CPI Card Group Inc. — Q3 2022 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2022. Amounts below are in U.S. dollars; financial figures are in millions unless stated otherwise. CPI makes payment cards and provides personalization, fulfillment and instant-issuance services, primarily in the United States.
Financial performance
| Metric | Q3 2022 | Q3 2021 | Nine months 2022 | Nine months 2021 |
|---|---|---|---|---|
| Net sales | $124.6 | $99.6 | $349.3 | $281.9 |
| Gross profit / margin | $48.4 / 38.9% | $37.7 / 37.8% | $128.3 / 36.7% | $110.5 / 39.2% |
| Operating income / margin | $23.4 / 18.8% | $16.7 / 16.8% | $56.5 / 16.2% | $50.3 / 17.8% |
| Net income | $11.9 | $6.6 | $24.1 | $15.3 |
| Diluted EPS | $1.01 | $0.56 | $2.05 | $1.30 |
| Segment EBITDA | $27.2 | $20.3 | $67.0 | $56.8 |
Q3 sales rose 25.1% year over year, led by Debit and Credit, up 30.7%; Prepaid Debit grew 7.8%. For the nine-month period, sales rose 23.9%, with Debit and Credit up 30.6% and Prepaid Debit up 1.1%. Management attributed growth mainly to higher card volumes, contactless-card mix, price increases and growth in personalization and instant-issuance services.
Q3 gross margin improved year over year, but the nine-month margin declined, reflecting higher material and other production costs. Prepaid Debit nine-month gross margin fell to 37.3% from 41.8%; Debit and Credit fell to 36.5% from 38.4%. Higher sales supported earnings, while labor, materials, selling and administrative costs increased.
Cash flow, debt and liquidity
- Cash and working capital: Cash was $21.5 million at September 30, 2022, versus $20.7 million at year-end 2021. Working capital was $112.7 million, compared with $80.9 million.
- Cash flow and investment: Nine-month operating cash flow was $11.7 million, down from $14.5 million. Investing cash outflow was $14.3 million, including $14.4 million of capital expenditures, versus $4.7 million of investing outflow in 2021. Financing activities provided $3.5 million; cash increased $0.8 million during the period.
- Debt: Long-term debt, net of deferred financing costs, was $310.1 million. Principal outstanding comprised $290 million of 8.625% Senior Notes due March 2026 and $25 million drawn on the ABL Revolver. The revolver had $50 million available under its $75 million capacity. The notes’ reported fair value was $279.1 million. The company paid $27.0 million of interest during the first nine months.
- Liquidity outlook: Management said cash, operating cash flows and available borrowing capacity should be adequate for debt service, operations, capital expenditures, leases and working capital, while noting there can be no assurance. The filing estimates $26.5 million of debt interest due over the next 12 months. Revolver availability is subject to borrowing-base limits and a fixed-charge coverage test if availability falls below $7.5 million.
Material changes, outlook and risks
- Q3 net income increased to $11.9 million from $6.6 million; nine-month net income rose to $24.1 million from $15.3 million. The prior-year comparison included $5.0 million of debt-extinguishment loss and a $2.6 million make-whole interest premium. In 2022, the company recorded $0.4 million of debt-extinguishment loss related to redeeming $20 million of notes.
- Management reported continuing labor shortages, higher compensation and recruiting costs, inflation, material and shipping cost increases, component shortages, longer lead times and production delays. These issues have affected customer delivery expectations and may continue through 2022 and beyond. CPI said it may not be able to pass all cost increases on to customers.
- Supply risks include limited microchip availability and sourcing recovered ocean-bound plastic for Second Wave cards. The company shifted some sourcing from Haiti to Thailand but relies on single-source suppliers in those supply chains.
- Significant subsequent commitment: After quarter-end, CPI agreed to reserve chip-supplier capacity and committed to purchase chips for 2023–2025. The minimum non-cancellable commitment is $194.9 million, including $69.6 million expected to be paid in 2023. Supplier liquidated damages are specified for undelivered products. This is a substantial future cash and supply obligation.
- The company provided no specific financial guidance in the filing. It said supply-chain, labor and inflation-related pressures and the associated costs may persist.
- Controls: Management concluded disclosure controls were not effective at September 30 because of previously reported material weaknesses in internal control over financial reporting. Remediation work is underway; weaknesses are not considered remediated until controls operate and are tested effectively. No resulting material misstatements or changes to previously reported results were identified.
- Contingencies: A patent-infringement case concerning contactless-card antenna technology is stayed pending U.S. Patent Office reviews; the possible loss is not estimable and no liability was recorded. The estimated sales-tax liability was $0.8 million. CPI also entered Delaware’s unclaimed-property voluntary disclosure program; potential loss is not currently estimable.
- COVID-19 and the Russia-Ukraine conflict have not materially affected reported results to date, according to the filing, but may worsen supply, cost, inflation and cyber risks. The company had not yet paid the second installment of deferred employer Social Security taxes as of September 30; it was permitted by year-end 2022.
Most important facts for investors to verify
- Progress on the $194.9 million chip commitment, its purchasing schedule, funding needs and supplier performance.
- Whether sales growth can continue while material, labor and freight costs pressure nine-month margins, particularly in Prepaid Debit.
- Cash conversion and working-capital needs, including elevated receivables and inventory, alongside capital spending and debt interest.
- Debt covenant headroom, borrowing-base availability and refinancing or repayment plans for the 2026 Senior Notes.
- Remediation and independent testing of the material weaknesses in internal controls.
- Developments in the patent litigation, sales-tax exposure and Delaware unclaimed-property review.