FISERV INC. 10-Q Summary: Quarter Ended September 30, 2006
Business Context and Reporting Period
This report covers the quarterly period ended September 30, 2006, and the nine-month period ended on the same date. Fiserv, Inc. provides information management systems and services to the financial and health benefits industries. The company operates through three segments: Financial, Health, and Investment. As of October 30, 2006, there were 173,175,707 shares of common stock outstanding.
Key Financial Metrics
| Metric (in millions) | Q3 2006 | Q3 2005 | 9M 2006 | 9M 2005 |
|---|---|---|---|---|
| Total Revenues | $1,156.5 | $1,011.6 | $3,346.4 | $2,981.2 |
| Operating Income | $185.7 | $171.5 | $562.9 | $546.8 |
| Net Income | $110.1 | $112.9 | $344.0 | $366.0 |
| Diluted EPS | $0.63 | $0.60 | $1.93 | $1.90 |
| Operating Margin | 16.0% | 17.0% | 16.8% | 18.3% |
| Free Cash Flow (9M) | $302.6 (vs. $283.1 in 2005) | |||
| Cash & Equivalents | $170.9 (as of Sept 30, 2006) | |||
| Long-Term Debt | $829.1 (as of Sept 30, 2006) |
Material Changes vs. Prior Period
- Revenue Growth: Total revenues increased 14% in Q3 and 12% year-to-date (YTD). Growth was driven by internal growth (11% in Q3, 10% YTD) and acquisitions. Product revenues surged 36% in Q3, largely due to the inclusion of prescription product costs in the Health segment.
- Profitability: Operating income rose 8% in Q3 but only 3% YTD. Operating margins declined YTD from 18.3% to 16.8%.
- Expense Drivers: Expenses increased 16% in Q3. Key factors included a $21.4 million increase in share-based compensation expense YTD due to the adoption of SFAS 123R, and a $10.1 million decline in contract termination fees in the Financial segment.
- Discontinued Operations: The company recognized a $10.6 million pre-tax gain in Q2 2006 related to a contingent payment from the sale of its securities clearing business to Fidelity. Net income from discontinued operations was $3.6 million in Q3 2006.
Outlook, Risks, and Management Commentary
- Segment Performance: The Financial segment saw operating margins improve to 21% in Q3 (from 20% in 2005) due to higher-margin electronic payment revenues, though YTD margins were pressured by lower termination fees. The Health segment margins dropped to 5% in Q3 (from 8% in 2005) due to low-margin prescription product pass-through costs and new investments in consumer-directed health care.
- Liquidity and Capital: The company generated $302.6 million in free cash flow YTD. It utilized cash and borrowings to repurchase $421.4 million of stock and fund $183.9 million in acquisitions. The company maintains a $900 million revolving credit facility ($210 million outstanding) and a $500 million commercial paper program ($329.8 million outstanding).
- Risks and Contingencies:
- Indemnification Matter: Fiserv is investigating an indemnification notice from Fidelity regarding documentation maintenance for introducing broker dealers from the sold securities clearing business. The outcome is currently unestimable.
- Accounting Changes: The company is assessing the impact of new standards FIN 48 (Income Taxes), EITF 06-2 (Sabbatical Leave), and SFAS 157 (Fair Value Measurements), effective in future fiscal years.
Investor Verification Checklist
- Share-Based Compensation Impact: Verify the specific impact of the $21.4 million incremental SFAS 123R expense on future quarters and the remaining unrecognized cost of $33.0 million.
- Health Segment Margins: Confirm the sustainability of the Health segment's low operating margins (5-6%) given the high volume of pass-through prescription costs.
- Discontinued Operations Contingency: Monitor updates on the indemnification investigation with Fidelity regarding the securities clearing business sale.
- Contract Termination Fees: Assess the volatility of the Financial segment's revenue due to the $10.1 million decline in contract termination fees YTD.
- Debt Covenants: Review compliance with the debt covenant limiting consolidated indebtedness to 3.5x EBITDA, especially given increased borrowings for acquisitions and buybacks.