CoreLogic, Inc.
Q2 2018 Earnings Call Transcript

Published: 26 Jul 2018

[Operator:]

Good day, everyone, and welcome to the CoreLogic Second Quarter 2018 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. And please note that today's event is being recorded. I would now like to turn the conference over to Dan Smith of Investor Relations. Please go ahead.

[Dan L. Smith:]

Thank you and good morning. Welcome to our investor presentation and conference call where we present our financial results for the second quarter of 2018. Speaking today will be CoreLogic's President and CEO, Frank Martell; and CFO, Jim Balas. Before we begin, let me make a few important points. First, we posted our slide presentation, which includes additional details on our financial results on our website. Second, please note that during today's presentation, we may make forward-looking statements within the meaning of the federal securities laws, including statements concerning our expected business and operational plans, performance outlook, and acquisition and growth strategies, and our expectations regarding industry conditions. All these statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. For further details concerning these risks and uncertainties, please refer to our SEC filings, including the most recent Annual Report on Form 10-K and the subsequent 10-Qs. Our forward-looking statements are based on information currently available to us, and we do not intend and undertake no duty to update these statements for any reason. Additionally, today's presentation contains financial measures that are non-GAAP financial measures. A reconciliation of these non-GAAP measures to their GAAP equivalents is included in the appendix to today's presentation. Unless specifically identified, comparisons of second quarter financial results to prior periods should be understood on a year-over-year basis. That is, in reference to the second quarter of 2017. Finally, please limit yourself to one question with a brief follow-up. We will take additional questions at the end of the call as time permits. Thanks. And, now, let me introduce our President and CEO, Frank Martell.

[Frank D. Martell:]

Thanks, Dan, and good morning, everyone. Welcome to CoreLogic's second quarter earnings call. I will lead off today with a recap of notable second quarter and first half operating highlights, including comments on revenue trends, profit margin expansion, and market conditions. Jim will summarize our second quarter financial results and provide guidance updates. We'll wrap up with the Q&A session. I want to start off my prepared remarks today by thanking our employees, clients, and shareholders for their continued support. The CoreLogic team delivered another strong performance in the most recent quarter and for the first half of this year both operationally and from a financial point of view. Our second quarter 2018 revenues, adjusted EBITDA, and adjusted EPS increased 3%, 18%, and 39%, respectively. We grew the top line, expanded operating income, and adjusted EBITDA margins and generated strong free cash flow despite U.S. mortgage market headwinds. Jim will discuss our second quarter financials in detail later. I will focus the balance of my prepared remarks today on our first half results. The headline for the second quarter and the first half of 2018 is undoubtedly the durability and resiliency of our business model, as well as the progress we're making towards achieving our long-term profitability targets. For the first six months of this year, revenues, adjusted EBITDA, and adjusted EPS increased 2%, 17%, and 40%, respectively, despite an estimated 10% drop in U.S. mortgage market volumes. Operationally, we focused on building market leadership in our property intelligence, underwriting, risk management solution sets, building out our insurance & spatial solutions and international footprint, expanding operating leverage and margins, enhancing our technology and compliance capabilities, and finally, returning capital to our shareholders. We also continued to invest in building new leading-edge solutions that will provide our clients with unique insights that connect the totality of real estate ecosystem. Our relentless focus on innovation, superior quality and service levels, as well as scale, positions us to be a high-impact partner for our clients as we drive to enhance and, in some cases, transform underwriting, property valuation, and risk management solutions. We successfully generated 2% top line growth in the first half of 2018. We outperformed the broader mortgage market trends yet again, and expanded our non-mortgage footprint. Our PIRM segment grew 4% on strong performance within our property insight businesses. Our UWS segment grew modestly year-over-year as organic growth, scaling our valuations platform and favorability related to an amendment of a long-term tax servicing contract, offset the impact of lower market volumes and AMC revenues. Operating income from continuing operations increased by 21%, and adjusted EBITDA rose by 17% over the first half of 2018. Profits were up in both of our operating segments including, in the case of UWS, the benefit of the contract amendment previously discussed. First half adjusted EBITDA margins were 28% or 350 basis points higher than last year. Margins were up 160 basis points excluding the impact of the contract amendment I just discussed. Favorable margin trends in 2017 and, so far in 2018, are the result of our focus over the past several years on optimizing our revenue mix, building an efficient organization, and driving automation, operating leverage, and productivity. Last year, we set a goal of achieving at least 30% adjusted EBITDA margins by 2020 based on a normalized U.S. mortgage market and after accounting for the build-out of our valuations solutions platform. One of our main levers for delivering this goal is achieving significant cost productivity in the first quartile levels of operational excellence. I'm pleased to report that our 2018 cost management program is on track to reduce run rate costs by at least $15 million a share. These savings will be generated primarily by simplifying our organization, driving cross productivity, and automating certain workflow processes. We also announced earlier this year that we intend to make certain additional target investments in 2018 and 2019 that we expect will significantly enhance our data curation and production processes, and technology capabilities, as well as accelerate workflow automation. While these investments are not expected to benefit 2018 financial results, we believe these programs will result in substantial quality and cycle time benefits, plus lower run rate costs as we exit 2019. As Jim will discuss later, we continue to successfully drive high rates of free cash flow. CoreLogic's ability to consistently deliver high levels of free cash flow over time has proven to be a significant differentiator and reflects the underlying strength and durability of our business model. As a matter of strategic intent, we have consistently allocated our free cash flow to fund scale and product innovation, optimize our capital structure, and return capital to our shareholders through share repurchases. In fact, over the past seven years, we returned a significant portion of our free cash flow to our shareholders in the form of stock buybacks. Since 2011, we have repurchased approximately 46 million of our common shares for $1.3 billion. The successful execution of our strategic transformation program over the past seven years has allowed us to progressively reduce the impact of down cycles in U.S. mortgage market unit volumes. We have a long-established track record of consistently outperforming market volume trends. This strong performance has resulted from our focus on building leadership in our core business units through market share gains, product development, as well as smart acquisitions. Since 2011, we have grown revenues at an annual compounded rate of 9%, adjusted EBITDA by 12%, and adjusted EPS by 25%. Operating margins are up 865 basis points and our share price is up 257%. To sum it up, the CoreLogic team has delivered another strong operating and financial performance in the second quarter and the first half of 2018. As I said earlier on, I believe that these results clearly demonstrate the durability and resiliency of our business model as well as the progress we're making towards achieving our longer-term profit targets. We enter into the balance of 2018 and beyond excited by the opportunities inherent in our strategic plan which is focused on delivering unique must-have insights that power and connect the global housing ecosystem. We remain focused on securing the opportunities presented by the evolving purchase-driven mortgage cycle in the U.S., and we are also continuing to drive a shift in our revenue mix towards must-have solutions, expanding into non-mortgage adjacencies, and realizing the benefits of scale and cost productivity. Appreciate you joining us today. Jim will now discuss our second quarter financial results and guidance.

[James L. Balas:]

Thanks, Frank, and good morning, everyone. Today, I'm going to discuss our second quarter 2018 financial results and then outline our views on capital return and recap our financial guidance. As Frank mentioned, CoreLogic delivered a very strong operating and financial performance in the second quarter. Notable second quarter financial highlights included; first, revenue growth of 3% driven by continued organic growth trends, outperformance of U.S. mortgage market volumes, acquisitions in both of our business segments, and the benefit of a customer-driven contract amendment that accelerated revenue recognition; second, improved business mix reflecting a greater proportion of higher margin subscription, technology, and non-mortgage based revenues; third, significant adjusted EBITDA margin expansion driven by revenue growth, business mix, and cost productivity; fourth, strong generation of free cash flow; and finally, the repurchase of approximately 872,000 common shares which represents more than 1% of our total outstanding share count. Second quarter revenues were $488 million compared with $474 million in the same 2017 period, an increase of 3%. PIRM revenues rose 4% to $183 million, driven primarily by organic growth in property insights, including real estate-related and international operations, as well as contributions from insurance & spatial solutions acquisitions completed in 2017. UWS segment revenues were up 3% to $308 million, despite a more than 10% decline in U.S. mortgage unit volumes and the impact of the wind down of certain non-core product lines. The positive year-over-year growth trend resulted principally from organic growth and the benefit of accelerated revenue recognition of approximately $23 million, resulting from the amendment of a long-term contract. UWS revenue growth also benefited from the scaling of CoreLogic's valuations solutions platform through the acquisitions of Mercury Network and a la mode technologies. Operating income totaled $90 million for the second quarter compared with $78 million for the second quarter of 2017. The 14% year-over-year increase in operating income was principally attributable to revenue growth upsides discussed previously, favorable business mix, and gains from cost management and productivity programs. Second quarter operating income margin was up approximately 100 basis points to 18%. Second quarter net income from continuing operations totaled $59 million compared with $41 million in the same 2017 period. The increase was primarily attributable to operating upsides outlined previously. Second quarter diluted EPS from continuing operations totaled $0.71 compared with $0.48 in 2017. Adjusted diluted EPS totaled $1.00, up from $0.72 in the second quarter of 2017. Adjusted EBITDA totaled $159 million in the second quarter compared with $135 million in the prior year period. The 18% increase in adjusted EBITDA was principally attributable to revenue growth, improved business mix, and cost productivity partially offset by the impact of lower U.S. mortgage market unit volumes. PIRM adjusted EBITDA increased 2% to $60 million. UWS adjusted EBITDA rose 26% to $104 million, driven by organic growth including the previously mentioned revenue recognition benefit of approximately $23 million resulting from the amendment of a long-term contract, as well as the scaling of CoreLogic's valuations, solutions platform, which more than offset lower U.S. mortgage unit volumes and the wind down of certain non-core product lines. Adjusted EBITDA margin was up approximately 410 basis points to 33%. Second quarter margins were up 80 basis points excluding the impact of the contract amendment discussed earlier. Finally, despite a one-time $16 million cash payment associated with the previously disclosed legal settlement accrued in 2017, we continued to generate significant levels of free cash flow. For the 12 months ending June 30, 2018, free cash flow totaled $314 million, a 61% conversion rate of last 12 months adjusted EBITDA. I will close my prepared remarks today with a discussion on capital return and updates regarding our financial guidance. In terms of capital return, CoreLogic's strong free cash flow has enabled us to invest for future growth while managing our overall debt balances and returning significant amounts of capital via share repurchases. This approach has proven to be a significant source of value creation for our long-term shareholders, and we expect it to remain so in the future. Through the first half of 2018, we repurchased 1.3 million shares for a total of $63 million. CoreLogic is committed to repurchasing 2% to 3% of our outstanding common shares in 2018. Regarding our full year financial guidance, based on our strong first half financial performance, in our current view of likely market volumes, investments, and cost productivity for the second half of 2018, we have revised our full year guidance for 2018 as follows. We're expecting full year 2018 revenues of $1.825 billion to $1.875 billion. Adjusted EBITDA of $480 million to $500 million and adjusted EPS of $2.70 to $2.85 per share. Our revised 2018 guidance ranges reflect the following updated estimates and assumptions. First, we expect full year 2018 U.S. mortgage loan origination unit volumes to decline by approximately 10% to 15% from 2017 levels. In addition, we estimate a full year net benefit of approximately $20 million attributable to accelerated revenue recognition, resulting from the amendment of a long-term contract as discussed earlier. This benefit is expected to be partially offset by increased research and development costs of approximately $5 million to $10 million, related to the enhancement of the company's data visualization and solutions delivery capabilities. As far as our outlook for the third quarter of 2018, based on our current view of U.S. origination market unit volume trends and the progression of our strategic plan, including accelerated timing of investments and cost trends within our business, we expect that adjusted EBITDA for the third quarter will be in the range of $127 million to $135 million. We have achieved a strong start to 2018 and we believe we are well-positioned to continue to deliver strong financial results over the balance of the year. In addition, we are focused on executing our strategic plan with a long-term view toward enhancing our revenue growth and margin expansion over the years to come. As Frank mentioned earlier, CoreLogic remains committed to achieving 30% plus adjusted EBITDA margins in 2020 based on a normalized U.S. mortgage market and after accounting for the build-out of our valuations solutions platform. We expect to achieve our margin goals through a combination of profitable growth, favorable revenue mix, as well as business model transformation and cost productivity. Thanks for your time today. I will now turn the call back over to the operator for Q&A.

[Operator:]

Thank you, and we will now begin the question-and-answer session. And at this time, we will pause for a moment to assemble our roster. And our first questioner today will be Darrin Peller with Wolfe Research. Please go ahead.

[Darrin Peller:]

All right. Thanks a lot, guys. Just to clarify, when we think about the EBITDA raise versus guidance, I know there's some puts and takes. So, you're incorporating investments now in the business. If you could just go into a little more of what that's for and where you see the benefits coming from those incremental investments? And I know you're incorporating a lower outlook, yet you're still raising guidance. I guess, partly because of the contract reset on price or on – overall. So, can you just give us a little more color on the puts and takes to get to what's actually happening here and why the incremental assumptions around both originations and investments?

[Frank D. Martell:]

Sure. Yeah. Good morning, Darrin. This is Frank. I'll start off and Jim can fill in if necessary. But I think that the guidance progression, I would summarize as follows. At the end of the first quarter, which was a strong quarter, we moved to the higher end of the guidance range which is essentially where we've remained despite the fact that there is more incremental downside in the market if you look at the MBA forecast or both the GSEs, there's an additional pressure in mortgage volumes. We've been able to overcome that in the – on the profitability side and hold that range, so that's – that remains unchanged.

[Darrin Peller:]

Right.

[Frank D. Martell:]

In terms of the discrete item that Jim mentioned, the contract adjustment. There was a – approximately $20 million benefit from that item for the full year. So, if you add that to the number, you get to kind of roughly $490 to million to $505 million. We – in addition, from a discretionary perspective, I think it makes a lot of sense for us to continue to invest heavily in future prospects around data visualization and also things that – production platforms and other delivery systems that I think will enable growth as the cycle plays out. So, that was really the R&D that Jim mentioned. It's – again, it's a discrete one-time. So, it somewhat offsets a little bit of the discrete one-time benefit of the revenue adjustment. So – but I'd say the most important fact here is that the underlying guidance, despite the additional couple percentage points of projected pressure in the market, has been absorbed largely through, I think, mix and cost measures. I think on the revenue side, we maintained the range, so we've really absorbed the market and we benefited from the $20 million revenue recognition, but it held that the same despite the mortgage market pressure.

[Darrin Peller:]

Yeah. That's helpful. And then, just a quick follow-up. I mean, look, we calculated when you adjust for all these items including others like M&A that you had about a 2% or let's call it low-single digit organic growth adjusting for the market as well in the business overall. That's backing out the benefit from the contract. I guess, I'd be curious to hear your thoughts on, Frank, what kind of growth profile you think we would see in, all else equal, if this business was just dropped into a market that had originations growing a few percent, a normalized market, what kind of tailwinds could we see in the rest of the business and around more demand or for products like analytics that could change that growth profile? And then, I guess on top of that, the VSG side had a client I know that's been struggling with some share. I'm just curious if that's also an area that, that headwind is in your outlook. Is that something you see abating as the year progresses and into next year? Thanks a lot guys.

[Frank D. Martell:]

Yeah. Thanks, Darrin. I think, first of all, let me just point out one thing which I think will give you – goes to the earnings power of the company and how that's evolved over the last couple of years. If you look at – rough numbers, if you look at 2016, the mortgage market was roughly $1.9 trillion, and we made about $0.5 billion of adjusted EBITDA. This year, the guidance is calling for a similar number, but if you back out the – with the discrete items, we're at $470.45 million (00

[Darrin Peller:]

Right.

[Frank D. Martell:]

So, I think if you look at the 2% underlying organic growth rate, I'd like it to be a lot higher. We're fighting hard to get it higher. But I think in the short run, it's difficult because of some of these issues in the market.

[Darrin Peller:]

Yes. All right, makes sense, guys. Thank you.

[Operator:]

And our next questioner today will be Jeff Meuler with Baird. Please go ahead.

[Jeffrey P. Meuler:]

Thank you. On the contract restructuring, given that it was a long-term tax servicing, I think that's paid upfront at origination and I know this quarter's not cash. But in terms of the way that the contract will go forward on an ongoing basis with that client post the restructuring, is it a net benefit to you, has the contract scope reduced? Just any – I know we're going to have the $20 million grow over that we're comping against from 2018 and 2019. But given that it's a sizable contract, any change in the contract economics and if it's a good or a reduced scope for CoreLogic?

[James L. Balas:]

Hey, Jeff. This is Jim. So, on the tax contract, our client came to us for a particular pain point that they wanted to make a change in the structure of that contract. So, the overall profile of the economics, I think they're pleased with what they were able to cure, meeting their needs. We're also pleased with the commercial outcomes of the contract. We don't foresee any significant change there. It's just a little bit different structure to it. The reason why we had to recognize and pull the $23 million off the balance sheet was the old contract had a future performance obligation attached to it. When the structure of the contract changed, that obligation went away and raised through the P&L essentially. So, we're pleased with the outcome of the commercial arrangement, and they're pleased with the outcome for them in terms of what they wanted to address.

[Jeffrey P. Meuler:]

Okay, thank you.

[Frank D. Martell:]

I think, Jeff...

[Jeffrey P. Meuler:]

And then, just...

[Frank D. Martell:]

Sorry, Jeff. Just, I think, this item – I think, to answer your question, I think also there's not a material change in our profile going forward.

[James L. Balas:]

No.

[Frank D. Martell:]

Related to this. So, I wouldn't expect any downsides or large upsides.

[Jeffrey P. Meuler:]

Okay. That's helpful clarification. And then, can you just remind us on the, I guess, the tax escrow business. Is interest income to CoreLogic meaningful to you and can you give us any – if so, can you give us any sensitivity to rising rates and how they would be potentially impacting you?

[James L. Balas:]

So, on interest, we don't earn interest income on those contracts.

[Jeffrey P. Meuler:]

Okay. (00

[James L. Balas:]

That's to say that we're not allowed to earn that – those monies.

[Jeffrey P. Meuler:]

Okay.

[James L. Balas:]

Specifically.

[Jeffrey P. Meuler:]

And then, just – finally, FX is also moving around for some currencies. I know you have some outsourcing arrangements. Can you give us a sense of what percentage of your expense base – and I'm not thinking about the Australia business, but I'm thinking about for servicing U.S. clients. What percentage of your expense base is via those outsourcing arrangements and denominated in other currencies?

[Frank D. Martell:]

Yeah. The outsourcing – Jeff, I'd say that a lot of them are U.S. dollar-related, so there's really not a currency benefit or risk there to us from a translational perspective.

[Jeffrey P. Meuler:]

Okay. Got it. Thank you.

[Operator:]

And our next questioner today will be Bill Warmington with Wells Fargo. Please go ahead.

[William A. Warmington:]

Good morning, everyone.

[Frank D. Martell:]

Good morning, Bill.

[William A. Warmington:]

So, first question for you is on pricing. You mentioned that you've had some success in putting through some price increases. What kind of contribution to revenue growth is pricing these days, and what could it become over the next few years?

[James L. Balas:]

Yeah. Pricing continues to be a healthy driver as part of the organic growth rate. It's becoming more programmatic. It's part of our new contracts as they renew. We've also had some remediation in the past for certain businesses. So, all in all, it still remains pretty healthy.

[William A. Warmington:]

Okay. My follow-up question is on VSG. You've talked in the past of how you've been able to sign on 20 or more clients for this VSG services. How is that onboarding process going and when do you think that the new clients are going to start to move the needle for revenue?

[Frank D. Martell:]

Yeah. Look, I think, Bill, first of all, just a couple things on VSG. One is, the AMCs faced the headwind. I think some of it's kind of situational and unique, some of it is market. I think that we're very pleased with the sign up of new clients. We have a lot of new clients signed up. A lot of them are in various degrees of onboarding. It takes a bit of time to get their systems augmented to accept the orders through our business unit, but that's all progressing I think pretty well. Also, obviously, those lenders that are signing up, they're also in the same market conditions everybody else is, but I'd say that the impact is progressively more. I think we're going to see a meaningful impact next year from these folks. And I think we're going to see continued diversification from the other larger lenders that we have existing today. So, it's going to be a bit of a balance. I think the more important thing though is, it is a decent sized business. I think it is poised to growth as we come out of this cycle currently we're in, now with mortgage market volumes falling. But I think the important thing is we're making really good progress in terms of automation and workflow changes that should improve the basic profitability characteristics of the revenue. So, we're kind of going after both a longer-term growth and a profitability side of that as well. I think the other thing I would mention to you on VSG is, as we talked about on past calls, really excited and really pleased by the evolution of the platform business. We did add the a la mode company. In April, we acquired it. It's a tremendous addition to the platform business. We have a solid high-margin end-to-end business there and it's producing good organic growth rates. So, we're really pleased about that evolution and trying to get to the long-term targets of mix that we talked about. So, that's kind of the VSG story.

[William A. Warmington:]

All right. Well, thank you very much.

[Frank D. Martell:]

Thanks.

[Operator:]

And our next questioner will be Jason Deleeuw with Piper Jaffray. Please go ahead.

[Jason S. Deleeuw:]

Good morning. Thanks for taking the question. I just want to clarify and make sure I understand the organic revenue growth for the quarter. Historically, you've always given a number that's kind of adjusted for FX and volumes. But did I miss that? Was there number given this quarter? And I just want to understand your organic revenue growth for this quarter.

[James L. Balas:]

Sure. So, Jason, this is Jim. So, the overall growth of the company was 3%. That's the all-in number. The market impacted us for about 8%. The gross organic number was about 6.5%. And if you strip out the rev rec item, it lands you to about 2%. And then, we had about 5%, 4.5% on M&A. So, if you take the 6.5% and the 4.5%, that's 11% versus the market impact of minus 8% and that lands you at the 3%.

[Jason S. Deleeuw:]

Okay. And does that organic – does that include the deferred revenue, the $23 million benefit?

[Frank D. Martell:]

Of course.

[James L. Balas:]

Yeah. The 6.5% includes the $23 million. So, if you back that out, the apples-and-apples organic growth number that we've been citing was about 2%.

[Jason S. Deleeuw:]

Okay. Thanks for that.

[Frank D. Martell:]

Sure.

[Jason S. Deleeuw:]

And then, I'm just trying to understand the – what changed in the volume growth outlook? Because, I believe, it was originally down 10%, now it's down 10% to 15% in the guide. And is that just purchase or refi, which – or both of them coming in weaker? Just any color there.

[Frank D. Martell:]

Yeah. It's a little bit of both, Jason. I think the – if you look at the forecasts that are coming out, they've been coming down a bit. I think there's a variety of different reasons for that. I think supply is one issue that's come. I think prices – pricing has escalated. I think that demand has also been impacted. There has been a lot of cash-out refi activity that's kind of tapered a bit. So, there's a number of factors. I don't think it's a gigantic decline, but I think it's people are definitely turning back the estimates. And I think that what Jim – the 10% to 15% is certainly right in line with the – all the other – the GSEs and the MBA.

[Jason S. Deleeuw:]

Got it. And then just one last one. The Property Intelligence margins stepped down a little bit, like 50 bps year-over-year, and the revenue was still up in the quarter. So, I'm just looking for a little color on the margins and what we can kind of expect for that segment for the rest of the year.

[James L. Balas:]

Yeah. You have some timing of investments in there and a little bit of business mix.

[Jason S. Deleeuw:]

Yeah. Was that just kind of all in this quarter or is that balanced out for the rest of the year too?

[James L. Balas:]

That should probably continue through the balance of the year.

[Jason S. Deleeuw:]

Great. Thank you very much.

[James L. Balas:]

Sure.

[Operator:]

And our next question will be Chris Gamaitoni with Compass Point. Please go ahead.

[Chris Gamaitoni:]

Good afternoon. Thanks for taking my call. Can you define what you mean by normalized mortgage market when you referenced your 30% EBITDA margin target?

[Frank D. Martell:]

Yeah. Hi, Chris. We've talked about $1.5 trillion to $1.7 trillion is kind of a normalized mortgage market.

[Chris Gamaitoni:]

Okay, so...

[Frank D. Martell:]

And I think it goes to primarily look at the mortgage market was dropping dramatically. Obviously, we don't want to put numbers out there that we can't achieve but I think we're just talking about a – kind of a stable $1.5 trillion to $1.7 trillion market.

[Chris Gamaitoni:]

So, roughly, the environment we're in right now, I think the consensus $1.6 trillion something today?

[Frank D. Martell:]

Yeah. Yeah, I think it's – $1.6 trillion is a dollars number, yeah.

[Chris Gamaitoni:]

Okay, that's helpful. And can you give us any more details around the visualization and solutions delivery investments? Just, what does that mean? What businesses are we speaking about? Any high level thoughts would be helpful.

[Frank D. Martell:]

Yeah. I mean, I don't want to give away any of our competitive secrets or anything. But, in general, as you may be aware, there's a lot going on around visualization, imagery, bringing data sets to life in terms of people being able to view them visually. There's a lot going on in housing around capturing visual imagery. So, we're working hard on how do we take that visual representation of the data and produce it for our clients in a consumable way. So, it requires platform. So, it's really very, very interesting. And I think something is going to really change the market potentially in the years to come. It's a little bit further down the track. But really looking at our data from a – instead of a flat file to more of a visual file is kind of where we're going there. So, we require some investment in hardware and software to do that, as well as we're working on investing in our data repository to enable that as well.

[Chris Gamaitoni:]

Okay. And just getting back to the guidance. Is there a certain level of revenue you need to be at to make – hit your 30% target for 2020?

[Frank D. Martell:]

No. I wouldn't say – it's hard to answer that question. I'd say that that's not a factor. We think we're going to grow organically and I think this target involves mix and costs and all the things that Jim talked about in his prepared remarks. So, I think it's a combination of things, but certainly we're not going to shrink our way into it and I think we look at stable growth as we project out. And we look to accelerated revenue growth as we get out past this current kind of market reset. So, that's really the basic assumption there.

[Chris Gamaitoni:]

Yeah. I think...

[James L. Balas:]

Yeah, just...

[Chris Gamaitoni:]

That gets to my question of, these units look to be down next year, year-over-year, and then the year following, and obviously that's a revenue headwind. So, it's just the combination of factors of – I understand, you're growing 2% organically ex-market, but the market is going to continue to be a challenge, so I'm just trying to kind of circle that square of understanding. How to get to that...

[Frank D. Martell:]

Yeah. That's why I think – that's why I just, kind of earlier in the call, just talked about the earnings power. I mean, we've been able to hold serve earnings power wise in a market that has shrunk basically $300 billion. So, we expect to continue to be able to do that through automation. That's why we're investing in some of the automation and the things that we are doing. I think there's a lot more to be done in that area. And so, we'll continue to do that. And I think, as you look at it, things like transforming the AMC space and getting more efficient, should materially change the margin characteristic of that business. So, I think I'm still convinced that despite the mortgage market, we look to still achieve that target, and we'll see how the actual volumes play out. But I think we've done very, very well in a down market and we continue – and when I expect to continue to do that.

[Chris Gamaitoni:]

Okay. Thank you very much.

[Operator:]

And our next questioner today will be Stephen Sheldon with William Blair. Please go ahead.

[Stephen Hardy Sheldon:]

Yeah. Hi. Good morning. I guess, first here within VSG. I was hoping you could provide some color on the pro forma underlying growth trends within the platform businesses. And then, I guess, more broadly for VSG. If mortgage volumes stabilize next year, do you think that the combined platform in AMC businesses could potentially see some growth next year and grow through the diversification issues on the AMC side?

[Frank D. Martell:]

Yeah. I'll let Jim talk about the AMC piece of it. But I think the platform piece, as I said, we're very excited about. I think it's a very, very high growth rate, obviously somewhat aided by some acquisition activity that we had last year. But I think that that business, as I mentioned, organically has a strong organic profile in addition to the acquired growth as well. And I'd say that we're in the early stages of the synergy of those businesses coming together as well. So, they're already high-margin, and I think we think we can continue to improve the margins as well. And I think the most exciting is there's also some additional growth opportunities inherent in the synergy of the businesses and the connection of businesses. So, it is the high – it is a high growth profile at the moment. We don't go specific numbers, that's granular in the revenue streams, but it is a high growth rate. And I think the AMCs, I think – I don't want to say the growth is not important, but the margins of those businesses, they currently are, from a margin perspective, it's a relatively de minimis situation. I think, from a growth perspective, I don't look to the AMCs to be large growth contributors in 2018. Certainly, it's going to be a negative. I think going into 2019 probably certainly hopefully not as negative. But it's not going to be, I think, a large contributor if the current mortgage market projections play out the way they are projected to do.

[James L. Balas:]

Yeah. Just to supplement Frank's comments on the platforms. Mercury is not in the organic growth rate yet because we haven't owned it a year, but we've seen good progress against the buy plans that we put together there. Expect the same on the a la mode platform that we acquired here a couple months ago. And then, on the AMC side, as we've stated in the past, we continue to add clients and when that crossover occurs, where it offsets diversification or the share issues with one particular client, that'll be sometime in the future.

[Stephen Hardy Sheldon:]

Okay. Helpful. And then, I guess, as a follow-up, seems like you're assuming a pretty big margin pullback in the second half of the year on a year-over-year basis and especially, seems like in the fourth quarter. Couple of questions. One, wanted to make sure that the $5 million to $10 million of investments for the data visualization, that that's going to be expensed even in adjusted EBITDA? And then, two, you talked last quarter about some real estate investments along with these IT investments, are those now expected to be maybe bigger investments than you'd originally planned?

[James L. Balas:]

Those are mutually exclusive. Let's take the $5 million to $10 million that we just put in the release. Those will go over the course of the year. Third quarter and fourth quarter, they will be in the number. So, it's a call-up but they will be in the adjusted EBITDA number as part of the guidance that we just issued. And then, the other program is more transformational in nature to reduce our cost structures, so we'll be making investments. Those are out of the number as we indicated in our original guidance at the beginning of the year, and those continue as planned.

[Stephen Hardy Sheldon:]

Okay. Thanks.

[Frank D. Martell:]

And Stephen, I just – I would just also – as you know, the housing market, being seasonal, fourth quarter margins are traditionally much lower than the other quarters.

[James L. Balas:]

Right. If you look at the fourth quarter outlooks with some of the forecasts out there, last year was a pretty strong fourth quarter. So, it's a bit of a tougher comp. So, that's going to be a little bit more challenging from what we know right now.

[Stephen Hardy Sheldon:]

Got it. Thank you.

[Operator:]

And the next questioner today will be Kevin Kaczmarek with Zelman & Associates. Please go ahead.

[Kevin Kaczmarek:]

Hey, guys. Thanks for taking my questions. I've noticed on a lot of earnings calls this quarter, as well as last quarter, a lot of lenders have been talking more about investing in the technology, in the mortgage operations specifically. And I know you mentioned you're seeing this a bit, but can you be more specific on what businesses of yours are attracting the most attention right now in terms of interest, even if they haven't garnered the revenue yet but what's driving the most demand?

[Frank D. Martell:]

Yeah. I think it's interesting. So, there is a – there has been, I'd say over a number of years, a lot of investment going into on the origination side, around things like cycle time reduction, customer experience. You hear a lot in the market about enhancing customer and knowing your customer, CYA, that type of stuff. That requires a lot more data mining, know your property, know your customer. So, obviously, we have the biggest data repository in the U.S. and knowing the property, that's what we're all about. So, that obviously plays into our wheelhouse, which is great. What we'd like to do, though, as I talked about the visualization is, can you show a customer the property visually versus just in a file. It's a whole different dimension and I think the engagement level increases, and the amount of data you can sell, if they can look at the house easily visually, you can sell more data, in my opinion, because it just is more real and it's more current. So, that's one example. I think that the cycle time is a big example. Everybody wants to be faster. I think the perception is that the traditional 45- to 60-day mortgage cycle needs to be 20 to 30 days and, frankly, even faster. So, that's why if you look at our investments around the AMC, for example, we think we can potentially go 30% to 50% faster on the cycle time on a typical valuation. That's one of the longer-cycle time items in origination. So, those investments are what we're talking about making and we've been making as well. I think if you look at the lenders, also, a lot has been going into POS-type systems. A lot has been going into metrics and evaluating operational metrics and that type of thing, so, Big Data applications on their systems. That's why the R&D investment that we put in, I think that we could have foregone that, honestly. But I feel that investing – having been in cyclical industries, you try to invest, especially if you have scale and market leadership, investing in the down cycle usually pays much higher benefits as the market improves. But again, this is such a massive market with opportunities that I think that these investments will pay dividends. So, that's kind of a little bit of a long-winded way to answer your question.

[Kevin Kaczmarek:]

Okay. Thanks a lot. And I guess, on the capital priority, it seems like you took out about $120 million on the revolver. Should we expect that to be paid down in the coming quarters? And, I guess, how much cash do you like to keep on hand on the balance sheet?

[James L. Balas:]

We've generally been at around $100 million on the balance sheet. Our covenant leverage right now is around 3.3x. That's very manageable. It's not an all-time high or anything. We drew on the revolver for the recent acquisition where we had an opportunity to acquire a la mode, so we pulled the trigger there. But we have scheduled amortization each and every quarter. And then, we've also done a couple of prepayments over the last six to nine months to the tune of about $45 million.

[Kevin Kaczmarek:]

Okay. And is there a timeline over which you'd like to get the revolver back down to zero? Be comfortable...

[James L. Balas:]

Probably within the next 9 to 12 months.

[Frank D. Martell:]

Yeah. I don't think the revolver is that big a focus. As Jim said, we look at the overall leverage which at 3.3x is decent. It's drifted down a bit, and I think will continue to drift down. As we've mentioned previously, we like it to be in kind of the 3-ish range and maybe a little bit less than that. And so, that's kind of the overall target. I don't think there's any super urgency level there. I would also mention, we are continuing – we have been over many, many, many years and we are continuing to be an aggressive repurchaser of our shares. We've done 1.3 million shares this year. We have a target of 2% to 3%. So, if you go to 3%, it's over 2 million shares. So we have a lot more to do on that front as well, because we think that's been a massive value creator for our shareholders, certainly our long-term shareholders, as we bought back 46 million shares.

[Kevin Kaczmarek:]

Okay Thanks a lot. That's all I had.

[Operator:]

And our next questioner today will be John Campbell with Stephens, Inc. Please go ahead.

[John Campbell:]

Hey, guys. Good morning.

[Frank D. Martell:]

Good morning.

[John Campbell:]

On the 30% margin goal, could you guys maybe just kind of roughly build up the margin by segment? Is most of that coming from UWS?

[James L. Balas:]

No. They're going to be fairly balanced by the time you get to 2020.

[John Campbell:]

Okay. And then, on the $5 million to $10 million investment spend, is all that hitting in the PIRM segment? And then, also, is that spin isolated to this year? Is that going to roll some into next year as well?

[James L. Balas:]

This year and that's more enterprise-wide. So, a portion will wind up in each segment.

[Frank D. Martell:]

Yeah. I'd say, it's modestly more weighted towards...

[John Campbell:]

PIRM?

[Frank D. Martell:]

...that segment, John, I think. And then, also, it's probably – I think it's a practical matter. We're accelerating spending into the fourth quarter, so you'll probably see it more weighted towards the fourth quarter which is why you may impute a slightly more margin pressure in that quarter related to that. But again, it's more than offset by the discrete item, the revenue recognition item.

[John Campbell:]

Okay. Great. Thanks, guys.

[Operator:]

And the next questioner today will be Andrew Jeffrey with SunTrust. Please go ahead.

[Andrew Jeffrey:]

Hey. Good morning. Thanks for taking the question. I guess, with regard to the VSG comments around continued customer diversification, how much of a contributor to the margin outlook would that be? I guess, on one hand, you've got perhaps a more balanced revenue outlook but maybe mix is getting a little better with time?

[Frank D. Martell:]

Yeah. No. I think the diversification largely is – there is a platform, and you need to drive volume. So, there's an operating leverage component to this. But I think the big thing, Andrew, is probably more so around what we've been trying to do, and I think we are very optimistic around the transformation of that. It's still largely manual, a lot of papers and forms, and so, scaling our platform gives us automation capacity. And then, also, within the basic workflow of the appraiser themselves, we think we can automate route scheduling, appointment scheduling, some of the other aspects of their work. And that, I think, is the exciting part of the transformation there because if you can get the appraiser more productive, you're going to get a higher throughput, and it's going to change the economics. And that's – we're already in the field testing some of this. So, I think it's not on the drawing board. It's out in the field, testing. More to come. It's going to take a while. But I think the initial indications are positive. That's what's going to drive, I think, the margin. I think the revenue itself from the AMC, my guess is, right now, it's negative. I think it will turn neutral, and then, hopefully positive. But within that neutral to positive trend, we want to get the margins up because we don't want to have a lot of revenue at a low margin characteristic. That's not why we got into this. I would say the other thing we don't talk a lot about is the data element that's derived, the insight that's derived from the appraisal. Some of that is used to calibrate our data repository. And so, that's a valuable addition that's not necessarily showing up in some of the AMC numbers.

[Andrew Jeffrey:]

Okay. And then, from a macro perspective, to parse your views a little bit more on the market, mortgage market. When you look out – I mean, when you look at the purchase environment, I think refis we can understand, given what the tenure is doing, will be down if the trends continue. When you – but when you think about the purchase market, what are sort of the underlying assumptions about sort of the just the general balance between supply and demand, and whether or not, you guys scrutinize maybe the MBA's projections and think about whether or not their – the expectations are reasonable? Because that's obviously a pretty important underlying aspect of the way we think about the next couple of years top line performance.

[Frank D. Martell:]

Yeah. So, first thing, as you may know, we do have a significant bench of economists within our company. So, in terms of scrutinizing the available – publicly available projections, we obviously look at those. And we – in fact, we have our own projections. But from an external perspective, we like to tie into the MBA because it's probably the most broadest range of perspectives. And so, that's why we tend to use and refer to the MBA forecasts when we talk about the mortgage market. So, I think from that standpoint, I think the – what's going on in the purchase market, it's evolving. I think everybody is looking at it. I think, obviously, what you hear a lot of discussion around purchase is in supply. Especially in supply and the affordable housing range. I think there's a lot of drivers behind that lack of available land. The cost to develop is probably one of the biggest ones. A lot of regulation, a lot of cost related to developing a property in a lot of areas is prohibited now compared to what – if you were going to build an affordable house, that's why you're seeing a skew in fixed supply around the higher end houses. So, I think there's a little bit of affordable higher end within that whole – broader availability of homes. I think you're also seeing the impact of a long run of home prices. I think people are looking at that. I think it's a little bit stretched, especially with mortgage rates going up a bit. So, I think people are maybe not as desperate to buy houses. It's a little bit less of a cycle there. That will play out, I think, over time. And then, I'd also say, the other thing about the whole purchase market is it's definitely different if you look at San Francisco versus Mississippi or the Heartland of the country there. There are different big metros where these issues are more acute than others. I'd say that the pricing levels in – on the coastlines have been more so significant in general than in the middle of country. I think that's where you see more variability in home prices over time. So, it's a complex issue. I think purchase – however, the purchase cycle, I would still maintain, is a much more predictable, much more sustainable market versus a heavy refi market. So, from that perspective, the evolution to purchase-driven market, I think, is still a very positive one for the company over the medium- to longer-term for sure.

[Andrew Jeffrey:]

Thank you.

[Operator:]

And the next questioner today will be Glenn Greene with Oppenheimer. Please go ahead.

[Glenn Greene:]

Thanks. Good morning. A couple of questions. The first one, just on the topic of the SG&A and profitability. Maybe if you could just sort of update us what kind of profitability or margins are you at maybe contrast to relative pieces, meaning, the platform versus the AMC side and where you see that trending? And then, I have a couple of follow-ups.

[Frank D. Martell:]

Yeah. Look, the – Glenn, the margins overall are up modestly year-over-year. I think that reflects the heavier mix and the evolution of the platform business and, obviously, these lower margin pieces shrunk a bit. So, from that perspective, the margins are actually up. I'd say that you have to I'd say that you have to break the two, I think AMC margins are kind of where they were. They're kind of – they're lower. As we talked about their kind of a low single-digit type of margin profile. And then, if you look at the platform business, very significantly higher and I think the – as the volumes impact AMC, you're going to see the margins fluctuate a bit. But by and large, I guess, the perversity of it is that the revenue impact is not as pronounced on the profit line when you talk about the AMC. I think that's why the platform businesses is – been an important story for us because, A, it supports the automation of the AMC business, but also, it's a much higher margin and we've got I think a very strong market offering which is getting traction with the clients.

[Glenn Greene:]

What's the relative mix in terms of revenue contribution of platform versus AMC?

[Frank D. Martell:]

We're above a third now. We're – I think, we're about 40% now.

[Glenn Greene:]

Great. And then, a couple different directions. Insurance & spatial, like we used to think of that as a sort of a high-single, low-double digit growth business and, at least for the last couple of quarters, I don't know if it's a trend yet, but it's kind of been 3%, 4%, sort of slowed. So, any explanation there or anything that's happening or do you expect that to re-accelerate?

[Frank D. Martell:]

Yeah. I think it's – last year, we – I hate to say it but there was some benefit to the hurricanes and some of the other weather situations that do benefit the spatial business. There also is always still a bit of timing going on around some of the data buys that we get with some of the bigger public sector clients, et cetera that buy in bulk and so you can have some timing there. But I think the margin – or the growth characteristic of the margin of that business, I'd say, there's not much change. And the only other thing on the revenue side that's been a bit of a drag is the CAT Modeling business that we bought a number of years ago, five or six years ago. It's been in a kind of a gradual decline. That whole business has changed. That whole market has changed a bit. We always had a very small presence in the market. And I think that that has traded down. So, it's a little bit of an impact on the growth rate. But by and large, the business is really highly profitable, I think it has a high value and I think the team has added some new capabilities in there which has helped us. So, I feel good about that business.

[Glenn Greene:]

Just if I could squeak in one more. So, the business that you acquired, I think you call it a la mode. What was the revenue contribution in the quarter, and does that also impact the revenue bridge for the full year guide as well?

[Frank D. Martell:]

It's pretty small.

[Glenn Greene:]

Or how much does it impact that?

[Frank D. Martell:]

It's pretty small in the quarter, Glenn. It's – in fact, I'd say it's pretty de minimis, actually.

[James L. Balas:]

Yeah. It's pretty small because, as we articulated on the last call, it has a – it's a subscription-based model and had a heavy rent deferred revenue haircut when we acquired it. So you'll really see that more into 2019.

[Frank D. Martell:]

Yeah.

[Glenn Greene:]

So, it doesn't meaningfully impact the revenue bridge for the 2018 outlook?

[Frank D. Martell:]

No.

[Glenn Greene:]

Okay. All right. Thanks, guys.

[Operator:]

And this will conclude the question-and-answer session and today's conference call. Thank you all for attending today's presentation. You may now disconnect your lines.