Jack Henry & Associates, Inc. (JKHY) Earnings Call Transcript & Summary

Thank you, and good morning, everyone. This is Tim Willi with Wells Fargo Securities. Thrilled to have with us this morning Kevin Williams, the CFO of Jack Henry, one of the leading bank technology providers. Before we get started, anybody that wanted to e-mail me a question to ask during the presentation, if you don't have my e-mail address, it's timothy.willi, that last name is W-I-L-L-I, [email protected]. Feel free to e-mail me, and we'll definitely try to get your question in.

So Kevin, thanks again very much for taking the time this morning. Maybe just to kick off, the first question I'll throw out there is sort of a high-level state of the industry. I think one of the things that has surprised investors through this pandemic has been the resiliency of bank spending. Historically, in slowing economies and recessions, banks cut costs, they cut back on all types of spending. That hasn't been the case with this one. So just sort of any thoughts? You're obviously talking to the bankers, the salespeople, et cetera. How would you sort of describe what's going on and sort of how you feel about the outlook for the next 3 to 4 quarters of your fiscal year?

Yes. So first of all, Tim, thanks for inviting me. I'm glad I could be here today. Actually, I wish we were here together doing this today, but it is what it is. You're right, spending has stayed pretty solid or at least contracting. When we announced our year-end, and we're a June 30 year-end, we announced that our Q4 was the strongest contracting quarter in the history of the company. June was the strongest month, which goes against everything that you would think would go wrong. But the one thing people need to remember is what we're going through today is very unlikely what we went through in 2009 and 2010, because that was a financial crisis. I mean that was when the banks were really damaged, their balance sheets were impacted because of all the bad loans. And there may be some bad loans, but they're yet to come. So I mean the banks went into this in extremely good shape. Their capital positions were extremely solid. And banks know that they need to have the best technology knowledge to compete. But also through this -- and we saw a little more demand in products that a bank or credit union can allow their end users, their customers or small businesses or members of credit unions to do all their banking at home. So the technology for everything digital, which is our Banno digital platform, our Commercial Lending Center Suite, debit cards, online bill pay, I mean, those -- all those things have been selling very good. And we saw a little weakening in the contracting for core prior to COVID hitting last March. We had been signing a new competitive core takeaway on average per week for the previous 2 to 2.5 years. Q4, we only signed 7 new core deals, which still is pretty strong, considering what we're going through with the pandemic. And then in Q1 of this year, we signed another new 7 core competitive takeaway deals. And the RFP pipeline really got robust in Q1 and continues into Q2, so -- which bodes well, hopefully, for contracting in the second half of this fiscal year. Because typically, a sales pipeline on a core deal is typically 9 months average. And so the deals were coming in Q1. Hopefully, we'll see some contracting in the -- later in the second half of this fiscal year. But all in all, the contracting and spending has been good. We continue to see a huge demand for our digital and basically everything digital. Banno, we just installed. Banno just hit prime time about this time a year ago. We're now up to installing 40 Banno platforms a month. So yes, contract is good. Spending is good. Banks know that they have to continue to become more efficient, especially in science, and that's done through technology.

Let me ask you a couple of things on this topic. Number one, core. I think there was probably some noise out of the quarter about the soft -- kind of [ things ] soft around the core. There's definitely a point in time where core sales were what it was for Jack Henry if we go way back, big licenses, big revenue pops. We've obviously moved the business model quite a bit to the monthly and the recurring. And at the same time, you built out a really big product suite originally through the ProfitStars effort and then just in general. How critical is a strong core pipeline and sales backlog to the revenue growth that people at Jack Henry expect versus all of the other add-ons and products and services that just build on themselves?

So I mean core is important. And obviously, we continue to call ourselves -- we are a core provider. Yes, we're big in payments. I mean 35% of our revenue is payments. But we are still truly a core provider, and that's the #1 thing to us. We want to own the core relationships, so we can sell other things. So as far as revenue growth, Tim, I mean, we just need to sell about the same number of cores this year as we sold last year just to stay level on revenue for the core part of it. And then we cross-sell all of the additional products. Our existing customers are growing, which drives additional growth. We've got the on-prem to our private cloud movement, which drives growth. So the growth for us comes from several different areas. Core is just one small piece of the pie.

Yes. So let me -- you brought up digital and banks. And clearly, there's an imperative there around spending. Could you talk about the competitive landscape, particularly in the digital world, right? There have been some new names in the public markets like nCino and you had Q2 out there for a while and maybe some others in digital banking. We'll probably see others around B2B, et cetera. How do you think banks think about looking at those entities to address a need and then versus yourself? And then how do you think your products sort of stack up in the areas that really matter versus -- I'm sure there's a lot of noise out there. So I guess I'd say, first of all, digitally what matters to banks versus what's the noise in the shiny objects? And how do you think about your product set competitively? And where are you investing?

Yes. And -- I mean you hit on 2 of the bigger areas right there, and that's digital with what our Banno Platform takes to the market; and then the Commercial Lending Center Suite, which competes very well with nCino. So -- I mean those -- and those are probably the 2 best known names in the market out there. You're right, there's other players out there, but it's probably Q2 on digital and nCino on the commercial lending side. And we -- our products stack up extremely well against them. In fact, there was a recent survey done by an independent group called FI Navigator that ranked our Banno solution the #1 digital offering in their app store. And that -- and all the other players were in there, but they were all listed down below us in the top 15 digital offering. So Banno is a very strong product. It's growing very fast. Like I said, we just installed -- we're up to installing 40 a month now, but there's a huge opportunity there, because out of our 1,700-plus core customers, less than 400 of them are on Banno Platform today. So there's a huge upside there. Banno is also core agnostic. So eventually, we will take it outside the -- outside of our core base. We don't see a lot of competitors coming into our core base, because Banno is such a strong offering. Just like on the commercial lending side, our Commercial Lending Center Suite is such a strong solution that competes extremely well against nCino that we don't have much competition within our base there as well. So I think we are in a very good position with our products, and those are probably the 2 major digital offerings. So you can basically do everything from home and you can go online, open accounts, debit accounts, you can take out loans online, you can do e-sign. You can basically do anything you want to -- if a bank or credit union has our technology and those platforms, they can basically allow their customers or members to do all their banking from the comfort of their couch at home.

Is there anything when we think about the digital transformation that's occurring across society, businesses, consumer preference? Within banking, obviously, digital banking, mobile banking, you just referenced around the lending and things of that nature. Is -- are there other areas that haven't yet moved to the forefront. But as we sort of come out of this and banks really think through what happened during the last 9 to 12 months, whether that be the branch consolidation and shrinking the branch count and what that might mean for physical delivery, ATM, self-banking, some -- maybe stuff around security or compliance as you go into a more digital world with more digital interactions, cross-selling where you don't see a customer, how do you sell to somebody you don't see? Are there other opportunities you think are sitting out there beyond the top-of-mind mobile banking and lending that we just discussed that you think we could be talking about in a year, 18 months from now?

Yes. I think, Tim, the banks and credit unions are probably going to experience some of the same things that we're experiencing and I'm sure many companies are experiencing. As an example, back in March, we went from 27% of our employee base worked remotely to 97% overnight. And so -- and in the last 9 months, our customer satisfaction ratings have actually improved, and our call center response times have actually gone down, which is an improvement. So will we ever go back to having 70% of our people in the office? No, I'm sure we won't. I mean will it be 50%? I don't know. It will probably be next summer sometime after we get a vaccine before we even determine that. But I'm sure banks and credit unions are going to be like us. There's going to be some real estate rationalization. Do we really need all the offices we currently have? The answer is probably not. So you're right. I think there will be branch consolidation. I think banks and credit unions have figured out that their employees can be pretty successful working at home, work remote. So I think you're going to see a lot more of that. So there will be some cost reductions and cost takeouts due to branch consolidation. Will there be need to be kiosks and ATMs for the people that still want that? Absolutely. And that's one of the things that Banno brings that is unique to the marketplace is our developers have developed what's called Banno Conversations. So you can -- as a customer of one of our banks, you can actually start an encrypted text message with the customer support rep that's encrypted, so you -- they can actually share bank data. And I don't think any other provider has that. So what people are doing is they're actually pushing the customers out of the banks and out of the branches, but now they're just connected through a digital channel with no true communication. What we're providing is that additional one-on-one customer support, so you can actually see the person that you're actually chatting with. So it's truly an online encrypted chat. So I think there's -- I think we're going to see more of that. And obviously, securities is -- it's already huge, Tim. So -- and I'm sure there'll be some new compliance come out around this and different regulatory changes, but that's on the horizon too far out to even know what that might or might not be. But I think there will be some changes that we're so new into this, I'm not sure anybody really knows what the end game is going to be. But like I said, I think by next summer, you're going to see a lot of real estate rationalization and probably a lot of different things that come out of this to allow the banks and credit unions to be -- continue to be more efficient.

Great. So let's turn to payments for a little bit. It's obviously been a part of the story where Jack Henry over the years through a variety of acquisitions and partnerships, you built out a pretty nice payments business. So in terms of the -- let's start with consumer and then we'll go to B2B. So you've got the big card conversion going on. You've been signing a lot of business. Can you just sort of walk us through -- I know you've laid out the timing and sort of the cutover of the platforms to drive the cost saves. I think that's a 3Q, 4Q of your fiscal year that we'll start to see that and the cost saves associated with it. I think what's more interesting and exciting longer term is the new sales you're seeing from existing and I think even noncore customers in that product set around that debit and credit card. Could you talk about that aspect? And then just sort of what kinds of plans and what you think banks will do once they launch on your platform, right? I mean it's one thing to say you're going to be a credit card bank, it's another thing to actually grow it, generate transactions, benefit Jack Henry. So what are you hearing? And sort of how do you think about that in the next couple of years once everything is sort of converted over, et cetera?

Yes. So you're right. I mean we did start this card platform migration about 2.5 years ago. It will be completed. We've got all the core customers moved over by the end of September. We will have all the noncore by the end of March. So you're right, there will be some cost takeout and an uplift in margins in Q4, which we'll get the full impact of that in next fiscal year in FY '22. And part of the reason we started this process is because we were losing debit customers. We weren't losing the core business. We were just losing our debit business, because we didn't have a good platform with the good -- with the right products, like real-time fraud and other things. But when we announced the direction we were going, we stopped losing customers, because they believe we're -- that where we're going is the right course. But then it's hard to sell new business until you have some reference from customers on the new platform. So about 18 months ago or so, we started selling new debit business, and actually in that time period, we signed right at 120 new debit customers. All these are core customers currently. And with this new platform, we're able to sell credit card transaction processing, full-service credit card, which is something we've never offered before. We signed, I believe, right at 20 of those to date. So we've got a really nice backlog of installs for the next 9 to 12 months for both debit and credit already in the hopper, already contracts been signed. And so about half of our core customers today use our debit card transaction processing. So we've got a large runway just within our core base to sell debit. And since we've never sold credit card, we've got all of our 1,700-plus core customers that we can sell credit card transaction processing to. And the reason that half of our customers didn't have ours is either: one, they didn't like our technology; or two, they wanted a provider that offered both debit and credit. And so a lot of our credit union customers already have a credit card portfolio that now we can start processing. So there's another opportunity there. And once we get through the migration, then you're right, Jim, we will have the ability to also sell this through our ProfitStars organization to non-Jack Henry core customers. So we are extremely excited about this opportunity. The offering that we are bringing with our UI and the customer, a service reputation that Jack Henry brings, I think, is going to bode very well for our payments growth for the foreseeable future.

Let me ask you this, on the debit, right? So I'm assuming a vast majority of your banks are below the Durbin cap. So that means they get the higher interchange rates generally quoted as 1.5. That allows versus other banks to offer loyalty programs, reward programs, fund other things with the debit card that would drive transaction volumes. And I'm sure those are value-added products and services for people like yourself. So is there a way to think about the potential uplift in terms of revenue per account on file or per institution that would come with having debit cards that might have loyalty, because that bank can actually afford to fund some type of loyalty program with the debit card portfolio, obviously, that's part of the credit card world. Is it 2x? Is that 3x potential? Is it -- how should we think about that?

Well, I mean, for us, Tim, remember, we don't share in the interchange fee. I mean we get a per-click transaction. So we get the same transaction fee, whether you swipe your card for a $5,000 transaction or you swipe your card for $5 a cup of coffee at Starbucks, which I don't think you can buy a cup of coffee at Starbucks for $5. But we get the same amount. So what the debit card programs when they -- you're right, when they can offer the reward for it, which is part of the reason we've moved to this platform is because we didn't have a good rewards program. We think that, that will drive increased opportunity, and we think it will drive the use of the debit cards that the banks are offering and probably pull some of that business back away from the biller directs to keep people going from biller sites and doing things like that and using their credit cards and they just use their debit card. And kind of like the financial crisis, we actually saw a shift, we didn't see, but the industry saw the shift from credit to debit, because people don't want to have credit in these times of business. So there is a lot of movement. I think there's some huge opportunity out there. And I think there is going to be a nice growth in debit, you're absolutely right. The vast majority of our customers are below the $10 billion market cap. So they can -- they've got a little more opportunity to grow their debit card business and have a little more money to get back in rewards and different things. And that's another thing, Tim, that's an unusual watch. Banks used to it really just want to kind of slowly grow. It's -- you've got banks now that kind of have 2 playbooks. They have 1 playbook to get them up to that $8 billion or $9 billion asset mark. And then they put that playbook on the shelf and the other playbook comes out, because now they don't want to just creep across the line of $10 billion, they want to somehow jump and leapfrog from $8 billion to a $15 billion bank. So -- because they understand they're going to lose that interchange fee. So that's another interesting aspect of the Durbin Act and how it's affected by the banks and credit unions out there in the industry.

Could you -- switching on payments to the B2B side? There's been a lot of discussion, a lot of activity lately around B2B. How does Jack Henry think about being in that discussion when they are obviously newly IPO-ed and venture-backed, a lot of activity around B2B? Do you see yourself as competing head-to-head with a lot people talk about? Are you a distribution partner that finds a way to share in the growth and the revenue, but leverage what those entities are viewing? I think clearly, all these banks have small business customers. It should be an area that we would expect to hear Jack Henry talking a lot about and being, I would think, an important part of the story on a go-forward basis.

Yes. I mean, Tim, I think there's a huge opportunity in the B2B space for Jack Henry, because I -- and that's something we've been looking at. And I will tell you that with our relationship and ties to faster payments through the clearing house and real-time payments and by the ability to use the faster payment rails, I think there's a huge opportunity. But to your point, the one thing we are missing is a platform. So that's probably the one thing that -- if you ask me about potential acquisitions, that's probably one of the things that I'd say we will probably take a hard look at is trying to find a small company that has a platform that we can use to leverage our faster payment rails.

Let me ask you this, that sort of goes to the next topic, right? You've always had this great balance sheet, tons of cash. You've got your dividends, your buybacks. Nobody is ever going to accuse Jack Henry of not being a good steward of capital. The world is moving fast. Things aren't cheap. You did reference an area that's of interest. And just out of curiosity, a lot of people think of Jack Henry as being super-prudent and super-careful and not overpaying for stuff. In my opinion, they're sort of a cost of not doing something that, hey, the math may not make sense the way we typically think about buying things. But if we don't move now, we find ourselves in a ditch a couple of years later where, shoot, we should have just bit the bullet, because now we got to scramble and catch up. Are there any aspects of that train of thought when you think about something like a B2B or other where, hey, we might announce a deal and people might scratch their head on the price and be like, well, that's a little bit different. But as they sort of think through it that it will make sense, even though the conventional valuation metrics that you all have sort of stuck to may not apply in this time in the era?

Well, Tim, I mean, I can give you some examples to where people accused us of overpaying in the past. It hasn't happened very often. You're right, we are very disciplined at what we're buying. And we understand what an opportunity did for us. For example, when we bought iPay back in 2010, I mean, I remember at my analyst conference that year that I had some of your -- some of the sell-side analysts that were accusing us of overpaying for this and why we didn't buy something else. Well, I can assure you, that was a very good buy for us and it's turned out extremely well for us. Another one was Banno. So I think Banno, you'd probably compare a B2B platform kind of like Banno. I mean when we put the money up front on Banno, when I went to the Board, I said, I'm not going to show you the model, because if we're going to depend on the current financials to support why we're buying this, we'll never buy it. But we knew what the strategy was and where it was going to get us and where we are today with Banno. I mean people would have thought we were crazy what we paid for Banno back in -- 5 years ago in 2015. But I can assure you it was absolutely the right move. So for the right strategy, we will definitely pay up. I mean I don't know if I'd go as far as to say we're going to overpay. But based on our models and what we think they can do for us and a return for our shareholders, we'll definitely pay up for the right thing. And B2B may be one of those things that we'll take a hard look at to pay up for. So you're right, we are disciplined, because we want to take care of our -- be a good steward of capital for our shareholders. We will continue to increase our dividend, just like we have for the last 29 years. And we'll continue to buy back stock, but we're not going to get aggressive. Obviously, there was a huge correction in our stock price. Would we maybe lever down our -- lever up our balance sheet a little bit and pull down our revolver to pay -- buy stock back? That's very possible. I mean the Board talks about something like that all the time. But you're right, the M&A activity out there is crazy. There's not a lot of really good assets out there, and the valuations are just ridiculous. And with the number of SPACs that are popping up with the blank checks they have, I don't think valuations are going to get any less crazy for the foreseeable future, because the SPACs have their own set of rules. And they're raising all these funds, and they've got a specific period of time. They have to put that money to work or they have to refund it. And so I think that you're going to see even crazier valuations and people are going to be scratching their heads and wondering, why are they paying for this. I mean nCino brought a huge valuation when it was bought with what NASDAQ just paid for Fannie. It was -- I mean we're talking 15 years ago or 20 years ago, people -- we were looking at acquisition for an 8 to 10x EBITDA multiple. 5 years ago, that was up to a 20-plus EBITDA multiple. Now we're looking at things that are going for 20 to 25x revenue multiple. I mean I don't know how you're ever going to get to do one of those at that rate and actually have it ever become accretive.

Yes -- no, I mean, it's definitely an interesting time and there have definitely been acquisitions, yourself and others that at the time valuations didn't make sense. And then years down the road, people talked about those being some of the best deals ever, whether it's iPay or people say that about PayPal and Braintree, as an example. But iPay I think is a great example for you guys, of one that didn't make sense conventionally, but obviously really paid off. Let me ask you one last question. We've got about 2 or 3 minutes left here. You have a great culture. I think that's one of the strengths of Jack Henry has been the culture and the way you really kept the feel of Jack Henry. Having known the company now for 25 years, it still feels like Jack Henry felt like when I first met you all despite your growth. There's a lot of talk about exodus out of the big high-tech hubs and not just staying with your West Coast or your East Coast tech company and moving somewhere else, but now people are talking about -- people are actually leaving those companies, deciding to move somewhere else in the country and finding out that, "Hey, I could get a job with Jack Henry, writing code or doing something technology-wise. I don't have to work for this $100 billion market cap company in San Francisco anymore." And I'm curious if, a, you're starting to see that or hear that through the HR side of your company, that there is some talent out there that wants to move into some of the lower-cost hubs where you have people. And then I think just generally, if that's the case, culturally, how do you balance it to add that type of talent that may be intuitively people wouldn't think fits with the Jack Henry type culture.

Tim, I mean, obviously, even through the last 9 months, we've continued hiring. And we -- at any given time, we'll have 250, maybe even 300 job openings. And we have never had any real challenges at finding good talent. So I don't know that I've heard of this phenomena that you're talking about, people wanting to leave the large companies on the West Coast. I know there's a lot of people wanting to get off the coast, but I've not specifically talked to my HR department about this. But I'm sure that we do not have a lack of talent needs. And you're right, we've got a very unique culture here at Jack Henry. Our senior management team works very hard every day to keep that culture and keep it intact. I mean I still feel like the vast majority of the culture we have today is the same culture that Jack Henry and Jerry Hall, our co-founders, put in place 44 years ago. I mean we still live by the same pretty simple motto: do the right thing, do whatever it takes and have fun. And if people can buy into that, then they could become part of the Jack Henry family. If they can't buy into that, then they need to go find something else to do. And that's the way we've always been, and that's the way we always will be.

Wonderful. Well, Kevin, with that, we are at our 30 minutes. Thank you very much for the time today, and I really appreciate it. Have a great week and a great holiday season.

Thanks, Tim. Appreciate it.

Take care.