Business context and reporting period
This is Alliance Data Systems Corporation’s unaudited Form 10-Q for the quarter ended June 30, 2016, with comparisons to 2015. The filing identifies Alliance Data Systems—not Bread Financial Holdings—as the registrant; the supplied company metadata does not match the filing.
The company operates LoyaltyOne, Epsilon and Card Services, including private-label and co-brand credit card programs. Unless noted otherwise, amounts below are in U.S. dollars.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Revenue | $1,748.8 million | $1,500.6 million | $3,425.0 million | $3,101.8 million |
| Operating income | $320.6 million | $285.7 million | $664.9 million | $610.3 million |
| Net income | $140.7 million | $130.0 million | $299.6 million | $294.9 million |
| Net income attributable to common stockholders per diluted share | $1.24 | $2.11 | $3.60 | $4.43 |
| Adjusted EBITDA, net (non-GAAP) | $421.5 million | $392.5 million | $861.0 million | $822.8 million |
For the first half, revenue rose 10%, net income 2% and adjusted EBITDA, net 5%. Q2 operating margin was approximately 18.3%, compared with 19.0% a year earlier; first-half operating margin was approximately 19.4%, versus 19.7% (calculated from reported figures). Total interest expense increased 28% to $202.5 million in the first half. The effective tax rate was 35.2% for the first half, versus 34.7% in 2015.
Operating cash flow was $731.1 million for the first half, compared with $563.8 million in 2015. Investing used $1,168.8 million, including $749.1 million for three credit card portfolio acquisitions; financing provided $580.3 million. Cash and cash equivalents were $1,316.5 million at June 30, up from $1,168.0 million at year-end.
Total assets were $22,771.2 million and total liabilities $21,041.5 million at June 30. Long-term and other debt was $5,715.7 million net of discounts and issuance costs; non-recourse securitization borrowings were $6,000.2 million net, and deposits were $6,865.8 million net. The company reported $627.5 million available on its revolving credit line and stated it was in compliance with debt covenants. Its total leverage ratio was 2.9 to 1 against a 3.5-to-1 maximum covenant. Bank subsidiaries were reported as well capitalized.
Material changes and management commentary
- Card Services drove much of revenue growth: first-half segment revenue increased 21% to $1,721.3 million and adjusted EBITDA, net increased 10% to $583.9 million, supported by portfolio acquisitions and higher cardholder spending.
- Credit performance weakened: first-half principal net charge-off rate rose to 5.2% from 4.5%; delinquent principal receivables reached 4.6% of the portfolio at June 30, versus 4.2% at December 31, 2015. Management expected the full-year 2016 charge-off rate to be approximately 5.0%.
- Epsilon first-half revenue increased 1%, but adjusted EBITDA, net declined 15% to $183.4 million, primarily due to higher payroll costs and weakness in certain agency markets.
- LoyaltyOne first-half revenue increased 3% and adjusted EBITDA, net increased 15%. Management cited short-term program timing, margin expansion, cost controls and lower product procurement costs; currency movements partly offset results.
- The company acquired the remaining 20% of BrandLoyalty for approximately $258.8 million, effective April 1, bringing ownership to 100%. It also acquired 2.5 million shares for $523.4 million in the first half, with $476.6 million remaining under its $1.0 billion 2016 repurchase authorization.
- Reported per-share earnings merit particular attention: the BrandLoyalty redeemable non-controlling interest accretion reduced income used in EPS calculations by $67.6 million in Q2 and $83.5 million in the first half. Thus, EPS fell despite higher reported net income.
Outlook, risks and unusual items
Management stated that internally generated funds and other liquidity sources were expected to meet working capital, capital expenditure and other business needs for at least the next 12 months. The filing does not provide a broader quantified revenue or earnings forecast. Management anticipated additional short-term loyalty program launches in the U.S. and Canada later in 2016.
Key stated risks include higher credit losses, inability to access securitization funding, rising interest rates and operating costs, client losses, increased AIR MILES redemptions, foreign-exchange movements, regulatory changes, acquisition integration, and cyber or service disruptions. The company said its disclosure controls were effective and there had been no material change in internal control over financial reporting.
The company had satisfied its restitution obligations under 2015 FDIC consent orders concerning marketing and sale of certain add-on products; the orders also required $2.5 million in civil penalties. In June 2016, it recorded a $0.5 million loss on a credit card portfolio sale. A July 2016 securitization issuance of $866.7 million occurred after quarter-end.
Important facts for investors to verify
- Confirm the filing entity: this 2016 filing is for Alliance Data Systems Corporation, notwithstanding the Bread Financial metadata.
- Review credit quality trends, including the 5.2% first-half charge-off rate, 4.6% delinquency rate, rising loan-loss provision and management’s approximately 5.0% full-year charge-off expectation.
- Assess how portfolio growth and acquisitions affect finance-charge revenue, yields, funding costs and credit losses.
- Reconcile EPS with the substantial BrandLoyalty non-controlling-interest accretion and the acquisition of the remaining ownership stake.
- Evaluate debt maturities, securitization and deposit funding availability, covenant headroom, and the effect of share repurchases and acquisitions on liquidity.
- Consider whether Epsilon’s profitability pressures and LoyaltyOne’s program timing and foreign-exchange exposure persist.