Page 42 Cardtronics (NASDAQ: CATM)—Short 2016 Darden @ Virginia Investing Challenge—Finalist Abheek Bhattacharya Harsh Jhaveri Ryan Kelly ABhattacharya18@gsb.columbia.edu HJhaveri18@gsb.columbia.edu RKelly18@gsb.columbia.edu Abheek Bhattacharya ’18 Abheek is a first-year MBA student at Columbia Business School. Prior to CBS, he wrote for the Wall Street Journal in Hong Kong, most recently for its flagship Heard on the Street investment column. He studied philosophy at Yale University. Harsh Jhaveri ’18 Harsh is a first-year MBA student at Columbia Business School. Before that, he worked with Fidelity’s venture capital and growth private-equity fund, and Barclays’ investment banking team in India. Harsh received a B.S. in Electrical Engineering from Yale University. Ryan Kelly ’18 Ryan is a first-year MBA student at Columbia Business School. Prior to this, he worked as a consultant at Deloitte, most recently in Philadelphia. Ryan holds a B.S. in Finance from Villanova University. Summary Cardtronics is the world’s largest non-bank ATM operator, with over 225,000 ATMs across the U.S., Europe and Australia. The Company typically owns or manages ATMs placed in retail outlets (CVS, Walgreens, etc.) and off-site ATMs for banks. While Cardtronics’ primary revenue streams are surcharge fees from customers and interchange fees from banks, it also earns revenue from bank branding on ATMs and management fees. The short thesis for Cardtronics is based on declining cash usage, limited organic and inorganic growth opportunities and the loss of its largest customer (18% of revenue), which will also lead to increased competition in this space. Cardtronics is currently trading close to its 52-week high and is valued at 25x FY16E earnings. Market Metrics Investment Thesis 1) Cash usage is on a decline globally, both as consumers switch to debit cards and as digital payments rise. ATM cash withdrawals in the U.S. declined nearly 1% from 2009-2012, based on the latest Federal Reserve data available as of November. According to Accenture, North Americans using cash for transactions will decline from 66% in 2016 to 54% in 2020. Other reports by Euromonitor and McKinsey also highlight similar trends. Cardtronics’ performance has mirrored the trend in declining cash usage, with same-store cash withdrawal transactions going from 4-8% growth in FY11 to negative growth. ATM unit economics have also significantly deteriorated with revenue per ATM decreasing from $14,335 in FY11 to $7,534 in FY15, as CATM expands with machines were it only manages the services (and collects a management fee). These have grown from 10% of total ATMs in FY12 to 60% of all ATMs in 9M FY16 and earn ~5% the level of the average Cardtronics ATM. 2) Cardtronics will lose its largest customer in mid-2017, which paves the way for increased competition Cardtronics’ largest customer 7-Eleven, which contributed 18% of revenue, has decided to terminate its Financial Snapshot contract in July 2017. It will switch to FCTI, a company owned by Japan-based Seven Bank, whose biggest 1500 shareholder is 7-Eleven’s holding company. While the 1,200 revenue impact from the loss of this contract is 10% 1200 1,055 known, its impact on profitability is even higher. The 7- 7% 8% Eleven contract likely earns higher margins given 7- 876 6% 900 6% Elevens receive higher foot traffic than Cardtronics’ 4% other retail locations and that the ATMs in 7-Eleven 600 3% 4% included a $50M bank branding fee with Citi. Cardtronics’ remaining top four retail customers (19% of revenue) have contracts due for renewal in an average of three years. They potentially now have more 300 0 2% 0% bargaining power with Cardtronics post the loss of 7- Eleven and can threaten to defect to FCTI. FY13 FY14 FY15 FY16E Revenue ($M) Net income margin 3) Cardtronics has masked its inability to grow organically by acquiring 14 companies since 2011. But acquisition opportunities will be limited in the future: In its most recent deal, Cardtronics agreed to acquire one its largest rivals DirectCash (expected closing in January 2017). The $460M transaction, which included $205M debt from DirectCash, was funded primarily by cash and additional debt from Cardtronics’ existing lenders. Cardtronics’ proforma net debt / EBITDA will be 2.6x, close to triggering the 3x covenant on its revolver. Further, Moody’s undertook a review of Cardtronics’ rating for a downgrade after this transaction announcement. This will prevent Cardtronics from exploring any significant acquisitions in the future. Cardtronics’ own M&A binge has reduced acquisition opportunities in the future.
Page 43 Cardtronics (CATM)—Short (Continued from previous page) 4) Cardtronics management’s interests are misaligned with shareholder interests: Management advertises adjusted EBITDA and adjusted net income in all its interactions with shareholders. From the proxy statements, it is evident that their compensation is also linked to these adjusted profitability metrics, allowing them to ignore actual GAAP profitability. The CEO currently owns just 0.6% (1% including unvested shares) and the ex-CFO owns 0.2% Revenue breakup (0.3% including unvested shares). The ex-CFO retired and has recently been replaced. The CEO has sold 51,714 shares (~18% of his ownership) worth $1.7M in the last two years Valuation Based on CATM’s 2-year average forward P/E of 21x, we ascribe a 21x multiple to FY19 EPS This results in a price target of $30.3, a 36% downside. Exit multiple 19x 20x 21x 22x 23x Price 27.4 28.9 30.3 31.7 33.2 Downside (42%) (39%) (36%) (33%) (30%) Catalysts The impact of the loss of the 7-Eleven contract on profits will only be understood in the 2 nd half of 2017 The remaining 4 of Cardtronics’ top 5 customers, which comprised 19% of revenue, will renew—on average—in the next three years. These contracts will be under competitive pressure since FCTI has entered the fray. Risks Cardtronics may announce another large acquisition. Mitigant: Given that Cardtronics’ credit rating was recently reviewed by Moody’s for a downgrade and its pro forma net debt / EBITDA position is 2.6x, which is very close to its 3x revolver covenant, it seems unlikely that they will make any major acquisitions in the near future. Further, given that Cardtronics has acquired 14 companies since 2011, there are practically no large acquisition targets remaining. Cardtronics may partner with a big bank Mitigant: Partnering with a bank would help Cardtronics earn managed services revenue or a bank-branding fee, but revenue per managed services ATMs is only 5% of the revenue earned from the average Cardtronics ATM. It is also questionable whether banks value a longterm bank-branding relationship with Cardtronics given that Cardtronics is both a competitor and a partner. An example of this is when Chase cancelled its partnership with Cardtronics to manage its off-premise ATMs in 2014. Cardtronics expands into emerging markets Mitigant: Regulations regarding ATMs in emerging markets are more stringent, probably the reason why most independent operators have focused on developed markets so far.