Fair Isaac Corporation
Q3 2020 Earnings Call Transcript

Published: 29 Jul 2020

[Operator:]

Greetings and welcome to the FICO Quarterly Earnings Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we’ll conduct the question-and-answer session. As a reminder, this conference is being recorded, Wednesday, July 29, 2020. And now, I’d like to turn the conference over to Steve Weber. Please, go ahead.

[Steven Weber:]

Thank you. Good afternoon and thank you for joining FICO’s Third Quarter Earnings Call. I’m Steve Weber, Vice President of Investor Relations. And I’m joined today by our CEO, Will Lansing; and our CFO, Mike McLaughlin.

[William Lansing:]

Thanks, Steve, and thank you, everyone, for joining us for our third quarter earnings call. I hope you and your families are healthy and staying safe as we go through this pandemic. We continue to work primarily from home. Most of our offices are remaining closed. I’m pleased to say this model has worked very well for us. Our productivity metrics remain very strong. And we’re able to innovate, meet development deadlines, serve our customers and implement our solutions. We posted some slides with our results on the Investor Relations section of our website. I’ll be referencing some of those slides during our presentation today. I’ll go over the results of our third fiscal quarter and discuss what we’re seeing in the markets that we serve. I am pleased to report that we had another very strong quarter, which demonstrates the remarkable resiliency of our business. As shown on Slide 2, we reported revenues of $314 million, flat with the same period last year, which was our highest revenue quarter ever. We delivered $64 million of GAAP net income and GAAP earnings of $2.15 per share. We delivered $77 million of non-GAAP net income and non-GAAP EPS of $2.58. We also delivered $99 million of free cash flow in the quarter, the highest single quarter in company history. As you can see, on Slide 3, we continue to have ample liquidity. We actually reduced our total debt by about $20 million from the end of our second quarter.

[Michael McLaughlin:]

Thanks, Will, and good afternoon, everyone. Revenue for the quarter was $314 million flat with the prior year, and up 2% from the prior quarter. Year-to-date, revenue was $920 million, up 8% from the prior year. Our Applications segment revenues were $141 million, down 15% versus the same period last year. This decrease in revenue was driven primarily by lower license revenue. As you may recall, we had a very large license component in Q3 last year due to renewals, which under ASC 606 accounting standards require upfront revenue recognition even though we build a customer as an annual subscription. Software applications billings for the quarter were $61 million flat versus last year, and up 27% from our second quarter, where we had significant COVID-related disruptions and sales efforts at the end of March. In our Decision Management Software segment, Q3 revenues were $41 million, up 22% over the same period last year. The increase was primarily due to SaaS subscription revenues in our decision management platform. DMS bookings were $29 million in Q3, down 22% from the previous year, but up 25% from the last quarter.

[William Lansing:]

As we work to finish our fiscal year and build plans for fiscal 2021, I’m confident that FICO is well positioned for the future. We’re built to withstand economic downturns and are taking steps to manage through current uncertainties without sacrificing our commitment to our strategic initiatives. As I’ve said before, we are stewards of remarkable assets. And we have a great team dedicated to helping our customers solve their most difficult problems. And the value of the analytic solutions we provide both in software and in Scores is more important now than ever. I’ll turn the call back over to Steve to manage the Q&A.

[Steven Weber:]

Thanks, Will. We will now take your questions. Operator, please open the line.

[Operator:]

Thank you. We do have a question from Manav Patnaik with Barclays. Please go ahead.

[Manav Patnaik:]

Thank you. Good evening, guys. My first question is just on the B2B Scores business. I think the 10% growth felt a little bit light to us. So I was just hoping you could walk us through what that mix between price and volume was there, maybe versus the last quarter, even actually like you then missing the pricing element or the mix of your different lending categories in there.

[William Lansing:]

Yeah. Manav, I don’t know that we’ve ever broken out the mix between the volume and the price. The volume was a little bit lighter, as you’d expect over a quarter like this one, so some of that was price.

[Michael McLaughlin:]

And, Manav, I’ll just speak to – maybe give you a little more directional view on that. Look, we happen to report earnings after Equifax and TransUnion, also after Visa. And you can see some of the trends that would underlie our results in the B2B Scores business, particularly on the origination side from what they’re showing. Obviously, mortgage volumes were very, very strong. Auto volumes seem to be picking up, but for the quarter we’re down. And on the personal loan and credit card side of things, we’re seeing the same things that the bureaus saw in the period.

[Manav Patnaik:]

Okay, got it. That’s helpful. And then, just in the B2C side, I mean, that’s a pretty impressive number, is there any onetime deal activity in there, like you signed some new clients or so forth?

[Michael McLaughlin:]

No, that’s a pretty clean number. We are genuinely seeing consumer interest in their credit score and how they can track it and improve it in this environment. And it’s showing both directly in myFICO.com and in our partner B2C sales.

[Manav Patnaik:]

Got it? And then, maybe just one last question. Will, in your conversations with clients on the Software and even on the Scores side, are you starting to hear any kind of major budget issues where maybe you could see more delays on the Software side and maybe more pressure on the pricing side?

[William Lansing:]

No, we really haven’t had that. I think things are moving a little bit more slowly than they have historically. I think there is this kind of additional care being taken with everything that our customers do. That said, they are full steam ahead on digital transformation, on upgrading their solutions. And we’re front and center there. So we really haven’t experienced slowness there.

[Manav Patnaik:]

All right, thanks a lot.

[Operator:]

We have a question from Bill Warmington with Wells Fargo. Please go ahead.

[Bill Warmington:]

Good evening, everyone.

[William Lansing:]

Hi, Bill.

[Michael McLaughlin:]

Hey, Bill.

[Bill Warmington:]

So, Equifax – hey, guys. So Equifax and TransUnion both indicated improving results in June and July. And I know you guys are typically lagging those results by maybe 45 days. And so I wanted to see whether those improvements that they’re describing are showing up in your results. Did you see them in the June results? Are you seeing them in July?

[William Lansing:]

We so – you’re absolutely right that our stuff lags them by roughly 6 weeks. We get some early indication and on basis of that, I’m pretty comfortable saying that our stuff will track theirs. But, again, it’s not final. These numbers aren’t final.

[Bill Warmington:]

Got it. Also on the B2C, to follow up on Manav’s comments, that looks like a very strong quarter. TransUnion noted though, since they are a big supplier in the indirect space that they were a little concerned about the second half of the year, just because they were concerned that the aggregators are not seeing a lot of demand from the banks, meaning the banks are not very aggressive these days at trying to add new accounts. And so, I just wanted to touch-base on whether you felt comfortable with those volumes – with that level of growth continuing, because you can see the inside much better than we can, so.

[William Lansing:]

Look, we’re pleased with the growth that we had and it’s always hard to forecast the future in an environment like this. The one thing that’s clear though is consumers are more focused, more interested in what’s going on with their credit score than they’ve ever been before. And we’re seeing it in myFICO. We’re seeing it in our partner consumer stuff. And so, I would hope that trend would continue. But again, we don’t know.

[Bill Warmington:]

Yeah. How’s been the demand for UltraFICO and Experian Boost, how’s that been?

[William Lansing:]

So Experian Boost is doing very well. And as you know, that’s – I mean, it’s boosting a FICO score and so there’s a benefit to FICO every time Boost happens. UltraFICO is lagging now, and largely because of the success that we’re having with Boost.

[Bill Warmington:]

Got it? And I wanted to ask on the software side, you guys have been making some outsized investments in software now for some time. And I want to check in just to see whether you felt like the time was approaching when the rate of investment in software was going to start to slow.

[William Lansing:]

I can’t make that promise, Bill. What I would tell you is that – what we’re seeing is tremendous appetite for our new solutions and our new Decision Management Platform, and deal size is getting bigger. And we now have banks that are adopting our solution, our Decision Management Platform solution, and then building all kinds of use cases on top of it. So we feel like we’re being vindicated in the strategic direction. At the same time, we – it does require investment. We continue to pour investment in. When will margins improve? There’ll be some margin improvement over time as we scale up our SaaS business and have more multi-tenant and returns to scale. So there’ll be some benefits there. And I think, professional services – as our products become simpler to install and a little bit easier, the proportion of professional services will go down, which will also be a margin improvement. So those are the factors but I can’t give you a timeline. I would tell you that we will continue to invest at this rate as long as it feels like those are smart decisions, like those are intelligent decisions given the appetite of the market for our staff.

[Bill Warmington:]

You mentioned the banks adopting some of the DMS solutions and then building their own solutions on top of that. I know from time-to-time, you’ve talked about how you’ve developed your own – some of the new generations of your products are actually being built on the DMS platform and you use a lot of tools internally to do that. There was some talk about sometime over maybe the next 18 to 24 months, taking those tools and turning them outward, meaning that you’d have this whole ecosystem similar to salesforce.com or Workday, and having developers being able to develop customized tools on that platform. Does that – is that timeline still…

[William Lansing:]

Yeah. That’s – we’re very focused on that. And this year, 2021, this coming year will be the year when our APIs are available on an outward basis, and borrowers and resellers and others will be able to build solutions on top of our platform, so that’s very much part of our strategy. It’s the way that we intend to reach other verticals besides financial services. It’s a way for us to go down market and basically solve the problem that we’ve always had, which is very limited distribution for extraordinary IP.

[Bill Warmington:]

Yeah. Excellent. All right. I’ll yield the floor. Thank you very much for the insight.

[William Lansing:]

Thanks, Bill.

[Operator:]

We have a question from Jeff Meuler with Baird. Please go ahead.

[Jeffrey Meuler:]

Yeah. Thanks. Sorry, if this is introductory, but I wasn’t aware of kind of Bill’s line of questioning about the 45-day lag. So I just want to make sure I’m understanding it correctly. So are you saying that you have not yet been paid for the credit pulls at the bureaus in June, because it’s not only that it’s reported to you like in arrears at the end of the month, but you’re actually paid kind of on a lagged basis and you recognize revenue on a lagged basis?

[William Lansing:]

Mike, do you want to answer that?

[Michael McLaughlin:]

Yeah. No, we don’t recognize revenue on a lag basis. We don’t get the final report for June until some period, days, not weeks, after the end of the quarter. But we take an accrual based for an estimated revenue that in conversations with those customers we determined is appropriate for the quarter. And historically, it’s very close and for revenue recognition purposes, it means that we’re able to batch revenue in the quarter with revenue recognized. Cash flow wise and billing wise, we have – we’re not going to go into our payment terms with individual customers on a call like this. But our payment terms with the bureaus are normal course and speed for a relationship like we have with them. But we do get those reports, so we – in arrears, as mentioned before. So we don’t know, we genuinely don’t know, what is happening in July at our bureau partners. We’ll know in a couple of weeks. Does that help?

[Jeffrey Meuler:]

That’s helpful. Thank you. Yes, it does. And then just the expenses in the Scores business. What’s driving that, and I guess, was curious, if you’re leaning in more on marketing spend for myFICO, or if there’s a mix shift going on where you have some more expenses to the bureaus for like tri-merge premium, myFICO products or something?

[Michael McLaughlin:]

So much of it is that we’re investing in the FICO Resilience Index. As Will mentioned briefly in his remarks, and maybe he wants to talk more about that. We haven’t dramatically increased marketing for the other parts of our business, but the development work, the outreach work and the implementation work around the Resilience Index, as well as other innovation steps that we’re taking in the Scores businesses, primarily what’s driving the increase you see there.

[William Lansing:]

And then one small factor is that with myFICO as the volumes go up, our expense goes up, because we have a cost of goods sold in myFICO.

[Jeffrey Meuler:]

Right, right. Got it. So I know that net revenue retention isn’t a common metric that you give. But just curious, if you can help us understand or size up the land and expand on the DMS platform solution? Like are there enough historical examples or time series where you can help us kind of understand? How big does the customer tend to come on as a new engagement for a DMS platform? And then, I don’t know, 2 or 3 years down the road, just how much more additional product or revenue are you generating off of them?

[William Lansing:]

So what we’re – I mean, I would say it’s early days. And so it’s we don’t have a lot of data points around which to build a conclusion. That said, it looks really good. So what you have the situation where the very biggest banks, our biggest customers, absolute top tier banks, they have super complicated systems and they still buy some point solutions, and we have not yet had a top 10 bank stay to us, yeah, we’re adopting the FICO Decision Management Platform for all of our consumer facing decisioning. That hasn’t happened yet. However, it is happening with a tier down. And so, I would say, 2 years ago, we had some small banks that were doing it, and said, yeah, we’re going to standardize myFICO decisioning platform. And then we’re going to build all kinds of different credit decisions around that. And now we’re moving up market and so we have some pretty good-sized banks that have made the decision to adopt it. And sometimes it’s – they’ll start with a point solution they were in the market for and recognize the expansion opportunity. And sometimes, they do it very deliberately, with a view to putting a whole lot of different use cases on top of the platform once it’s been adopted. So the dog is eating the food, we’re pretty happy about the way it’s gone.

[Jeffrey Meuler:]

All right. Thank you very much.

[Operator:]

Our next question is from Kyle Peterson with Needham. Please go ahead.

[Kyle Peterson:]

Hey, good evening, guys. Thanks for taking the question. I just wanted to start on the decision management piece of the business. It seems like you’ve had some nice growth there for several of the last few quarters. Is the SaaS momentum kind of rolling strong enough where we can expect this growth to be able to continue? Or were there any like large chunky deals in there that we need to be mindful of? I just want to make sure we’re thinking about that piece of the business.

[William Lansing:]

I think that is fair to think that the growth will continue. I mean, this is – it’s – obviously, the number is a little bit volatile, because it’s a smaller part of our business still. And so on a percentage basis, it can move quickly, because we’re dealing with smaller numbers. That said, there is – we have evermore solutions on top of the platform, it’s very much our future. It’s the way our salespeople are selling. It is the way the banks are buying it. And it is a very different world than it was 3 or 4 years ago. So while we still have sales of legacy product, and our legacy solutions will be around for a long time to come, because they’re best-in-class at what they do. The Decision Management Platform is really picking up steam.

[Michael McLaughlin:]

And let me just add a little technical nuance for that. It’s a good question, because under the ASC 606 accounting rules. It can create some distortions in revenue when you sell an on-prem subscription product for 3, 5 years. That on-prem portion, in most cases, needs to be recognized all at once upfront, despite the fact that it’s a subscription. But if it’s a SaaS sale, it is recognized ratably as we bill and deliver it. So it can be lumpy for that reason alone, and not reflecting the underlying health of the business. Look, if there are big whoppers like that, that we’ve had to pull forward in any particular quarter, we’ll do our best to call those out. This quarter, it was a normal mix between the types of revenue recognition and sort of the growth is pretty normal.

[Kyle Peterson:]

Great. That’s really good color. And then just a follow-up on the margins. Nice to see the upside there this quarter. And I mean, can appreciate the color you guys have provided in the slide deck on get some of the travel, entertainment and those types of expenses, which are obviously a bit lower right now. I just want to see have you guys – when – as we’ve gone through this kind of COVID process. Have you guys found any other expenses that you might be able to rationalize that might lead do some longer-term cost savings for whenever the world gets a little more…

[William Lansing:]

Yeah. It’s a good question. We wrestle with it ourselves. I am – we’re of a view that some of these savings are here to stay. We don’t imagine that we’ll ever go back to the level of travel, we had before. I think that all of us not just like but our customers and our – everyone involved is now way more adept at using Zoom and doing more video. And what we’re finding is, we can have comparable, if not more contact with our customers with less travel. And so – and it’s obviously more efficient and a much lower cost. So I would imagine some of it’s going to survive in a post-COVID world. That said, it is unnaturally low right now. So you can expect it to go up from the level it’s at now, you can expect it to be lower than it was a year ago on an ongoing basis.

[Kyle Peterson:]

Great. That’s very helpful. Thanks for taking the questions, and nice quarter, guys.

[Operator:]

We have a question from Brett Huff with Stephens Inc. Please go ahead.

[Brett Huff:]

Good afternoon, guys. Thanks for taking my question. I had a quick question on the helpful chart that you guys put, I think it was Slide 3 or 4, where you had some red boxes and green boxes. Just want to make sure I understand the red boxes and that there’s some risk to those numbers. But it seems that the Scores boxes – the Scores number is 63 and 18, those seems like hittable targets and wondering, are those not green boxed, because they’re a little harder to predict? Or kind of what should we imply, given that it seems those might fall in the green box category?

[William Lansing:]

I’d say it’s a little hard to predict. It’s a – call it, conservatism on our part, it’s a little harder to predict.

[Brett Huff:]

Okay. That’s helpful. And then a quick update on the progress that you guys are making, which I know, it varies a little bit by product on the SaaS-ification of the products. I know you’ve got some already SaaS-ified, originations manager and et cetera. I know the Falcon and the update to TRIAD is coming out and/or near live. Can you just remind us of where we are in each of those products kind of coming out with the full GA SaaS product?

[William Lansing:]

We’re more than halfway through the process if you look at our top franchises. So as you mentioned, originations manager is now on the platform, the new version of TRIAD, which we call Strategy Director is now on the platform. Blaze, our rules engine, is now on the platform called Decision Modeler. So we’re making progress there. There’s – I’d say, the 2 biggest ones that aren’t there yet are Falcon and debt manager. And those will be – those will take longer. I mean, Falcon, we’re working on it, we have another release coming very soon. But that’s a massive undertaking.

[Brett Huff:]

And then last question is, the license revenue from Falcon was down quite a bit. I know some of that was from – I think it was down 66%. I think some of that was from the difficult comp. Is there any color you can give us that might be help us to kind of see the COVID impact rather than the tough comp impact? I’m not sure if you told us kind of what the numbers were on a year over year basis, if I go back to that script.

[William Lansing:]

We don’t break out the volume part of it, but the volumes are down somewhat, a bit. But that’s part of it.

[Brett Huff:]

Okay.

[Michael McLaughlin:]

Yeah, and the vast majority of it was the renewal comp. We just had a couple of whoppers in the third quarter of last year, that all had to be recognized up front and those only happen once in a while and certainly not this quarter.

[Brett Huff:]

Okay, great. That’s what I needed. Thank you.

[Operator:]

We have a question from Surinder Thind from Jefferies. Please go ahead.

[Surinder Thind:]

Thank you. Actually, a question about the Scores business, and just kind of following up on the earlier question about the volumes, generally, I mean, industry volumes that are kind of widely reported, whether it’s mortgage, auto or credit, they’ve generally been fairly good predictors of the Scores revenues. But based on kind of what I was calling incredible results that you guys, really good results that you guys posted this quarter, from my perspective, there seems to be a bit of a disconnect in some of the segments. And so, when I looked at like the mortgage volumes for industry, that was fairly consistent with what the bureaus reported, but then they reported auto and credit data that was much stronger than what the industry data would suggest. And do you have any color in terms of other types of activity that could have made up for that delta or any color there might be helpful? I mean, as an example, if I was to look at some of the bank data, their marketing activities, their credit card originations…

[William Lansing:]

Yeah, I would say that that, I mean, in general, I don’t really have an answer for you. A narrow thing would be the fact that we do less lead gen than some of the bureaus, so you’ll see less there.

[Surinder Thind:]

Okay, thank you. And then, another follow-up question, in terms of just the Biden-Sanders Unity Task Force put up some recommendations a couple of weeks ago related to credit scoring. And one of the recommendations was that the credit scores being more inclusive of using alternative data which would suggest support for your newer scores, so FICO 9, FICO 10. And is there any potential revenue benefits from you guys, that you guys would experience if clients were to upgrade to, let’s say, the newest versions of the scores? Or are you somewhat agnostic as long as the clients continue to use FICO Scores.

[William Lansing:]

I’d say it’s more of the latter. We’re agnostic. And we encourage people to move up to the latest and greatest scores, not because we charge more for them, but because we think they’ll get better results. And so, no, I wouldn’t say that there’s – don’t expect a revenue uptick as they migrate to newer scores, no.

[Surinder Thind:]

That’s helpful. And then one other question in terms of – are you able to provide any color in terms of the percentage or revenue that maybe that’s in scores, that’s maybe less volume driven, that might be more relationship driven, such as like monitoring type of revenues or any color around ballpark figures that you might be able to provide?

[William Lansing:]

I’m not sure I follow the question. I mean, all of our Scores revenue is driven at some level by volume and a little bit by price.

[Surinder Thind:]

I guess what I was trying to get at was if we were to use just credit cards as an example, obviously, there is the origination volumes, there’s the marketing volume, but then there’s the monitoring piece. And so, I’m assuming monitoring would be more based on like the headcount that a certain bank would have. And so that would be less subject to, I guess, the COVID environment in the sense that they would want to continue to monitor all of their accounts.

[William Lansing:]

Yeah, we see continued interest from our bank customers and monitoring closely. I mean, if anything, they’re more vigilant and more focused than ever.

[Surinder Thind:]

Okay.

[Michael McLaughlin:]

But maybe – to give you more, practically, those account management volumes, which is what we call them, are also based on the number of scores pulled. So there’s no real difference in the volume driver there for account management versus originations.

[Surinder Thind:]

Okay, thank you.

[Operator:]

And there are no further questions at this time.

[William Lansing:]

Thank you. This ends today’s call. Thank you all for joining and we look forward to speaking with you again soon.

[Operator:]

That concludes the call for today. We thank you for your participation. I ask you to please disconnect your line.