Bread Financial Holdings, Inc.

Good morning and welcome to Alliance Data's third quarter 2020 earnings conference call. At this time, all participants have been placed on a listen-only mode. Following today's presentation, the floor will be open for your questions. If you'd like to ask a question, please press star one on your telephone keypad. In order to view the company's presentation on the website, please remember to turn off the pop-up blocker on your computer. It is now my pleasure to introduce your host, Ms. Vicky Nakla of Advisory Partners. Ma'am, the floor is yours.

Thank you, operator. By now, you should have received a copy of the company's third quarter 2020 earnings release. If you haven't, please call advisory partners at 212-750-5800. On the call today, we have Ralph Andretta, President and Chief Executive Officer of Alliance Data, and Tim King, Executive Vice President and Chief Financial Officer of Alliance Data. Before we begin, I would like to remind you that some of the comments made on today's call and some of the responses to your questions may contain forward-looking statements. These statements are subject to the risks and uncertainties described in the company's earnings release and other filings with the SEC. Alliance data has no obligation to update the information presented on the call. Also on today's call, our speakers will reference certain non-GAAP financial measures. which we believe will provide useful information for investors. Reconciliation of those measures to GAAP will be posted on the Investor Relations website at AllianceData.com. With that, I would like to turn the call over to Ralph Andretta. Ralph?

Thank you, Vicki, and thank you to everyone for joining the call this morning. We have had an exciting week with the FISERV announcement as well as the announcement this morning of our agreement to acquire BRETT. The new capabilities, digital advancements, technology upgrades, and efficiencies from these transactions better position the company for sustainable, profitable, long-term growth. I would like to start today's call by thanking our associates and leaders for all that they have accomplished this quarter. Our associates continue to step up to the challenges and changes brought forth by the pandemic, and through their dedicated service, move the company forward on its strategic goals. Starting on page three, here is an overview of the key highlights of the third quarter. The company posted strong financial results, which I will touch on briefly, then Tim will provide more color. As is evident with our recent announcements, we are making substantial progress on our strategic priorities and making significant investments in our business. We will address these themes in more detail throughout the presentation and then provide insight on our focus going forward. After our prepared remarks, we will open up the call for your questions. Slide four provides the highlights for the third quarter. We reported net income of $133 million, an increase of $95 million from the second quarter 2020, and earnings per diluted share of $2.79. We continue to build capital and liquidity through income improvement and strong cash flow. Importantly, credit sales improved 28% sequentially and both air miles, rewards miles issued, and redeemed improved from the second quarter of 2020, which I will discuss in more detail on the following slides. Overall, the quarter we saw a pickup in our business as stores, states, and countries reopened. Moving to slide five, you can see more detail on the improving credit sales trends for our card services business. While the sales are down year over year, we are seeing encouraging signs of growth across our channels and industry verticals. Like most, we are seeing the benefit of stores reopening and customer spend beginning to increase. While the positive September U.S. retail figures are very encouraging, we remain focused due to the many uncertainties our economic our economy faces, among them, the potential resurgence of the virus. We remain cautiously optimistic on the future and are prepared for a potentially uneven but gradual economic recovery for the U.S. and world economies. As you can see on the bottom left chart, our sales channels continue to rebound from the lows during the shutdown period earlier this year. The chart on the bottom right provides the channel details for the 28% sequential growth in the third quarter versus the second quarter of 2020. We saw substantial improvement in multi-channel spend as stores reopened, leading to a sequential 92% increase in store, in-person brand sales at the brand's brick and mortar locations. We are seeing more purposeful shopping, In-store traffic is still down versus a year ago, but when a consumer does come into a store, they are spending more. Our non-brand sales on our co-brand cards increased 27% sequentially. We are seeing an increase in spend in everyday categories for our co-brand cards and are pleased with the early results from our community general purpose card, which we launched late in the third quarter. With stores reopening in the third quarter, consumers reverted back to multi-channel spending, resulting in a pullback in online sales, but an overall increase in total spend. Finally, I would like to highlight the success we are seeing in the transition from our traditional brick-and-mortar apparel focus to a more diversified payments provider across industry categories. Our diversified verticals defined as partners excluding specialty apparel, department stores, and jewelry represented 65% of our sales in the third quarter of 2020 versus 55% in 2019. Slide 6 highlights select partner renewals, new vertical growth, as well as our new proprietary credit card, the Comenity Card. As discussed on our last call, we are focused on signing and renewing key partner relationships. We are partnering with companies that have a shared interest in driving sustained, profitable growth for mutual success. Here we highlighted two renewals in the quarter and some of our enhanced capabilities these partners are utilizing. The middle column highlights our beauty partners, which is one of the many diversified verticals where we are seeing strong, profitable growth trends. With the recent addition and program launch of Sally Beauty, the largest distributor of professional beauty products in the U.S., Alliance Data now partners with the top four brands in the industry, which makes up 53% of the total market share. Also in the quarter, we launched Salon Centric, which is part of L'Oreal. The success we have seen in beauty as a category leader is a good blueprint for our ongoing expansion into additional fast-growing industries. The launch of our new Comedity General Purpose Cash Back Card has exceeded our early expectations. We are currently offering the card to select customers and seeing strong activation rates and early engagement, especially among millennials. The development team for this card has extensive experience working with similar offerings and is confident in the value this card brings from both retention and growth. In a situation where a partner leaves or is having financial troubles, we can strategically offer the community card to retain card member relationships and drive increased sales. Let's turn to page 7 to review the performance for Loyalty 1, which includes the Air Miles Rewards Program in Canada and a Netherlands-based brand loyalty. The segment's third quarter revenue benefited from improving business conditions in most parts of the world when compared to the previous quarter. As I mentioned earlier and as displayed in the graph on the bottom of the slide, reward miles issued rebounded in the quarter from the low in the second quarter. Recall that we recognize most of our revenue when a collector redeems their miles, but a good indicator of our future revenue is the miles issued. Given the lingering effect of COVID-19 on travel, AirMiles continues to pivot its rewards portfolio to emphasize more non-travel options, such as merchandise, to drive higher customer redemption rates. Our merchandise redemptions increase double digits as we focus on stay-at-home, type products we are also adding added streaming services for games and movies to our rewards portfolio brand loyalty revenue improved 37 percent from the second quarter 2020 as areas around the world began to reopen during the quarter we are closely watching the pandemic inflection trends especially in europe as cases are beginning to rise slide 8 provides a look at our digital engagement statistics for card services consumers are rapidly adopting technologies that simplify how they purchase, manage their accounts, and engage with payments. Our suite of digital capabilities reflects the changing landscape by creating a seamless process for customers to adapt, apply for, and use payment options. Several of our brands are now leveraging our patented frictionless capabilities across all channels to drive easy applications. including qr code text and applied functionality as well as a dynamic real-time offer messaging that brings payment offers to the forefront of the customer shopping journey 45 of our card services credit sales in 2020 were made online up by one-third year-over-year seventy percent of applications are now digital and 78% of our bills are paid digitally, underscoring the importance of investing here and the success of our efforts to date. Turning to slide nine, I will speak to a number of ways we continue to enhance our technology capabilities. As discussed during the second quarter call, we are focused on expanding our product suite with additional product offerings like buy now, pay later, and installment loans. The acquisition of Bread was an efficient way to expand our offerings and gain access to a broader audience and younger demographic. The deal jumpstarts our ability to offer these products to our brand partners while bringing additional opportunities to leverage and offer our core products to those customers. Bread's leading FinTech platform advances our digital capabilities and offerings. Given Bread's advanced technology position in this space, we determined that the right strategy in this case was to buy rather than to build or partner. Our recently announced strategic agreement with Fiserv offers a number of benefits. We leverage Fiserv's highly flexible and scalable credit processing platform to benefit our brand partners and card members while driving operational efficiencies. Through our relationship with Fiserv, we will improve our brand partner conversions and speed to market, including quickly and seamlessly adding new products and capabilities that benefit our partners and our card members. The platform enables efficient integration and use of mobile wallet and virtual cards, while supporting our data and analytics capabilities. Importantly, the agreement provides efficiencies that reduce our cost to serve. we plan to reinvest those cost savings in digital capabilities and other grow up initiatives. During the third quarter, we announced the launch of our enhanced digital suite. This suite of digital applications and capabilities helps our brand partners capitalize on the accelerated growth of e-commerce. The suite promotes credit payment options earlier in the shopping experience and prescreens customers in real time, allowing for immediate credit approval without leaving the brand's partner site. We also support these offerings with enhanced digital marketing and payment tools. Combined, we expect these offerings to bring through more qualified applicants, a higher average purchase value, and a higher sales conversion, making our suite of services more valuable to our brand partners. Slide 10 provides details on announced acquisition of Bread. We are excited to welcome Bread's talented employees to Alliance Data. The addition of Bread's highly skilled development team will boost our innovation potential with new perspectives and collaborative thought. We will create a new innovation hub in New York City to drive digital advancement throughout the organization. Bread is an ideal partner to strengthen the expansion of our verticals and addressable market of small and medium sized merchants while providing our existing partners with additional white label product solutions. With the acquisition, Alliance Data uniquely positioned to provide a branded full spectrum payment suite for our partners. The partnership expands the growth potential for Alliance Data and spurs our digital innovation and development. Moving to slide 11, we made strong progress on our recover, rebuild, and regrow action plan in the third quarter. The recover components are nearly complete, and our efforts to rebuild and regrow are advancing more quickly than we had originally planned. Due to the hard work and resiliency of our associates, we have successfully adapted to a different way of working and in many ways improved and simplified our processes. We are changing the landscape of where and how work gets done. Our new flexible, adaptive workforce and evolving physical workplace strategies effectively balance cost efficiencies with high levels of service and support. Tim will highlight a few of the many actions we have taken to reduce our fixed cost base and improve our underlying financial position over the past five quarters. One example of this is our announced transition to Fiserv, which will provide for lower cost, scalable growth, increasing our ability to reallocate capital to areas of strategic differentiation. On rebuilding actions, we are expanding digital offerings and upgrading platform speed, flexibility, and technology. These actions, along with our ongoing strategic initiatives, which I will highlight later in this deck, position Alliance data for sustained, profitable, long-term growth. This growth will be supported by our regrow actions, which include focused investments, especially in digital enhancements and operational and product efficiencies. Putting this all together, we have the opportunity to unlock long-term value for our shareholders. I will now turn the call over to Tim to cover the financial. Thank you, Rob, and good morning to everyone. I will start on slide 12 to review our results for the third quarter. During the third quarter, revenue was down 27% versus last year as the company and both the segments were impacted by the COVID-19 pandemic. The decrease in revenue was primarily tied to the reduction in normalized card receivables, lower card yields from the Fed rate cuts, as well as low redemption levels of Loyalty One. The year-over-year improvement in earnings before taxes was impacted by $72 million loss and extinguishment of debt and a $55 million of restructuring charges in the third quarter of 2019. Adjusted EBITDA, net decrease for the quarter due to the decline of revenue, partially offset by the cost reductions driven by lower volumes and our cost savings actions. Slide 13 provides an overview of some of the key business metrics for the company. Starting at the bottom left, we show our normalized AR, which would include health for sale, versus our total credit sales. For the quarter, we saw sales come in at $6.2 billion, which was down 21% year-over-year. However, when compared to the prior sequential quarter, we did see a rebound from the COVID low of $4.8 billion, up 28% sequentially. There is still pressure on AR, but we have begun to see a rebound in our sales and would expect the typical fourth-course seasonality to increase AR balances at year-end. Moving to the lower right, we also saw a rebound in our yields. Recall in the second quarter, we were down 350 basis points year-over-year to a COVID low of 20.4%. Since the second quarter, we have rebounded 210 basis points, though we are still off the prior year's number by 220 basis points. As I discussed during the second quarter call, our yields have been under pressure due to both the customer relief programs, and the Fed actions. With fewer accounts in our program, we have now begun to see a recovery in our yields. We would expect our yields to remain near this range. Finally, turning to expenses, we continue to make progress on our year-over-year expense management initiatives. We continue to benefit from the ongoing reductions of our real estate costs, employee costs, and other operating expenses. For instance, our investment in automation, specifically robotic process automation, or bots, are taking costs out of our servicing model through automating processes, which used to be done manually. These bots are now providing approximately $15 million of run rate savings, and we anticipate we continue to find further opportunities with this technology. Our expense areas, we've been successful in reducing both legal, consulting, and fraud expenses. Overall, we realized approximately $50 million of fixed expense savings in the third quarter when compared to the third quarter of 2019. Let's turn to page 14, where I'll spend a little time talking about our card number payment behaviors. As we saw last quarter, card number payment trends remained favorable and continued to improve. As shown on the table, 84% of our accounts made a payment in the third quarter, up from 82% in the second quarter. This is above the levels we saw pre-COVID. Additionally, we have seen a reversion to normal for the percent of our card members who pay us in full at 23%. Balances in our COVID-related customer relief programs now represent 3% of total card receivables and continue to climb from the last one. Importantly, 73% of the accounts that enrolled in these programs are now making payments, up from 55% the previous quarter. While we are pleased with these trends, we are not surprised. Our disciplined and seasoned underwriting process is a core strategic advantage of Alliance data and is a pillar of our company. Turning to slide 15, I'm going to start in the upper left, taking a little bit of time to talk a little bit about our losses. For the quarter, we finished at a loss rate of 5.8%, up 28 basis points versus the prior year. However, sequentially, we were down 180 basis points, mostly due to the strong payment behavior and the actions we have taken with our customer relief programs. This compares favorably to our average net loss rate for the past 15 years and is well below the peak we saw in 2009. Like others in the industry, we do expect pressure on this number as we move into 2021, especially the latter half of next year. However, we do not expect to be near our historic high peak charge-offs as we have much stronger risk management tools and advanced underlying models, along with improved underlying card member base. Turning to our allowance, on the right-hand side of the page, our allowance remains at approximately $2.1 billion for a reserve rate of 13.3%, unchanged from the prior quarter. We did release a small amount of our balances due to decrease in receivables. It is important to note that the reserve level contemplates the assumption in Moody's most adverse economic outlook, the S4, which reflects only a 4% probability that the economy will perform worse which we feel is appropriate given the uncertainty in the economy now and into 2021. Moving to slide 16, as part of our most recent bond offering, we were able to secure additional flexibility with respect to our term debt. At a high level, we have been able to relax our covenant threshold through 2021 and in the first half of 2022. Additionally, as outlined here, we have been able to extend the maturity of our overall debt. A year ago, we had almost $2.9 billion of debt maturing in one and three-quarters a year. We now have been able to ladder this out, including pushing out the closest maturity from coming due in 1.75 years to 2.25 years and decreasing the size of this maturity by about one-half. While certainly not done addressing our balance sheet, our Treasury team has made significant inroads, giving us additional flexibility and time. Slide 17 covers both our corporate and bank liquidity and capital. Since last quarter, our parent company liquidity improved, with overall liquidity increasing $100 million to a total of $1.2 million. We took the opportunity to pay down our revolver, and as discussed on the prior page, extend the maturity of our corporate debt. At the bank level, cash is down sequentially as we were able to pay off some of our liabilities while maintaining a liquidity ratio of 15.7%. Capital has improved with a total risk-based capital ratio of 20.1%, up 40 basis points sequentially. We also were able to renew three conduits in the quarter, all three conduits in the quarter. I'll now turn it back over to Rob. Thanks, Tim. Slide 18 provides an outline of our strategic initiatives. We are opportunistically investing in strategic areas highlighted on this slide, as well as ramping up marketing spend in our growth verticals in the fourth quarter. As part of our way forward, we are leveraging our technology as a strategic advantage with continued innovation and a focus on reducing our cost to serve. As evidenced by our recent announcements with Five Serve and Bread, we are continuing to diversify and develop our product offerings to provide our partners with a full suite of payment solutions. Digital advancement remains at the forefront of our development framework. Finally, our data science and analytics capabilities and insights remain a key strategic advantage and will continue to drive efficiencies and effectiveness for our business operations as well as for our partners. What I hope you will take away from today's call is that we are making significant progress in a challenging economic environment, and we will emerge a leaner, more focused, and more profitable competitor. Sharon, we are now ready to open up the line for questions.