CPI Card Group Inc. — FY 2018 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2018; filed March 2019. Unless stated otherwise, financial results below are for continuing operations. CPI makes payment cards and provides personalization, packaging, fulfillment, and instant-issuance services, primarily in the United States.
Financial performance
| Metric | 2018 | 2017 |
|---|---|---|
| Net sales | $255.8 million | $223.7 million |
| Gross profit / gross margin | $78.6 million / 30.7% | $68.2 million / 30.5% |
| Operating income (loss) / margin | $4.6 million / 1.8% | ($19.3 million) / (8.6%) |
| Net loss from continuing operations | ($14.8 million) | ($23.1 million) |
| Net loss, including discontinued operations | ($37.5 million) | ($22.0 million) |
| Cash from continuing operating activities | $7.1 million | $3.5 million |
Sales increased 14.3% year over year: products rose 19.7% to $125.1 million and services rose 9.6% to $130.7 million. U.S. Debit and Credit sales grew 10.1% to $178.6 million, while U.S. Prepaid Debit grew 21.4% to $69.2 million. The top customer generated 19% of 2018 sales; the top five generated 39%.
Year-end cash was $20.3 million, working capital was $43.2 million, and total assets were $207.2 million. Long-term debt, net of discounts and financing costs, was $305.8 million; principal outstanding under the term loan was $312.5 million. The $40 million revolving facility had approximately $20 million available, subject to borrowing conditions. Net leverage was 10.9 times Adjusted EBITDA. The term loan’s stated rate was 7.02% at year-end and reset to 7.35% for the first six months of 2019. Interest expense was $23.4 million, up from $20.9 million.
Capital expenditures were $5.6 million. Cash used in financing activities was $0.5 million; CPI paid no dividends in 2018, after discontinuing its quarterly dividend in 2017. Stockholders’ deficit was $149.6 million.
Period comparisons and unusual items
- Operating results improved substantially versus 2017, which included $19.1 million of continuing-operations goodwill impairments. Higher sales volumes and a more favorable product mix supported 2018 results; higher interest expense and lower pricing on some EMV cards were offsets.
- Fourth-quarter sales rose 19.2% year over year to $68.5 million. Continuing-operations net loss was $7.2 million, compared with $14.4 million in Q4 2017; the prior-year quarter included the $19.1 million impairment. Q4 2018 operating loss was $0.4 million.
- CPI sold its U.K. business on August 3, 2018, and reports it as discontinued operations. The U.K. operation recorded a $22.7 million net loss for 2018, including $7.6 million of impairment charges and a $7.2 million loss on sale; sale proceeds net of associated liabilities were approximately $0.3 million. This drove the increase in total net loss despite the improvement in continuing operations.
- The company consolidated three U.S. personalization operations into two facilities. Related charges included $2.4 million of accelerated depreciation, $0.6 million of severance, and $0.5 million of lease termination costs.
- CPI adopted ASC 606 in 2018. For certain customer-specific card production, revenue is recognized as production occurs rather than upon shipment; 2017 comparative results were not restated. The company reported that adoption increased 2018 continuing-operations net loss by about $0.1 million relative to the prior accounting method.
Liquidity, outlook, and key risks
Management said cash, operating cash flows, and borrowing capacity should be adequate for debt service and ongoing needs, but emphasized dependence on generating excess operating cash flow. CPI reported compliance with credit-facility covenants at year-end and no required excess-cash-flow loan payment for 2018. The revolver and term loan mature in August 2020 and August 2022, respectively. No numerical 2019 revenue or earnings guidance is provided.
CPI agreed in Q4 2018 to sell its Canadian subsidiary, with closing expected in the first half of 2019; the Financial Payment Card customers excluded from the sale were expected to migrate to U.S. operations or other providers. Management cited the divestiture and U.S. facility consolidation as efforts to focus on core businesses and optimize operations.
Principal risks include substantial floating-rate debt and high leverage; refinancing and covenant constraints; customer concentration and the lack of long-term purchase commitments; pricing pressure and competition; reliance on EMV-chip suppliers; manufacturing, supply-chain, IT, cybersecurity, and data-privacy disruptions; maintaining Payment Card Brand and PCI certifications; and potential substitution of physical cards by mobile payments. The company also disclosed a derivative lawsuit that was stayed pending the final judgment in the securities class action, which was dismissed with prejudice in February 2019. Separately, a patent review found all claims in a CPI patent unpatentable; CPI appealed, and the related infringement suit was administratively dismissed pending the appeal.
Most important facts for investors to verify
- Debt capacity, interest-rate exposure, and the conditions attached to the approximately $20 million of revolver availability, particularly given 10.9x net leverage.
- Whether 2018 sales growth and improved operating performance persist, including pricing and margins in core EMV cards and growth in metal, dual-interface, instant-issuance, and prepaid products.
- The Canadian sale’s closing, customer migration, and any related costs or changes to continuing operations.
- The remaining effects of the U.K. disposal and whether any further impairment or restructuring charges arise.
- Outcomes of the derivative litigation and patent appeal, and the potential financial or operational impact of either matter.
- The balance-sheet impact of ASC 842 lease accounting, which CPI planned to adopt January 1, 2019; management expected recognition of right-of-use assets and lease liabilities, but had not quantified the effect.