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

Good morning, everyone. Thank you for joining us. This is day 4, final day of Citi's 11th Annual Fintech Conference. My name is Andrew Schmidt on Citi's fintech research team with a focus on fintech software. Joining me to co-host is Ryan Potter, an analyst on our team as well. It's our pleasure today to host Kevin Williams, the CFO of Jack Henry. Kevin, thanks so much for joining us today.

You bet. Glad I can do it.

Appreciate it. And you've had a busy week as we're talking about. So thanks for taking -- carving out the time. It's always good to catch up.

You bet.

[Operator Instructions] With that, we'll kick it off. So I think one of the more recent highlights, Kevin, has been your retirement. Congratulations on that. But I would love to get your perspective. When you became CFO in 2001, Jack Henry was a much smaller company. So you've grown significantly since then. I want to take an advantage of the opportunity here and kind of ask you just a high-level question in terms of any lessons you learned about the industry, investing, anything in general. And then maybe you could remind us also about the transition plans as well? Because I know you used to mention you're not stepping out the door tomorrow. You're going to be here for some time. So maybe kind of a 2-part question, kind of transition plans and then any learnings or advice given the broad experience you've had?

Yes. I mean that's several questions in one. But -- and you're absolutely right. I mean I've seen a lot of change here at Jack Henry. And actually, my affiliation, Jack Henry actually started in 1991, when I started doing the audits because I was an independent -- I was with an independent accounting firm and actually did the audit. So I've seen a lot of growth because when I started doing the audits, Jack Henry's total revenue was $21 million. And in 1998, when I joined, we were at $113 million and we're today at $1.8 billion. So yes, I've seen a little change over the years. And probably one of the things that I would say is most important to me besides just growth and having quality growth and quality financials is the culture that Jack Henry has. And that was a culture that Jack Henry and Jerry Hall started 45 years ago. And I know myself and Dave Foss, our CEO, and others wake up every day just trying to figure out how to keep that culture in place. And probably the other thing that I would point out is that over the years, we've done well over 50 acquisitions in the last 30 years. And culture is one of the big things we evaluate when we're looking at an acquisition because we don't want to screw up that culture. So we've looked at acquisitions over the year that would have been great financially, would have been great for our shareholders but would have screwed up our culture. And we've walked away from those. So that would be one of my biggest advice to people is when you're looking at acquisitions, make sure you evaluate the culture. That needs to be one of the top items you're actually looking at. And as far as my departure, you're absolutely right. So when my SEC counsel was doing the 8-K and we were printing the press release, I made it very clear that there could be no specific dates in there because there is no specific date when I'm going to leave. Because if it takes until next spring or summer to find my replacement, I can't walk out the door until I make sure that the transition is complete and smooth and that whoever replaces me is comfortable with everything in the company but also that all of our sell-side analysts and our large shareholders are comfortable with that person as well. So it's going to take a while to get the transition. And I'm going to make sure that we do it right before I walk out the door.

Yes. I appreciate that perspective. It's good -- and culture is a good point. It's thrown around a lot. But especially for outside sort of investors looking in, we get caught up in M&A and accretion and things like that. And secondarily, we forget about what culture can do to the company in terms of having the misalignment. So that's a really good point to make for people listening in. I want to take a step back in -- as I think we were discussing before, there's been a confluence, an influx of players in the space. Jack Henry has been around for some time. But maybe you could kind of level set us with just an overview of Jack Henry for those who might be new to the story and your target market and business models?

Sure. So Jack Henry is a full rounded technology provider for banks and credit unions. And by that, what I mean is -- and this is what I answer to somebody that really doesn't know who Jack Henry is. If you want to open a bank or credit union, if you had the brick-and-mortar and the people, we can do everything else. So we can provide every solution that you need all the way from the core system that operates the back office to online bill pay, to remote deposit capture, to check imaging and online bill pay through the digital offerings. And actually, we offer solutions to where a bank or credit union can offer their customers or members can do all of their banking needs that they need from the comfort of their couch.

Got it. That's a good, succinct overview. I want to dig into sort of the -- just real quickly, the competitive landscape across the business. Not an easy question because you operate in some different end markets. But there's this view about in the space about disruptors versus legacy players. A lot of these newly public companies view themselves as disruptors. But the fact is even disruptors have been in the market for a long time. And people like to throw that word very, very loosely. So maybe from your standpoint, you can give us your view because you've heard this debate and how you're positioned competitively?

Yes. So I mean I would tell you that we've got a pretty large moat around us as most of the players do for getting the space because what we do for the banks and credit unions is so complex and so complicated that it would take years for another player to even be able to remotely do what we do and offer because I would say just the area of commercial loans is so complicated and the regulatory requirements that you have. So if you -- if we have a bank -- let's say, we've got a bank because we've got several of these. But let's say we've got a bank that's $25 billion in assets. Well, they've probably got locations in 10 or 12 states, which means -- and not only you have federal regulatory requirements, but every state has their own banking regulatory requirements. So your software solutions have to be compliant with all the state and federal regulatory requirements. So that's probably one of the biggest challenges for a disruptor to come in. But the other challenge is just to get the solutions to work the way a United States bank or credit union needs it to work to take care of their customers and members. So we keep an eye on them, but we don't really worry about them. I mean the competition that we have is for -- on the bank side is really Fiserv and FIS and on the credit union side is Fiserv and a little company called Correlation out in California. I mean there are some other players out there, but those are the real competition we look at. And we consistently take market share every year.

Yes. So it doesn't sound like you're seeing a change in the competitive environment over the next couple of years.

No. I mean the pay environment changes. So what I was talking about there was core. Now when you look at our ProfitStars brand that has well over 100 different products they can sell, you're going to be dealing with other -- different competitors out there. So like, for example, our Banno Digital Platform may be competing with Q2 or some of the other digital platforms out there. And every one of our products in ProfitStars is going to have a different set of competitors. So that's probably where we would see the disruptors trying to come in is against one of those ProfitStars products, not against our core.

Got it. Okay. That's very helpful. I'll turn it over to Ryan for a few more questions at this point.

Yes. I'd like to turn the conversation to the current kind of bank spending environment that you're seeing. I guess how would you currently characterize the bank spending environment in both the near and medium term? And I guess what are the top spending priorities that you're currently seeing? And how does that compare across, I guess, different size banks between the credit unions, green banks, regional banks, et cetera?

Yes. There was a survey out recently that said that tech spending in banks is going to be 5-plus percent, which we're actually seeing spending a little better than that. I would say that from an RFP perspective for core offerings, the RFPs that we're seeing come in for new core evaluations is actually right back to where it was pre-pandemic, when we were winning a competitive takeaway on average a week and we're seeing that RFP process. So the spending is very good. And I would tell you that what the pandemic did was, I think, it changed some of the FIS decision. So I think almost every bank and credit in the United States probably had an upgrade to the digital platform or upgrade to digital lending or treasury management on the road map somewhere. But a lot of those were probably 3 to 5 years out. And when COVID hit, I think it accelerated the purchase decision that they knew they needed to get upgrades to their digital sooner rather than later. So I think it has accelerated the spending, and I don't think that's going to slow down for the next few years.

Got it. Got it. And then I guess the investor base is pretty well familiar in terms of larger banks, in terms of like their considerable technology debt and complexity. Where in the spectrum of digitization would you say your particular client side is in terms of, I guess, what inning they're in? And what level of adoption have you seen in areas like digital, mobile, online banking, open banking and ancillary kind of next-gen growing areas?

Yes, that's a good question. So I mean, as far as digital, if a bank or credit union is on our digital Banno platform, they can compete head-to-head with BofA or Wells or any of the Tier 1 banks because our digital stack is just as good as theirs. In fact, our Banno Digital offering is the highest-rated digital offering in the App Store for speed and efficiency and use. So we've put our customers in a very good position. Now only about 1/4 of our customers are currently on our Banno platform, but we're installing on average about 35 a month now. So it's -- that number from 25% is going to be 50% real quick.

Sorry, can I sneak in a question from the audience? This fits into kind of the sort of distribution aspect. But is the entry point for your sales process typically for banking? Or are there other assets that you're leading with these days?

That's a really good question. So I mean historically, it's been core. But when we started the ProfitStars brand back in 2005 -- and let me just -- so we go to market with 3 brands. We have Jack Henry Banking and Symitar and ProfitStars. So -- and there's 3 different brands in 3 different distinct sales organizations. So Jack Henry Banking, their sales teams, their job is to go out and convince a banker that's on somebody else's core system to move over to our core. So that is all they lead with is core surrounded by a suite of products because we are a best-of-suite provider. Symitar is the same thing for credit unions is their job is to get somebody to move from a competitor's core over on to our core. ProfitStars, that sales organization, they cannot sell to one of our core customers. They sell outside the base to the Fiserv, Fidelity, whoever core customers. So those are all best-of-breed niche solutions. So we do lead with those solutions. In fact, our digital lending solution, it's core agnostic. All of our ProfitStars solutions are core agnostic. Our Banno Digital is core agnostic. But we're not -- we're so busy getting it inside the base, we're not offering outside the base yet. Same way with our debit and credit card processing platform. We're selling inside the base, but eventually, probably by next summer, we'll be selling it outside the base. So that's kind of how our sales organizations lead. So we do lead with a lot of products. And I would just tell you that -- so out of the roughly just under 11,000 FIs in the United States, 8,500 of those use one or more of our products.

I want to dig into one thing you mentioned on the Banno product, I guess, 2-part question. One, it sounds like -- just selling into the existing base, it sounds like those might have been deals that could have been lost to competitors. So it sounds like from one respect, you're seeing much better retention by rolling out the Banno product. Well, I guess we'll start there and we'll go on to the next from a point solution.

Yes. So Andrew, that's a good question. So actually, it's not that we would lose them. It's that they're currently using somebody else.

So you just replace another provider?

Yes. I mean every bank out there has some sort of digital offering or some sort of online banking. So we are replacing somebody. So it could be Digital Insight, it could be any number of players out there. It could be a Fiserv solution. So we're just -- now before we rolled Banno out 2 years ago, when it was really ready for prime time, we have a home bank solution we've had for 20 years called NetTeller. And it's not near as robust. And it's in -- and we've also got a goDough mobile app that goes with NetTeller, but they're different platforms. Banno is totally different. It's all one platform. It's all one look and feel. I mean you could start a loan application on your laptop and finish it on your iPhone. So it's truly a unique feature. And we're slowly moving our customers from NetTeller that want a more robust feature over to Banno. But we still have well over 500 core customers on NetTeller and not all of them will ever move.

Yes. Okay. So it's a net new opportunity from a digital banking perspective and yet particular with retention as well with upgrading from NetTeller?

Yes.

Okay. That's a good distinction. And as we think about the ability to sell beyond the core, what is that -- is that on the road map? And what does that time frame look like in terms of the Banno platform?

So to sell it to noncore customers, Banno will probably be ready next summer sometime because we're missing one piece in Banno and that's Banno business, which should be in place and in beta late spring, early summer next year. So we should be in GA with the complete solution and ready to go outside of the market by next summer some time.

That's a good point. Okay. And who do you -- for Banno, it sounds like you're already -- again, you're winning away from other digital banking providers. Who do you normally see that you're displacing there on the digital banking front?

Yes. There's a number of regional players that have a digital offering. I mean DI is probably the biggest one, especially in our credit union base. I mean I'll tell you that we have the vast majority of our bank core customers on NetTeller. But the vast majority of our credit union customers were on either DI or there was a couple of digital providers that Fiserv bought. I can't remember who they are, but it could be a number of players.

Got it. Okay. That's helpful. Ryan, I'll hand it back to you.

Yes. Just turning the conversation to bank M&A. Activity has been pretty robust the past few years. Do you expect this level of kind of bank consolidation to continue? And then when there is bank M&A, how does Jack Henry typically fare when the client is part of the consolidation as either the acquirer or acquiree?

Yes. Ryan, that's a really good question. And I actually have a chart that I normally show. But I could go back to 1985, when consolidation of FI has really kind of started. And it's been 3% to 4% consolidation every year since 1985. And the financial prices kind of accelerated a little bit. But we're -- last year, there was hardly any M&A activity. I mean there's a huge pent-up demand. So there's a lot of M&A activity going on right now, and there's a lot of planning for M&A activity. And so our banks are acquiring, but some of our banks get acquired. So that's why the lack of M&A activity. That's why our deconversion revenue, which is when one of our customers that's in a long-term contract gets acquired, they have to buy their way out of that contract. They have to pay the liquidated damages and deconversion fees. And so last year, our conversion fees were down $33 million or about 70% from what they were the year before. And so we've guided that our deconversion fees are probably going to be up about $22 million this year from last year. Then that gives you some indication of M&A. And that's -- it's a guess on our part because our customers aren't going to tell us that they're getting acquired until they actually sign the paperwork and write the check for the deconversion because most of these are pretty secretive. Now when our customers are acquiring, we get better notice because they have to have what's called a convert merge slot. So when one of our customers buys another bank or credit union, our team has to go in and convert that bank over to our software from whatever software they're on and merge them into our core financial institution. So we get deconversion fees from our customers get acquired. But we also get convert merge revenue when our customers acquire another FI. And then there's one more piece to that, that we are in a much better position now than we were 15 years ago because now 65% of our core customers are in our private cloud, where 15 years ago, we were probably 65% or 70% that were on-prem. Now the difference in that is when an on-prem customer that pays us annual maintenance, if they were to do another acquisition of FI, the only revenue we get out of that is the convert merge because we don't -- we charge annual maintenance once a year. If they're in our private cloud, we get to convert merge revenue and we get an immediate uplift because we bill monthly based on number of accounts processed. So the fact that 65% of our core customers is it means we're going to have a lot more of our private cloud customers doing the acquiring versus the on-prem, which actually is better for us in the long run as well.

Got it. And both sides of the deal were Jack Henry clients. Do you see the total spending pie from those clients increasing, combined? Or are there outputs and takes there?

Well, it depends. I mean if 2 Jack Henry customers go together, they're probably going to particularly have additional products to go into one. So -- and we're probably going to be offering more products to one than we are the other. So for instance, if one of our customers uses our online bill pay and the other Jack Henry customer uses somebody else, they're probably going to put everybody on our online bill pay. So we will get a lift in revenue for the transaction processing that we get.

Got it. Got it. And then turning to sales performance, which also has been pretty strong recently. I guess what is driving this kind of continuing momentum? And how would you kind of characterize the current state of the pipeline for you?

Well, our sales pipeline, we had a record Q4 sales quarter. That was the strongest quarter of sales bookings in the history of the company. And then Q1 is typically a little slower, but Q1 was extremely strong as well. But I would tell you -- and Dave mentioned this on the call. At the end of Q1, our salespeople were actually putting more opportunities in the top of the funnel than taking out the bottom. And our sales pipeline is actually at a record high. So it's looked extremely good for us. And the reason it is, is there are so many banks and credit unions that are still out there on legacy platforms and nonmarketed platforms. So for example, one of our competitors still has 13 different core credit union platforms and they go to market with 2 of them. Well, that means you've got 1,000 or more credit unions that are on a legacy platform that's not marketed. So they're not getting the R&D efforts that the marketed platform is going on. So that -- there's going to be continued churn within those FIs and banks and credit unions that are on nonmarketed products, and that's when we win. And I would tell you, when we have a prospect looking at our core solution, we always ask them, "Why are you looking?" And I will tell you, it's 1 of 3 reasons. It's either what I just said: lack of feature functionality in the solutions they're on, and they need that feature functionality to be able to compete effectively with other FIs; or its lack of customer service. Jack Henry sets the standard in the industry or sets the bar for customer service. And then the third thing we hear from them is that the relationship is broken. And it's always 1 of those 3 reasons why they're going through a core system evaluation. And I would tell you, the RFP -- number of RFPs right now is back to pre-COVID levels.

I'll jump in there. That's interesting to hear. I want to dig into that a little bit more. You mentioned record top-of-the-funnel activity. But the bottom of the funnel maybe take a little bit longer for the deals to pull through. I'm probably putting words in your mouth. But can you just talk about what's going on with the sales cycle in terms of is it elongated or clients taking on larger contracts in terms of uptake? What's going on in terms of just the length of sales cycle and just the difference in top-of-the-funnel versus bottom-of-the-funnel activity?

Yes. I would tell you that it really depends on which product we're talking about, Andrew. So for core, I would tell you that I think there's some pent-up demand out there. And I think the sales cycles are -- have actually accelerated on some core decisions in the last 6 months or so because I think there was a lot of people that were -- I know for a fact that when we got into COVID and the world kind of shut down in March and April of '20, there were several FIs that were going -- that we were in the process, an RFP process that they just hit the big red easy button and signed the contract with their current provider for another year or 2 years. So now those FIs, along with the typical ones that would be timing now are coming up on the end of that 2- or 3-year contract that they signed. So they're starting to process over again. And they're going to be able to do it faster because they were already somewhere down the path of going through the core system evaluation anyway. So I think we've seen an acceleration in core. Obviously, everything digital, the sales cycles are pretty quick on those. I mean they want to evaluate them and get them installed as quick as they can because they have to have that -- to compete with the rest of the world out there.

But it sounds like we're seeing a real step-up in terms of RFPs and banks actively looking at this after maybe taking a little bit of a pause over the past, let's call it, a year or so. It sounds like...

We're seeing a very nice flurry of RFPs, not just for the -- but for everything.

It's good to hear. Maybe that's a good segue. And I want to leave enough time for a couple wind-up questions at the end. But maybe talk a little bit more about what you do in the payment space? On the issuance side, is it credit? Is it debit? And then you also have an ACH platform as well and Zelle and real-time payments connectivity as a part of that. But maybe talk through about -- talk through the payments functionality that you provide to end clients?

Yes. So our -- and that's one of our reporting segments. So we have -- our reporting segments are core payments and complementary. And then we have a corporate and other, which is kind of a catch-all. And so within the payment segment, there's actually 3 different solutions in there. And so the largest one, which is about 60% of the revenue in that segment, is our card processing. And so that is debit and full service credit transaction processing. And we went through a migration over the last 3.5 years to move all of our customers off our 2 owner systems onto a new platform. And so we are in a very good position now with our debit and full service credit. And then the other 2 components within our payment segment -- and both of those represent about 20% of the revenue in the segment. One of those is our online bill pay, which is called iPay and Biller Direct. We have a Biller Direct solution in there as well. And then the other one, we call Enterprise Payment Solutions, which is remote deposit capture, mobile capture and ACH transactions. So that's the other one. Now you mentioned Zelle. So we did build a PayCenter hub that we can hook any of our FIs up to and they can hook up to one or all. They can hook up to Zelle. They can hook up to The Clearing House real-time payments. They'll basically be able to do the Fed now. That's in beta right now. The Federal Reserve is doing that. So they'll be able to use any one of those. The reason we don't really highlight that a whole lot -- I mean it's one of those things that in an RFP, you got to be able to check the box that you offer real-time payments. But I would tell you that well over 60% of all the customers on The Clearing House real-time payments are our core customers. Through the PayCenter, we don't have to do one-off hookups from our banks to one of The Clearing House's. We can do a number of installs at one time, which is different than some of our competitors out there that have to do one-offs. But real-time payments is growing and it's growing rapidly.

Yes. It sounds like more of a turnkey approach versus heavy integration, which I'm sure is -- yes. That's very helpful. You talk to TCH quite a bit, and I know they consider you and others to be a key part of that distribution in terms of small to midsize FIs for RTP. So that's good to hear. I want to just ask just one more product-related question. We hear a lot about sort of lending digitization, mortgage, credit card, auto, et cetera in terms of everything from point of sale to the origination process to closing. Maybe just briefly kind of talk about your position there. Is there more to be done from a product perspective? Because clearly, like this is something that banks are looking for on the asset side of the balance sheet and its attractive markets. Just curious to get your thoughts in terms of positioning and road map there.

Yes. So in the last few years, we've done a couple of acquisitions that were to round out our digital lending solution. And right now, I would say that our digital lending solution will compete head-to-head with any offering in the industry and it's complete. If we got -- one of the acquisitions we did was a quick decision engine. So some smaller partners are coming out to do the payday loans and stuff like that. We can offer that. One of the big things now is buy now, pay later. I mean if you think about all that is, is a loan. I mean it's a short-term loan. And so we've already got the ability for our banks and credit unions to do that in their systems. So we're in a very good position from a digital lending solution. I mean we're in as good a position with our digital lending as we are with our Banno Digital Platform for payments.

Yes, that says a lot because the Banno adoption is pretty good. So that's good to hear. Okay. We talked beforehand -- I know there's a lot of questions about sort of sustainability of growth. And I know you've been very, very steady, Jack Henry, in terms of growth algorithm throughout history. But maybe talk about what drives that sustainability of growth and how you can continue to do that kind of, let's call it, upper single-digit revenue growth consistently. Just a little bit in terms of the growth algorithm confidence there.

Yes. So probably the easy way to do it is by the segment. So the core growth and part of the company growth is just from competitive core wins. And when I say a competitive core win, we are actually taking a competitor's customer away from them, putting them in our core, which is a little different definition than some of the other players out there. I mean it's truly a core win and we are truly winning market share. So that's one piece. But then the other piece is -- and this was started after the -- right after the financial crisis is we've had anywhere from 45 to 55 on average, 45 to 50, of our existing on-prem customers moving into our private cloud. And when they make that move, the revenue share that we get out of that customer more than doubles. And there's not an enormous amount of incremental cost out of the gate. So it's really nice margin revenue as well. And so I guess 65% of our customers are in our private cloud now, which leaves 35% that are still on prem. So there's still a long runway out there to continue moving 45 to 50 a year into our private cloud. So that's just additional organic growth that we get every year. Payments, now that we're on the new payments platform, we started this 4 years ago because we were losing customers. And once we announced our new direction, we kind of stopped the bleeding. Well, now we're selling them very aggressively and adding new customers. In fact, we've added, I think, a little over 150 new customers in the last 18 months. So that's growing. And so this last quarter, all 3 of our segments grew non-GAAP 9% across the board, which is pretty impressive. So payment is going to continue to grow. Our EPS revenue has continued to grow in the high-teens. Our cards is growing in the high single digits. Online bill pay is growing in the low single digits. So combined, it's growing roughly 9% to 10% in the payment segment. And I see that going on for quite some time. And then complementary, you've got so many solutions in there because that's primarily ProfitStars, and then all the accompanying products we sell to our core customers. So you got Banno Digital. You got lending digital. You've got treasury management. You got fraud solutions, security solutions. I mean all those solutions are selling well. Complementary grew 9% last year, somewhat of an easy comp. But I think our complementary will continue to grow in the high single digits for the foreseeable future. So I mean, I feel very good about -- we guided top line growth for the year at 8%. I feel very good that we can continue growing top line growth with what we have without doing any acquisitions for the next few years.

Yes. That's pretty constructive, having that visibility. I think last question, just capital allocation. Maybe talk a little bit about your priorities, how you think about M&A versus other uses.

Yes. I mean, obviously, we've been acquisitive. We've done well over 50 acquisitions in my tenure. I've been with Jack Henry because we built ProfitStars. But the valuations out there are just ridiculously high right now. I mean I remember back 10 years ago, we'd pay 12 to 14x EBITDA. Valuation today is 20 to 25x revenue, if not higher. And so I can't go out and do an acquisition and then get on a call like this and say, "Trust me, it will be good. It will be accretive in 6 or 8 years." I mean it's just -- that's not our model. So you'll probably see us continue to do some tuck-ins, like we did Geezeo a couple of years ago, which made our Banno Digital Platform even that much more robust. So you'll probably see some of that. But barring that or finding just the right acquisition with a decent valuation, we'll continue to buy back our stock. We'll continue to increase our dividends like we have for the last 30 years, every fiscal year when we did our dividend. So -- and we'll buy back stock to kind of keep a cash-neutral balance sheet unless the right acquisition comes along.

Sure. Yes. Very consistent over your tenure, that's for sure. That's been a great hallmark. Well, Kevin, we're out of time here but it's been a great discussion. Thank you very much for joining us. I really appreciate you taking the time out of a busy week to spend time with us.

Glad I can do it.

Thank you.

Thanks a lot, Kevin. Thanks a lot.