Deluxe Corporation — Q2 2014 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2014. Financial statements are unaudited. Dollar amounts below are in millions unless stated otherwise.
Business context
Deluxe provides products and services to small businesses, financial institutions and consumers through Small Business Services, Financial Services and Direct Checks. Its offerings include checks and forms, marketing solutions, web and other services, and business accessories. Management is seeking profitable growth in marketing solutions and services while reducing costs; check usage continues to decline.
Financial results and key metrics
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Revenue | $405.4 | $381.4 | $812.4 | $769.0 |
| Gross profit / margin | $259.5 / 64.0% | $247.9 / 65.0% | $521.5 / 64.2% | $502.1 / 65.3% |
| Operating income | $85.0 | $82.5 | $165.8 | $160.2 |
| Net income | $50.1 | $48.2 | $97.4 | $94.0 |
| Diluted EPS | $0.99 | $0.94 | $1.92 | $1.83 |
- Q2 revenue rose 6.3%; first-half revenue rose 5.6%. First-half orders fell 2.9%, while revenue per order increased 8.8% to $31.76.
- Gross margin declined 1.0 percentage point in Q2 and 1.1 points for the first half, primarily from a shift toward lower-margin services and outsourced products and higher delivery and material costs. Price increases and cost efficiencies partly offset these pressures.
- For the first half, operating cash flow was $125.8, versus $102.1 a year earlier. Investing used $27.8 and financing used $72.1. Cash and cash equivalents ended June at $146.9, compared with $121.1 at year-end 2013.
- Total debt was $646.0, up $5.3 from year-end; debt carrying value included $254.0 of notes due October 1, 2014. The company had $341.0 available under its $350.0 credit facility and reported compliance with debt covenants.
- Total assets were $1,636.4 and shareholders’ equity was $581.8 at June 30. The quarterly dividend increased from $0.25 to $0.30 per share. The company repurchased 988,000 shares for $51.9 in the first half.
Material changes and segment performance
- Small Business Services revenue increased 8.7% in both Q2 and the first half. Growth in marketing solutions, services, distributor channels, acquisitions and pricing more than offset weaker core product volume. First-half operating income rose 8.9%.
- Financial Services revenue rose 6.5% in Q2 and 4.3% for the first half, helped by pricing, services and acquisitions. First-half operating income declined 1.3%, and margin fell 1.4 points, amid check-order declines, contract pricing pressure and higher costs.
- Direct Checks revenue declined 7.3% in Q2 and 7.6% for the first half, reflecting lower check orders. First-half operating income fell 4.7%, although operating margin improved to 32.3%.
- First-half service revenue was 15.0% of total revenue, compared with 12.5% a year earlier. The company acquired NetClime, selected Gift Box Corporation assets and small business distributors for aggregate net cash payments of $8.9.
Outlook, commentary and risks
- Management forecast 2014 revenue of $1.635–$1.655 billion and diluted EPS of $3.96–$4.06, including $0.08 per share of restructuring and acquisition-related transaction costs.
- Management expected 2014 operating cash flow of $270–$280 million, capital spending of about $40 million, and approximately $15 million of contract acquisition payments. It said cash generated from operations and credit availability should support the next 12 months, including the October debt maturity, dividends, buybacks, investment and possible acquisitions.
- Management reported approximately $30 million of net cost reductions realized to date and remained on track for approximately $55 million in 2014. Most employee reductions were expected to be completed by year-end, with most related severance payments by early 2015.
- Key operating pressures include declining check usage, lower core product volumes, competitive pricing on financial-institution renewals, and higher delivery, materials and medical costs. Management also noted continued investment needs and a potentially sluggish economy. A federal research and development tax credit had expired at the end of 2013, with extension legislation not enacted as of the filing.
- The company planned to meet the $253.5 million October 2014 note obligation using cash and its credit facility. Canadian subsidiaries held $49.6 million of cash and marketable securities; repatriating all of it at once was estimated to incur about $7 million of U.S. tax.
- Environmental accruals were $8.1 million. Management said known litigation reserves were not material and did not expect identified claims to materially affect financial position, results or liquidity. Management reported no significant changes to the risk factors in its 2013 Form 10-K and concluded disclosure controls were effective.
Important facts for investors to verify
- Whether the October 2014 note maturity was refinanced or repaid as planned, and the resulting cash, debt and interest costs.
- Progress against 2014 revenue, EPS, operating cash flow and $55 million cost-reduction guidance.
- Whether marketing-services and distributor growth can offset declining check and core-product volumes without further margin erosion.
- How share repurchases, the higher dividend, acquisitions and capital spending affect liquidity and leverage.
- Developments in environmental remediation, self-insurance estimates, and the potential tax and cash implications of foreign-subsidiary funds.