FLEETCOR Technologies, Inc. (NYSE:FLT) Q3 2023 Earnings Call Transcript

FLEETCOR Technologies, Inc. (NYSE:FLT) Q3 2023 Earnings Call Transcript November 8, 2023

Operator: Good afternoon, ladies and gentlemen, and welcome to the FLEETCOR Technologies, Inc. Third Quarter 2023 Earnings Conference Call. [Operator Instructions]. This call is being recorded on Wednesday, November 8, 2023. And I would now like to turn the conference over to Jim Eglseder, Investor Relations. Please go ahead.

James Eglseder: Good afternoon, everyone, and thank you for joining us today for our third quarter 2023 earnings call. With me today are Ron Clarke, our Chairman and CEO; and Tom Panther, our CFO. Following the prepared comments, the operator will announce that the queue will open for the Q&A session. Please note, our earnings release and supplement can be found under the Investor Relations section on our website at fleetcor.com. Throughout this call, we will be covering organic revenue growth. Now as a reminder, this metric neutralizes the impact of year-over-year changes in foreign exchange rates, fuel prices and fuel spreads. And it also includes pro forma results for acquisitions and divestitures or scope changes closed during the 2 years being compared.

We will also be covering non-GAAP financial metrics, including revenues, net income and net income per diluted share, all on an adjusted basis. These measures are not calculated in accordance with GAAP and may be calculated differently than at other companies. Reconciliations of the historical non-GAAP to the most directly comparable GAAP information can be found in today’s press release and on our website. I need to remind everyone that part of today’s discussion may include forward-looking statements. These statements reflect the best information we have as of today. All statements about our outlook, new products and expectations regarding business development and future acquisitions are based on that information. They are not guarantees of future performance, and you should not put undue reliance upon them.

We undertake no obligation to update any of these statements. The expected results are subject to numerous uncertainties and risks, which could cause actual results to differ materially from what we expect. Some of those risks are mentioned in today’s press release on Form 8-K and in our annual report on Form 10-K filed with the Securities and Exchange Commission. These documents are available on our website and at sec.gov. So now with that out of the way, I will turn the call over to Ron Clarke, our Chairman and CEO. Ron?

Ronald Clarke: Okay, Jim. Thanks. Good afternoon, everyone. I appreciate you joining us today. Upfront here, I plan to cover 3 subjects: first, our financials, our Q3 results, our Q4 guidance and a brief 2024 preview. Second, I’ll provide an update on our strategic review and where we’re coming out. And then lastly, I’ll introduce our fleet transformation plan, which is aimed at accelerating the revenue growth of that business. Okay. Let me begin with our Q3 results, which were generally in line with our expectations. We reported revenue of $971 million, up 9%, and cash EPS of $4.49, up 6% versus last year. But it would have been up 16% at constant interest rates. Q3 macro, weaker than our August outlook. Our fuel spreads contracted about 25% in the quarter, and that was the result of a $0.50 fuel price point-to-point increase from the Q2 exit to the Q3 exit, which compresses fuel spreads.

Look, despite this weaker macro, our Q3 earnings powered through. We actually finished a few cents ahead of our August guide if you exclude just the Russia and PayByPhone transactions. Overall, organic revenue growth for Q3, up 10%. Inside of that, our Corporate Payments business maintained its 20% growth rate. So super pleased there. Our pivot, which we started last year in North America fuel away from new super small micro accounts clearly paid dividends this quarter. Our North America fuel credit losses went in half from about $24 million last year to $12 million this year. Trends in the quarter are generally quite good. Continued strong demand for our products. Our new sales, up 17% versus prior year, so very good. Retention remaining stable across the enterprise at 91%.

Our same-store sales did soften a bit, from flat last quarter to kind of minus 1 this quarter. We did notice pretty noticeable softening in our managed services subsegment in Lodging, which we’re digging into. Our Q3 EBITDA reached $529 million, $529 million, an all-time record high for the company, held by EBITDA margins, which expanded to 54.5%. That’s up about 200 basis points versus last year. So all in all, I’d say a pretty good Q3 performance. Okay. Let me make the turn to our updated Q4 guidance, which reflects a couple of changes in scope, so the Russia divestiture, which we mentioned last time, and the recent PayByPhone acquisition. We’ve also refreshed the Q4 macro, which is outlooking a bit weaker FX than we saw in August. So look, despite these adjustments and these pressures, the fundamentals, quite good such that our underlying Q4 profit guide is actually a bit stronger than our view 90 days ago.

You can see on Page 14 in our earnings supplement that refreshed bridge. So we’re updating Q4 guidance today to $968 million in revenue at the midpoint and $4.49 in cash EPS at the midpoint. So really, right on top of our Q3 print. Here again, historically, Q3 and Q4 results have been very similar. This updated Q4 guide implies a 10% organic revenue growth in the quarter and a 14% EBITDA growth. So again, the forecast, really spot on to our compounding model. Okay. Let me transition to our preliminary view of 2024, which I characterize the setup is quite encouraging. So we’re outlooking the 2024 macro environment to be neutral to maybe slightly positive. And that’s simply looking at the various macro factors as they exit this year into next year.

Revenue, we’re outlooking, again, although early, organic revenue growth in the same 9% to 11% range. That’s consistent with prior years. And then lastly, kind of the key profit drivers of the business generally setting up favorably. So we’re expecting lower bad debt, flat to lower interest expense, and a stable tax rate and share count. So generally, a good setup. So look, although it’s early days in our ’24 planning, I’d say we generally like what we see. All right. Let me shift gears and provide an update on our strategic review. As a reminder, the goal of our strategic review or portfolio review is really twofold: so first, to make a simpler company; and then second, to evaluate separation options to increase shareholder value. On the simplification front, we’ve done a few things.

We’ve sold Russia. We decided to keep our prepaid business although we are working a couple of other non-core asset sales. And we’re moving to 3 primary reporting segments, all of these things to make a simpler company. On the separation front, we’ve concluded not to pursue a pure spin, and that’s mainly looking at RemainCo derating risk. We’ve also decided not to pursue a strategic sale. Primarily, they are due to tax leakage and our estimate of dis-synergies. But we are continuing to evaluate a couple separation alternatives with partners that we think are potentially pretty attractive. So we do expect to conclude those discussions with the counter-parties over the next 90 days, and we’ll certainly report back then. Okay. My last subject is to introduce our fleet transformation plan, which we believe is the single most important thing, effort to unlock shareholder value and re-rate our stock.

So the objective of the fleet transformation plan is to accelerate our global Fleet business growth in the double digits, so that we have 3 big primary businesses that can all target double-digit revenue growth. We have prepared a few slides in our lengthy earnings supplement beginning on Page 22 to help walk you through how we intend to accelerate fleet growth. The plan really centers around 3 big ideas. So first, BAU. On the BAU front, we plan to get at performance improvement through new fleet products, which we’re leasing into the market now. And these products join up with our corporate payment products to really create a differentiated offering in the marketplace. As you may recall, we’re also pivoting that business from kind of small micro prospects to a bit larger seam prospects, both from repointing our digital marketing machine and adding additional field and Zoom reps targeted at this slightly larger market segment.

The emphasis will be on two primary verticals. Those are field services and construction, both of which are big significant opportunities. Second, underpinning for the plan is EV. We believe we can capitalize on the EV transition. We’re getting much more confident that our 3-in-1 commercial fleet EV-ICE solution is really is a winner and that we can maintain or maybe even increase our fleet revenues throughout the transition. So early experience in the U.K. over the last 11 quarters bears this out. Revenue per EV vehicle running higher than revenue per ICE vehicle. So again, pretty positive. Then lastly, is this idea of a consumer vehicle payments business versus just the B2B vehicle payments business. And so the idea is to further expand on that front and really just leverage the networks, the payment networks, the merchant relationships we have, that we built on the B2B side over the last 20 years.

So the idea would be we start with anchor apps. So think toll tags in Brazil or digital parking in the U.K. that have millions of active mobile users and then offer additional vehicle payment-related solutions that utilize our payment networks. So for example, utilize our EV network or utilize our service repair network. We’ve demonstrated success in this approach in Brazil. Over 60% of our active consumer toll users now use a second or even third payment solution like parking or insurance. So we think, pretty exciting. Additionally, this consumer vehicle payments push does open up additional interesting acquisition targets. For example, PayByPhone and literally other ones as well. So look, we believe that we have the potential to incrementally drive the overall fleet/vehicle business into double-digit territory via these 3 ideas.

So again, kind of new fleet products, combined with corporate payment products targeted to a couple of big verticals, success in the EV transition and the build-out of a big billion dollar consumer vehicle payments business, clearly well underway in Brazil, and then we hope to accelerate with this PayByPhone acquisition. You can actually see our forecast math, the build to $1 billion, on Page 29 of the supplement. This anticipates that this expanded consumer vehicle leg growing fast can pull a low single-digit core fleet card business into double-digit growth territory. So literally, maybe 12%. So look, in conclusion, today, we’re forecasting 2023 pretty much where we started out in February of this year. In and around $17 of cash EPS. That’s despite selling Russia and having a bit unfavorable macro.

’24 outlook early, but I’d say encouraging. Still busy on some active separation, discussions with some counter-parties. We expect to conclude that in 90 days. And then lastly, this fleet transformation plan, we think, quite exciting. We believe it has the potential to reaccelerate the Fleet business and really potentially lift the entire enterprise to faster growth. So with that, let me turn the call back over to Tom to provide some additional detail on the quarter. Tom?

Thomas Panther: Thanks, Ron, and good afternoon, everyone. Here are some additional details related to the quarter. Let me start by acknowledging that it was an active quarter with the sales of the Russia business, the acquisition of PayByPhone and significant movements in fuel prices and FX rates. I’ll address the impact from each of these factors to better compare our actual results to our previous guidance. First, our prior guidance included a full year of revenue and earnings from the Russia fuel business. Based on the August 15 closing date and final cash proceeds, the disposition of Russia resulted in $12 million of lower revenue and $0.06 of lower cash EPS. Secondly, the acquisition of PayByPhone on September 15 added $2 million of revenue and was $0.01 dilutive to adjusted earnings.

Turning to the macro headwinds in the quarter. Compared to the assumptions used for our guidance in August, the total negative impact was $17 million. Average fuel prices of $3.88 were 7% higher during the quarter, resulting in a $4 million benefit. However, it’s important to note the point-to-point increase in fuel price from July 1 to September 30 was around $0.50. The majority of this 15% increase occurred in August and plateaued for the remainder of the quarter. Underlying that rapid increase in the retail fuel price was an even greater increase in wholesale fuel costs, which compressed fuel spreads approximately 25%, compared to our forecast, adversely affecting revenue by $13 million. So the net impact from changes in fuel prices on revenue was a $9 million headwind.

It’s typical when fuel prices rapidly increase for spreads to compress due to wholesale fuel prices increasing faster than retail prices, which can overwhelm the fuel price increase benefit. We get asked regularly, if there’s a way to track the price and spread impact. We found that OPIS or the Oil Price Information Service, which is a subscription-based provider, does a good job depicting retail and wholesale fuel prices and the resulting spread. Now turning to FX rates. The significant strengthening of the dollar beginning in August, when the Fed’s tone became more hawkish, caused the dollar to strengthen relative to our foreign currencies, resulting in an $8 million drag on revenue. In summary, if we knew in early August what we know now about these factors I just discussed, our guide would have been revenue of $963 million and cash EPS of $4.33 per share compared to our reported results of $971 million and $4.49 per share.

The majority of the $8 million revenue beat came from our international businesses. Our earnings out-performance is particularly impressive because the flow-through of our revenue results, combined with our strong expense management and lower bad debt expense, enabled us to power through the macro headwind and still exceed our pro forma August cash EPS guidance, when adjusting only for the impact from Russia and PayByPhone. We’ve included Slide 7 in our earnings supplement that walks you through these moving parts. Now on to more details regarding our results for the quarter, focusing on year-over-year revenue growth. Organic revenue growth was 10%, reflecting the diversification of our business and the realization of the strong sales that we’ve produced throughout the year.

Year-over-year, lower fuel prices resulted in a $12 million reduction in revenue, and lower fuel price spreads reduced revenue by $23 million. FX rates were favorable relative to last year, translating into a $15 million benefit. So net-net, a $20 million macro headwind versus last year. Putting aside the macro noise in comparison to our prior guidance, GAAP revenue increased 9%, which reflects the business’ ability to consistently deliver solid revenue growth. Corporate Payments revenue was up 20%, driven by 20% growth in spend. Strength in our direct business, which grew over 30%, was again led by outstanding growth in full AP. Our comprehensive menu of high-quality payment solutions continues to sell extremely well, up 28% as we sign up new customers who are looking to modernize their AP operations.

We also continue to expand our proprietary merchant network and increase the amount of cardable spend. Cross-border revenue was up 19% as sales also grew 28% and recurring client transaction activity was robust. We are the largest nonbank FX provider in the world, and the name recognition we now have is a real advantage when we compete for our clients’ business. More importantly, our best-in-class capabilities, service and products allow us to have market-leading retention and client acquisition, which you can see in our results. Turning to our Fleet business. Organic revenue increased 4%. We experienced strength in our international markets. And in the U.K., we are pleased with the continued strong sales performance of our 3-in-1 product offering, which customers find very attractive as they add EVs to their fleet.

In the U.S., some softness in small fleet, in addition to the impact from our shift away from micro clients, are affecting our sales and overall results. Our shift to higher-credit quality clients also impacted late fees, which were down 21% from Q3 2022. While the decline in late fees results in a drag on our revenue growth, it has been more than offset by a decline in bad debt expense, which I’ll comment on later. But it’s important to point out that our decision to pivot up market has been EBITDA positive. Lastly, as Ron mentioned, we continue to refine our go-to-market strategy to acquire larger customers and we are excited about the rollout of additional products that we expect will drive a significant uplift in sales heading into next year and going forward.

Before I move on, Ron addressed the PayByPhone acquisition and how it fits into our fleet transformation strategy. To give you some deal specifics, PayByPhone is the world’s second largest global parking payments platform, with over 6 million monthly active users on its mobile app. Their network covers approximately 4 million parking spaces primarily in North America, the U.K. and Europe, and they process over 200 million transactions annually, totaling $900 million in spend. We paid approximately $300 million for the company and expect to realize about $50 million in revenue next year. Now to Brazil, where revenue grew 16% compared to last year, driven by 7% tag growth. Our tag growth enables us to further increase the proportion of revenue from our expanded network of products where we earn incremental revenue.

In the quarter, approximately 35% of customer spend was from our expanded network. Fuel is a great example of how we’re expanding our product network with the number of tag-enabled gas stations growing 25% and transactions up over 40%. Our extensive network enabled us to generate 20% sales growth in the quarter over the prior year with almost 30% of the sales coming from non-tag products. Our success in Brazil is a tangible proof point of our broader vehicle payment strategy, where we leverage an anchor product used by a large customer base to deliver additional products and services driving incremental revenue growth. Lastly, we’ve received some questions over the last several quarters about the potential impact of the Brazilian government deploying free-flow tolling, where the toll station reads the license plate and the individual pays the toll after the fact by going to a website.

Now that these free-flow stations have been in place for a few years, our experience is that we actually sell more tags when these toll stations are installed because the tag user receives a small discount and is able to pay the toll automatically via their tag. This frictionless customer experience drives incremental demand for our product. Lodging revenue increased 10% against a tough prior year Q3 comp where the business had grown 28%. It’s not unusual for the business to have quarterly revenue growth fluctuations driven by weather and natural disaster variability. Year-to-date, the business is up 16%. This quarter’s performance was highlighted by sales success across our industry verticals. In addition to revenue per night, which increased 20%, driven primarily from channel and product mix, namely from our distressed passenger product and higher hotel commission revenue.

Offsetting that to some degree was softness in our construction and transportation verticals as the weaker macroeconomic environment is impacting these sectors. We expect this softness to rebound as the economic outlook becomes clear. Before leaving the segments, I want to briefly comment on our expectation to move to 3 primary business segments. We’re making this change in how we operate the company in the fourth quarter and reflect the new segments in our 10-K. Now looking further down the income statement. Operating expenses of $526 million represent a 4% increase versus Q3 of last year, driven by acquisitions, increases tied to higher transaction and sales activities, and investments to drive future growth, partially offset by lower FX rates and the sale of our Russia business.

Bad debt expense declined 22% from last year to $29 million or 6 basis points of spend. Within that, fleet bad debt expense was down $15 million year-over-year as we realized the benefit from lower exposure to micro clients as previously discussed. EBITDA margin in the quarter was 54.5%, a 225 basis point improvement from the third quarter of last year. After normalizing for the Russia sale, we still expect our full year EBITDA margin to exit this year 200 to 250 basis points better than the prior year. This positive operating leverage is driven by solid revenue growth, lower bad debt expense, disciplined expense management and synergies realized from recent acquisitions. Interest expense increased $43 million year-over-year, driven by the increase in SOFR on our debt stack and higher debt balances driven by acquisitions.

The impact of higher interest rates resulted in an approximate $0.44 drag on Q3 adjusted EPS. Our effective tax rate for the quarter was 26.6% versus 26.8% last year. Now turning to the balance sheet. We ended the quarter with $1.1 billion in unrestricted cash and we had $660 million available on our revolver. We have $5.6 billion outstanding on our credit facilities, and we had $1.4 billion borrowed under our securitization facility. As of September 30, our leverage ratio was 2.66x trailing 12-month EBITDA as calculated in accordance with our credit agreement. We repurchased 2 million shares in the quarter for $530 million, including the ASR we announced in conjunction with the Russia sale. And we have over $700 million authorized for share repurchases.

We have ample liquidity to pursue near-term M&A opportunities, and we’ll continue to buy back shares when it makes sense. Now turning to our guidance. Let me start by bridging the implied Q4 guidance we provided in August to reflect the acquisition and divestiture activity during the quarter and current macro environment. The sale of the Russia business would reduce revenue by $30 million, and the acquisition of PayByPhone would increase revenue by $10 million. We’re now expecting a $20 million macro headwind versus what we thought back in August, driven primarily by worse FX rates, partially offset by higher fuel prices of $3.96. Making these pro forma adjustments to our prior Q4 guide lowers revenue to $968 million and adjusted earnings per share to $4.34 per share at the midpoint.

We’ve included Slide 14 in the earnings presentation that lays out these factors. With that pro forma reference point established, let me comment on our Q4 outlook that includes the factors I just mentioned. We’re expecting revenue to be between $953 million and $983 million, representing 10% growth versus last year at the midpoint. And we expect adjusted net income per share to be between $4.34 and $4.64 per share, which, at the midpoint, is up 11% over what we reported in Q4 2022. So similar to the third quarter, we expect to generate solid year-over-year revenue and earnings growth despite some softening economic conditions in our markets. Based on this Q4 guidance, for the full year, we now expect GAAP revenues between $3.774 billion and $3.804 billion, adjusted net income between $1.252 billion and $1.276 billion, adjusted net income per diluted share between $16.82 and $17.12 per share, and EBITDA growth of 14% and EBITDA margin of 53%.

Thank you for your interest in FLEETCOR. And now operator, we’d like to open the line for questions.

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Q&A Session

Operator: [Operator Instructions]. Your first question comes from the line of Sanjay Sakhrani from KBW.

Sanjay Sakhrani: Good results in a tough backdrop here. Ron, could you give us a little bit more color on the strategic actions you’re considering in this spin-or-merge scenario with these partners? Maybe you can just speak to what certain permutations might be?

Ronald Clarke: Sure, Sanjay. So it’s really mostly in around our Corporate Payments business. And so we have a couple of interesting counter-parties where we might separate something and actually have a pure play that has more scale and synergies and stuff. And so we’re kind of in the final mile of working through those conversations and seeing whether there’s something there.

Sanjay Sakhrani: Understood. And then sort of appreciate the preliminary organic revenue outlook for next year. I guess when we think about the different variables from a macro standpoint, whether it be the economy and then obviously FX and such, can you just give us a sense of sort of where we’re at with that? Like what are you guys baking into that organic growth in terms of backdrop, the macro backdrop?

Ronald Clarke: Yes. I think generally, the comment I gave is comp. So if you look at the various macro factors and the way we’re exiting both fuel price spreads, FX, et cetera, I’d say that sitting here today, it feels like kind of a neutral-ish to maybe a smidge positive. And so obviously, our organic stuff puts that to the side, right, that it is between print and organic. But I’d say I did want to just provide a bit of a preview that unlike this year, Sanjay, with interest rates up, whatever, 400 basis points, that the grow over basically across some of our key profit levers looks quite good. So the setup looks way more normalized than it has in the last couple of years.

Operator: And your next question comes from the line of Tien-Tsin Huang from JPMorgan.

Tien-Tsin Huang: I know you guys covered a lot here. I wanted to ask on the — maybe for you, Ron, just on the consumer vehicle payments, the $1 billion that you’re talking about ’27. Do you have the assets you need today to get to that $1 billion? And do you expect the margin profile at that time to be different since this is a consumer or CDP business as you called out?

Ronald Clarke: It’s a great question. Good to talk. We can only get into this debate, Tien-Tsin, tonight. So yes, we’ve got a couple, I’d say, of additional transactions that we’re looking at to fill out a couple of the product lines. But this is — I don’t know how clear I was in it, but mostly an organic play where we get — we use basically these big consumer active blocks, right, of accounts and just match it up with what we already have, right, which is the payment network and the merchants. And so the million dollar question there, Tien-Tsin, is just that velocity. So when we show 2 million people some additional related things, what’s the take rate going to be? So I’d say that most of the thinking, both studying what we’ve done in Brazil and obviously studying this deal, the view is that it’s organic.

And the key, as you heard me talk a million times, is cost of sales. That’s the key to growth and profitability. And so the good news is our view is we’re not going to do tons of marketing. Hey, let’s go out and spend gazillions of dollars, but rather try to light up big bases. So I’d say we like the EBITDA profile basically and getting that thing to go. So a couple more deals and mostly organic, that’s the game plan.

Thomas Panther: Yes. And Tien-Tsin, we wouldn’t expect it to be margin dilutive. Again, look at Brazil as our bellwether. It has attractive margins across the rest of our portfolio. So we think that’s a good indicator of what the overall business can be as it expands.

Ronald Clarke: To add on to tension, as you know, we’re always lower cost, right, than new, new accounts.

Tien-Tsin Huang: Sure. No, I like it. I mean it’s exciting. I think getting into the consumer side and getting the synergies there make a lot of sense. Just curious on the cost side, as you called out, but I’m sure you’re thoughtful about that. And I’m glad to hear that it’s in your margin zone. Just on the — my follow-up then, just the 3 business lines and the cleaning up the reporting segments. I know we’re going to get more. But is the general idea that it’s going to be Corpay, vehicle payments and, I suppose lodging? And can you give us an idea on the margin differences between the three? Because I think as we’re thinking about our own sum of the parts, I know there are a lot of different views on the profitability across those three. But is there any high-level thoughts that you can share on that?

Ronald Clarke: Yes. Let me start, Tien-Tsin, just on the segments, yes. So segment one will be vehicle, which will be our global Fleet business, our Brazil business and then honestly, really, this consumer, which is a big part of the Brazil thing today, so the PayByPhone and the other things would be in that. Second business, obviously, Corporate Payments and then third business, Lodging. So those would be the three lines.

Thomas Panther: Yes. And for your modeling, we’re really just combining Fleet and Brazil today. And so based on how we report operating income and how you may model the business at a more detailed level, it would just be a simple summation of those two. We wouldn’t anticipate any type of shift in the margin profile. It’s just bringing those two together into the vehicle payments segment.

Operator: And your next question comes from the line of Darrin Peller from Wolfe Research.

Darrin Peller: I mean sticking to just the current — the segment themselves from this past quarter, they were strong in the Corpay side. And then suddenly, you hear that’s such an important part of the strategic thinking going forward. But Ron, I’d love to just hear what you see going well there. There’s obviously a lot of competitive chatter going on around macro headwinds, some debating structural changes. So just talk to us a little more about your strategic plans on that segment before any real mergers or anything else. Just standalone, what’s going well? What do you anticipate it to look like over the next year?

Ronald Clarke: Good question, Darrin. Mostly everything, right, is going well to post, I don’t know how many quarters now, 20%. But quite a few from where I’m looking at going forward. And I think the sales inside of the 17% were in the mid-to-high 20s for that line of business, so that tells us that we’re selling a lot. There’s a lot of demand. In terms of what’s working well and not well today, everything is working well with the exception of that channel business, which we’ve spoken of. So again, that thing continues to decline but will become, as you know, a much smaller part of the total, which implies again that the direct business is growing closer to 25% to 30%. So look, as I said before, we spent whatever the last couple of years assembling stuff, right, software, getting scale, getting more scale across border.