One of the hottest sectors in the stock market during the past year has been the payments space. Square is smoking the market, having gained 177% in the past 12 months, and PayPal Holdings has advanced more than 50%. Payment processing companies Worldpay and Global Payments have both more than doubled the S&P 500's returns, gaining over 30% in that time. The most notable laggard in the group had been First Data Corp. (NYSE: FDC), which, until it reported its first-quarter earnings results, had trailed the S&P 500 index.
After reporting its earnings, the company's shares popped and reached new 52-week highs. Looking over the quarterly results, it's not hard to see why: The company is finally showing top- and bottom-line growth. Total segment revenue net of reimbursable items grew to $2.08 billion, a 10% increase year over year, and adjusted earnings per share rose to $0.29, a 6% increase year over year. Its net debt, while still absurdly high at almost $18.4 billion, did decrease by about $240 million in the quarter.
What drove the top- and bottom-line beats? After reading through the company's first-quarter conference call, transcribed by S&P Global Market Intelligence, it seems the integration of recent acquisitions CardConnect and BluePay is going well and helping the company win new deals.
Why the CardConnect and BluePay acquisitions are so important
Before First Data acquired CardConnect last summer, the perception was that the company was being out-innovated by disruptive upstarts such as Square. While other payment processing companies were spending money on innovative solutions to make payments more secure and seamless, First Data was busy paying off the mountain of debt it was saddled with after being spun off from private equity partnership KKR.
The CardConnect and BluePay acquisitions changed all of that, instantly giving First Data new and innovative capabilities, allowing it to compete with its rivals on a level playing field. CardConnect offers vendors real-time transaction management, mobile app payment acceptance, regulatory compliance management, and tokenized transactions. BluePay bolsters First Data's e-commerce competency.
In the company's conference call, when asked how these businesses were growing, CFO Himanshu Patel stated it didn't even make sense to track the businesses separately from First Data, as the three entities were nearly completely integrated. Since the call, the company announced that the integration was complete.
In the press release, CEO Frank Bisignano stated:
First Data is committed to creating an ecosystem that helps the developer and software community realize the full advantages of integrated payments. We brought CardConnect and BluePay into the First Data family to evolve our ISV [independent software vendor] business into being a world-class offering. Combining these two organizations is the natural next step in furthering our momentum in the high-growth ISV space.
Winning new deals
There is ample proof testifying to the success of these acquisitions, and First Data has announced several new deals that Bisignano attributed to them. Millennium Systems International is a cloud-based software that processes "billions of transactions" across the spa and salon industry in 36 different countries. First Data's payment processing services will now be integrated into Millennium's platform.
Another big deal announced by First Data during the conference call was the exclusive right to process payments for the mortgage software platform powered by Ellie Mae (ELLI). All future appraisal and application fees collected by Ellie Mae will be facilitated by First Data. Ellie Mae's software processes more than a third of all mortgage loan applications in the U.S.
After announcing these new deals, Bisignano concluded, "These recent successes are an affirmation of our value proposition in the ISV market."
Is First Data now a buy?
I don't think there is any doubt that the CardConnect and BluePay acquisitions were a smart use of capital by First Data. Both were immediately accretive to the company's earnings and are now helping it win additional market share. The capabilities they bring to the table, one having expertise at the point-of-sale and the other with card-not-present transactions, complement each other well. Bisignano and the rest of First Data's management team deserve credit for seeing what the company needed to thrive in a rapidly evolving industry.
That being said, I still don't think the company makes for a smart investment. The company is still saddled with an inordinate amount of debt totaling $18.4 billion. Bisignano said debt reduction remains the company's "primary focus" going forward. The company expects to generate more than $1.4 billion in free cash flow, with plans to use the bulk of it to pay down debt. Patel added that the company's goal is to have its leverage ratio, defined as net debt to EBITDA, be down near 4.0 by the end of 2019.
In other words, the company is saying and doing all of the right things. That doesn't change the fact that its debt will continue to be a yoke around its neck, giving it limited options in the future to make additional acquisitions or devote funds to internally develop innovative payment solutions. With competition in the payment sector heating up, First Data is not the horse I would bet on.