Fidelity National Information Services Inc. (FIS) reported first quarter 2011 earnings of 45 cents, in line with the Zacks Consensus Estimate and management’s guided range of 44 to 46 cents. Strong revenue growth, partially offset by higher costs resulted in the quarter’s performance.
Operating Performance
Earnings per share (EPS) on a non-GAAP basis from continuing operations was 45 cents, up 9.8% year over year and also ahead of the year-ago quarter earnings of 41 cents a share, driven by lower share count, higher revenue and lower tax rate.
First quarter EPS was negatively affected by integration and severance costs of roughly 1 cent and Sunrise prepaid loss of 3 cents. Fidelity incurred a loss of approximately $13.0 million during the first quarter of 2011 related to the unauthorized activities involving one client and 22 prepaid card accounts on its Sunrise platform.
Adjusted net earnings from continuing operations totaled $137.7 million compared with $168.9 million in the year-ago quarter.
Gross profit increased 7.9% year over year to $451.4 million. Gross margin was 32.6% compared with 33.6% reported in the prior-year quarter.
In the first quarter of 2011, EBITDA on an adjusted basis inched up 0.9% year over year to $368.3 million, lower than management’s guided range of $370.0 to $380.0 million. EBITDA margin plunged 280 basis points (bps) from the prior-year quarter to 26.6%. The year-over-year decline was attributable to a higher mix of low margin professional service revenue, lower license revenue and increasing costs.
Operating income was $277.9 million, slightly down from $278.6 million in the prior-year quarter. Operating margin was 20.0%, down 240 bps from the prior-year quarter. Higher selling, general and administrative expense (SG&A) (up 24.1% year over year) led to the decline in operating margin.
Revenues
Revenues on a non-GAAP basis were $1.38 billion, up 11.2% year over year in the first quarter. This was in line with management’s guided range of $1.36–$1.38 billion for the quarter and surpassed the Zacks Consensus Estimate of $1.37 billion. Revenues increased 6.2% organically, driven by strong results from Financial Solutions and International Solutions.
Segment Results
Financial Solutions revenues rose 13.6% year over year (7.1% organically) to $503.7 million, boosted by growth in professional services, increased processing revenues, including new client implementations and the addition of Capco’s North American operations.
EBITDA was $195.1 million, up 4.6% year over year, but the margin declined 340 bps to 38.7%, reflecting a higher proportion of low-margin professional services, including Capco.
Payment Solutions revenues of $614.5 million in the first quarter inched down 0.7% year over year, due to lower item processing and retail check activities that fully offset growth in electronic payment services, card production and output solutions.
EBITDA was down 4.4% year over year to $219.3 million, and EBITDA margin decreased 140 bps to 35.7%, reflecting growth in lower-margin businesses, reduced license revenue, and integration and severance costs of nearly $4.0 million that are included in the current period.
International Solutions revenues totaled $268.1 million, up 48.6% year over year (27.5% organically). The strong results were driven by higher volumes from its Brazil card processing operation, growth in professional services, higher license revenue and the addition of Capco’s international operations.
EBITDA increased 44.2% year over year to $48.9 million. However, EBITDA margin decreased 60 bps to 18.2% in the quarter, reflecting a higher proportion of low margin professional services, including Capco.
Liquidity
As of March 31, 2011, cash and cash equivalents were $384.1 million compared with $338.0 million as of December 31, 2010.
Fidelity’s balance sheet is highly levered. Long-term debt (including the current potion) at the end of the quarter was $5.00 billion compared with $5.19 billion in the previous quarter.
Capital expenditures in the first quarter totaled $71.6 million versus $86.7 million in the previous quarter.
The company generated $260.2 million in adjusted cash from operations versus $308.3 million in the previous quarter. Free cash flow (on an adjusted basis) decreased to $188.6 million from $221.6 million in the previous quarter.
Guidance
Fidelity projects adjusted earnings per share from continuing operations between $2.24 and $2.34 for fiscal 2011, up 11.0% to 16.0%, compared with $2.02 in fiscal 2010. Currently, the Zacks Consensus Estimate is pegged at $2.32, roughly in line with the high end of the guidance.
Revenue is expected to grow in the range of 9.0% to 11.0% (4.0% to 6.0% organically) for fiscal 2011.
We believe Fidelity’s increasing penetration into emerging markets such as Brazil and China will drive organic revenue growth over the long term.
EBITDA is projected to increase 7.0% to 9.0% and free cash flow is expected to approximate the adjusted net earnings in 2011.
Recommendation
We maintain our Neutral rating on a long-term basis (for the next 6 to 12 months), primarily due to increasing debt and intense competition from Fiserv Inc. (FISV), International Business Machines Corp. (IBM), Accenture Plc (ACN), Alliance Data Systems (ADS), MasterCard Incorporated (MA) and Visa Inc. (V).
Increasing consolidation in the banking sector, a challenging environment for the Payments Solutions business and an uncertain regulatory environment are the primary business headwinds in our view.
However, Fidelity’s commanding position in the financial services market, increasing international exposure, recurring revenue model, cost synergies from acquisitions and a loyal customer base will drive growth over the long term.
Currently, Fidelity has a Zacks #4 Rank, which implies a short-term Sell rating (for the next 1-3 months).
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