On Oct 15, we issued an updated research report on Total System Services Inc. (TSS). The company’s conservative debt strategy and strong cash flows have paved the way for modest shareholder return. However, stiff competition, regulatory challenges and higher expenses raise concern.
Additionally, this Zacks Rank #4 (Sell) stock delivered negative earnings surprises in two of the last four quarters, with an average miss of 4.2%. The company’s second-quarter 2014 earnings were in line with the Zacks Consensus Estimate, though it topped the year-ago quarter figure by about 17%.
A rising trend has been witnessed with respect to total operating expenses, which rose 36.9% year over year in first-half 2014. Subsequently, operating margin shrunk to 15.0% in first-half 2014 from 18.6% in the year-ago period, 18.1% in 2013 and 19.1% in 2012.
Growth outlook for operating margins in 2014 also appears stressful and indefensible given additional expenses related to the NetSpend acquisition as well as loss of revenues from discontinued operations in Japan. This is also reflected in management’s growth projection of operating earnings per share in the band of 10–12% in 2014, which is noticeably lower than 18% growth recorded in 2013.
Nevertheless, Total System is well positioned to tap the rapidly growing digital payments and prepaid cards market, along with forming strategic merchant acquiring alliances. The total acquisitions, primarily including NetSpend, have been contributing about 31.6% to top line in first-half 2014, up from 16.7% in 2013 and 1.8% in 2012.
Additionally, strong double-digit growth in cardholder transactions and revenues as well as improved operating cash flow, which rebounded by surging 52.3% year over year to $239.4 million in first-half 2014 after declining in 2013, supported share buybacks during second-quarter 2014, after about a year of lull.
Overall, a balanced risk-reward profilein the near term has led to estimates hitting a plateau for 2014 and 2015. As a result, the Zacks Consensus Estimate for 2014 and 2015 remained intact at $1.77 and $2.07 per share, respectively, in the last 30 days.
However, the Most Accurate estimate for Total System’s 2015 earnings currently stand at $2.15 a share, resulting in an Earnings ESP of +3.9%. On a year-over-year basis, earnings are expected to increase 10.5% in 2014 and 16.9% in 2015.
Key Picks in the Sector
Stocks that look promising in the financial sector include Visa Inc. (V), Fiserv Inc. (FISV) and Equifax Inc. (EFX). All of these stocks carry a Zacks Rank #2 (Buy).
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