WEX Inc. (WEX) Earnings Call Transcript & Summary

All right. Well, good morning, everyone, and thanks so much for joining. My name is Dave Koning. I'm a senior research analyst at Baird. I cover payments and business process outsourcing and very pleased to introduce WEX this morning. We've got Roberto Simon, our CFO; we've got Steve Elder, Head of IR. And I think many of you company -- many of you investors know WEX is a leading fleet payments company but has also expanded in the last 5, 10 years into health payments, into travel payments, into corporate payments. And maybe, Roberto, you could just kind of kick us off a little bit with that journey and how you've become a broader payments company as you review a little bit about the company.

Sure, Dave. And first of all, good morning, and thank you for having us today. As you know, our roots in the fleet payment business is going back to the 1980s. And since, we have grown this to be one of the leaders in the world with around $1 billion in revenue in this segment. We are known in the market for having 2 things, I would say, best-in-class technology, and the second thing is excellent customer service. And this is why if you look in all these years, our retention rates are and have been in all these years so high during the period. Additionally, if you recall, we are also pioneers in the B2B corporate payments space. Back years ago, we created a product to address the needs of the OTAs, which -- that product was meant to automate the process and to eliminate overpayments and back-office paperwork for the OTAs. Since, we have been issuing and processing transactions on virtual cards now for, I would say, more than 20 years. And then finally, which is more recent, we entered the consumer direct health care payment space here in the states through the acquisition that we did around 6 years ago. It was Discovery. It was an Evolution1. And then since then, we have done 2 other acquisitions. We bought one in 2015 that was called Benaissance. And then we follow up with another one last year that was Discovery Benefits. So we have been continuing expanding in this segment. In each of the 3 segments now where we operate, we have attractive market position. And also, we have significant opportunities for growth.

Great. Well, thank you. Maybe we can kick off with the fleet segment. Right now, you've been experiencing a lot of different trends, a lot of different things happening. And maybe you can talk a little bit about the over-the-road part of the business, the more local, smaller business part and then international and how different trends are affecting different pieces.

Yes. Let's start with the overall fleet. If you recall, today is June 4, we have not closed the books for the month of May yet, but we are monitoring all the volumes and the trends, I would say, daily since the mid of March. If you recall, and I have here with me now, what we said at the Q1 financials on the earnings call, if you remember, the fleet business was overall around 20% down for the month of April in volume. What we have seen since then is an improvement -- continuous improvement, obviously, slowly but continuous improvement in volumes, especially, we started seeing it in the states that opened earlier. And obviously, as the states have continued to open, we see it even more now. So I would say to you, April was on the 20% down. If you look at May, is a few points better. And then if you look at the first couple of days in the month of June, the improvement continues. At the same time, you recall, we guided what were the fuel prices for April and what are in May. In May, at around $2. And if you remember last year, for the quarter, we were around $2.80, if I remember. So we are talking that we are around $0.90 in those 2 months on fuel prices, lower than we were last year. You asked me also about international performance. So the U.S. has been performing better than the international markets, especially in Europe and Australia because their lockdown was much more severe. And at the same time, especially in Europe, the borders were closed. And therefore, any country that -- or any big corporations that were moving goods from country A to country B have difficulties in doing that. But the overall performance, obviously, is still improving, too.

Great. And maybe you could talk a little bit about just yield impacts. Because right now, are the local fleets where you generate higher yields, how are they holding up relative to OTR? And maybe add in a little bit about how are some of the late fees and other fees that you generate holding up in a market like this.

Yes. I will start first with your OTR and the small fleets. So it's very possible to get differences between OTR and our local fleets. The local fleet markets are made of a lot of businesses. Some of them are larger than others. And they are all across many different industries, which all have their own dynamics. So what I can tell you is we have not seen major differences between large and small fleets, although normally, they are the first to react. In fact, if you look at volumes, are down slightly more on the large customers than with the small ones. And we saw something similar in 2008, and Steve can give you some more color there. When you talk about the OTR market, obviously, it's also different. We have seen it hold up much better from a volume point of view. And in 2008, if you recall, WEX didn't have EFS. So we didn't participate in that market. But based on historical data that is available, it also held up better than the local fleets. And the main reason is you still have to move other goods around the country, and that's important. You also mentioned on the new wins and how we are performing now with new customers. Obviously, it took a few days to get our sales force and our potential new customers ready to work from home, as we are all doing, and we all have to adjust our working dynamics. But since the -- after the first 2, 3 weeks, I mean, there has been progress made, and new deals are being signed up and implemented, too. So that's obviously something important. And if I recall you, the second question were related to the late fees. And what I can tell you, the late fees we collect from customers is a function of 2 things: volume on what they buy and also how often they end up not paying their bill on time. So it's on them, if they decide to pay or not the bill on time. In the -- if you look at the month of April or May, as I mentioned to you, volumes are down -- were down in April slightly more than 20%. And also, fuel prices were down more than that when compared a year ago. So we should expect to see a decline on the late fee revenue that we have in the quarter, which is not necessarily a bad thing. Because also, we need to understand that if that's the case, but the customer is paying, we are not going to get the credit losses. So -- and in the environment we are now, as I was saying, if you have an increase in the late fee revenue when volumes are down so much and fuel prices are also down so much, it will indicate now a bad payment pattern that will lead not too much higher losses.

Yes. That makes sense. And how do you see losses? I mean it's a good sign. You're right that those late fees and credit losses are proportional -- are generally proportional and kind of offset each other. Are there situations where we could all of a sudden have lower late fees but higher bad debt expense and create a more difficult situation? Maybe just review that a little bit in how you're seeing bad debts and payment terms play out right now.

Yes. Listen, on the credit loss side, there's -- remember, there's something new, which is now the adoption of CECL that we need to monitor close. Because when you go through your quarter close, you have to take into consideration your receivable balances, and you have to extrapolate off those receivable balances, what would go back in the future. So we have some economic indicators that we have to tackle. But if I take that piece aside and I look at where the credit losses are today, although we should expect not that they increase in the next coming quarters, we have not yet seen a dramatic change in the portfolio aging, especially in the fleet side. And if you recall when we did the Q1 results, I mentioned that on the call, just from December to March, we reduced over $500 million, the receivables. And from March to April, we reduced another $500 million. And if I look into April to May, it has further reduced another -- if I remember, it was $200 million to $300 million more. So the good thing is, so far, we are not seeing dramatic changes. And the portfolio aging is -- I mean, it has deteriorated slightly but nothing to be a lot.

Great. Great. And maybe the last thing on fleet. When we just think about the margin profile, how do we think about incremental margins of kind of the core business and then the fuel-related impacts? How should we think about that?

Yes. So the way now we look at most of our costs in the company but also in the segment is as fixed, and I would say to you, as fixed for at least the short- to medium-term period. We do have some pure variable costs, as you know, like the operating interest, that goes linked with the receivables, credit losses, some of the partner rebates; and at a lower scale, the call center cost that, obviously, with volume flexing up or down, you could move it slightly. But the majority of our cost is software-related, depreciation, people related to operating our closed-loop networks, IT, et cetera. So they are all mainly fixed cost, as we can obviously not take actions over time to make changes to those costs. That's why I said to you, the costs are mainly fixed in the short to medium term. And recall in April that from our previous -- or from our full year guidance, we reduced the cost for the company between $60 million to $65 million for the full year to address some of these fixed costs. When you think -- you asked me also, when you think about just pure fuel and/or the business per se, obviously, we have said on the fuel side, you could say for every cents of fuel prices that go up or down, you could count that your operating interest, your credit losses, your partner rebates are going to be the ones that are going to impact the margin the most.

Yes. Yes. Okay. And then on travel and corporate, maybe we can move to that. Travel, I believe, is something around 60% of that segment. And I think overall, travel and corporate, if I remember right, is something right around 25% of revenue, but the travel part is 60% of that. Should we think of that business correlating pretty strongly with just traveler trends right now down 85%? Or maybe just talk through how that's being impacted right now.

Yes. So let me start our travel business, based on where we were in Q1, is around 10% of -- was around 10% of the overall company. On the -- if you recall from the Q1 earnings, volume was down 90%. And obviously, as we are more not tied up with the online travel providers, there could be some small differences, but we have not seen much change since the numbers we reported in April. If you look at the numbers for May and what we are seeing in the last few days, we are trending between 80% and 90% down each week since the pandemic started.

Yes. Okay. Okay. And anything over time -- what's the best thing to track? Is it number of travelers? Is it, I guess, number of flights per day? Because your business, I would think, is a little more of a leading indicator because people are making bookings today for trips that are actually coming up in the future, which might react quicker.

I mean, obviously, the number of bookings is what is now important. Because if you have no volume today but you are seeing a lot of bookings coming in for the future, that's a good indicator. I would say to you also the fact that the airlines are starting to have more flights. It's also a good indicator for the future of the travel business. Because obviously, the more you travel, the more you are going to stay in hotels, and therefore, the more volume is going to come through our platform.

Dave, I'd add in, though, that our business is focused on the OTAs, which is largely leisure travelers, right? And there's theories, at least, and we'll see if it proves out, where people could drive to a destination within a couple of hundred -- a couple of hours at a house or something like that. But the airlines obviously feed into the hotels, but we don't have a direct impact from airlines. Everything we do is basically hotels.

It's hotels, yes.

Yes. Yes. Okay. Okay. That's good. And then what about -- maybe we can talk a little bit about the corporate segment as well. How -- we often get the question, how are you different than Build.com or FLEETCOR, AvidXchange. What's different about WEX in what you do and then kind of the types of clients you serve?

Yes. So let me start quickly giving you also a quick update on where we are with the volume. So if you recall, April, we were around 5% down. And we are more or less in the same place, which is, I would say, it's not a bad thing now based on where the economy has been. So that's something to take into consideration. And the way we split this business, so internally on corporate payments, if you recall, when we bought EFS, there was an accounts payable business that came with that. This business, we go either direct with that at sales force. So we go through our partner channel, which is the one we have been seeing a lot of growth, partners like Divvy, for example, that they have been able to bring a lot of volume through our platform. The second business on the corporate payments came with the acquisition of AOC that, if I recall, we did in 2017. And on that transaction, what we do is we white label the FI institutions that process through our platform their volumes. And finally, we bought last year in the first quarter of 2019, Noventis, where we also process transactions for institutions like Verizon or AT&T through -- also through some partners. So that's the split of the 3 businesses. The one that obviously we have had more growth is the partner channel on the B2B or the accounts payable that go through partners like Divvy.

And what we're trying to do there, Dave, is these partners are doing -- generally speaking, at least, they're doing something around the automation of the accounts payable process. But at the end of that process, you still need to pay the people, you need to pay the vendors, and that's where we want to plug in. So we'll let them automate and do the software implementation and all that. But when it comes time to pay, that's when we want to use our banking framework and our virtual card issuance platform and create those virtual card numbers to actually make those payments.

Yes.

And is the current environment, I mean, quite a bit of a catalyst, just companies less wanting to use physical checks, less able to go into the office to print off checks and just want to do stuff to be able to click through on payments?

That, I would say to you is the same I was -- we were talking about before on -- for the new wins and customer implementations in the fleet segment. It has taken a while, but that's part of what we've started to see, as people have been migrating to working from home, and they cannot bring checks, they have to come to new solutions. So we are seeing some -- a lot of new leads on potential new customers due to that.

Yes. How fast could that grow? We often hear Mastercard and Visa talking about better commercial cards. But theirs are a little more T&E, the data that they give us, and that's growing really nicely. But B2B is probably growing even better. Maybe give a little growth kind of algorithm.

I mean we have discussed at our Investor Day and when we talk publicly that we expect that segment to grow between 15% and 20%. And that's a long-term growth rate that we are expecting for this segment, and we believe that the opportunities are still there. So as you look into the future, we should expect us to be back on growth. But we don't know when that will be based on the current uncertainty across all of the industries. But we believe that the opportunity is still there in this particular part of the overall segment.

Yes. And why wouldn't -- if businesses are starting to operate again, why wouldn't growth be almost the same now as they were a few months ago? Like why is it down 5% if businesses are still operating? Why isn't it up 15%?

It's a good question. I think when people -- 2 things. People that -- or customers that we had, they probably are spending less. Therefore, on the same customer base, you have less volume. On the flip side, the implementations and the new customer wins that you get, the process has been delayed slightly because of what we were discussing, working from home, getting all used to that. So this is why we believe that things are starting to settle. We will get back to the growth rates that we have been experiencing in the past.

Okay. Okay. And maybe on that segment, travel and corporate segment, how should we think about margins or incremental margins? I think travel has higher incremental margins than the B2B business, but maybe talk through that a little bit.

Yes. So I will start. Remember that this segment, in particular, the margins are very hard to guide because of the adoption, if you recall, of the ASC 606, the revenue recognition back in 2018 where the rebates for direct customers are netted into revenue, while the rebates to the partner channel or the partner customers are shown as an expense. So overall, you may get the same operating income or the same EBITDA but margin-wise is very different. And then the second thing also that happened with the ASC 606 was that the cost of the scheme fees, it's now netted in revenue. So as you maneuver on that cost, and now is a contra revenue, you may also be skewed with your margins. So this obviously has implications, both when you think about incremental margins and/or when you think about the overall dollars in the segment. Cost-wise, we are very similar to where we were with fleet. In fact, we are probably a bit more fixed. Because if you recall, if I look back 4 years ago, for example, we have AOC, that was our provider. So we have a front-end and a back-end provider. And today, we almost have both front end and back end in-house. Therefore, you change your variable cost based on volume to a fixed cost based on the depreciation and the cost of your platform. As you keep growing, obviously, the margins should improve significantly. But you carry more fixed cost than variable.

Yes. Yes. Okay. That's helpful. And then maybe we can move to the health care segment for a few minutes. The key drivers there, obviously, are number of people, number of HSA accounts, which open enrollment happens often in, say, October, November, and that drives your whole next year. So is this year in really good shape? Because we already know everything that happened late last year with open enrollment. And is 2021 more the uncertainty with how open enrollment is going to happen late this year?

Yes. Let me start with the 2020. So we had a great Q1. We barely were impacted on Q1. I wouldn't call that the year is locked in because of the situation of COVID, and it's having some impacts in part of the business. However, we expect to close within a very decent range of our -- growing the mid- to high teens. What we are seeing are lower spend volumes. There is also a potential for fewer accounts due to higher unemployment as we progress now in the upcoming months. But on the flip side, we are seeing benefits for COBRA products. And finally, we are also seeing benefits from the temporary accounts. So overall, I wouldn't say it's completely locked in, but we are going to be, if not there, very close there. So there's a small impact. When you look at 2021, it will all depend on the unemployment rate. If unemployment rates remain high, that could put some pressure on all the type of accounts we offer, HSAs, FSAs, HRAs, at our current customers. But one thing that is important is that we will obviously add new customers next year, but there is potential now that the account growth could be slower. So it will depend on how much the unemployment kicks in versus the new customers adds and how big they are.

Yes. And do you think there's much of a risk of existing accounts actually closing? Or is it more just a risk of fewer new accounts coming on, so it's a little more just a risk of how fast can you grow than it is that you actually could lose many accounts?

Yes. I think it's more the latter. It's more the new accounts that come in because as we said, there could be -- when you bring new accounts, you -- obviously, the base is much bigger. And therefore, I would say, it's more the latter.

Yes.

When you look at the account base within the health business, it's about half HSAs, and that's not going to really be tied to unemployment because if you've got a balance, you're going to keep that account open until you spend that balance at least, right? The other types of accounts, the FSAs, the HRAs, et cetera, that could be a little bit more tied to employment. So you could see some pressure from unemployment there.

Yes. Okay. And some of the new government rules about expanding use of the funds, like does that help you, too, with just more spending volume?

Look, I've said, we have been -- we have seen a significant slowdown in the spending as the elective procedures now were canceled or postponed. The new type of purchases are not able to make up for these elective procedures, cancellation or postponed. But I think that we will see -- as we go along in the next coming weeks, we will see how things improve. And we are keeping a very close eye on the trends on the volumes in this segment.

Yes. Okay. And then maybe the last kind of section of commentary, capital allocation. I mean you guys have put together a really nice portfolio of businesses through an M&A strategy over many years. I guess maybe we started it with just eNett and Optal, obviously, looked like a really interesting and nice acquisition. And now because it's in travel, it's become more difficult and a little contentious. Kind of what's the latest on that acquisition?

Yes, Dave. So as you know, obviously, there are very limited things now that we can say about the eNett and Optal situation. What I can share is that the process is ongoing in the U.K. courts, but we do not have any visibility into the timing. If you recall, our position is that there has been a material adverse impact on the business, and therefore, we are not obligated to close the transaction.

Yes. Okay. And how about the strategy going forward, just of M&A in general? I mean you've delevered now, I think, a little under 3.5x, I think, as of last quarter. How soon could you get back into the market, maybe assuming things get better, I guess, in the economy?

Yes. So as you said, we have closed 2 quarters on the 3.5x leverage. Now if you think about where we stand today with the current state of the economy and the uncertainty around that and the situation that we discussed around in eNett and Optal, I think it is prudent to say that we don't think you will see us making acquisitions in the near future. What I can tell you is that our primary focus in these months and in the last few quarters, obviously, was to reduce leverage; and at the same time, very focused on the liquidity and ensuring that we have available funds; and at the same time, that we increase our corporate cash available to us. So we ended the year with over $1 billion of liquidity. We closed Q1 this year over $1.2 billion on liquidity with over $500 million of corporate cash, and that's our primary focus today. And obviously, that doesn't mean that our -- on the pipeline that we have still pipeline in place and that our M&A team continues to do their work. But I think it's prudent to say that in the short -- in the near future, our focus is going to be more on the liquidity and making sure that we navigate through the economic situation.

Okay. That's helpful. We have about a minute left and maybe just to wrap it up, if we fast forward a couple of years and we look back on the situation and say, "Oh, we should have known that this is actually a positive causer." Is there anything we're going to look back on and say, "Oh, COVID actually created something really interesting for our business." Or maybe talk through something like that.

I think one important point -- 2 of them. One is what Steve mentioned on the corporate payments, and we were talking about the checks and the accounts payable. I think companies are going to go more digital. I really believe that. And that's going to be something that the longer this continues, the more important the digitalization is going to be there. And the second one is the customer experience. I think the customer experience in each of the different segments where we operate and how you treat them is going to be key. When you -- as you said, when you look back 2 years from now, and you said, "Okay, my travel customers were 90% down, and WEX has been serving them daily, have been on the phone with them, has been helping them going through the process." So all those 2 things, the digitalization and continue supporting your customers through the process when the things are worse, I think it's really important and will make up where we are in 2, 3 years from now.

Yes. Well, great. Great. And so that's all the time we have. Normally, I would say to the audience, please join me in thanking Roberto and Steve and a good old clap, I did. So well, thanks so much for joining us. It's always a pleasure seeing you guys.

Absolutely. Thank you.

Thank you, Dave.

All right. Have a great day.

Bye.

Bye.