Fiserv, Inc. (FISV) Earnings Call Transcript & Summary

Welcome, everyone. I'm Tim Chiodo, I'm the lead payments processors and fintech analyst here at UBS. Getting started a little bit earlier this year. So the Monday session and kicking us off here for the conference is the management team from Fiserv. We have the CEO, Mike Lyons; and the new CFO, Paul Todd. We're going to go through a series of questions. We're going to start off a little bit of recapping some of the things that Mike found at the company this year and some of the things he's changing. We'll talk about some of the revenue decisions made. We'll talk about the new targets. We'll talk a little bit specifically on each of the 2 segments, Financial Solutions and Merchant Solutions. And then we'll get into a little bit more on the financial side in terms of CapEx with the One Fiserv initiative, divestitures and CapEx and a little bit on capital allocation. So with that, I'm going to turn it over to Mike and Todd, and I want to thank you and the full team for making the trip here to Arizona. Thank you, Mike and Paul.

No, thank you for having us. And also welcome Walter Pritchard, who's our -- as of this morning, is our new Head of Investor Relations, formerly with Palo Alto Networks and I'm sure he'll look forward to meeting all of you. But thank you for having us.

All right. Excellent. Yes, Walter, welcome. Glad to be working with you. All right. Let's start off with recapping some of the items that you described as things that you found, whether it was a culture of short-termism, some of the things you found around underinvestment. Let's keep it more to the behaviors and some of the things that you discovered and what you're changing at the company?

Sure. I think as I described, most people noticed it on our Q3 earnings call, we talked about a review of the company that had started in the third quarter and went into the fourth quarter, looked at all aspects of the company, tech, operations, competitive position of our businesses, financials, major trends in the industry. And as part of that, we use both internal -- obviously, our internal staff, but use a series of external advisers to make sure we got subject matter experts and an objective view of where our strengths, opportunities, gaps sit. And obviously, we did that as -- it started out initially as part of our annual strategic planning and budgeting process, but went much deeper, more broad and more expansive than that normal process would. And ultimately, while we don't like the outcome of what we had to say, we thought the process provided a very clear understanding of the company and what our structural growth rates and our margins are. And as part of that, which we said on the Q3 call is we adjusted our guidance to reflect really 4 things. First was Argentina, where we have a very strong business there that provides a very needed service to our Merchant clients and there's no change in what we're doing there, but very favorable cyclical patterns and developments in that country from '22, '23 and '24 gave us -- had a significant impact on our overall reported organic growth. And you peel that away and the company was sort of growing in the mid-single digits like it always was, not in the double-digit range that has been reported for those 3 or 4 years. Second big thing was just the performance of our businesses relative to expectations in the third quarter and then when we looked out for the rest of the year. Third major area was there were based on client feedback and most of our business, we have about $20 billion in revenues, $7 billion is small business driven and the remainder is enterprise-driven. Based on feedback from those enterprise clients that there were more things that they wanted around the client experience, the speed to market with certain of our products. They like the quality of products. I just wanted to get the speed to market faster and the quality of implementation and resiliency. So we introduced a series of both capital expenditures and operating expenditures to address that. And the final thing that we observed was that while any company has the ability to pursue short-term initiatives or long-term initiatives, we think striking a balance between those two is the right way to run our company, and we have been -- we had gotten overweight on short-term initiatives as part of that. And if you put those factors through, we announced what we think our long-term structural growth rate is and long-term structural margins. Obviously, that was different from the last couple of years, but it's a very clear understanding of what we're dealt with, and it is the direct impact and direct driver of where we're putting our incremental investments and directing our strategic plan.

Excellent. Thank you, Mike. All right. We're going to get into the next topic, which is around revenue. So one of the things I've noticed from discussions with investors is maybe lack of appreciation on what exactly happened in the second half of the year. Some look at it and say, man, it's really hard for a company to have trends fall off like that. When in reality, at least we can pinpoint 3 pretty specific revenue decisions that the company made, maybe there are more, but I'll outline them as some of the price reductions within Digital Payments, specifically around STAR and Accel. The second one was maybe not selling as many licenses on purpose to shift more towards recurring revenue. And the third was some of the pricing rollbacks within Clover. Maybe there are others, but those are 3 that stood out to us. Maybe you could talk a little bit about those revenue decisions and what specifically changed within each of those 3 items?

Yes. I think it goes -- if you go back to the 4 areas observed, the fourth, which was balancing -- the right balance between short-term initiatives and long-term initiatives. We didn't forgo any revenues. We're not pursuing short-term revenues. We made a series of decisions that we think best optimize the experience for the client and long-term value for our shareholders. And when we got out of balance, there were a series of decisions made to drive earnings in certain prior periods that we reversed in this period or took a different approach to STAR and Accel, we had priced -- we had gone above market in pricing on our debit. Those are 2 -- we own 2 debit networks STAR and Accel. We have gone above market pricing on those, which obviously helped earnings in a period but impacted our long-term ability to attract new clients to the networks if your pricing is high. So we made that adjustment. Second one, you talked about was license sales sort of falls into the camp of short -- you can pursue short-term initiatives, but they're not perpetual, so you can't sell an infinite number of licenses, and we made a decision there. And then on the Clover fees, very specifically, we believe we have a great product in Clover. It's a long-term part of our growth story. Our clients love the product, and we price for value in it. We have a premium price product, and we price for value. When there is an opportunity where we're either adding software capabilities or vertical expertise or horizontal expertise, you can price for it. These fees that were put in a year ago, there were a couple of fees put in a year ago that we decided weren't priced for value. And that was largely based on our conversations. We have a great distribution channel with the ISOs and a great distribution with the bank partners plus our own direct distribution channel. But based on feedback really from our partners, we thought it was the right decision not to carry on with those fees. So I think it just all falls into that initiative of what's right for the long term, what's right for the short term and striking the right balance between those.

All right. And on that Clover point, you kind of hit it there, Mike, but maybe a brief follow-up. So it sounded like maybe it was more of the end-of-life fees. It wasn't as much the buy rates. It was a little bit more on the end-of-life side. Can you just talk a little bit more about that? And I think part of the goal was to improve relationships with the broader ISO community. And if you could just talk about what you're seeing early days on that.

Yes. Just broadly on -- Fiserv has been specifically around merchant and small business has been always distributed largely through partnerships and we have 1,000 banks and growing signed up as distribution partners. We work through their small business sales teams. And then the other major distribution channel, as you mentioned, is independent sales organizations or ISOs, which are a major part of the merchant community. And we have hundreds and hundreds of long-standing relationships there, unmatched distribution network through the ISO. So when they give us feedback, either positive or negative, we obviously incorporate that into our thinking and our strategic planning. And as you said, these were very specific fees around storage and end-of-life that we didn't think based on conversations with them and obviously, then with their clients that we didn't think it struck the right balance of pricing for value. But over time, as we continue, we're investing in lots of different vectors in Clover, especially vertical expertise and horizontal expertise that if we introduce a value proposition that we'll be able to push through the ISO partners have always been there right with us to do that, but that's a partnership and a collaborative relationship to do it.

Great. Thank you. I think this next one, we can probably -- we can go to Paul. So I'm going to attempt to combine two of the questions that we had here in the interest of time. But you had mentioned certain deferred investments, right? And we should expect a little bit higher CapEx going forward as part of the One Fiserv program. Maybe you could talk a little bit around those investments. But also, what is the quarterly CapEx number directionally that you could help us and investors should be thinking about in the models for 2026?

Yes. So we talked on the last call about ramping up our CapEx from roughly the $1.5 billion range to roughly the $1.8 billion range and that's primarily due to the efforts around resiliency and some of the technology spend that we felt like we needed to do to kind of serve the customers in the way the One Fiserv and customer-first mindset that we have. And so we did absorb that step-up in CapEx to that high single-digit kind of revenue level. And we expect that as we move into 2026 to kind of continue at that high single-digit kind of revenue of CapEx stepping up from the $1.8 billion but we don't expect any kind of meaningful step-up beyond that. So that high single digit of revenue, we feel is the right level of CapEx and is consistent with kind of prior practice of the business and is the level of investment that we need to support the growth on the business going forward.

All right. Excellent. Thank you, Paul. All right. We're going to move into the -- sorry, Mike, did you want to comment or...

No. Unless you want me to.

Moving on. Moving on. All right. Let's go into the Financial Solutions segment. So this has been a big topic. We were just joking about it before. We hopped on stage here. But the core migration. So a lot of investor questions around what's been happening with the credit unions? Has that already been in progress for some time? And then we go to the banking side, is it 1,400? Is it 1,600? How many of those are an easy software updates? How many of those are migration? What are some of the processes and kind of pricing tools that you're putting in place to retain those clients? If we could clear up some of the core migration topic, I think that would be appreciated.

Sure. As a company that we provide, we are the core -- this is on the financial service side business, about half of our revenues fall into this broadly. One of the services we provide in there, we're the core banking platform for about 3,500 institutions in the U.S. We have the long tail of banks, some of our competitors, the very biggest banks are on -- tend to be on legacy systems with a lot of customization. And then there's a tier, the next tier banks or the super regional banks are on a couple of competitive platforms and then we pick up sort of $100 billion, $150 billion down. And obviously, between credit unions and banks is 8,000. So we have a significant share of the market there. It's been a great business for us for a long time. Historically, Fiserv bought cores and kept them independent, and that's how you get 16 different core platforms. A couple of things that have happened in there. We started this -- the initiative to create and invest in 5 truly modern cores really started in 2022. It was the first time I was talking about the market. So there's nothing new here. Obviously, it's gotten some attention. Split up between credit unions and banks to try to help you through this -- help you through the process, there were 11 credit union cores, and the goal is eventually to get that to 2 modern cores. We will be at 6 credit union cores next year, early next year. So 5 where -- there were 5 cores of the 11 that for some reason or another, weren't going to be supported going further, either compliance levels or the level of -- the number of credit unions on the cores, various reasons contribute to each one. So we'll be at 6 to 2 going forward next year. That process has been more of a strongly encouraged process to get down to the 6 cores. On the -- from here, from 6 to 2 and then on the banking side from 5 to 3, there is no forced conversion. We will continue to support all 11 of those cores as long as customers want to be on them. We are obviously investing to create 5 great ones, Finxact, which is the modern core. There's no conversions on or off that, just new customers coming in. Signature, which is our large bank core, no conversions on or off that coming in. Portico and DNA, Portico for small credit unions, DNA for larger credit unions and the only core in the market that really serves credit unions and banks. And then the final one is CoreAdvance. CoreAdvance, as you mentioned, will incorporate 3 existing cores, Premier, Precision and Cleartouch. Again, nobody is forced to go in there. Premier, which is 70% of the customers in that group. CoreAdvance is just an upgrade of Premier. There is no conversion. So the clear messages from here are 5 great cores going forward, very competitive -- leave us very competitive in the market. No forced conversions will support. No forced time lines. We went -- we had 4,500 clients out at our client forum in September, and we said no forced conversion time lines. If you give us a time line that you'd like to upgrade to 1 of the 5, we'll hit it. And if we don't hit it, then they financially benefit from us. And the job is on us and we're taking it very seriously. And we -- and in some parts of our practice in getting here, we didn't do as good a job as we could have done, but it's to handhold the customers that there's no forced conversion to deliver them a great experience. So there's no desire to leave outside of the core. Three, show them the value what's -- of how the new cores can enhance resiliency, enhance performance, drive new customers, allow for customized pricing, incorporate new apps and all that. And then obviously work closely with the consultant community to show them the values of it. So it's a good thing for the customer. It's a good thing for us from the 2022 period up until now, we didn't manage. In my opinion, we didn't manage the message and that conversion of the 5 as well as we could have. And for a number of months now, we're on the other side of that and aggressively working with our customers to get them the right thing. I think one of the things I pointed out on the Q3 call, and I've talked about since then is we are not in the market where the customers are saying, someone is just really beating you with -- on your cores. Your cores aren't the right technology, your cores aren't that. They're saying, we want a great experience. We want the products that you've developed to get to market faster. We want value-added solutions from you all. We want to work closely with you in terms of how we compete in a modern -- in a rapidly changing technology environment for banks. It's been an experience thing, not a product thing. And that's on us, it's just execution.

Excellent. Thank you for clearing that up. We really appreciate it. I know that investors appreciate those numbers. Another topic that comes up a lot, let's move on to the Merchant Solutions segment. So when we break down the revenue buckets within Merchant Solutions, within SMB, of course, there's Clover, and we get to just the SMB portion of Clover, backing out some of the enterprise and some of the processing. And then we get to the core non-Clover SMB. On our estimates, at least, last year, that was kind of looking flattish to slightly up. And this year, Q1, Q3, it's been negative and increasingly so, especially in Q3. There are some reasons that can kind of explain this around some of the Argentina dynamics, maybe a little bit of back book conversion coming out of this, but it's roughly a $4 billion revenue stream within Merchant and the question from the investment community is, should we expect that to continue to decline at this sort of rate? Should there be some improvement? And really, how much of that decline has been driven by any back book conversion that's been done thus far?

Do you want to comment on the numbers first?

Yes. So I mean, we wouldn't necessarily expect kind of the similar kind of movement there. I would say a couple of things. One, Argentina, obviously, is an impact there. Two, we've said as it relates to the non-Clover SMB that we're not going to force kind of people to move away from the non-Clover to the Clover. And so that would help that dynamic as that kind of plays through. So yes, we actually see on a non-Argentinian basis that actually -- to actually be positive. If you take out Argentina, that there's actually a roughly flat to slightly positive kind of piece there. And we would -- on a go-forward basis, we put all of the efforts, particularly around sales and investment on the Clover side. And so you wouldn't see the similar kind of growth rates because of that emphasis. But we don't see that as a [ thriving ] a negative growth kind of book as we look at it on a go-forward basis. And we're being very strategic about how we look at that back book and when it makes sense for customers to migrate over to Clover.

And I think your numbers, I think, tied to Paul is basically if you strip out Argentina, low single-digit growth bounces around quarter-to-quarter, a little over $3 billion in the Clover SMB book, a little over $4 billion in the non-Clover SMB book. Clover is obviously our platform of choice to go forward in for small business, but all of those revenues roll up to Fiserv today. And anything to drive any form of movement from the non-Clover SMB to Clover has to be driven by a value proposition attached to it. And whether that's continuing to build out more verticals, continuing to build out the quality of the software, continuing to refine the types of hardware we produce. But we're not just going to jam. Again, we're taking a same thing I said earlier, on short-term, long-term initiative and thinking only about the shareholder and client experience in the end, you could juice all the Clover growth you want by forcing conversion, but that's probably not good for Fiserv over time. So it's a tremendous option we have over a long period of time to be smart, thoughtful conversion where this value proposition is attached to it. Flip side to Paul raises a good point is we probably got too overweight and too focused on driving the great experience of Clover, and we think we can do some work on the non-Clover side until there's the value proposition to try to better improve the growth there.

All right. Excellent. Let's keep going with the Merchant Solutions segment, and we'll talk a little bit about Clover. So you talked about the new way that investors should think about the growth for Clover, which is volumes in the 10% to 15% range and revenues in, call it, the 15% to 20% range. So roughly 5-ish point gap. Can you -- and the question we get from investors is, well, how can we be confident that there will continue to be faster revenue growth, whether it's the SaaS packages or Clover Capital, which on our estimates is way underpenetrated versus some of the competitors? And then also some of the anticipation revenue from Argentina that could be coming into Clover.

I think you did a great job answering it. We said structurally -- important point is structurally, we said volume in the 10% to 15% range with the high end of that being driven by some form of back book conversion of non-Clover SMB and then 5 -- basically 5 percentage points of growth differential. The only differential between volume growth and revenue growth is hardware and VAS. Obviously, pricing is in both hardware and VAS. So the investments we're making, vertical expertise, which comes into the software, horizontal expertise, which comes into changing a small business instead of just running a payments box, you're running a small business box, whether that's ADP, Homebase for employee management or other services, Clover Capital over time. Certainly relative to peers, a very small penetration, both of the non-Clover base and the Clover base on Clover Capital, we've already started some work around that and continued development on the hardware side. We see that as a sustainable delta between the two, but it comes with and requires investment, and those are all the investments that, one, we factor into the numbers we gave you and that we're working on in the business. I think on the vertical side, I'd add that we're heavy where we've got this big market share, as you've outlined in -- or big, meaning greater than 10%, still a lot of white space in restaurant and retail. So we'd like to better reflect the U.S. economy to reduce cyclical either ups or downs. And that's why Clover Hospitality is coming in. Health care, we made the big investment -- doing the big partnership with Rectangle. And then [indiscernible] has talked about building out professional services.

Excellent. Okay. Let's try and squeeze in 2 final questions here if we can. It's on Merchant margins. And really, this starts out with more of a Q3, Q4 question, but it bleeds into a fiscal '26 question in terms of segment level margins. So when we look at Q3, the merchant margins were down about 50 bps year-over-year, but benefiting that margin was the $89 million gain. So if you back that out, it would have been more in the kind of down 400-ish basis points year-over-year. So with that context, how should investors be thinking about the implied margins across the 2 segments in Q4? And maybe more importantly, what's implied in the guidance for fiscal '26 on a segment level?

Yes. So we don't typically give a guide as it relates to kind of the segment margins. I would say a couple of things. So, one, you are right, as it relates to just the math, as it relates to 3Q, in the full year guide, you can kind of impute what the overall margin looks like for Q4 relative to the roughly down 200 basis points on the full year. And we've also kind of said that we're not expecting any kind of meaningful change as it relates to the financial solutions side from a 3Q to 4Q standpoint. So that kind of gives you some framing as it relates to the overall margin. And then as we look to next year, we kind of said on the last call, what we expect the overall margin to be in that 33% to 35% kind of roughly range for next year as we sit here today. And so that kind of gives you a high-level indication of where we see the margin picture for next year.

All right. If we can get another -- so another one, we talked a little bit about this before coming on stage, but the question we get from investors is around the buyback plans for next year. So I believe the commentary has been that your free cash flow number will be what it will be, and we'll use x percent of that to buy back stock. If you could talk about how investors should be thinking about that relative to some other years where you've spent more than 100% of free cash flow.

So a couple of things. I mean, one, obviously, for next year, the cash flow picture does look different. We still believe roughly the cash flow conversion percentage is roughly where it's been. So that's kind of the starting point. We -- our capital allocation principles haven't changed, and so we're very committed to our overall debt leverage and maintaining that debt leverage in the 2.5 to 3x. And then any excess cash beyond the debt leverage ratio kind of -- and as well as any other kind of cash needs as it relates to CapEx are deployed into share repurchase. It would not be the same as what it was this year, obviously, where it was more front-end loaded and that, so it wouldn't look that same. But we obviously are going to use free cash flow to buy back our shares.

Excellent. Well, we have another minute left. So given we have the time, I'm going to circle back to one that we skipped and see if we could talk about the sales hiring. So this has been a big topic in the industry, right? Square is hiring a few hundred salespeople over the next few years. Global Payments on their earnings call talked about adding 500 salespeople in North America. You recently mentioned you have roughly 600 in the U.S. that I believe are supporting specifically SMB and Clover. If you could talk a little bit about that number where it could be going and more specifically of that 600, how much of those are quota-carrying salespeople?

Yes. It goes back -- we talked about a little bit earlier is our primary distribution methods, and we think we're completely differentiated. We know we're completely differentiated, both through the bank channel where we have 1,000 banks signed up, and there's about 50% of those where we're actively penetrated. So it's -- we've signed up a lot and then you're continuing to mature our presence within those institutions. We love the operating leverage that comes with that. We have the ISO partners, which are continuing to grow long, long-standing relationships, deeply embedded into their operations and their sales practices. And then on top of that, we've always had a combined inside, outside sales force. The 600 we gave you in the second quarter call, I think, yes, they're all quota-bearing, those are traditional salespeople. There's obviously support behind those. That number has continued to grow. It will finish up 20% to 25% in the year. But that's what we're not -- I don't read into that word that we've shifted our distribution is we have a partner channel and then we're filling in, especially around specific verticals and specific products with direct salespeople or specific markets around it. We think it's a nice complement to these 2 massive channels that we have. But the -- if we continue with the investments we have around both Clover and non-Clover, Merchant, SMB and enterprise, distribution is our #1 competitive advantage, right? Nobody has what we have and it would take years and years to create that. So we don't want to ever change what we have. We just want to continue to build all the channels of it and further support it.

Perfect. Very clear in that the bank channel and the ISO channel remain the focus and the bolus of the gross adds as well.

So we love to build the direct channel alongside this. It's not a change in philosophy. It's just adding to more distribution.

Extremely clear. Well, on behalf of our team and everyone at UBS, I really want to thank both Mike and Paul and the IR team, including Walter and Nico for joining us here in Arizona. Thank you so much for being a part of our conference.

Thanks for having us.