Business Context and Reporting Period
Company: Deluxe Corporation
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Quarter and nine months ended September 30, 1999
Business Overview: Deluxe operates seven segments including Paper Payment Systems, Payment Protection Systems, Electronic Payment Systems, Government Services, and iDLX Technology Partners. The company is undergoing significant restructuring, including the sale of its Direct Response and Direct segments (completed in 1998) and the planned sale of its collections business (National Revenue Corporation).
Key Financial Metrics
| Metric (in thousands) | Q3 1999 | Q3 1998 | 9 Months 1999 | 9 Months 1998 |
|---|---|---|---|---|
| Net Sales | $417,114 | $469,770 | $1,239,033 | $1,433,531 |
| Net Income | $49,057 | $(115) | $144,869 | $85,711 |
| Diluted EPS | $0.65 | $0.00 | $1.85 | $1.06 |
| Operating Income | $73,365 | $(316) | $228,524 | $139,227 |
| Cash from Operations (9mo) | $158,934 (1999) vs $178,059 (1998) | |||
| Cash & Equivalents (End of Period) | $74,501 (Sep 30, 1999) vs $268,934 (Dec 31, 1998) | |||
| Long-Term Debt | $119,856 (Sep 30, 1999) | |||
| Working Capital | $42,900 (Sep 30, 1999) vs $181,300 (Dec 31, 1998) |
Margins (9 Months): Gross margin improved to 56.3% in 1999 from 51.0% in 1998. Operating margin improved to 18.4% in 1999 from 14.9% in 1998.
Material Changes vs. Prior Period
- Revenue Decline: Net sales decreased 11.2% in Q3 and 13.6% for the nine months compared to 1998. This is primarily due to the 1998 divestiture of the Deluxe Direct Response and Deluxe Direct segments, which contributed $55.8 million and $186.8 million in sales respectively in the prior year periods.
- Profitability Surge: Despite lower sales, Net Income increased significantly (from a loss of $0.1 million to $49.1 million in Q3). This is largely attributable to the absence of massive one-time charges recorded in 1998, including $39.5 million in restructuring charges, $26.3 million in asset impairments, and $14.7 million in contract loss reserves.
- Cost Reductions: SG&A expenses decreased 23.6% in Q3 and 20.8% for the nine months, driven by the elimination of sold businesses and ongoing restructuring initiatives.
- Liquidity Shift: Cash and cash equivalents dropped from $268.9 million to $74.5 million. This decrease was driven by $216.7 million in stock repurchases, $35.7 million in acquisition payments, and a $32.2 million legal judgment payment.
Guidance, Outlook, and Risks
Management Commentary and Outlook
- Strategic Reorganization: The company is creating a new "eFunds" business unit to consolidate electronic payment and protection services, aiming for 20% annual revenue growth in 2000 and 2001.
- Cost Targets: Management expects to achieve a minimum of 11% annual earnings growth in 1999 and 2000 and targets cumulative EBITDA in excess of $2.3 billion over the next five years.
- Share Repurchases: The company has repurchased 4.7 million of the authorized 10 million shares as of September 30, 1999, with potential for further repurchases in Q4.
- Year 2000 Readiness: Domestic remediation is 100% complete; international operations (iDLX) are expected to be certified by November 1999. Total project costs are estimated at $28.4 million, with $24.5 million incurred to date.
Risks and Contingencies
- Legal Settlement: A $32.2 million payment was made in February 1999 regarding a 1997 judgment against a subsidiary (DEPS). A remaining reserve of $2.1 million was reversed in Q1 1999.
- Contract Losses: The company was notified that a prime contractor for state switching services does not intend to renew its agreement. This may require an additional accrual for losses, though the amount is not yet estimable.
- Restructuring Delays: Plant closures and system roll-outs have been delayed due to customer Year 2000 moratoriums, potentially pushing severance payments into 2000.
- Competition: Intense pricing pressure in check printing and the rise of alternative payment methods (debit cards, electronic payments) pose long-term risks to core revenue streams.
Investor Verification Checklist
- Legal Exposure: Verify the final status of the Mellon Bank judgment and the potential financial impact of the non-renewal of the state switching services contract.
- Restructuring Execution: Monitor the timeline for check printing plant closures and the associated cash outflows for severance, noting delays caused by Year 2000 customer moratoriums.
- Acquisition Integration: Assess the performance of the newly formed "eFunds" unit and the profitability trajectory of the iDLX Technology Partners segment (acquired in 1999).
- Liquidity Management: Review the company's cash burn rate relative to its $115 million uncommitted and $650 million committed lines of credit, especially given the significant reduction in cash reserves.
- Year 2000 Costs: Confirm that no material unanticipated costs arise from the final certification of international operations or third-party vendor failures.