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Heartland Payment Systems Inc. Reports Operating Results (10-Q)

November 09, 2009 | About:
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10qk

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Heartland Payment Systems Inc. (HPY) filed Quarterly Report for the period ended 2009-09-30.

Heartland Payment Systems, Inc. provides bank card-based payment processing services to small- and medium- sized merchants in the United States. Heartland facilitates the exchange of information and funds between merchants and cardholders' financial institutions, providing end-to- end electronic payment processing services to merchants, including merchant setup and training, transaction authorization and electronic draft capture, clearing and settlement, merchant accounting, merchant assistance and support and risk management. Heartland Payment Systems Inc. has a market cap of $451.4 million; its shares were traded at around $12.05 with a P/E ratio of 14.5 and P/S ratio of 0.3. The dividend yield of Heartland Payment Systems Inc. stocks is 0.3%.

Highlight of Business Operations:

At September 30, 2009, we provided our bank card payment processing services to approximately 174,560 active SME merchants located across the United States. This represents a 3.4% increase over the 168,850 active SME merchants at December 31, 2008 and a 4.0% increase over the 167,900 active SME merchants at September 30, 2008. At September 30, 2009, we provided bank card payment processing services to 76 large national merchants with approximately 54,733 locations. Our total bank card processing volume for the three months ended September 30, 2009 was $18.6 billion, a 7.3% decrease from the $20.0 billion processed during the three months ended September 30, 2008. Our SME bankcard processing volume for the three months ended September 30, 2009 included increases for American Express and Discover processing. Our Discover processing volume also benefited from our purchase of an existing merchant portfolio from Discover during the third quarter of 2009. Our total bank card processing volume for the nine months ended September 30, 2009 was $51.9 billion, a 3.0% increase from the $50.4 billion processed during the nine months ended September 30, 2008. Bank card processing volume for the three and nine months ended September 30, 2009 includes $2.7 billion and $7.3 billion, respectively, for large national merchants acquired with Network Services, compared to $4.4 billion and $6.2 billion, respectively, for the three and nine months ended September 30, 2008. Additionally, we provided bank card processing services to approximately 6,300 merchants in Canada.

For the three and nine months ended September 30, 2009, we recorded pre-tax expenses of $73.3 million and $105.3 million, respectively, or about $1.22 and $1.74 per share, respectively, associated with the Processing System Intrusion. The majority of these charges, or approximately $90.8 million, related to: (i) assessments imposed in April 2009 by MasterCard and VISA against us and our sponsor banks, (ii) settlement offers we made to certain card brands in an attempt to resolve certain of the claims asserted against our sponsor banks (who have asserted rights to indemnification from us pursuant to our agreements with them), and (iii) expected costs of settling with certain claimants with whom settlement discussions are underway. Notwithstanding our belief that we have strong defenses against the claims that are the subject of the settlement offers and settlement discussions described in (ii) and (iii) above, we decided to make such settlement offers and engage in such settlement discussions in attempts to avoid the costs and uncertainty of litigation. We are prepared to vigorously defend ourselves against all the claims relating to the Processing System Intrusion that have been asserted against us and our sponsor banks to date.

Our financial results for the three months ended September 30, 2009 continue to reflect the impacts of challenging economic conditions, soft consumer spending, and the costs we incurred related to the Processing System Intrusion. Poor economic conditions have unfavorably impacted both new merchant installs and processing volume at existing merchants. For the three months ended September 30, 2009, we recorded a net loss of $37.1 million, or $0.99 per share, compared to net income of $13.4 million, or $0.35 per share, in the three months ended September 30, 2008. During the three months ended September 30, 2009, we recorded pretax charges of $73.3 million, or about $1.22 per share, for costs we incurred for investigations, remedial actions, legal fees, crisis management services and settlement offers. The following is a summary of our financial results for the three months ended September 30, 2009:

The amount of the up-front signing bonus paid for new SME bank card, payroll and check processing accounts is based on the estimated gross margin for the first year of the merchant contract. Estimated gross margin is calculated by deducting interchange fees, dues, assessments and fees and costs incurred in underwriting, processing, servicing and managing the risk of the account from gross processing revenue. The gross signing bonuses paid during the nine months ended September 30, 2009 and 2008 were $26.4 million and $34.0 million, respectively, and for the full year ended December 31, 2008 were $43.8 million. The signing bonus paid, amount capitalized, and related amortization are adjusted at the end of the first year to reflect the actual gross margin generated by the merchant contract during that year. The net signing bonus adjustments made during the nine months ended September 30, 2009 and 2008 were negative $(0.9) million and positive $1.7 million, respectively. Positive signing bonus adjustments occur when the actual gross margin generated by the merchant contract during the first year exceeds the estimated gross margin for that year, resulting in the underpayment of the up-front signing bonus and would be paid to the relevant salesperson. Negative signing bonus adjustments could result from prior overpayments of up-front signing bonuses, and would be recovered from the relevant salesperson. The amount of signing bonuses paid which remained subject to adjustment at September 30, 2009 was $36.2 million.

For the three and nine months ended September 30, 2009, we recorded pre-tax expenses of $73.3 million and $105.3 million, respectively, or about $1.22 and $1.74 per share, respectively, associated with the Processing System Intrusion. The majority of these charges, or approximately $90.8 million, related to: (i) assessments imposed in April 2009 by MasterCard and VISA against us and our sponsor banks, (ii) settlement offers we made to certain card brands in an attempt to resolve certain of the claims asserted against our sponsor banks (who have asserted rights to indemnification from us pursuant to our agreements with them), and (iii) expected costs of settling with certain claimants with whom settlement discussions are underway. Notwithstanding our belief that we have strong defenses against the claims that are the subject of the settlement offers and settlement discussions described in (ii) and (iii) above, we decided to make such settlement offers and engage in such settlement discussions in attempts to avoid the costs and uncertainty of litigation. We are prepared to vigorously defend ourselves against all the claims relating to the Processing System Intrusion that have been asserted against us and our sponsor banks to date.

Disputes between a cardholder and a merchant periodically arise as a result of, among other things, the cardholder’s dissatisfaction with merchandise quality or merchant services. Such disputes may not be resolved in the merchant’s favor. In these cases, the transaction is “charged back” to the merchant, which means the purchase price is refunded to the customer by the card-issuing bank and charged to the merchant. If the merchant is unable to fund the refund, we must do so. We also bear the risk of reject losses arising from the fact that we collect our fees from our merchants on the first day after the monthly billing period. If the merchant has gone out of business during such period, we may be unable to collect such fees. We maintain cash deposits or require the pledge of a letter of credit from certain merchants, generally those with higher average transaction size where the card is not present when the charge is made or the product or service is delivered after the charge is made, in order to offset potential contingent liabilities such as chargebacks and reject losses that would arise if the merchant went out of business. At September 30, 2009 and December 31, 2008, we held merchant deposits totaling $34.0 million and $15.8 million, respectively. Most chargeback and reject losses are charged to processing and servicing as they are incurred. However, we also maintain a loss reserve against losses including major fraud losses, which are both less predictable and involve larger amounts. The loss reserve was established using historical loss rates, applied to recent processing volume. At September 30, 2009 and December 31, 2008, our loss reserve totaled $1,236,000 and $1,097,000 respectively. Aggregate bank card merchant losses, including losses charged to operations and the loss reserve, were $4.1 million and $4.0 million for the nine months ended September 30, 2009 and 2008, respectively, and were $5.1 million for the year ended December 31, 2008.

Read the The complete ReportHPY is in the portfolios of Richard Pzena of Pzena Investment Management LLC.

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