Mastercard Incorporated — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016. Financial statements are unaudited; the independent accountant performed a review, not an audit. Mastercard operates a global payments network and provides transaction processing and related services; it does not issue cards or extend credit.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net revenue | $2.694 billion | $2.390 billion | $5.140 billion | $4.620 billion |
| Operating income | $1.380 billion | $1.251 billion | $2.728 billion | $2.602 billion |
| Operating margin, GAAP | 51.2% | 52.4% | 53.1% | 56.3% |
| Net income | $983 million | $921 million | $1.942 billion | $1.941 billion |
| Diluted EPS | $0.89 | $0.81 | $1.75 | $1.69 |
Q2 net revenue increased 13% (14% currency-neutral); six-month revenue rose 11% (14% currency-neutral). Q2 GAAP net income rose 7%, while six-month net income was essentially flat. Excluding the U.K. merchant litigation provisions, diluted EPS grew 13% in Q2 and 5% for the half; adjusted operating margins were 55.2% and 55.2%, respectively, versus 54.9% and 57.7% in the comparable periods.
Revenue growth reflected higher transaction processing and other revenues, activity volumes and acquisitions, partly offset by rebates and incentives, which increased 21% in Q2 and 20% for the half. Processed transactions grew 14% in both periods; local-currency MasterCard-branded GDV grew 11% in Q2 and 12% for the half, and cross-border volume grew 10% and 11%. Operating expense growth outpaced revenue, driven by personnel investment, legal costs and data processing. The effective tax rate rose to 28.0% in Q2 and 28.1% for the half, partly because prior-year tax benefits did not recur.
Cash, debt and liquidity
- Six-month operating cash flow was $2.067 billion, versus $1.732 billion; investing cash outflow was $495 million and financing cash outflow was $2.194 billion. Cash and cash equivalents ended the period at $5.176 billion.
- Cash, cash equivalents and investments totaled approximately $6.4 billion; $3.8 billion was held by foreign subsidiaries. The company reported $3.8 billion of unused credit availability and no borrowings under its credit facility or commercial paper program.
- Long-term debt was $3.306 billion at June 30. Management stated existing liquidity, cash generation, borrowing capacity and access to capital were sufficient for expected operating and other needs.
- During the first half, Mastercard repurchased 20.3 million shares for $1.819 billion and paid $421 million in dividends. $2.688 billion remained under repurchase authorizations at June 30.
Material developments, outlook and risks
- Litigation: In June, an appellate court vacated certification of the U.S. merchant class and reversed approval of its settlement, returning the case for further proceedings. Mastercard had accrued $705 million for the class and filed or anticipated opt-out matters; it said potential liability if litigated to final outcome could not be estimated. Accrued litigation on the balance sheet was $810 million, including a $107 million provision for a U.K. merchant judgment recorded in Q2. The company estimated a possible lower-end negotiated settlement of about $265 million for remaining U.K. merchant claims but had not accrued a loss for those claims.
- Other proceedings: The European Commission’s interchange-fee investigation could result in substantial fines absent agreed business changes. Canadian merchant actions and U.S. ATM surcharge litigation remain ongoing. Mastercard also faces a new U.S. EMV liability-shift complaint. Outcomes and potential financial effects for many proceedings were not estimable.
- Settlement guarantees: Gross settlement exposure was $42.030 billion, with $3.617 billion of collateral and $38.413 billion net uncollateralized exposure. Exposure is generally short term, but could increase with customer or regional economic distress.
- Subsequent event: On July 21, 2016, Mastercard agreed to acquire a 92.4% controlling interest in U.K. payments company VocaLink for approximately £700 million (about $920 million), with up to £169 million (about $220 million) of potential earn-out. Closing is subject to regulatory and customary approvals.
- Management commentary and outlook: The filing provides no quantified full-year earnings or revenue guidance. Management cited ongoing investment in digital, services, data analytics and geographic expansion, while noting uncertainty from economic conditions, foreign exchange, regulation, competition, cybersecurity, customer concentration and litigation.
Important facts for investors to verify
- Developments and possible financial exposure following reversal of the U.S. merchant class settlement, including the adequacy of the $705 million reserve.
- Progress and outcomes in U.K., European, Canadian, ATM and EMV-related proceedings, and any changes to litigation accruals.
- VocaLink acquisition approval, final purchase terms, funding and any earn-out obligations.
- Whether operating expense growth, rebates and incentives, foreign-exchange effects and tax rates continue to pressure margins and earnings.
- Evolution of settlement exposure, collateral coverage, overseas cash balances and share repurchases relative to liquidity needs.