WEX Inc. (WEX) Earnings Call Transcript & Summary

My name is Daniel Krebs, again. I'm on Darrin Peller's team. Joined this afternoon with Jagtar Narula, WEX's CFO; and Steve Elder, Head of Investor Relations. So thank you for joining us today. Jagtar, if you could take a brief moment to introduce yourself and your background. I know you've been at WEX for almost a year now. Maybe take us back to that, what brought you to WEX in the first place.

Yes, sure. So as Daniel said, I've been at WEX since late May of last year so about 9 months now. And I was CFO of another public New York Stock Exchange traded company in Charlotte, prior to joining WEX. And before that, I had spent about almost a decade, 7 years with a company that did software and payments. And [Indiscernible] the call from WEX, I'd known about the company for quite a bit of time. And I was excited for several fronts. So one, having come out of a company that was software and payments related, I viewed WEX as kind of almost the adverse, right? Payments and software. So it was an area that I felt I had some experience in understood, could add to the value of the company. Two, was excited about the growth opportunity of the company. The company has had a strong track record over many years of growth, still has a very large market opportunity in front of it. And so I felt that the company had gotten good momentum, and I could be part of, right, helping to continue the success of the company. And third was the softer stuff of the culture of the company had come in, met the management team, met our CEO Melissa several times. And -- in each case, I was thoroughly impressed by the culture that the company drove, that she drove. I, in large part, attributed that culture to the success of the business. It was nice to see kind of the sustainable culture that was created because I view that as indicative of long-term growth and long-term potential. And so I think those 3 pieces came together, got me really excited about the opportunity.

Great. So after those first 9 months reviewing the business, getting settled, what do you see as your highest priorities? What's your focus right now?

Yes. So we've had a number of initiatives that we've been working on over the 9 months that I've been here. So I'd say, again, 3 areas. So I'd say first and foremost, it's been putting into place a lot of the operational cadence that I was used to for prior companies. I think WEX had its own operational cadence, but it's moved over the last year towards this One WEX structure kind of more matrix driven organization. And that's an environment that I spent virtually my entire career at. And so putting in some of the operational cadence that allows us to move faster as an organization that allows us to really bring the One WEX and ensure that we're solving problems or reacting to the business environment to dynamically as one team. So that's the first area. The second area, and that work, I think, helps us deliver our commitments, right, and directly impacts the next area. So the next area is we've talked in the last couple of earnings calls about our ambitions of a $100 million cost reduction on a run rate basis exiting 2024. And obviously, that requires a lot of work to do. And so a lot of time has been spent ensuring that we deliver on that, and we're successful at that. And then the third area is some of the newer growth opportunities that I think we're excited about, things like electric vehicle transition, things like -- we've got a new business that's growing nicely in health care in our nonbank custodian business. So it's ensuring success of the Flume and these other areas [indiscernible] in the business.

Sure. That's great. I guess before we dig into some of those details that you just alluded to, if we could briefly recap our transition from fourth quarter trends into your guidance for 2023. You exited the year growing organically around 19% in the quarter, over 20% for the year, I believe. But guiding for a bit of a slowdown throughout 2023. Could you just talk about some of the factors driving this assumption versus what we see as relative strength across segments right now?

Yes. So I would say a couple of things. So first, 19% growth in 2022, that's a percentage that's like excluding fuel price, FX, right, macro adjusted. So when we think about growth in 2023. Again, we've got to factor in that same macro adjustments. Clearly, gas prices, which have an impact on our revenue, are lower this year than they were last year. So you've got to think about that in terms of what's our growth rate. So if you adjust for that, we still have pretty healthy growth rates, although I will grant you that it's lower than we had last year from how we've guided. And when we came into guidance this year, we really spent a bit of time looking at what kind of economic expectations are over 2023. We were sitting in an environment where the Fed was aggressively increasing interest rates, trying to slow the economy down and trying to project what that might do for our business. We reviewed kind of a variety of economic forecast. I think it's something like 20 economists. We went out and looked at what forecasts were, saw the GDP growth estimates were significantly lower in '23 than they were for '22. And we have parts of our business that are impacted by the micro environment. So we adjusted our forecast and our guide for that. But I would say that if I think about our kind of long-term the growth rates we've put out there publicly, I'd say, even with some of the macroeconomic headwinds that we put into our guide, we're still within the range that we've said we want to be for the growth perspective.

So that would -- just to be clear, there would be no change to the 5-year CAGR of 10% to 15%?

Correct. Correct. We still feel good about that.

Got it. And then you already mentioned some of your cost reduction efforts in the $100 million run rate by year-end '24. Where can investors expect to see some of this show up?

Yes. We've been focusing on, I'd say, 3 areas. The first area that we looked at was what I call spans and layers of management, right? We've -- especially with the reorganization that went through our company. Last year and the new operating model, we looked at -- and I think a lot of companies do this, right? How many managers do you have? How many reports from managers? How many managers versus doers, right? And took some actions there to more streamline the organization and frankly, make it more effective, right? We started doing that late last year, if some of you pay attention to our financial statements by the Citi restructuring charge last year as we started to implement those actions. The second area that we've been looking at is in our operations. We have a pretty large footprint in kind of what I'd call the operating part of our business. So think about like call centers that support our fleet business, operations and call centers that support our health care business, right, from consumers calling in for information about their accounts, processing claims, things like that. We consolidated all those operations last year to one organization. And I think there's a lot of opportunity to drive kind of process efficiency, whether it be through use of technology, call deflection, knowledge bases, chat, things like that, streamlining kind of processes within it. And we think that both has a benefit to kind of improving costs within that part of the business, but also as a benefit of the employee experience as well. So that's the second area. Then the third area is what I call procurement spend, right? We spend hundreds of millions of dollars with vendors externally. And we think we have an opportunity to better manage that spend and whether that is right -- negotiating savings with vendors, consolidating spend amongst a diverse group of vendors down to a single vendor, we get some cost opportunity. Or even if it's roughly just looking at are we getting effective, right, outcomes from the money that we're spending with vendors. In some cases, we're saying, well, maybe we just stop the spend. So it's looking at all those above items. And I want to reiterate that we feel pretty good. We've said publicly that we expect to be, right, 1/2 to 2/3 of the way through that $100 million on a run rate basis as we exit 2023. And we still feel really good about that.

Yes. Great. And then obviously, gives you an opportunity to reinvest some of that. And so there's a lot of change coming out of a reorganization, a lot of change happening within each of your major segments, whether it's the EV transition, investments in Flume or continued health and benefit success. How do you prioritize between that? And maybe there's some sort of delineation between near-term versus long-term impacts on -- in each of those?

Yes. So let me answer that in pieces. So one, how do we prioritize? So one of the things that we did last year when you asked me about things that I'm focused on is we implemented a new capital planning process for the company, which -- we basically look at the opportunities for the company to make investments across the business. And that's the areas that you talk about EV and other areas. We don't have unlimited dollars. We take the dollars we have and look at -- to read some of our strategic ambitions to reach the business cases that are being put forward for some of these initiatives? What kind of investment is it going to take and what are the highest areas of opportunity. So we've implemented that from a process standpoint. I'd say that has gone extraordinarily well. We'll continue to refine that going forward. But I think that is a good process addition to the company. And then in terms of balancing near-term and long-term investments, some of the areas that you mentioned, right? So EV, obviously, has been an area of strong focus for us and an area of strong investment. We view that as kind of a multiyear or even longer transition period. So I don't think you'll see kind of as much of the near-term side, although we will start to see kind of proof points of adoption of some of the products that we're putting out there. More near term, I would say, we guided to a pretty strong in our health care business. A big portion of that is a new product that we rolled out over the last couple of years, a non-bank custodian business. where we're managing HSA assets and investing them. That's been a very strong grower. It's accounting for about half of the expected health care growth over this year. So that's been an area of significant investment and I think significant opportunity in the near term.

Sure. You touched on the custodian business. Why don't we just tackle that one right now? So to be clear, what WEX's earning essentially floating come on are strictly cash balances. Is there any risk for customers to sort that to higher-yielding vehicles for themselves?

I think what we've seen is those cash balances are pretty stable, right? Customers, as we sell HSA business and customers bring HSA assets over to accounts with us that we have -- still have rights for. We do see a lot of stability within that -- within those balances and a lot of stability as customers grow with us. There's always -- we also manage kind of noncash balances, more investments accounts for our customers. So you will see that as balances grow, some customers might move. They have an option to move cash balances over to investments accounts as well. But what we've generally seen is those cash balances are very, very stable and tend to grow over time.

Okay. Got it. Interesting. And then could you address a little bit if there's a lag time between onboarding a customer and seeing them a -- load funds into the account, invest funds into the account or actually see a benefit from the payment volume flows?

Yes. So just as a reminder, right, the payment kind of volume-related revenue that we get in our health care business is actually a small part of the business, right, but 70% to 75% of the business is what I call account servicing revenue, which is SaaS subscription model, 10% to 15% would be more of those -- the payment transaction volume. We typically don't see a huge lag. I mean, once accounts come on, once people put money into the account, they can start transacting fairly quickly. So the onboarding is fairly quick. It may take some time for new customers or consumers to kind of understand the HSA account, understand how to use and understand the processes required, but the actual time from account opening to being able to use it is pretty quick.

Is that one of the biggest barriers to growth in this business is education of the end client?

I'd say -- I wouldn't call it the biggest barrier, but it is a big opportunity, right? Educating customers on HSA accounts, opening an account, funding an account, and we've done a lot around that as a business, right? We acquired a benefited administration capability to help customers or end users, consumers sign up for benefits of their employer. And we've been building a lot of kind of data capability, assistive capability into that platform so that we can educate consumers. And we also work with our employer clients invested to their employee encouraging the use of HSA accounts and the benefits for them and the tax advantages for them, to help them kind of grow their accounts over time.

I would just add, we've done an HSA Day for the last few years as well. It all designed around just educating consumers around the benefits of it. We have a lot of people who -- every -- they know exactly what they're going to spend on a prescription every month, and that's exactly how much they put in. And then you have the other extreme of people who have the means, just put money in and leave it there. The vast majority of people, it's kind of a little bit up, a little bit down year-to-year. But the whole idea is just to educate people around the tax benefits, in particular, but it's a really powerful account.

Got it. And this is mostly an opportunity unique to the U.S.? Or are there other similar markets where this is possible to expand into over time?

Our health care business today is largely U.S. focused. We tend to focus in the U.S. There may be opportunities to expand it over time, but largely today, it's the U.S. focused business.

Got it. Okay. Great. Let's transition over to travel and corporate payments. Could you just give us a backdrop on where we are within the travel recovery relative to pro forma 2019 in terms of maybe both volume and transactions?

Yes, sure. We talked a bit about this in a couple of last earnings calls. Like you said, we tend to look at 2019 volumes and we tend to look at it adjusted -- obviously, we acquired a business that -- post 2019, our eNett Optal acquisition. So when we look at volumes, we tend to adjust for that in the 2019 numbers. So we're looking at an apples-to-apples basis adjusted for eNett Optal. And what we saw through the last 3 quarters of 2022, was that by and large transaction volume dollars were kind of in line with 2019 levels. What we generally saw was that -- its kind of transactions were below 2019 levels, but dollars per transaction were higher than 2019, I think somewhat reflecting the high demand of travel last year in the inflationary environment that it created. We see a little lower than that in the fourth quarter of '22. So it was a little bit below 2019 levels, but not materially below. So kind of continuing the same trend.

Okay. Great. And we mentioned eNett and Optal, just as a reminder, I think around 20% of the normalized travel volumes would be coming from Asia because of those businesses. And then how do you think that mix will evolve over time? Essentially, is the growth rate in Asia Pacific different from where it is in Europe or the U.S.?

Yes. So if I go back to 2019, the rough split of our business, adjusted for eNett Optal again, was roughly 40% U.S., 40% -- or 40% in North America and 40% Europe, 20% Asia. If I look at 2022, the last 3 quarters, we've skewed a bit more to Europe. Europe is definitely overperforming those historical numbers. Asia is underperforming those historical numbers. We have not yet seen a significant opening in China, especially on a cross-border basis, which is where we tendered revenue on Asia. So there may be stuff going on more travel inside of China, but we've not seen kind of that impact of cross border. So that's definitely been reflected in our numbers. We'll see over time, I think there's opportunity there.

Got it. Sure. I think recently you noted success in the partner channel as a method for the go-to-market within the travel and corporate payments business. Is that success? I guess, first, if we could take a step back and identify how that segment is split between partner and direct sales in terms of a go-to-market strategy? And then what was driving success within that partner channel that you called out? Is it the embedded payment side? Or the AP spend management side?

Yes. So I almost view kind of partner versus AP as kind of that same split of embedded versus direct.

Partner, meaning the embedded?

The embedded, yes. So when I think about business, right, the vast majority of our volume today is really that embedded payments business. The embedded payments business for us has been fantastic for the last few years, couple of years. We've grown very well. The travel business is essentially an embedded payment business. We've signed some fantastic customers on the corporate payment side of the embedded payment business. And just to remind everyone what that embedded payments is, right, we have a terrific back end where we've got technology, we've got issuing capability. We've got funding capability. So we are really -- bring everything a customer needs to connect into our API so they can deliver kind of their front-end user experience to our back end. So that business has grown terrifically in volumes. And as a result, we've seen great growth and great margin profile on that over the last year. If I think of where we are in the direct side, I'd call that a little bit more nascent, right? We've rolled out Flume, which is a new kind of lower and lower end -- lower market, down market opportunity for us, that's in early stages. Well, we've hired a direct sales team. We'll see how that goes in kind of our more mid-market to lower end of enterprise. We also have a direct sales team that we've staffed up. That direct sales team is now generating pipeline, generating new deals. And we'll see how that goes over the course of the year. I'm very kind of optimistic of the outcome of that. We really think we have a good offering there. But that's kind of how the split is.

Sure. On that spend management side, what is the split between a WEX-branded solution and a white label solution because you do both in that?

Yes. So the white label is what I'd call the embedded payment side. And again, that's the vast majority of it today.

So everything on the spend management is WEX branded?

Yes. It's that white label where we might do that with a partner today. And then we've begun selling direct, but that's relatively nascent for us now.

Okay. Awesome. I guess that leaves fleet. If we can move on to the fleet and fuel segment. So I guess we touched on this earlier, but some expectations based on many macro forecasts of slower growth in the back half of the year. So I guess we don't need to cover that again. But in particular, if you could talk about what you've seen in terms of SMB spend and the resilience or lack of resilience in SMB spend that you've seen, maybe there are certain industries to call out or regions?

Yes. So we split our fleet business between what we call local fleets and what we call our freight business. And the local fleets have, right, hundreds of thousands of clients in there, a lot of them would be SMB. And what we've been seeing is a lot of resiliency there, fleet business overall. Our freight business has been impacted by macro factors. We've seen kind of a slowdown in freight, spot rates declined. I think a lot of us probably have a personal experience with this, right? COVID happened, sitting at home, all ordering a lot of stuff online. Freight volumes increased. That was a benefit to that business a couple of years ago. Now we go -- 2 years later, we saw last year that impact was unwinding, more people traveling, helped our travel business. That was good for the freight business. So what we saw was from what we call same-store sales, which is how we measure kind of momentum of that business. That was a 2% decline last year in terms of gallon volume, which is how we measure the business. On the local fleet, that's been very resilient, right? We saw same-store sales in the fourth quarter about 3%. So continued to be strong momentum, and that's part of the business. Again, that's a lot of SMBs in that business. So we're seeing continued resiliency.

And on the micro OTR side of things, where there is that weakness, could you explain some of the dynamic? A lot of it is driver migration in between an enterprise versus an owner operator. Could you explain kind of what drives that [indiscernible]

Yes. So what we've...

Is that cyclical? And does it...

There is some cyclicality to that. I think what we saw when spot rates increased, especially like they did, during the pandemic. Drivers look at it and say, I can go buy a truck and be my own boss, right? So they'll go out, they buy a truck, become an owner operator, maybe have 1 or 2 trucks. And so we saw a big shift to that to the -- during the pandemic when fleet volumes were high. And then as fleet volumes -- freight volumes softened, we saw kind of the reverse of that take hold. Spot rates declined. So now you had customers in some cases bought a truck at peak prices during the pandemic. But now rates are going down, so that impacts the economics. So they basically have said, you know what, I'm going to go back to work for a fleet operator, right? So that volume will shift back towards larger fleets, which fortunately, in many cases, will still be our customer.

Right. Exactly. And I guess the one piece and variability that has also happened because of the strain on the smaller customers and because of the high gas price is credit loss rates. And if we could -- if you could give us an update on where that is and maybe split the discussion between credit losses and fraud losses?

Yes, sure. So coming through last year, we saw elevated increase in both credit and fraud losses. So let me start with credit losses first. Primary impacts that we've seen are exactly with what we talked about, which is that freight segment, predominantly the smaller owner operators that have been impacted by the environment that the freight business is in. Just to kind of size it, right? So when we look at our total book of accounts receivables, 85% of accounts receivables sit in our local fleet business, which has been kind of very, very stable, right? 15% of it sits in that freight part of the business, what we call OTR. And of that, roughly 20% has been related to these smaller owner operators. So it's a pretty contained problem. We've been pretty aggressive on the credit front. We've been -- we increased credit requirements for new applicants. We've been looking at our portfolio, reducing credit lines where it made sense, increasing in some cases, payment terms as an owner -- truck owner that had to pay us once a week may have to pay us twice a week now, which is another way of reducing credit. And so that all has helped to stabilize the business, and we're looking at it believing we're seeing some stabilization. One of the things that we track is accounts that go into past due or delinquency. And within that freight segment, we are starting to -- we've started to see stabilization of things kind of entering the top of the delinquency funnel before it turns into a charge-off. We started seeing that late in Q4, and that's been kind of holding. So we feel pretty good about that. So I feel -- things feel like they're stabilizing the credit side. On the fraud side, again, we saw large impacts of fraud last year. A lot of it, we believe, was related to that spike in gas prices we saw. We're suddenly, right, being a fraudster trying to attack us was something more profitable because gas prices were so much higher. And so we took a lot of actions. Last year, we set a fraud monitoring tools that we very quickly reacted to updating those monitoring tools. We worked pretty hard with our merchant partners. We've got something that we call a point of compromise model that tells us when it's transaction fraud, exactly where that fraud is occurring. So we can work with merchant partners to identify where there might be a skimming device or something on a pump to address the fraud there. We've worked in some cases, with merchant partners to shift potential responsibility, basically help get their involvement in helping to reduce the fraud. And then we had application fraud going on, separate from the transactional fraud that was actually pretty easy to -- but we addressed pretty quickly by updating some needed improvements in our applications. So all that we saw from Q1 to -- sorry, Q3 to Q4 that fraud rates declined 50%, and we're expecting going into this year continuing improvements in fraud rates. We feel pretty good about that.

Great. Much better momentum on that looking into '23.

Yes. Exactly.

I'd like to open it up to the floor. If anyone has any questions for the last few minutes. No? Why don't we -- I'll let you guys think about it. And why don't you give us some kind of a status update, and maybe if we could split this between the U.S. and Europe on where we are in WEX's preparations for the EV transition.

Yes. So we've, as I mentioned earlier, been investing a lot in EV. We've signed partnerships that allow us to offer to our customers the ability to charge devices on the road, right? Kind of similar to what we do today with gasoline-powered vehicles. So that on-the-road charging is some of the functionality we've been rolling out initially. And we've got some partners that are ChargePoint operators that we're working with. Earlier, a little bit more in Europe. We're now transitioning kind of that to the U.S. as well. At the same time, we are also rolling out and -- building and rolling out functionality within our platform that will address the other areas that a fleet manager would care about, right? So folks are not going to just charge their cars on the road, they're going to potentially charge them at home. They're potentially going to charge them at a depot at their employer site. And so we need to provide the capability for those operators of the vehicles and the fleet managers to manage that kind of more complex environment. And so we've been developing that functionality and also working with partners as well. We believe that one of the things that fleet managers will want to understand is kind of the total cost of ownership of an electric vehicle. So there's a consultative aspect to that as well, which we've been building capabilities around. And lastly, we do believe that fleet owners will operate in a mixed fleet environment for some period of time. What I tend to see today is that the early adoption is occurring predominantly in kind of larger enterprises, government organizations, organizations with a large number of vehicles where they might have hundreds of vehicles or thousands and they'll -- they've started to adopt 30 fleet EV vehicles that they may have or they may have ordered and they're waiting for. And so we see this as an environment where organizations are going to be operating both internal combustion and EV vehicles for a period of time. And we think that gives us kind of a natural foothold in the market because we are a leader in, right, traditional vehicles. Most fleet managers are not going to want to operate in one system for internal combustion and a separate system for electric vehicles and try to reconcile and understand, right, what their cost of ownership is, where their vehicles are, they want to -- want to work in one system and one platform. And because we're the current platform, we think that gives us a natural opportunity to help them manage that transition. And so that's the function that we're building. And that transition that's going well. We're going to continue to see updates to our platform and offerings over time.

Yes. That's great. Much more -- honestly, a stable, resilient subscription-based recurring revenues [Indiscernible]

Right. Right. That's the other piece of it is how do you charge for it, right? And the way we think about it is that's going to be a bit more SaaS-like in the business model, meaning it's going to be subscription-based for some of the reasons I talked about, right? There's a managing your fleet, managing the cost of that fleet. Where should I have my drivers charge, where is it lower cost? What time of day? So all that leads to a much more subscription-oriented offering, which we think provides some resiliency in the business.

That's fantastic. Last call, if anyone has one final question. Jagtar, Steve. Thank you so much.

Daniel, thanks a lot. Appreciate it.