2023-12-16 12:14:01 ET
Summary
- CPI Card Group's results continue to suffer from prior over-ordering by big banks.
- The company's opportunity and then issues with contactless cards has played out in a similar manner to EMV cards a number of years ago.
- Investors need to see the business stablize before considering jumping in.
I closed out my “Sell” call on CPI Card Group ( PMTS ) in late September after the stock fell nearly -60% from my March write-up . I originally placed a “Sell” rating on the stock due to the similarities I saw with the growth it was seeing in contactless cards in 2022 versus what it saw in 2015 driven with EMV cards, after which the stock collapsed. Let’s catch up on the stock.
Company Profile
As a reminder, PMTS is a manufacturer of credit, debit, and prepaid debit cards. The company makes both EMV (chip cards) and non-EMV (magnetic strip only) cards, and both types of cards can employ contactless technology that utilizes near field communications ("NFC") technology. It also offers card personalization services, as well as a SaaS solution that allows firms to instantly issue cards to their customers.
Q3 Earnings
For its third-quarter results reported last month, PMTS saw its revenue fall -15.0% to $105.9 million. That missed analyst estimates calling for sales of $113.9 million.
Gross margins decreased by -480 basis points to 34.1%. Operating deleverage was the primary reason for the decline, along with increased material cost. The company did see some benefit from lower fright costs.
Adjusted EBITDA fell -25% $21.2 million from $28.3 million a year ago. EPS of 33 cents missed expectations by 16 cents.
By segment, Debit & Credit revenue dropped -15.8% to $83.8 million. Gross margins for the segment came in at 33.9%, down -440 basis points. EBITDA for the segment was $23.1 million, a decrease of -27.1%
The company pointed out examples of large banks growing their card issuance. It noted that Chase cards grew 16%, while Wells Fargo ( WFC ) saw new accounts grow 22% and Citigroup ( C ) by 5%. However, it said that there was a mismatch between new car issuance and production, as banks had over-ordered cards back in 2022.
Prepaid Debit revenue sank -11.8% to $22.3 million. Segment gross margins were 34.8%, down -610 basis points. EBITDA for the segment fell -24.2% to $7.3 million.
The company said the decline in Prepaid was largely due to the timing between quarters and it expects the full year to be similar to slightly up.
Overall, PMTS generated $12.5 million in free cash flow in the quarter and $16.2 million for the year. It ended the year with $272.7 million in debt and $10.5 million in cash & equivalents, good for leverage of 2.9x. The company did pay down some debt during the year redeeming $17 million in notes.
Looking ahead, PMTS guided for 2023 sales to decrease by the mid-single digits. That compares to a prior forecast for revenue to be flat to up low single digits.
Meanwhile, it is looking to grow adjusted EBITDA to fall by mid-single-digits versus a previous outlook for adjusted EBITDA to grow by mid to high single digits.
It is looking for free cash flow to double over 2022 levels versus prior guidance to more than double. It's looking to end the year with leverage of 3.0x compared to a previous forecast of 2.5-3.0x.
The company said it expects Q4 sales to be similar to Q3. It said it had originally projected an improvement in Q4 based on talks and quoting activity with customers, but the demand never materialized.
On its Q3 earnings call , EVP of End-to-End Payment Solutions John Lowe said:
“Looking back at 2022, we delivered well-above-average growth, with our debit and credit segment increasing 32% as customers have high demand for cards given the limited supply in the market. As the supply chain stabilized and lead times came down in 2023, in combination with economic uncertainty and baking industry stress, customers have pulled back on ordering this year more than we expected and are targeting lower months of supply for their inventory, resulting in our updated outlook of a mid-single-digit sales decline for the year. Relative to 2021, though, this year's projected sales would still be about 20% higher than the 2021 levels. And the combined two-year trends would be more consistent with the ongoing growth in cards issued to consumers. Long term, we believe growth in consumer issuance, coupled with the recurring nature of the business in which the significant majority of card issuance relates to existing card replacements and the ongoing trends towards adoption of higher priced contactless and eco-focused cards, should support strong growth for the company. We don't know exactly when customer spending will normalize. But based on indications from our customers, we believe the market will improve gradually over the course of 2024. We will have more visibility and provide more color on our 2024 expectations when we release our fourth-quarter results early next year.”
The commentary from PMTS from 2016 with regard to EMV chips compared to the current commentary this year with contactless cards continues to sound similar. Back in 2016, the company mentioned the over-ordering of EMV cards the year before by large banks that needed to get through their card inventory. The one difference appears that the company is not seeing the pricing pressure in contactless cards that it was seeing in EMV cards, although it is still seeing gross margin pressure in a similar manner.
While back in 2016-17 the company continued to talk about the positive long-term opportunities in the market, the stock did not recover until 2021, and there were some serious bankruptcy concerns for a while. Sales did start to recover in 2018, but EBITDA remained low and company was over leveraged. The company’s debt has remained similar to where it was back in 2015 when it had net debt of $295.4 million, with the company only recently taking it lower this year. The difference is EBITDA is now around $90 million versus the between $20-55 million it was between 2018-20.
Share Purchase Agreement
Earlier this month , the company announced a share purchase agreement with its largest shareholder, Tricor Pacific Capital Partner managed by Parallel49 Equity, where it will purchase 3x as many shares from the firm as it does on the open market. The agreement will run from December 11 th through March 31 st , 2024 and be up to a maximum of 325,000 shares. The price will be at 98% of the volume weighted average purchase price of shares bought by the company in the open market.
Tricor currently owns 6.6 million shares of CPI, or about 57% of its shares outstanding. PMTS announced plans to repurchase $20 million in shares when it reported in Q3 results.
Tricor was a pre-IPO backer of PMTS, investing in the company all the way back in 2007. PMTS IPO’d in late 2015 at $10. The firm has been through a lot with PMTS, only selling shares at the IPO, so its decision to unload some shares now might not be the best sign for its confidence in the company.
Valuation
PMTS trades at 5.4x its EBITDA 2023 consensus of $90.8 million. Based on the 2024 consensus of $91.4 million, the stock also trades at a 5.4x multiple.
On a PE basis, it trades at around 6.5x the 2023 consensus of $2.71.
Revenue is projected to fall -6% this year and rise 2.3% next year.
The stock trades at a lower multiple to its closest peer CompoSecure ( CMPO ), but PMTS is projected to grow a bit slower and has a bit more leverage. For its part, CMPO revised its guidance down to 3% revenue growth in 2023 and for adjusted EBITDA growth of 5% at the midpoint.
If it looked like PMTS would right the ship in 2025, it could get an 7-8x EV/EBITDA multiple on 2024 EBITDA, which would value the stock at about $30-38. That said, the company has a lot to prove, and I’m not comfortable enough that 2024 will completely stabilize yet.
Conclusion
PMTS has potential as a turnaround play play if its sales and margins stabilize or show some improvement next year. However, history suggests that it’s best to see the company start to prove that this is the case and that things do not get worse.
As such, I remain neutral on the name, but I will watch to see if that stabilization starts to show up, which could convince me to upgrade the stock.
For further details see:
CPI Card Group: Company Needs To See Stabilization Before Investors Consider Jumping In