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Total System Services Inc. ((TSS - Analyst Report) reported second-quarter 2012 operating earnings of 35 cents per share that outpaced both the Zacks Consensus Estimate of 32 cents and the year-ago quarter’s earnings of 28 cents per share.

Earnings per share surged 25.5%, while net income attributable to shareholders increased 24.1% to $66.7 million from $53.8 million in the prior-year period.

Results reflect consistent growth in revenues across all business segments and increase in overall transaction volume and new accounts. Strict expense control also boosted the results. These positives paved way for escalated bottom line and improved operating cash flow. However, higher-than-expected non-operating and tax expenses partly offset the revenue growth.

Total revenue for the reported quarter was $462.7 million, up 3.4% year over year and 3.9% on a constant currency basis. However, top line fell shy of the Zacks Consensus Estimate of $467.0 million. Reimbursable items declined 5.0% year over year to $64.0 million.

Total System’s top line also benefited from strong same client transaction growth in the card issuer processing business that rose 12.7% over the prior-year quarter. Besides, on a year-over-year basis, point-of-sale (POS) transactions, excluding deconverted clients in indirect business, increased 12.4%, while sales volume from direct merchant business climbed 9.7%.

On geographical basis, quarterly revenues from North America increased 2.4% year over year to $239.6 million, while revenues from international services witnessed a 5.9% year-over-year growth to $103.4 million. Further, revenue from merchant acquiring services rose 1.5% year over year to $124.9 million, while inter-segment revenues improved 26.5% year over year to a negative $5.2 million.

Additionally, as of June 30, 2012, total number of accounts on file was 440.5 million, up 17.1% from 376.0 million at end of the year-ago quarter. This upside was primarily driven by new client growth and internal growth of existing clients.

Total System also reported a 1.6% year-over-year growth in SG&A expenses, which stood at $57.9 million. Alongside, cost of services edged up 0.2% year over year to $312.7 million. However, non-operating expenses increased to $1.8 million from $0.8 million in the year-ago quarter.

Meanwhile, operating income escalated 17.3% year over year to $92.1 million in the reported quarter. Subsequently, operating margin rose to 19.9% from 17.5% in the year-ago quarter.

Financial Update

At the end of the reported quarter, cash and equivalents surged to $418.6 million from $316.3 million at the end of 2011. Additionally, total assets increased to $1.94 billion and total shareholders’ equity rose to $1.39 billion, from 2011-end. Moreover, operating cash flow improved 2.1% year over year to $203.4 million.

Furthermore, the board of Total System expanded the current share repurchase capacity up to 20 million from the prior 15 million, and also extended the expiration date to April 30, 2014. Including the extended authorization, the company has 10.3 million shares available for repurchases to date.

Business Update

On July 19, 2012, Total System entered into an agreement with Bank of America Corporation (BAC - Analyst Report) to provide its consumers with processing services related to the credit card portfolio in U.S., for at least six years. Additionally, the company also expects to conclude the conversion of Bank of America’s consumer card portfolio from its in-house processing system by June 2014. The agreement allows the bank to use the company’s TS2 software, the payment for which will be met over the long term.

On June 11, 2012, Total System announced the launch of its new VAR Partner Connect Program. The program focuses on TSYS extensive VAR partner relationships and provides TSYS clients the access to industry-leading third-party payment processing applications across a range of industries.

In May 12, Total System launched connected mobility to support real-time communication through a variety of devices. The newly launched technology includes various Application Programming Interfaces (API), Near Field Communications (NFC) technology clubbed with cloud-based products and other user-friendly applications to enable easy payment and acceptance facilities. Additionally, Total System announced a licensing agreement with Qatar National Bank (QNB) to offer the company’s latest PRIME 4 card and merchant management solution to the latter.

In April 2012, Total System successfully extended its long-term alliances with the UK-based Royal Bank of Scotland plc (RBS - Snapshot Report), US-based leading First Hawaiian Bank and another US-based Veracity Payment Solutions to continue to offer card payment solutions. Yesterday, the company bagged new contract from Huntington Bancshares Inc. (HBAN - Analyst Report), while also including U.S.-based retail banker BancorpSouth in the reported quarter, to process their credit card portfolios.

Dividend Update

On July 2, 2012, Total System paid a regular quarterly dividend of 10 cents per share to the shareholders of record as on June 21, 2012.

Additionally, on April 2, 2012, Total System had paid a regular quarterly dividend of 10 cents per share to the shareholders of record as on March 22, 2012.

Outlook for 2012

Management reiterated its growth guidance for 2012, whereby Total System expects total revenue to grow by 0–2% to a range of $1.81–1.85 billion. Revenues before reimbursable items are expected to be in the range of $1.57–1.62 billion, up 2–5% from 2011.

Operating earnings are expected to increase 8–12% to a range of $238–243 million. On per share basis, operating earnings are projected to be in the range of $1.26–1.28, climbing 10–12% over 2011.

However, based on its influential contracts with Bank of America and Royal Bank of Scotland, management expects to achieve the higher-end of its guidance in all growth metrics.

Our Take

Overall, Total System’s slow but steady fundamental performance along with disciplined expense management and improving cash flow warrant an optimistic view on the company’s growth in the near term. However, inadequate diversified growth and vulnerability to increased competition from dominant players such as Heartland Payment Systems Inc. (HPY - Snapshot Report) and Wright Express Corp. are some lingering concerns.

Nevertheless, increasing revenues across segments, growth in contracts portfolio along with an enhanced capital position bode well for the company. Optimistic guidance for 2012 also raises expectations for healthy performances in the upcoming quarters. Hence, we maintain a long-term Neutral stance on Total System with a Zacks Rank #3, which implies a short-term Hold rating.

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