continue to improve across the region. And if you add to this in the case of the U.K. in particular, our SpendingPulse data showed retail sales, ex-auto, growing by 4.8% in that quarter, one of the strongest rates in the last four years with growth specs evenly across the sectors.

So MasterCard’s total European volume growth for the second quarter was in the low-teens, process transaction growth was in the high-teens, both a bit lower than the first quarter. The region’s growth was driven by number of countries including Russia, Turkey, Sweden and Italy.

In Latin America, full-year GDP growth expectations for the region have been revised down from 2.5% to 2.3% because of slower than expected performance in some of the key countries including Brazil and Mexico. And our second quarter SpendingPulse data for Brazil shows that retail sales grew 4.1%, down from the 5.9% growth in the first quarter. And this by the way is the weakest growth rate since August of last year.

On the other hand, the Mexican economy showed some improvement in the second quarter, and we believe that will continue as the U.S. economy improves. Our business in the region remains healthy, but it has slowed somewhat over the first quarter with second quarter GDP growth in the low-teens and process transaction growth remaining in the high-teens.

Across the Asia Pacific region, business sentiment and consumer confidence were up with improvements in many countries tied to changes in their political environments. And our business in Asia Pacifica, Middle East, Africa continues to do well with process transaction growth remaining about 30% and GDP growth in the high-teens for the second quarter.

So before we go to some of our business highlights, let me say a few words about a couple of legal and regulatory matters.

And first with regards to the proposed European Interchange Legislation. Not much has changed since last quarter. We are actively engaged with all parties, while the Council of Ministers continues its review. And we still believe that the proposed legislation is most likely to be adopted sometime in the first half of 2015.

Second, let’s talk about Russia. As you know, the Russians are implementing changes to their domestic payments market in the form of a new payments law, which will impact MasterCard. We are pursuing multiple options to comply with the new law while fulfilling our U.S. obligations. And according to that law, ownership of domestic Russian switching has to be majority controlled by a Russian entity and should use Russian technology in order to relieve a foreign payments network from the collateral requirement that is now been delayed by the way till October 31.

The law provides some flexibility. And you were all aware of our RFP process to find the local switching partner as one part that we are pursuing. In addition, the processing center we currently have in Russia, we believe gives us the basis to build our own on-soil switching capabilities and we are exploring options to leverage that as well.

Overall, we expect only minimal impact from the current Russia situation for our 2014 results. So that situation is still fluid as you all know, it’s difficult to put any future annualized impact into precise dollars, but if you look for a number, press for a number, our estimate today would be that our revenue could be impacted but something less than $50 million in its full calendar year of this effort. The exact amount along with any investment requirement for our on-soil switching capability will obviously depend on the final form of our operating concept in Russia.

So let’s move on some of our recent business activity. First, talking about Russia. I want to tell that as we continue to work through the challenges there, our business continues to move forward. For example, we just renewed our business agreement with Alpha Bank, Russia’s largest private bank, and that should help us expand our existing partnership in issuing affluent cards and accelerating the growth of contactless technology in the Russian market.

So let’s go beyond that to talk about how we deepen our relationships with merchants and leverage these into partnerships to grow our business. I am going to highlight some recent additional activity in that space, but not only with merchants but also with mobile operators and with governments.

We’ve been investing in our merchant relationships over the past few years. They are now 40% of our customer facing people, sales people in the United States are dedicated to that space. Last quarter, I mentioned the Wal-Mart, Sam’s Club and Target wins. And this quarter, we got a few more to talk about. At the beginning of spring of 2015, BJ’s Wholesale Club will be converting their entire credit business to chip-enabled MasterCard credit cards. And we are very pleased to be chosen as BJ’s partner to help them deliver most secure solution for their cardholders.

We’ve also had a couple of important renewals in our merchant co-bank business with Sears and Expedia, continuing our longstanding relationship with both of them.

Outside of the U.S., MasterCard was selected as the co-brand partner for the Landmark Shukran credit card in the U.A.E. Landmark Group is one of the largest retail organizations in the Middle East, 1,800 stores. They also are the region’s largest retail loyalty program in seven countries with almost 6 million members.

For us, our goodness of merchants is not just about co-brands. We are also working with merchants in a number of activities that leverage our other assets; Advisors, MasterCard Labs and so on. So using our Advisors’ data analytics, we are working with Expedia to help them improve the effectiveness of their marketing campaigns by identifying the best people to target, and with Shell and WilliamsSonoma to enhance their loyalty propositions.

Another example, we work through the major cruise line to identify opportunities for them to reduce their costs by moving their B2B payments from check writing to ACH to purchasing costs and virtual card numbers using our in-control capability.

And finally with MasterCard Labs, we’re bringing our partners together to help solve some of that business challenges. And one example, earlier this summer, MasterCard worked on this first ever in-flight wearable technology, Hackathon with American Airlines, where we gave our technology and our mentorship. We used technology tools like Simplify Commerce and MasterPass to develop wearable solutions for travel.

Moving onto mobile. Last quarter, we talked about mobile as being just one of the many ways that consumers are shifting from physical to digital payments, and now it represents one of the most significant changes in our space. In this quarter we continue to develop and expand our partnerships with both, handset manufacturers and network operators.

So a couple of examples. We worked with Samsung in Australia last year, if you remember, we continue to deepen that relationship by launching Russia’s first contactless mobile payment service with Russian Standard Bank using Samsung phones, Russian Standard’s mobile banking application and MasterCard’s Mobile NFC technology, our prepaid products and enhanced processing services. This partnership kind of brings our products and services together to deliver innovation in yet another market with Samsung.

In Canada, Rogers Wireless, which is that country’s largest wireless service provider, they have got 9 million subscribers or so, recently launched their suretap wallet, and that’s got a MasterCard prepaid card embedded inside. That new application allows Rogers’ subscribers to use their NFC-enabled smartphones to make contactless payments which were already accepted for example in Canada in the 18 of the 20 largest merchants.

Moving onto MasterPass. We’re continuing with our global expansion of MasterPass. MasterPass, as you know, is our got digital acceptance platform connecting consumers and merchants. In this quarter, MasterPass launched in Singapore, in Poland and South Africa. We are now up to 10 markets. We expect to do four more by the year-end. It’s more than a wallet by the way. It’s a platform which provides a safe and secure foundation to support multi-channel shopping and the ability to create innovative tools that you could use to enhance the consumer buying experience before, during and after the actual purchase.

Over the next two years, we think we will be in all the markets that represent about 75% of our total volume. MasterPass have been designed from the start with tools that make it very easy for merchants and issuers to integrate with it. Last quarter, we launched our in-app payment capability. Now we’ve got a number of merchants. One example is Starbucks in Australia committed to including MasterPass in their apps.

So finally, partnerships with governments and our efforts in financial inclusion. To drive this expansion, you’ve got to connect the right technologies and platforms. You’re going to prepaid and mobile payments with the network and then adapt them to a local marketplace. And the only way that happens is you have the right partnership between the public and private sector.

We’re actually seeing the results of some of that work happen today. In the last two years, we’ve launched over 100 new programs, designed to bring access to millions and security to over 350 million people around the world who didn’t have access to financial products before these programs were launched.

You already know what we’ve done in South Africa and Nigeria. And let me give you some more color with a few more examples this quarter. So in Pakistan, we are partnering with the Bank of Punjab to issue millions of prepaid cards with biometric recognition to the nearly 90% of the Pakistani population who are unbanked and receive funds from government disbursement programs.

This program has helped the government of Pakistan improve their service, reduce inefficiencies, reduce leakage in the process. And in June, we announced the launch of the first Arabic mobile money implementation with the National Bank of Egypt and a mobile network, Etisalat. This service is called a Flous wallet, I hope I get that right, will allow Etisalat subscribers to transfer money, pay their bills, top-up their mobile phones and make purchases, either online or face-to-face.

And also in June, Tabung Haji, the first and largest Islamic non-bank financial institution in the world launched their first Shariah-compliant debit MasterCard. So cardholders can use their card anywhere MasterCard is accepted including on their pilgrimage to Mecca and Medina. This event marks the beginning of broader collaboration with Tabung Haji in the Islamic payment space, and together we are supporting Malaysia’s economic transformation program to drive financial inclusion and to accelerate that country’s migration to electronic payments.

So with that, let me turn the call over to Martina for an update on our financial results and operational metrics. Martina?

Martina Hund-Mejean

Thanks, Ajay, and good morning, everyone. Let me begin on Page 3 of our slide deck, where you see the as-reported as well as the FX-adjusted growth rates. All of my comments pertain to the FX-adjusted figures, which are almost the same as the as-reported numbers.

So we are very pleased with our strong performance this quarter. Net revenue growth was 13%. This combined with operating expenses growth of 14% resulted in a 9% increase in net income. While acquisitions had minimal impact on net revenue and net income in the quarter, they did contribute 3 PPT to operating expense growth.

EPS growth was 14% and share repurchases contributed $0.04 per share. During the second quarter, we repurchased almost 16 million shares at a cost of approximately $1.2 billion. Through July 24, we purchased an additional 1.4 million shares at a cost of approximately $106 million, and we now have $728 million remaining under the current authorization. We will continue to look to repurchase shares on an opportunistic basis.

Cash flow from operations was $729 million, and we ended the quarter with cash, cash equivalent and other liquid investments of about $5.7 billion.

So let me turn to Page 4, where you can see the operational metrics for the second quarter. Our worldwide gross dollar volume or GDV was up 13% on a local currency basis, down slightly from last quarter. Overall, our U.S. GDV grew 9% which was essentially the same as last quarter.

On the credit side, we had strong volume growth of 10%. This was an increase from last quarter, driven by improvements in consumer credits with growth in high-single-digits and continued strong growth in commercial credit which was in the mid-teens. Similar to last quarter, our U.S. debit growth was 9%.

Outside of the U.S., volume growth was 15% on a local currency basis. This continues to be driven by APMEA with high-teens growth. Cross-border volume grew 16% on a local currency basis, just slightly lower than the 17% we saw in the first quarter. Growth in both, APMEA and Europe was in the high-teens. Key contributors to this growth included the U.K., Italy and Sweden. The deceleration of cross-border volume growth in Canada and Brazil continued into the second quarter. And in addition, we saw a deceleration in Australia, Russia and China, with Australia likely due to currency.

Turning to Page 5. Process transaction grew 12% globally to more than $10.6 billion. We continue to see double-digit growth in most regions. And globally, the number of cards grew 8% with over 2 billion MasterCard and Maestro branded cards.

Now let’s turn to Page 6. And here we’re going to go through some insights on a few of our revenue line items. Domestic assessments grew 10%, while worldwide GDV grew 13%. This 3 PPT gap is primarily due to higher volume growth in markets with lower than average revenue yields. This lower yield continues to be impacted by two factors. The first is lower fees in some markets as a result of either local market structure, or the existing domestic schemes that we compete against. And the second is a higher proportion of cash volumes, particularly in emerging markets.

Now the second factor actually does provide us with a good opportunity for future growth as we work to influence consumer behavior to use electronic forms of payment directly at the point-of-sale instead of cash.

Cross-border volume fees grew 13% while cross-border volume grew 16%. After excluding the 4 PPT contribution from pricing, the resulting gap between revenue and volume growth continues to be due for the most part due to higher mix of intra-European activity. Transaction processing fees grew 14%, primarily driven by the 12% growth in process transactions.

Overall, net revenue growth was 13% both, as-reported and FX-adjusted as the impact of the euro and the real al essentially offset each other. Beyond those two currencies, we still experienced some headwind, although a little less than last quarter from the weakening of the other local currencies, such as the Russian ruble, the Turkish lira, the Argentine peso and the Canadian dollar, and that was reflected mainly in the domestic assessment category.

Let me move to Page 7. And here you can see total operating expenses were up 14% in the quarter, in line with our expectations. As I said before, 3 PPT was due to expenses related to acquisitions, which were mainly in the G&A line. So when looking specifically at the 19% growth in G&A, our acquisitions primarily C-SAM and Provus, along with the consolidation of our majority-owned HomeSend investment contributed 3 PPT. The balance of the growth is primarily due to the continued organic investments we are making in strategic initiatives.

The decrease in advertising and marketing was mostly due to lower media spending relative to last year.

And finally, the $20 million increase in D&A is the result of our growing level of capital expenditures, mainly associated with additional investments in technology to support initiatives like MasterPass and Priceless Cities. It also includes the impact of the amortization of intangible assets related to the acquisitions we made.

Turning to Slide 8. Let’s discuss what we have seen in July through the 28th. Each of our business drivers is slightly down compared to the second quarter, but most are still in double-digits. All of this has been factored into our full-year outlook. So the numbers through Jul 28 are as follows. Starting with processed volume, we saw global growth of 11%, down slightly from the second quarter.

In the U.S., our processed volume grew 8%, down 2 PPT from what we saw last quarter. As expected, we are now seeing more of an impact from the Chase migration. Process volume growth outside of the U.S. grew 14%, about 1 PPT lower than the second quarter, primarily due to some continued deceleration in Brazil, Russia and Canada. Globally, processed transaction growth was 10%, also by 2 PPT lower than what we saw in the second quarter including the Chase migration.

And now with respect to cross-border. Our volume grew at a healthy 14% globally, about 2 PPT lower than second quarter. For the most part, this deceleration can be explained by three factors. The first is the timing of Ramadan, the impact of which we expect will reverse in August. Second, the impact of foreign exchange on consumer purchasing power in certain travel corridors, such as Canada to the U.S. And lastly, the impact of some government imposed taxes on foreign purchases, particularly from Brazil.

Looking forward, let’s begin with our long-term performance objectives for the 2013 to 2015 period. We continue to believe that our business can deliver an 11% to 14% net revenue CAGR and at least 20% EPS CAGR. This includes our views on the developments related to Chase, Russia and the European regulations that we talked about. We also remain committed to our annual operating margin target of at least 50%.

Remember, these objectives are on a constant currency basis and exclude new M&A activities.

As we discussed at last year’s Investor Day, we are looking to add capabilities in strategic spaces such as loyalty, processing, mobile, information services and safety and security, both organically and inorganically. Over the past four to five years, we’ve looked at a large number of opportunities but only a few have met our strategic and financial criteria.

Although it can often take many months to evaluate and close a deal, it just so happens that several have come to the finish line within a relatively short period this year. Our past acquisitions like Datacash and Access Prepaid, along with the five we’ve done so far this year. So that’s Provus, C-SAM, ECS, Pinpoint and our majority investment in HomeSend, all of these deals are un-point from a strategic perspective and help us grow our business. You should expect us to continue to evaluate more such investments.

Now moving on, let me offer some commentary about 2014. So while M&A activities are not included in our performance objectives, we continue to get a lot of questions about how they will impact our as-reported financials. So let me take this opportunity to provide a little more color on that.

As I discussed on last quarter’s earnings call, EPS dilution is expected to be $0.06 to $0.08 for the full-year 2014. Specifically, most of the impact will show up in the G&A line, and we expect G&A to increase by about $80 million in each of the two remaining quarters before considering any organic growth in G&A over last year.

Including the impact of these acquisitions, the expected growth rate in G&A for the second half of the year will be in the high-teens.

Now here are some additional thoughts about 2014 which are essentially unchanged since our last call. Our expectations of full-year net revenue growth remains at the low end of our three year range. The strong underlying close trends we are seeing in volume and transactions is allowing us to absorb the minimal impact expected from the Russian situation, as well as a good portion of the attrition that we anticipate from Chase this year.

The pace of the Chase attrition during the second quarter was essentially in line with our internal projections, and we continue to believe most of it will occur in the latter half of this year with the remaining flowing over into 2015.

In addition, we also continue to expect a 1 PPT contribution to our 2014 as-reported net revenue growth from our M&A transactions.

Overall, we haven’t our changed our view about total operating expense growth from what we said in May, that we expect the as-reported growth rate for full-year 2014 to be in the low-teens after including the impact from M&A activities. Along with the growth in G&A that I just talked about, we continue to expect D&A growth in the 25% range for full-year 2014 due to our higher level of capital expenditures as well as the impact of amortizing intangible assets related to acquisitions.

As a reminder, you should be reflecting roughly $10 million per quarter to account for the interest expense associated with the debt offering we launched in late March. When we look at the sell-side models out there, it appears that many of you still have not accounted for those in your other income and expense lines.

For now, you should also continue to assume a full-year tax rate of about 32% but recognize that we’re still working on a number of initiatives to better align our tax structure with our business footprint which will likely result in a lower tax rate over time.

Finally, with respect to foreign exchange in 2014. If those rates remain similar to where they are today, so that’s the euro trading at the 134 level and the Brazilian real at the 223 level for the rest of the year, the net impact of the euro and the real would be a slight tailwind for the full-year.

Further, beyond the functional currency impact of the euro and the real, we have already seen almost 2 PPT headwinds to net revenue growth year-to-date from other currencies depreciating against the U.S. dollar and the euro. As I said before, we carefully manage those exposures, but we have also assumed some impact for the rest of the year.

Now let me turn the call back to Barbara to begin the Q&A session. Barbara?

Barbara Gasper

Thanks Martina. We’re now ready to begin the question-and-answer period. Don’t forget my earlier comments, that if you dialed into the queue when you first joined the call, you will need to register again to ask a question. And in order to get to as many people as possible, we ask that you limit yourself to a single question and then queue back in for additional questions. Christine?

Question-and-Answer Session

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