DLX

Business Context and Reporting Period

Company: Deluxe Corporation
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: March 31, 2007
Business Overview: Deluxe operates three primary segments: Small Business Services (57.4% of revenue), Financial Services (28.1%), and Direct Checks (14.5%). The company provides checks, forms, and related printed products to small businesses, financial institutions, and consumers. The company is currently executing a $150 million cost reduction initiative and managing a decline in check usage across the market.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue: Decreased 1.8% to $403.8 million, driven by lower revenue per order in Financial Services due to pricing pressure, the divestiture of the industrial packaging product line, and volume declines in Direct Checks. This was partially offset by volume gains in Financial Services and a $3 million revenue shift from weather-related delays in late 2006.
• Profitability: Operating income increased 31.9% to $69.0 million, and Net Income increased 42.8% to $35.2 million. Improvements were driven by cost reduction initiatives, lower SG&A expenses, and a $3.8 million pre-tax gain from the sale of the industrial packaging product line.
• Debt Reduction: Total debt decreased by $68.4 million to $947.4 million, primarily due to net payments on short-term debt ($68.1 million).
• Accounting Changes: Adoption of FIN No. 48 (Accounting for Uncertainty in Income Taxes) and SFAS No. 158 (Pension/Postretirement Plans) resulted in adjustments to the balance sheet, including a $3.1 million increase to accumulated deficit and a $33.4 million increase to shareholders' deficit from the prior year-end adoption of SFAS 158.

Guidance, Outlook, and Risks

2007 Guidance

• Revenue: Expected between $1.57 billion and $1.60 billion (down from $1.64 billion in 2006), excluding the $51 million revenue from the divested packaging line.
• Diluted EPS: Expected between $2.45 and $2.65 (up from $1.96 in 2006).
• Operating Cash Flow: Expected between $225 million and $245 million.
• Capital Spending: Approximately $35 million.
• Debt Reduction: Target to reduce debt by $150 million to $170 million by year-end 2007.

Management Commentary & Risks

• Market Headwinds: Continued decline in check usage (estimated 4-5% for personal checks, 2-3% for business checks) and pricing pressure from financial institution consolidation.
• Cost Initiatives: On track to realize 50-55% of the $150 million cost reduction target in 2007. Savings are expected from shared services, IT, fulfillment, and sales/marketing reorganization.
• Liquidity: $444.2 million available under committed lines of credit. Commercial paper market is currently unavailable due to credit ratings (S&P BB-, Moody's Ba2).
• Debt Maturity: $325 million of 3.5% senior notes mature in October 2007; management intends to repay using operating cash flows, credit facilities, and replacement financing.

Investor Verification Checklist

• Debt Refinancing: Verify the company's ability to refinance or repay the $325 million note maturing in October 2007 given current credit ratings and market conditions.
• Cost Savings Realization: Monitor progress on the $150 million cost reduction initiative to ensure it offsets declining revenue per order.
• Check Usage Trends: Track Federal Reserve data on check usage decline to assess long-term revenue sustainability in core segments.
• Shareholders' Deficit: Understand the impact of SFAS 158 adoption on the balance sheet and the company's strategy to return to positive equity.
• Contract Acquisition Costs: Review the timing and magnitude of future contract acquisition payments, which impact cash flow but not net revenue.