10-Q 1 tss-20170331x10q.htm 10-Q tss_Current_Folio_10Q

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

 

FORM 10-Q

(Mark One)

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

 

For the quarterly period ended March 31, 2017

 

 

OR

 

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

 

For the transition period from                     To                    

 

Commission file number: 1-10254

 

Picture 1

Total System Services, Inc.

www.tsys.com

(Exact name of registrant as specified in its charter)

 

Georgia

58-1493818

(State or other jurisdiction of incorporation or organization)

(I.R.S. Employer Identification No.)

 

One TSYS Way, Post Office Box 1755, Columbus, Georgia 31902

(Address of principal executive offices) (Zip Code)

 

(706) 644-6081

(Registrant’s telephone number, including area code)

 

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes ☑ No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

 

 

 

 

Large accelerated filer

Accelerated filer

Non-accelerated filer ☐ (Do not check if a smaller reporting company)

 

Smaller reporting company

Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes ☐ No ☑

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

CLASS

OUTSTANDING AS OF: April 25, 2017

Common Stock, $0.10 par value

184,031,162 shares

 

 

 

 


 

Picture 1

 

TOTAL SYSTEM SERVICES, INC.

Table of Contents

 

 

Page
Number

PART I. FINANCIAL INFORMATION 

 

Item 1. Financial Statements 

 

Consolidated Balance Sheets (unaudited) — March 31, 2017 and December 31, 2016 

3

Consolidated Statements of Income (unaudited) — Three months ended March 31, 2017 and 2016 

4

Consolidated Statements of Comprehensive Income (unaudited) — Three months ended March 31, 2017 and 2016 

5

Consolidated Statements of Cash Flows (unaudited) — Three months ended March 31, 2017 and 2016 

6

Notes to Unaudited Consolidated Financial Statements 

7

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 

24

Item 3. Quantitative and Qualitative Disclosures About Market Risk 

40

Item 4. Controls and Procedures 

41

PART II. OTHER INFORMATION 

 

Item 1. Legal Proceedings 

41

Item 1A. Risk Factors 

41

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 

42

Item 6. Exhibits 

43

SIGNATURES 

44

EXHIBIT INDEX 

45

 

 

 


 

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements.

TOTAL SYSTEM SERVICES, INC.

Consolidated Balance Sheets

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(in thousands, except per share data)

    

March 31, 2017

    

December 31, 2016

    

Assets

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

Cash and cash equivalents (Note 3)

 

$

464,740

 

425,354

 

Accounts receivable, net of allowances for doubtful accounts and billing adjustments of $5.3 million and $4.8 million as of 2017 and 2016, respectively

 

 

405,746

 

432,847

 

Prepaid expenses and other current assets (Note 3)

 

 

180,325

 

164,488

 

Total current assets

 

 

1,050,811

 

1,022,689

 

Goodwill (Note 2)

 

 

3,272,237

 

3,270,952

 

Other intangible assets, net of accumulated amortization of $468.9 million and $420.6 million as of 2017 and 2016, respectively

 

 

858,607

 

906,676

 

Intangible assets - computer software, net of accumulated amortization of $784.5 million and $757.4 million as of 2017 and 2016, respectively

 

 

409,796

 

423,188

 

Property and equipment, net of accumulated depreciation and amortization of $496.2 million and $480.7 million as of 2017 and 2016, respectively (Note 7)

 

 

281,430

 

282,345

 

Contract acquisition costs, net of accumulated amortization of $322.6 million and $309.7 million as of 2017 and 2016, respectively (Note 3)

 

 

231,472

 

235,700

 

Equity investments, net

 

 

147,743

 

133,556

 

Deferred income tax assets

 

 

7,081

 

7,055

 

Other assets

 

 

91,503

 

84,016

 

Total assets

 

$

6,350,680

 

6,366,177

 

Liabilities

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

Accounts payable

 

$

45,656

 

38,712

 

Accrued salaries and employee benefits

 

 

35,357

 

67,655

 

Current portion of long-term borrowings (Note 4)

 

 

30,604

 

48,040

 

Current portion of obligations under capital leases

 

 

2,493

 

2,687

 

Other current liabilities (Note 3)

 

 

338,148

 

263,259

 

Total current liabilities

 

 

452,258

 

420,353

 

Long-term borrowings, excluding current portion (Note 4)

 

 

3,228,292

 

3,312,215

 

Deferred income tax liabilities

 

 

419,786

 

419,552

 

Obligations under capital leases, excluding current portion

 

 

845

 

1,061

 

Other long-term liabilities

 

 

90,032

 

88,983

 

Total liabilities

 

 

4,191,213

 

4,242,164

 

Redeemable noncontrolling interest in consolidated subsidiary

 

 

14,737

 

24,093

 

Commitments and contingencies (Note 9)

 

 

 

 

 

 

Shareholders' Equity

 

 

 

 

 

 

Common stock — $0.10 par value. Authorized 600,000 shares; 202,765 issued as of 2017 and 2016; 184,041 and 183,451 outstanding as of 2017 and 2016, respectively

 

 

20,277

 

20,276

 

Additional paid-in capital

 

 

224,436

 

279,627

 

Accumulated other comprehensive loss, net (Note 3)

 

 

(52,381)

 

(56,158)

 

Treasury stock, at cost (18,724 and 19,314 shares as of 2017 and 2016,
respectively)

 

 

(637,620)

 

(646,047)

 

Retained earnings

 

 

2,590,018

 

2,502,222

 

Total shareholders’ equity

 

 

2,144,730

 

2,099,920

 

Total liabilities and shareholders' equity

 

$

6,350,680

 

6,366,177

 

 

See accompanying Notes to Unaudited Consolidated Financial Statements

3


 

TOTAL SYSTEM SERVICES, INC.

Consolidated Statements of Income

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

Three months ended March 31, 

 

(in thousands, except per share data)

    

2017

    

2016

 

Total revenues (Note 7)

 

$

1,184,725

 

 

739,378

 

Cost of services

 

 

861,856

 

 

484,507

 

Selling, general and administrative expenses

 

 

155,686

 

 

103,184

 

Total operating expenses

 

 

1,017,542

 

 

587,691

 

Operating income

 

 

167,183

 

 

151,687

 

Nonoperating expenses, net

 

 

(29,903)

 

 

(22,098)

 

Income before income taxes and equity in income of equity investments

 

 

137,280

 

 

129,589

 

Income taxes

 

 

43,082

 

 

43,429

 

Income before equity in income of equity investments

 

 

94,198

 

 

86,160

 

Equity in income of equity investments, net of tax

 

 

12,909

 

 

6,248

 

Net income

 

$

107,107

 

 

92,408

 

Net income attributable to noncontrolling interests

 

$

(1,239)

 

 

(1,780)

 

Net income attributable to Total System Services, Inc. (TSYS) common shareholders

 

$

105,868

 

 

90,628

 

Basic earnings per share (EPS) attributable to TSYS common shareholders (Note 10)

 

$

0.58

 

 

0.49

 

Diluted EPS attributable to TSYS common shareholders (Note 10)

 

$

0.57

 

 

0.49

 

 

See accompanying Notes to Unaudited Consolidated Financial Statements

4


 

TOTAL SYSTEM SERVICES, INC.

Consolidated Statements of Comprehensive Income

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

Three months ended March 31, 

 

 

(in thousands)

 

2017

    

2016

 

 

Net income

 

$

107,107

 

92,408

 

 

Other comprehensive income (loss), net of tax:

 

 

 

 

 

 

 

Foreign currency translation adjustments

 

 

5,512

 

(2,768)

 

 

Postretirement healthcare plan adjustments

 

 

124

 

(391)

 

 

Unrealized loss on available-for-sale securities

 

 

(1,859)

 

(39)

 

 

Other comprehensive income (loss)

 

 

3,777

 

(3,198)

 

 

Comprehensive income

 

$

110,884

 

89,210

 

 

Comprehensive income attributable to noncontrolling interests

 

$

(1,239)

 

(1,448)

 

 

Comprehensive income attributable to TSYS common shareholders

 

$

109,645

 

87,762

 

 

 

See accompanying Notes to Unaudited Consolidated Financial Statements

5


 

TOTAL SYSTEM SERVICES, INC.

Consolidated Statements of Cash Flows

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

Three months ended March 31, 

 

 

(in thousands)

    

2017

    

2016

 

 

Cash flows from operating activities:

 

 

 

 

 

 

 

Net income

 

$

107,107

 

92,408

 

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

Depreciation and amortization

 

 

104,178

 

67,583

 

 

Provisions for cardholder losses

 

 

12,548

 

12,109

 

 

Share-based compensation

 

 

9,047

 

8,158

 

 

Provisions for bad debt expenses and billing adjustments

 

 

1,921

 

1,441

 

 

Charges for transaction processing provisions

 

 

1,917

 

1,109

 

 

Amortization of debt issuance costs

 

 

1,079

 

10,386

 

 

Deferred income tax benefit

 

 

891

 

20,156

 

 

Loss (gain) on foreign currency

 

 

311

 

(510)

 

 

Amortization of bond discount

 

 

223

 

102

 

 

Excess tax benefit from share-based payment arrangements

 

 

 -

 

(5,533)

 

 

(Gain) loss on disposal of equipment, net

 

 

(4)

 

 1

 

 

Equity in income of equity investments, net of tax

 

 

(12,909)

 

(6,248)

 

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

Accrued salaries and employee benefits

 

 

(32,548)

 

(41,467)

 

 

Prepaid expenses, other current assets and other long-term assets

 

 

(27,102)

 

(7,809)

 

 

Accounts payable

 

 

6,808

 

(4,167)

 

 

Accounts receivable

 

 

25,844

 

(37,044)

 

 

Other current liabilities and other long-term liabilities

 

 

60,850

 

35,153

 

 

Net cash provided by operating activities

 

 

260,161

 

145,828

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

Purchases of property and equipment

 

 

(12,240)

 

(9,940)

 

 

Additions to contract acquisition costs

 

 

(7,668)

 

(21,010)

 

 

Additions to internally developed computer software

 

 

(7,355)

 

(8,544)

 

 

Additions to licensed computer software from vendors

 

 

(5,162)

 

(4,894)

 

 

Other investing activities

 

 

(379)

 

 -

 

 

Net cash used in investing activities

 

 

(32,804)

 

(44,388)

 

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

Principal payments on long-term borrowings and capital lease obligations

 

 

(104,654)

 

(304,654)

 

 

Purchase of noncontrolling interest

 

 

(70,000)

 

(5,879)

 

 

Dividends paid on common stock

 

 

(18,333)

 

(18,283)

 

 

Subsidiary dividends paid to noncontrolling shareholders

 

 

(752)

 

 -

 

 

Repurchase of common stock under plans and tax withholding

 

 

(17)

 

(5,034)

 

 

Debt issuance costs

 

 

 -

 

(26,592)

 

 

Excess tax benefit from share-based payment arrangements

 

 

 -

 

5,533

 

 

Proceeds from borrowings of long-term debt

 

 

 -

 

1,796,295

 

 

Proceeds from exercise of stock options

 

 

4,207

 

626

 

 

Net cash (used in) provided by financing activities

 

 

(189,549)

 

1,442,012

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents:

 

 

 

 

 

 

 

Effect of exchange rate changes on cash and cash equivalents

 

 

1,578

 

(669)

 

 

Net increase in cash and cash equivalents

 

 

39,386

 

1,542,783

 

 

Cash and cash equivalents at beginning of period

 

 

425,354

 

389,328

 

 

Cash and cash equivalents at end of period

 

$

464,740

 

1,932,111

 

 

 

 

 

 

 

 

 

 

Supplemental cash flow information:

 

 

 

 

 

 

 

Interest paid

 

$

36,554

 

2,585

 

 

Income taxes paid (refunded), net

 

$

3,019

 

(418)

 

 

 

See accompanying Notes to Unaudited Consolidated Financial Statements

 

6


 

TOTAL SYSTEM SERVICES, INC.

Notes to Unaudited Consolidated Financial Statements

 

Note 1  —Summary of Significant Accounting Policies

 

Business

 

Total System Services, Inc.’s (TSYS’ or the Company’s) revenues are derived from providing payment processing, merchant services and related payment services to financial and nonfinancial institutions, generally under long-term processing contracts. The Company also derives revenues by providing general-purpose reloadable (GPR) prepaid debit cards and payroll cards and alternative financial services to underbanked consumers. The Company’s services are provided through three operating segments: Issuer Solutions, Merchant Solutions and Netspend.

 

Through the Company's Issuer Solutions segment, TSYS processes information through its cardholder systems for financial and nonfinancial institutions throughout the United States and internationally. The Company's Merchant Solutions segment provides merchant services to merchant acquirers and merchants mainly in the United States. The Company’s Netspend segment provides prepaid program management services to consumers and corporations in the United States.

 

Basis of Presentation

 

The accompanying unaudited consolidated financial statements of TSYS include the accounts of TSYS and its wholly- and majority-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.

 

These financial statements have been prepared in accordance with generally accepted accounting principles (GAAP) for interim financial information and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X and, therefore, do not include all information and footnotes required by U.S. GAAP for complete financial statements. The preparation of the consolidated financial statements requires management of the Company to make estimates and assumptions relating to the reported amounts of assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. These estimates and assumptions are developed based upon all information available. Actual results could differ from estimated amounts. All adjustments, consisting of normal recurring accruals, which, in the opinion of management, are necessary for a fair presentation of financial position and results of operations for the periods covered by this report, have been included.

 

Certain prior period amounts have been reclassified to conform to the current period’s presentation, which includes the following changes.

 

The Company reclassified an immaterial amount of operating expenses between cost of services and selling, general and administrative expense on the income statement due to an error in classification in 2016.

 

The Company had investments in private equity funds as of December 31, 2016 with a value of $22.8 million. During the three months ended March 31, 2017 and in prior periods, this investment was reclassified from other assets to equity investments on the balance sheets. The income statement impact was to reclassify an immaterial amount of gains and losses from nonoperating expenses to equity in income of equity investments.

 

The accompanying unaudited consolidated financial statements should be read in conjunction with the Company’s summary of significant accounting policies, consolidated financial statements and related notes appearing in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the Securities and Exchange Commission (SEC). Results of interim periods are not necessarily indicative of results to be expected for the year.

 

7


 

Recently Adopted Accounting Pronouncements

 

The Company adopted the following Accounting Standards Updates (ASUs) on January 1, 2017:

 

ASU 2016-09 “Improvements to Employee Share-Based Payment Accounting,” which simplifies several aspects of the accounting for employee share-based payment transactions, including the accounting for income taxes, forfeitures and statutory tax withholding requirement, as well as classification in the statement of cash flows. The adoption of this standard results in the excess tax benefits and deficiencies associated with share-based payments being recorded on the income statement at the time they are deducted on the income tax return instead of being recorded in additional paid-in capital. The excess tax benefits are recorded along with other income tax cash flows as an operating activity in the statement of cash flows. The Company recorded excess tax benefits of $5.8 million in its provision for income taxes rather than as an increase to additional paid-in capital for the three months ended March 31, 2017 on a prospective basis. Therefore, the prior period presented has not been adjusted. The Company excluded the excess tax benefits from the assumed proceeds available to repurchase shares in the computation of diluted earnings per share, which did not have a material impact on its diluted earnings per share for the three months ended March 31, 2017. The Company elected to apply the presentation requirement for cash flows related to excess tax benefits prospectively, and thus, the prior period presented has not been adjusted. This adoption resulted in an increase in net cash provided by operating activities and a decrease in net cash used in financing activities of $5.8 million for the three months ended March 31, 2017.

 

ASU 2016-19 “Technical Corrections,” required changes to clarify, correct errors or make minor improvements to the Accounting Standards Codification (ASC). Most of the amendments in this Update do not require transition guidance and were effective upon issuance of this Update. Six amendments in this Update clarify guidance or correct references in the ASC that could potentially result in changes in current practice because of either misapplication or misunderstanding of current guidance. Early adoption is permitted for the amendments that require transition guidance. The Company was impacted by the amendment to Subtopic 350-40, Intangibles - Goodwill and Other - Internal-Use Software, which adds a reference to guidance to use when accounting for internal-use software licensed from third parties that is within the scope of Subtopic 350-40. The transition guidance for that amendment is the same as the transition guidance in ASU 2015-05, “Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement,” to which the amendment relates and was adopted on a prospective basis. The adoption of this ASU resulted in the Company's recording of acquired software as an intangible asset at present value rather than treating the software as a lease arrangement. The Company expects the annual impact of adopting the amendment to result in approximately $6.4 million of assets being recorded and $6.1 million of expense being characterized as amortization expense instead of rental expense during 2017.

 

New Accounting Pronouncements

 

In February 2017, the FASB issued ASU 2017-05 “Other Income – Gains and Losses from the Derecognition of Nonfinancial Assets,” which defines the term in substance nonfinancial assets as financial assets promised to a counterparty in a contract if substantially all of the fair value of the assets promised to the counterparty is concentrated in nonfinancial assets. If substantially all of the fair value of the assets that are promised to the counterparty in a contract is concentrated in nonfinancial assets, then all of the financial assets promised to the counterparty are in substance nonfinancial assets within the scope of Subtopic 610-20. The amendments in this Update exclude all business and nonprofit activities from the scope of Subtopic 610-20. The amendments in the Update may be applied either retrospectively to each period presented in the financial statements or retrospectively with a cumulative-effect adjustment to retained earnings as of the beginning of the fiscal year of adoption. The ASU  is effective for the Company on January 1, 2020. Early adoption is permitted. The Company does not expect the adoption of this ASU to have a material impact on the Company’s financial position, results of operations or cash flows.

 

In January 2017, the FASB issued ASU 2017-04 “Intangibles – Goodwill and Other (Topic 350), Simplifying the Test for Goodwill Impairment,” which modifies the concept of impairment from the condition that exists when the carrying amount of goodwill exceeds its implied fair value to the condition that exists when the carrying amount of a reporting unit exceeds its fair value. An entity no longer will determine goodwill impairment by calculating the implied fair value of goodwill by assigning the fair value of a reporting unit to all of its assets and

8


 

liabilities as if that reporting unit had been acquired in a business combination. An entity should apply the amendments in this Update on a prospective basis. The ASU is effective for the Company on January 1, 2020. Early adoption is permitted by all entities for interim or annual goodwill impairment test performed on testing dates after January 1, 2017. The Company plans to early adopt the ASU in May 2017 in conjunction with its goodwill impairment testing. The Company does not expect the adoption of this ASU to have a material impact on the Company’s financial position, results of operations or cash flows.

 

In January 2017, the FASB issued ASU 2017-01 “Business Combinations (Topic 805), Clarifying the Definition of a Business,” which provides a more robust framework to use in determining when a set of assets and activities is a business. The framework assists entities in evaluating whether both an input and a substantive process are present. The framework includes two sets of criteria to consider that depend on whether a set has outputs. Although outputs are not required for a set to be a business, outputs generally are a key element of a business; therefore, the FASB has developed more stringent criteria for sets without outputs. The ASU is effective for the Company on January 1, 2018. Early application of the amendments in this Update is allowed under certain circumstances. The Company does not expect the adoption of this ASU to have a material impact on the Company’s financial position, results of operations or cash flows.

 

Recent Revenue Recognition Accounting Pronouncements

 

In May 2014, the FASB issued ASU 2014-09 “Revenue from Contracts with Customers,” which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The ASU will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective.

 

The FASB has issued several additional ASUs since this time that add additional clarification to certain issues existing after the original ASU was released. All of the new standards are effective for the Company on January 1, 2018, with early adoption permitted no sooner than January 1, 2017. The standards permit the use of either the retrospective or cumulative effect transition method. The Company is in the process of determining the effect on its ongoing financial reporting for adoption of these ASUs.

 

The Company is reviewing the requirements of the new revenue standard, and amendments described below, while following activities of the FASB and the American Institute of Certified Public Accountants (AICPA) for certain interpretive guidance applicable to IT outsourcers and payment processors. The Company is evaluating customer contracts under the new standard for each type of significant revenue stream (and related costs) to evaluate differences from current accounting. TSYS plans to adopt ASU 2014-09, as well as all other clarifications and technical guidance issued by the FASB and AICPA related to this new revenue standard, on January 1, 2018 using the modified retrospective transition method. Such adoption method will result in an adjustment to the opening balance of retained earnings (or other appropriate components of net assets in the statement of financial position) for the cumulative effect, of applying the standard to contracts that are not completed on January 1, 2018. Under the modified retrospective transition method, the Company is required to disclose the impact of changes to financial statement line items due to the application of the new revenue standard, including an explanation of the reasons for any significant changes.

 

The new standard is likely to change the amount and timing of revenue and costs for certain significant revenue streams, accelerate revenue for certain license arrangements, extend the amortization of certain costs such as commissions, incentive payments, and conversion costs, increase areas of judgment and related internal controls requirements, change the presentation of revenue for certain contract arrangements and require changes to the Company’s software systems to assist in both internally capturing accounting differences and externally reporting such differences through enhanced disclosure requirements. In this respect the Company is completing its development of technical positions and analysis of the expected accounting differences and beginning implementation of a revenue software solution.

 

In March 2016, the FASB issued ASU 2016-08 “Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net)," which improves the operability and

9


 

understandability of the implementation guidance on principal versus agent considerations by providing indicators as to which party controls the good or service provided to a customer (the principal).

 

In April 2016, the FASB issued ASU 2016-10 “Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing,” which clarifies two aspects of Topic 606: identifying performance obligations and the licensing implementation guidance, while retaining the related principles for those areas.

 

In May 2016, the FASB issued ASU 2016-12 “Revenue from Contracts with Customers (Topic 606): Narrow Scope Improvements and Practical Expedients,” which affects only the following narrow aspects of Topic 606: Assessing the Collectability Criterion; Presentation of Sales and Other Taxes Collected from Customers; Noncash Consideration; Contract Modification at Transition; Completed Contracts at Transition; and Technical Correction.

 

In December 2016, the FASB issued ASU 2016-20 “Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers,” which affects only the following narrow aspects of Topic 606: Disclosure of Remaining Performance Obligations as it relates to entities such as processors which may not be required to estimate revenue under ASU 2014-09 due to direct allocation of variable consideration; Disclosure of Prior - Period Performance Obligations; Loan Guarantee Fees; Contract Costs – Impairment Testing; Contract Costs - Interaction of Impairment Testing with Guidance in Other Topics; Provisions for Losses on Construction-Type and Production Type Contracts; Contracts within the scope of Topic 944 (insurance) are excluded from the scope of Topic 606; Contract Modifications; Contract Asset versus Receivable; Refund Liability; Advertising Costs; Fixed - Odds Wagering Contracts in the Casino Industry.    

 

Note 2 — Fair Value Measurement 

 

Refer to Note 3 of the Company’s audited financial statements for the year ended December 31, 2016, which is included as Exhibit 13.1 to the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the SEC, for a discussion regarding fair value measurement.

 

The Company had no transfers between Level 1, Level 2 or Level 3 assets during the three months ended March 31, 2017 and 2016.

 

Note 3 — Supplementary Balance Sheet Information

 

Cash and Cash Equivalents

 

The Company maintains accounts outside the United States denominated in currencies other than the U.S. dollar. All amounts in domestic accounts are denominated in U.S. dollars.

 

Cash and cash equivalent balances are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(in thousands)

 

March 31, 2017

 

December 31, 2016

Cash and cash equivalents in domestic accounts

 

$

400,506

 

375,122

 

Cash and cash equivalents in foreign accounts

 

 

64,234

 

50,232

 

Total

 

$

464,740

 

425,354

 

 

 

 

 

 

 

 

 

10


 

Prepaid Expenses and Other Current Assets

 

Significant components of prepaid expenses and other current assets are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(in thousands)

 

March 31, 2017

 

December 31, 2016

Prepaid expenses

 

$

80,646

 

84,173

 

Supplies inventory

 

 

15,706

 

17,105

 

Other

 

 

83,973

 

63,210

 

Total

 

$

180,325

 

164,488

 

 

 

 

 

 

 

 

 

Contract Acquisition Costs, Net

 

Significant components of contract acquisition costs, net of accumulated amortization, are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(in thousands)

 

March 31, 2017

 

December 31, 2016

 

Conversion costs, net of accumulated amortization of $173.6 million and $164.4 million as of 2017 and 2016, respectively

 

$

141,525

 

144,173

 

Payments for processing rights, net of accumulated amortization of $149.0 million and $145.3 million as of 2017 and 2016, respectively

 

 

89,947

 

91,527

 

Total

 

$

231,472

 

235,700

 

 

 

 

 

 

 

 

 

Amortization expense related to contract acquisition costs is as follows:

 

 

 

 

 

 

 

 

 

 

 

For the three months ended March 31,

 

 

(in thousands)

    

2017

    

2016

    

 

Amortization expense related to:

 

 

 

 

 

 

 

Conversion costs

 

$

8,173

 

7,157

 

 

Payments for processing rights

 

 

5,219

 

4,929

 

 

 

 

 

 

 

 

 

 

 

Other Current Liabilities

 

Significant components of other current liabilities are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(in thousands)

 

March 31, 2017

 

December 31, 2016

 

Deferred revenues

 

$

46,120

 

40,473

 

Income taxes payable

 

 

40,914

 

1,673

 

Accrued third-party commissions

 

 

33,809

 

28,310

 

Accrued expenses

 

 

27,226

 

32,861

 

Dividends payable

 

 

19,252

 

19,513

 

Litigation settlements

 

 

16,761

 

20,795

 

Accrued interest

 

 

11,276

 

19,029

 

Other

 

 

142,790

 

100,605

 

Total

 

$

338,148

 

263,259

 

 

 

 

 

 

 

 

 

11


 

Accumulated Other Comprehensive Income (AOCI)

 

The income tax effects allocated to and the cumulative balance of accumulated other comprehensive income (loss) attributable to TSYS shareholders are as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

 

 

(b)

 

(c)

 

(d)

 

(a+d)

 

(in thousands)

Beginning
Balance December 31, 2016

 

Pretax Amount

    

Tax Effect

 

Net-of-Tax
Amount
(b-c)

    

Ending Balance March 31, 2017

 

Foreign currency translation adjustments and transfers from noncontrolling interests

$

(65,482)

 

$

6,052

 

540

 

$

5,512

 

$

(59,970)

 

Unrealized gain (loss) on available-for-sale securities

 

9,862

 

 

(2,880)

 

(1,021)

 

 

(1,859)

 

 

8,003

 

Change in AOCI related to postretirement healthcare plans

 

(538)

 

 

194

 

70

 

 

124

 

 

(414)

 

Total

$

(56,158)

 

$

3,366

 

(411)

 

$

3,777

 

$

(52,381)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

There were no reclassifications of AOCI to net income or to other accounts for the three months ended March 31, 2017.

 

Note 4 — Long-Term Borrowings and Capital Lease Obligations

 

Refer to Note 12 of the Company’s audited financial statements for the year ended December 31, 2016, which is included as Exhibit 13.1 to the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the SEC, for a discussion regarding long-term borrowings and capital lease obligations.

 

In 2016, the Company entered into a Credit Agreement (the “2016 Credit Agreement”) which provides the Company with a $700 million five-year term loan facility (the “Term Loan Facility”) consisting of (i) a $300 million term loan (the “Refinancing Term Loan”) funded upon entry into the 2016 Credit Agreement and (ii) a $400 million term loan (the “Delayed Draw Term Loan”). The 2016 Credit Agreement also provides the Company with an $800 million unsecured revolving credit facility (the “Revolving Loan Facility”). During the quarter ended March 31, 2017, the Company repaid $30.0 million on the Term Loan Facility. The balance as of March 31, 2017 was $668.0 million net of discount and debt issuance costs on the Term Loan Facility. During the quarter ended March 31, 2017, the Company repaid $70.0 million on the Revolving Loan Facility. As of March 31, 2017, there was no outstanding balance on the Revolving Loan Facility. During the three months ended March 31, 2017, the Company repaid $104.7 million on outstanding debt and capital lease obligations.

 

Note 5 — Share-Based Compensation

 

Refer to Notes 1 and 18 of the Company’s audited financial statements for the year ended December 31, 2016, which are included as Exhibit 13.1 to the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the SEC, for a discussion regarding the Company’s share-based compensation plans and policy.

 

Share-Based Compensation

 

Share-based compensation costs are classified as selling, general and administrative expenses on the Company’s statements of income and corporate administration and other expenses for segment reporting purposes. TSYS’ share-based compensation costs are expensed, rather than capitalized, as these awards are typically granted to individuals not involved in capitalizable activities. For the three months ended March 31, 2017, share-based compensation was $9.0 million, compared to $8.2 million for the same period in 2016.

 

Nonvested Share Awards - Time-Based

 

The Company granted shares of TSYS common stock to certain key employees. The nonvested stock bonus awards are typically for services to be provided in the future and vest over a period of up to four years. The market value of the TSYS common stock as of the date of issuance is charged as compensation expense over

12


 

the vesting periods of the awards. As of March 31, 2017, there was approximately $27.0 million of unrecognized compensation cost related to time-based nonvested share awards.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended
March 31,

 

 

    

2017

    

2016

 

Number of shares granted

 

 

282,860

 

269,311

 

Market value (in millions)

 

$

15.4

 

12.0

 

 

 

 

 

 

 

 

 

Performance- and Market-Based Awards

 

The Company granted performance- and market-based shares to certain key employees. The performance- and market-based goals are established by the Compensation Committee of the Board of Directors and will vest up to a maximum of 200%. During the first three months of 2017 and 2016, the Compensation Committee established performance goals based on adjusted diluted EPS, adjusted EPS, revenue growth, corporate accountability operating income (CAOI) growth, net revenue and revenues before reimbursable items. The Company’s market-based awards are based upon the Company’s Total Shareholder Return (TSR) as compared to the TSR of the companies in the S&P 500 over the performance period.

 

Compensation expense for performance shares is measured on the grant date based on the quoted market price of TSYS common stock. The Company estimates the probability of achieving the goals through the performance period and expenses the awards on a straight-line basis. The fair value of market-based awards is estimated on the grant date using a Monte Carlo simulation model. The Company expenses market-based awards on a straight-line basis. Compensation costs related to performance- and market-based shares are recognized through the longer of the performance period or the vesting period. As of March 31, 2017, there was approximately $25.5 million of unrecognized compensation cost related to TSYS performance-based awards that is expected to be recognized through December 2019. As of March 31, 2017, there was approximately $4.2 million of unrecognized compensation cost related to TSYS market-based awards that is expected to be recognized through December 2019.

 

The following table summarizes the market-based awards granted during the first three months of 2017 and 2016:

 

 

 

 

 

 

 

 

 

 

Year
Awarded

    

Performance
Period Ending

    

Performance
Measure

    

Number of
Shares
Granted

    

Period Expensed
Through

2017

 

December 2019

 

TSR

 

42,644

 

December 2019

2016

 

December 2018

 

TSR

 

47,004

 

December 2018

 

13


 

The following table summarizes the performance-based awards granted during the first three months of 2017 and 2016:

 

 

 

 

 

 

 

 

 

 

Year
Awarded

    

Performance
Period Ending

    

Performance
Measure

    

Number of
Shares
Granted

    

Period Expensed
Through

2017

 

December 2019

 

Net Revenue and Adjusted Diluted EPS1

 

99,492

 

December 2019

2017

 

December 2017

 

Net Revenue and Adjusted Diluted EPS1

 

146,094

 

December 2019

2016

 

December 2018

 

Revenue Growth and CAOI Growth2

 

67,517

 

December 2018

2016

 

December 2018

 

Adjusted EPS3

 

109,684

 

December 2018

2016

 

December 2016

 

Revenues before Reimbursable Items4 and Adjusted EPS3

 

140,425

 

December 2018

1

Adjusted Diluted EPS is adjusted earnings divided by weighted average diluted shares outstanding used for diluted EPS calculations. Adjusted earnings is net income excluding the after-tax impact of share-based compensation expenses, amortization of acquisition intangibles, merger and acquisition expenses for completed acquisitions and litigation claims, judgments or settlement expenses and related legal expenses.

2

CAOI is adjusted segment operating income and includes corporate administrative expenses. Adjusted segment operating income is defined in Note 7.

3

Adjusted EPS is adjusted earnings divided by weighted average shares outstanding used for basic EPS.

4

Revenues before Reimbursable Items is total revenue less reimbursable items which consist of out-of-pocket expenses which are reimbursed by the Company’s clients. These expenses consist primarily of postage, access fees and third-party software.

 

Stock Option Awards

 

The Company granted stock options to certain key executives. The grants will vest over a period of up to three years.

 

The weighted average fair value of the option grants was estimated on the date of grant using the Black-Scholes-Merton option-pricing model with the following weighted average assumptions:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended March 31, 

 

 

 

    

2017

 

 

 

    

2016

 

 

Number of options granted

 

 

481,712

 

 

 

 

464,408

 

 

Weighted average exercise price

 

$

54.47

 

 

 

 

44.48

 

 

Risk-free interest rate

 

 

1.77

%  

 

 

 

1.24

%

 

Expected volatility

 

 

21.72

%  

 

 

 

21.03

%

 

Expected term (years)

 

 

4.6

 

 

 

 

4.6

 

 

Dividend yield

 

 

0.73

%  

 

 

 

0.90

%

 

Weighted average fair value

 

$

10.73

 

 

 

 

7.89

 

 

 

 

 

 

 

 

 

 

 

 

 

 

As of March 31, 2017, there was approximately $6.7 million of unrecognized compensation cost related to TSYS stock options that is expected to be recognized over a remaining weighted average period of 1.9 years.

 

Note 6 — Income Taxes

 

Refer to Notes 1 and 14 of the Company’s audited financial statements for the year ended December 31, 2016, which are included as Exhibit 13.1 to the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the SEC, for a discussion regarding income taxes.

 

TSYS is the parent of an affiliated group that files a consolidated U.S. federal income tax return and most state and foreign income tax returns on a separate entity basis. In the normal course of business, the Company is subject to examinations by these taxing authorities unless statutory examination periods lapse. TSYS is no longer subject to U.S. federal income tax examinations for years before 2011 and with few exceptions, the Company is no longer subject to income tax examinations from state and local or foreign tax authorities for years before 2005. There are currently federal income tax examinations in progress for the years 2011 through 2013. Additionally, a number of tax examinations are in progress by the relevant state tax authorities. Although TSYS is unable to determine the ultimate outcome of these examinations, TSYS believes that its liability for uncertain tax positions relating to these jurisdictions for such years is adequate.

 

14


 

TSYS’ effective tax rate was 31.4% and 33.5% for the three months ended March 31, 2017 and 2016, respectively.

 

GAAP prescribes a recognition threshold and measurement attribute for the financial statement recognition, measurement and disclosure of a tax position taken or expected to be taken in a tax return. The amount of unrecognized tax benefits were $16.3 million and $16.5 million as of March 31, 2017 and December 31, 2016, respectively, which resulted in a decrease of $0.2 million during the period.

 

TSYS recognizes potential interest and penalties related to the underpayment of income taxes as income tax expense in the consolidated statements of income. Gross accrued interest and penalties on unrecognized tax benefits totaled $1.3 million and $1.8 million as of March 31, 2017 and December 31, 2016, respectively. The total amounts of unrecognized income tax benefits as of March 31, 2017 and December 31, 2016, that, if recognized, would affect the effective tax rates are $16.8 million and $17.0 million (net of the federal benefit on state tax issues), respectively, which include interest and penalties of $0.9 million and $1.2 million, respectively. TSYS does not expect any significant changes to its calculation of uncertain tax positions during the next twelve months.

 

Note 7 — Segment Reporting and Major Customers 

 

Refer to Note 22 of the Company’s audited financial statements for the year ended December 31, 2016, which is included as Exhibit 13.1 to the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the SEC, for a discussion regarding segment reporting and major customers.

 

At TSYS, the chief operating decision maker (CODM) is a group consisting of Senior Executive Management and above. In the first quarter of 2017, the CODM combined the North America Services and International Services segments for purposes of segment reporting into the new Issuer Solutions segment, since they provide similar services to similar customers and to reflect the manner in which decisions on allocation of resources are made. All prior periods were restated to reflect this change. This change is used to evaluate performance and assess resources starting in the first quarter of 2017. The information utilized by the CODM consists of the financial statements and the main metrics monitored are revenue growth and growth in profitability.

 

The following table presents the Company’s total assets by segment:

 

 

 

 

 

 

 

 

 

 

 

As of

 

(in thousands)

 

 

March 31, 2017

    

December 31, 2016

 

Issuer Solutions

 

$

5,888,921

 

5,892,410

 

Merchant Solutions

 

 

3,269,813

 

3,295,509

 

Netspend

 

 

1,492,632

 

1,474,595

 

Intersegment assets

 

 

(4,300,686)

 

(4,296,337)

 

    Total assets

 

$

6,350,680

 

6,366,177

 

 

 

 

 

 

 

 

 

The Company maintains property and equipment, net of accumulated depreciation and amortization, in the following geographic areas:

 

 

 

 

 

 

 

 

 

 

As of

 

(in thousands)

 

March 31, 2017

 

December 31, 2016

 

United States

 

$

234,504

 

236,913

 

Europe

 

 

39,768

 

38,866

 

Other

 

 

7,158

 

6,566

 

Total

 

$

281,430

 

282,345

 

 

 

 

 

 

 

 

 

15


 

The following table presents the Company’s depreciation and amortization by segment:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended March 31, 

 

(in thousands)

    

 

2017

    

2016

 

Depreciation and amortization:

 

 

 

 

 

 

Issuer Solutions

 

$

36,853

 

35,619

 

Merchant Solutions

 

 

7,022

 

5,050

 

Netspend

 

 

4,092

 

3,110

 

Segment depreciation and amortization

 

 

47,967

 

43,779

 

Acquisition intangible amortization

 

 

55,167

 

22,921

 

Corporate Administration and Other

 

 

1,044

 

883

 

Total depreciation and amortization

 

$

104,178

 

67,583

 

 

 

 

 

 

 

 

 

The following tables reconcile geographic revenues to external revenues by operating segment based on the domicile of the Company’s customers:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended March 31, 2017

 

(in thousands)

    

Issuer
Solutions

    

Merchant
Solutions

    

Netspend

    

Total

 

United States

 

$

260,729

 

563,108

 

197,058

 

$

1,020,895

 

Europe1

 

 

70,115

 

80

 

 -

 

 

70,195

 

Canada1

 

 

76,195

 

276

 

 -

 

 

76,471

 

Other1

 

 

16,842

 

322

 

 -

 

 

17,164

 

Total

 

$

423,881

 

563,786

 

197,058

 

$

1,184,725

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended March 31, 2016

 

(in thousands)

    

Issuer
Solutions

    

Merchant
Solutions

    

Netspend

    

 

Total

 

United States

 

$

257,649

 

137,719

 

184,199

 

$

579,567

 

Europe1

 

 

69,813

 

 -

 

 -

 

 

69,813

 

Canada1

 

 

69,850

 

65

 

 -

 

 

69,915

 

Other1

 

 

19,889

 

194

 

 -

 

 

20,083

 

Total

 

$

417,201

 

137,978

 

184,199

 

$

739,378

 

 

 

 

 

 

 

 

 

 

 

 

 

1Certain of these revenues are impacted by movements in foreign currency exchange rates.

16


 

The following table presents the Company’s operating results by segment:

 

 

 

 

 

 

 

 

Operating Segments

 

Three months ended March 31, 

 

(in thousands)

    

 

2017

    

2016

 

Operating income (GAAP) (a)

 

$

167,183

 

151,687

 

Share-based compensation

 

 

9,047

 

8,158

 

TransFirst M&A and integration expenses1

 

 

4,868

 

3,401

 

Litigation claims, judgments or settlements

 

 

1,961

 

 -

 

Acquisition intangible amortization

 

 

55,167

 

22,921

 

Adjusted operating income (non-GAAP) (b)

 

$

238,226

 

186,167

 

 

 

 

 

 

 

 

Adjusted segment operating income (non-GAAP):

 

 

 

 

 

 

Issuer Solutions (c)

 

$

133,873

 

135,077

 

Merchant Solutions (d)

 

 

91,279

 

38,357

 

Netspend (e)

 

 

48,648

 

42,201

 

Corporate Administration and Other

 

 

(35,574)

 

(29,468)

 

Adjusted segment operating income2 (non-GAAP)

 

$

238,226

 

186,167

 

 

 

 

 

 

 

 

Total revenues (GAAP) (f)

 

$

1,184,725

 

739,378

 

Less: reimbursable items, interchange and assessment expenses

 

 

351,833

 

67,734

 

Net revenue3 (g)

 

 

832,892

 

671,644

 

Intersegment revenues

 

 

12,389

 

11,969

 

Segment net revenue (non-GAAP)

 

$

845,281

 

683,613

 

 

 

 

 

 

 

 

Segment net revenue (non-GAAP):

 

 

 

 

 

 

Issuer Solutions (h)

 

$

387,255