CPI Card Group Inc. — FY2015 Form 10-K
Reporting period: Fiscal year ended December 31, 2015; filed March 24, 2016. The filing also reports fourth-quarter results. CPI supplies payment-card products and services, with U.S. EMV card conversion driving much of the year’s growth. 2014 included only four months of EFT Source results, acquired September 2, 2014, so year-over-year comparisons are not fully like-for-like.
Financial performance and liquidity
| Metric | FY2015 | FY2014 |
|---|---|---|
| Net sales | $374.1 million | $261.0 million |
| Gross profit / margin | $135.8 million / 36.3% | $81.7 million / 31.3% |
| Operating income / margin | $67.7 million / 18.1% | $34.5 million / 13.2% |
| Continuing-operations net income | $31.3 million | $16.0 million |
| Net income, including discontinued operations | $30.9 million | $13.3 million |
| Adjusted EBITDA / margin | $96.2 million / 25.7% | $54.2 million / 20.8% |
| Cash from operating activities | $43.9 million | $26.6 million |
| Capital expenditures | $18.7 million | $17.0 million |
Adjusted EBITDA is a non-GAAP measure; the company cautions it is not a substitute for GAAP results or cash flow and may not be comparable across issuers. Product sales rose 51.7% to $241.6 million; services sales increased 30.2% to $132.5 million. EMV card shipments were 156.6 million versus 65.3 million in 2014. The effective tax rate was 36.3%, down from 39.1%.
At year-end, cash was $13.6 million, working capital was $59.0 million, total debt was $309.0 million, and stockholders’ deficit was $86.6 million. The $40 million revolving facility had $39.9 million available. The new first-lien term loan carries a floating rate; reported rate at year-end was 5.50%. Management said cash flows, cash on hand and borrowing capacity should fund operations, debt service, capital expenditures and dividends for at least 12 months. The filing does not provide numerical forward revenue or earnings guidance.
Material changes and unusual items
- Sales increased 43.3%; operating income rose 96.4%. U.S. Debit and Credit revenue grew 72.3%, reflecting EMV conversion and a full year of EFT Source results. U.S. Prepaid Debit sales grew 11.1%; U.K. Limited sales declined 2.3%.
- Gross margin improved to 36.3%, supported by higher EMV volumes and segment efficiencies. EMV cards generally sell for more than magnetic-stripe cards but cost more to produce. EMV average selling price declined to $0.94 from $1.04.
- Interest expense increased to $18.3 million from $7.5 million, mainly due to higher average debt and $4.7 million of accelerated amortization of financing costs and discount following debt repayments.
- In August 2015, CPI refinanced its prior debt with a $435 million term loan and $40 million revolver, used proceeds in part to redeem preferred stock, and later repaid $112.5 million of term debt using IPO proceeds. The October IPO issued 15 million shares at $10 each; net proceeds were used for preferred-stock redemption, debt repayment and settlement of the phantom stock plan.
- Quarterly dividend of $0.045 per share was declared in February 2016. Future dividends remain at the board’s discretion and subject to debt covenants and other restrictions.
- The Nevada retail-card operation was sold for $5 million in January 2015; the filing reports a $0.2 million gain on sale and a $0.6 million discontinued-operations loss for 2015. The Petersfield, U.K. facility closed in August, with $0.7 million of restructuring charges.
- Full-year net income was positive, but reported loss attributable to common shareholders was $1.7 million (loss per share of $0.04), chiefly reflecting preferred-stock dividends. Fourth-quarter continuing-operations loss was $1.6 million; net loss was $2.3 million.
Outlook, risks and contingencies
Management expected U.S. EMV conversion to continue for several years, with credit and bank debit adoption largely complete by the end of 2017 and prepaid/private-label adoption continuing beyond that. Growth priorities include prepaid debit, instant issuance, cross-selling card services and selective acquisitions. These expectations depend on adoption pace; the filing warns that slower EMV conversion, longer card replacement cycles or mobile payments reducing physical-card demand could weaken volumes.
Key risks include customer concentration (the top five represented 31.5% of 2015 sales), limited long-term volume commitments, pricing pressure, reliance on five principal EMV-chip suppliers, cybersecurity and data-protection exposure, production interruptions, certification requirements, and substantial floating-rate debt. A 0.25 percentage-point rate change would affect annual interest expense by about $0.8 million on the term loan. CPI also disclosed a material weakness in financial-reporting controls related to insufficient finance expertise; disclosure controls were deemed ineffective at year-end, and remediation was ongoing.
Gemalto sued in October 2015, alleging patent infringement involving certain supplied chips. CPI disputes the claims and filed counterclaims; discovery was ongoing, no trial date was set, and the potential liability could not be reliably estimated. No accrual was recorded. Management stated it intended to defend the case vigorously.
Investor verification priorities
- Assess the sustainability of EMV-driven growth and margins, including shipment volumes, pricing, chip costs and replacement cycles.
- Separate organic performance from EFT Source’s full-year contribution and review segment trends, especially prepaid debit and U.K. operations.
- Reconcile reported net income to common-shareholder earnings, and evaluate cash conversion, working-capital needs, capex and debt-service capacity.
- Review term-loan pricing, covenants, required excess-cash-flow repayments, available revolver capacity and dividend constraints.
- Monitor remediation of the material weakness and the effectiveness of internal controls, as well as the status and potential exposure of the Gemalto litigation.