NewtekOne, Inc. 8.50% Fixed Rate Senior Notes due 2029 (NEWTG) Q4 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Newtek Business Services Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. And now I’d like to turn the conference over to your host for today, Mr. Barry Sloane. Sir, you may begin.

Good morning, thank you very much. This is Barry Sloane speaking, President and CEO of Newtek Business Services. And we wanted to have this conference call this morning with our investors and stakeholders to go over a few releases that we have recently put out into the market, particularly the release yesterday which announced the cancellation on our earnings call which would have been scheduled for tomorrow. And the release 8-K that discussed a restatement of prior period results as well as reaffirming our 2012 guidance. We had a series of events recently at the company that has caused us to issue some 8-Ks and some press releases. I’d like to begin with the 8-K that we released on February 1, 2012 where shortly before that release on the 8-K, it came to management’s attention that we had an unexpected charge of approximately $1.45 million or $1.6 million that came out of our electronic payment processing segment. And what we wanted to do as soon as we got our arms around and were able to quantify that charge within the segment, we wanted to release that information to the markets. And we did so in a form 8-K that was filed on February 1, 2013. In addition to announcing that charge in the segment, we also revised our guidance based upon out-performance in other segments, particularly our lending segment and our previously guided EPS range of $0.12 to $0.15 was guided up to $0.14 to $0.15 with pre-tax income now being guided to $9 million to $9.5 million from its previous range of $7.5 to $10 million. Over the course of time as we were approaching our date to release our earnings for the year, in conjunction with our audit committee, our internal management came to the conclusion that the $1.5 million charge based upon generally accepted accounting principles and literature in the accounting world particularly with the sensitivity that the SEC has over these types of charges. The audit committee and the internal management came to the conclusion that the $1.5 million charge that was previously announced would have to effectively go back and affect prior quarters. So quarters that we had announced earnings in the third quarter of 2012, the second quarter of 2012, the first quarter of 2012, and possibly the first quarter of 2011, we would need to take the previously announced $1.5 million charge that was focused on the payment processing segment and go back and prospectively spread it out over many quarters. The audit committee and the management at Newtek, after a lot of thoughtful consideration and looking at making sure that we have the proper and accurate disclosure, came to the conclusion that it would cause a restatement of prior period. As awful as that might sound, the fact is all we’re doing is announcing that that particular segment lost which we previously announced on February 1, we announced yesterday it is going to be re-spread back over the course of time. So management of Newtek is going to be working with, obviously our internal accountants and our external accountants and we are estimating that we will reissue our 2012 statements and restate prior period results on or about 31 March. One caution I will note, everything that I’m discussing with you today with respect to our guidance is management’s own guidance. These are not audited numbers; this is our best guess and interpretation of where we are today. And the management believes in being transparent, making sure all of our stakeholders know where we stand. And we frankly feel very good about our business, if in fact the guidance that we’re giving and reaffirming here today is accurate for 2012, our earnings would be up approximately 300% over the year prior if our guidance is correct based upon our best guesses and estimates, that earnings per share would be up $0.05 over the $0.10 year prior in 2011 if that holds up. So we feel very strong about our momentum, we feel very strong about our business. We are disappointed that we obviously had this disruption based upon things that occurred in the electronic payment processing division where basically we had a member of senior management in the electronic payment processing business missed a charge back loss reserves for a group of merchants under a single independent agent. That is effectively what caused the $1.5 million charge. We wanted to get on the call this morning, keep it short, answer whatever questions we can. I think we will be limited in size and scope to answer certain types of question but we’re going to do the best that we can do. I will assure investors on the call that we’re doing everything in our power to enhance and tighten up our policies and procedures. We’ve hired the Strawhecker Group, that group has been hired I believe since late January by our independent audit committee to come in and do a forensic study. They’ve already done a significant amount of testing and analysis and we’ll continue to do that which will lead us up to final information that we hope to deliver on or around the 31st. We will be enhancing our policies and procedures in that particular segment. We also anticipate bringing in a Chief Credit and Chief Risk Officer to tighten things up. We feel very strongly that our business is strong. We want to be as fully transparent as we can to the market. Most importantly we want to make sure that our accounting is accurate and is tight and is done in accordance with generally accepted accounting procedures. One thing I do want to comment on, I think I said Q1 2011, I meant Q4 2011 is possible the restatement should go back that far. We think that most of the losses occurred clearly in 2012; this is management’s assessment; we’re going to go over that extremely carefully. I will tell you, the restatement issue is extremely sensitive, it’s a hot topic. We want to make sure that it’s done correctly. And I feel very confident that we’re going to get there. Jenny, anything else that you think I should bring up?

I think you’ve covered it all.

Great. I’d like to open up the call to any questions.

[Operator Instructions] Our first question comes from the line of Harold Elish from UBS.

Question, is the senior executive that was involved in this area, still with the firm?

No, he has left the firm.

Okay. And does Newtek feel that it has any recourse to that individual given the difficulty that this places the firm in?

I think that we’re currently analyzing and looking at all of our options. Obviously I think from our perspective, violation of company policies and procedures will not be tolerated. We have made additional changes in personnel based upon what’s occurred. Believe me, I’m not belittling it, I think things like this happen to as large a company as JPMorgan and Jamie Dimon; that doesn’t make this thing tolerable. And frankly we’re extremely confident we can get our arms around it, tighten up our policies and procedures. And be as diligent as we’ve been over the course of our 12-year history to see to it that this doesn’t happen again.

And then, again, if we take out the merchant processing aspect of what this means, is there any conceivable spill-over effect to any of the other divisions, web hosting, anything else that Newtek’s involved in?

We would find that extremely, yes, remote and unlikely, in that the activity occurred within a specific subsidiary. So the participants that effectively were involved in the violation of the policy and procedures really were limited to that subsidiary. I will state that, that charge is somewhere around $0.03 or $0.04. And we do view it as a one-time charge and not reoccurring. So we were really on to a real banner year. We still think this is a banner year given the increases or the expected increases that management has given in its un-audited guidance over last year. And we just view it as an unfortunate dark day but that dark day is behind us, the sun is shining, we’re moving ahead. And we’re going to work hard to get these numbers out in a timely fashion and regain the confidence and trust that investors have shown in the company historically.

And then one last question, Barry. Is there any concern about client attrition in the merchant processing area in terms of the clients whose accounts were affected?

No, I mean, matter of fact we prefer not to see that business from that one particular independent self agent that created the opportunity for this to occur. And we’re very optimistic that Eric Turille has joined our company, we did announce that. Eric had actually joined our company a couple of weeks prior. And this misfortune turned up. It was ironic but bad breaks sometimes are combined with good breaks. Eric is a 20-plus year veteran in the payment processing segment. He has been the president and COO of very large organizations in this area. He has extensive experience in risk management. In addition to Eric joining us, we just brought on a team of professionals in Louisville led by Randy Sager that has experienced the tremendous ability to bring on new customers through a different distribution channel that we’ve historically used. So this cloud is moving over the company and we have a lot of bright things to look for in the future in terms of increased growth and good quality business without having these bumps in the road.

I do appreciate the quickness with which your team has brought this top our attention.

Our next question comes from the line of Igor Navarad [ph], [indiscernible] Capital.

I actually have couple of questions. First of all, I’m not sure if I missed out a part, when are you going to file approximately the restatements, what’s the timeframe?

We hope to file on or about the 31st of March. There can be no guarantee that that will occur, we’re going to be working extremely hard with our external auditors to make sure that all of the restatements were done simultaneously with the issuance of our 2012 -- our 2012 Annual Report.

And who is involved in the external audit currently?

Our external auditors are CohnResnick.

Okay. My other question and I understand that perhaps you might not be able to answer. But do you expect any current balance sheet impacts from these charges? I understand that there is going to be a restated earnings impact.

No, we don’t think it’s going to affect the balance sheet at all.

[Operator Instructions] Our next question is from the line of Matthew Paul from Sidoti & Company.

I’m filling in for Greg Cole from Sidoti this morning. In reference to the forensic team you’re bringing in externally. Can you shed any light on to the best of your ability what specifically they’ll be looking at?

Sure. The Strawhecker Group has been in the payment processing space for many, many years, led by obviously Kurt Strawhecker and many other professionals. We have a particular specialist that formally headed up risk at WorldPay and at Chase Paymentech. We’re going to be looking at all aspects of our credit policies and procedures, wiring instructions. It is going to be a full top down approach in terms of how we handle business to assure that our policies and procedures are tight and most importantly that the executives are extremely diligent in managing those policies and procedures going forward.

Our next question is from the line of Arthur Asch from Anniston Affiliates.

Since the balance sheet is probably unaffected or very nominally affected as of December 31, and with the reallocations going back, I really like to focus on starting for 2013. Given the number of recent hires of high quality people in openings, some offices, is there going to be any impact in the early part of the year expense slides that won’t be recouped by additional business?

I think it’s pretty hard to say. I think one of the things that we’re going to be doing obviously is and hope to reissue our 2013 guidance. The 2013 guidance which we previously issued had a midpoint of only $0.17 a share. So we currently are comfortable with that $0.17 a share number. There is no question that we’re going to have some additional expenses based upon the additional work that’s going to occur in the remediation. But we feel pretty good about the variety of the business initiatives that we have. So from our perspective and for those who have followed our stock, we’re pretty much of an annual guidance company. So we feel pretty good about the mid-point of our guidance at this point.

Seems to me, Barry, as a follow up that given the fact that there was $1.5 million after tax charge roughly, the actual earnings power of the company on an ongoing basis is really $1.5 million greater. And it appears that spike effect that will have some charge through the work that’s involved. The possibility is that assuming these key executives and new offices that are open, start to produce business in a reasonably short period of time that we should be looking forward to a very cognitive 2013 unless there is something that we don’t know. And one question I have is how will higher interest rates affect our lending business?

We appreciate the comment, Arthur. And based upon the guidance that we’ve given, we don’t disagree with some of your comments. With respect of higher levels of interest rates, it’s a hard thing to say. I think that low levels of rates and the good demand for floating rate aspects have been good for our lending business. Our lending business is floating rate-based. So we don’t have fixed rate liabilities and fixed rate aspects on our book; they’re all floating. I think that the biggest factor affecting our lending business is really more supply and demand as well as the performance of credit in that particular segment. And that segment has performed very well for us from a credit perspective. So I don’t think that increasing rates will affect our lending business because of these offloading rate loans. We have floating rate liabilities. And I think that unlike the residential mortgage market which is extremely sensitive, extremely to movements in rates, the commercial borrowing market is not quite as sensitive.

And I’m showing no additional questions in queue. I’d like to turn the conference back over to Mr. Barry Sloane for any closing remarks.

Great. Okay. With that, I’d like to end the conference call today. And I appreciate everybody that was able to attend on short notice. We look forward to our report of our 2012 audited numbers as well as the restatement of the prior period and spreading that $1.5 million charge back over past periods. Thank you very much. Have a good day.

Ladies and gentlemen, thank you for your attendance in today’s conference. This does conclude the program. And you may all disconnect. Have a great rest of the day.