Yahoo Finance First Advantage Corporation (NASDAQ:FA) Q1 2024 Earnings Call Transcript
First Advantage Corporation (NASDAQ:FA) Q1 2024 Earnings Call Transcript May 12, 2024
First Advantage Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good day, everyone. My name is Todd, and I will be your conference operator today. I would like to welcome you to the First Advantage First Quarter 2024 Earnings Conference Call and Webcast. Hosting the call today from First Advantage is Stephanie Gorman, Vice President of Investor Relations. At this time, all participants have been placed in a listen-only mode to prevent any background noise. After the speakers’ remarks there will be a question-and-answer session. [Operator Instructions] Please note, today's event is being recorded. It is now my pleasure to turn the call over to Stephanie Gorman. You may begin.
Stephanie Gorman: Thank you, Todd. Good morning, everyone and welcome to First Advantage's first quarter 2024 earnings conference call. In the Investors section of our website, you will find the earnings press release and slide presentation to accompany today's discussion. This webcast is being recorded and will be available for replay on our Investor Relations website. Before we begin our prepared remarks, I would like to remind everyone that our discussion today will include forward-looking statements. Such forward-looking statements are not guarantees of future performance. Actual results may differ materially from those expressed or implied in the forward-looking statements due to a variety of factors. These factors are discussed in more detail in our filings with the SEC, including our 2023 Form 10-K and our Form 10-Q for the first quarter of 2024 to be filed with the SEC.
Such factors may be updated from time to time in our periodic filings with the SEC, and we do not undertake any obligation to update forward-looking statements. Throughout this conference call, we will also present and discuss non-GAAP financial measures. Reconciliations of our non-GAAP financial measures to their most directly comparable GAAP financial measures to the extent available without unreasonable efforts appear in today's earnings press release and presentation, which are available on our Investor Relations website. I'm joined on our call today by Scott Staples, our Chief Executive Officer; and David Gamsey, our Chief Financial Officer. After our prepared remarks, they will take your question. I will now hand the call over to Scott.
Scott Staples: Thank you, Stephanie, and good morning, everyone. Thank you for joining our call. It has been exciting and productive few months since announcing our agreement to acquire Sterling. I am incredibly proud of what our team has accomplished thus far and for the dedication in keeping everything moving forward. This morning I will provide an update on our first quarter results, our strategic initiatives, and the Sterling acquisition. David will then provide a deeper dive into our results and additional color on our expectations for the year. Turning to an overview of our first quarter results on slide five; for the first quarter, we delivered financial results at or above what we communicated on our last earnings call, giving us additional confidence in achieving our full year 2024 guidance, which we are reaffirming today.
From a vertical perspective, in the first quarter we saw increased order volumes from five major verticals including transportation, healthcare, industrials, staffing and hospitality, with the remaining verticals down year-over-year. Importantly, we continue to maintain a strong customer retention rate of approximately 97%. In fact, our top five largest renewals for 2024 have already successfully renewed. Our upsell, cross-sell, new logos and attrition rates continued to perform in line with our historical revenue growth algorithm, while our base growth continues to be more sensitive to changes in the macro environment and our mix of clients. While most macro indicators that we track are still down year-over-year, they have shown signs of stabilizing in recent months.
As a reminder, our long-term organic revenue growth target of 8% to 10% anticipates a normalized base growth rate of 2% to 4% compared to the negative base performance we have been experiencing. Let me now update you on the significant progress our team continues to make on our strategic initiatives. We have long subscribed to the philosophy of building high-quality proprietary databases, data models and algorithms as well as innovative technology to drive our business. Now, with the insurgents of GenAI, we are poised to accelerate innovation across our portfolio and deliver even greater value for our customers. We are excited to have announced our proprietary next generation RightID identity fraud solution, specifically designed for the US market to help alert customers to potential applicant fraud in the pre-hire process.
This complements the success we have seen with the expansion of our digital identity products in the UK, India, Australia and Canada. Employers leverage RightID as an initial step to flag inconsistencies and recognize potential errors in identity information submitted before a background screen, thus moving our products upstream in the applicant onboarding cycle. Additionally, we continue to roll out our next gen profile advantage applicant portal, featuring a new user interface and using API first technology to deliver a consistent experience from screen to hire. By leveraging GenAI and human in the loop processes, we have access to intelligence that allows us to enhance the applicant experience. Our customers can hire faster with several products in one place, including fraud prevention, tax credit information and background screening details.
These initiatives complement our other solutions; for example, we expect our investments in AI-related to US criminal data to increase the efficiency, turnaround times and consistency of our criminal screening. We also continue to see increased customer adoption of SmartHub, which can determine the optimal data source for each verification and help reduce certain third-party pass through fees for our customers for employment verifications. And through our Customer Care Click. Chat. Call program, we can scale our support up or down quickly in response to volume changes. All of our solutions help support our customers and their screening priorities, which are highlighted in our Global Trends report just released in April. This annual report provides worldwide perspectives based on over 100 million anonymized screening data records and hundreds of survey responses from our customers.
We have been publishing our Annual Global Trends report for the past six years and have seen trends change and evolve alongside the global labor market. Notably, for the second year in a row, managing risk ranked as the most important factor in background screening programs over cost and speed. This indicates an increased interest in background screening results that support informed decision making as part of the overall hiring process and has consistently driven upsell and cross-sell opportunities for us across our customer base, ultimately increasing package density. Additionally, I want to highlight our annual background screening conference, Collaborate, which was held in April with record attendance. As the only background screening user conference of its kind, Collaborate brings together customers, new business prospects, partners and thought leaders to discuss timely and relevant trends, technologies and best practices.
During the conference, we discussed our new and evolving products and solutions and had fantastic customer engagement. Additionally, we were pleased to have Johnny C. Taylor, Jr. join us for a second year as our keynote speaker where he led a dynamic session on embracing AI and HR. Mr. Taylor is the President and CEO of the Society for Human Resources Management and is highly regarded as a leading industry expert in human resources. Turning to slide seven, let me now provide an update on the Sterling acquisition. Preparations for the transaction are progressing as planned. We have formed an integration management committee led by our product and operations leaders with dedicated teams that are developing plans across all functional departments in preparation for the post-closing integration process.
At the end of April, we filed our S-4 with the SEC which has additional detailed information pertaining to the transaction. At this point, there have been no changes to our closing time expectations. The transaction is still expected to close in approximately the third quarter of 2024, with the closing and timing thereof subject to required regulatory approvals, clearances and other customary closing conditions. Strategically, the addition of Sterling further strengthens our high-quality and cost-effective background screening, identity and verification solutions for the benefit of customers of all sizes across industry verticals and geographies. We view this as a win for our customers, as they will benefit from having more options to meet their evolving needs and improve solutions to help manage risk, hire smarter and onboard faster.
First Advantage’s and Sterling's highly complementary product offerings further enhance our customer value proposition and are expected to unlock upsell and cross-sell opportunities and reduce certain third-party pass through fees. Collectively, we will diversify our vertical mix, as there is limited overlap across our customer industries. Sterling's largest verticals are more focused on regulated industries including healthcare, industrials and financial services. This balances First Advantage’s focus on verticals including transportation, retail and e-commerce. We have complemented international businesses which provide the opportunity for us to build a deeper local presence and expand in attractive markets. Based on our preliminary diligence, we have also found no significant overlap amongst the top customers of both First Advantage and Sterling.
We believe that combined, we will have a more balanced revenue mix, less customer concentration and more vertical diversification. This will help to de-risk the transaction with regard to potential attrition, improve resource planning and operational efficiency, reduce our seasonal exposure and create a more resilient business model. The transaction will enable us to drive innovation in key development areas of our business including AI, next-gen digital identification technology and automation. This will enhance the applicant experience and at the same time reduce certain third-party pass through costs contributing to long-term margin expansion. Looking at cost synergies, we remain confident in achieving at least 50 million in run rate synergies within 18 to 24 months post closing of the transaction.
We anticipate executing approximately half within the first 12 months post closing, of which a portion will be actioned immediately upon closing. These synergies will come from removing duplicative public company costs, merging back office functions and resources, and ultimately merging our tech back ends and fulfillment functions. We anticipate identifying further upside synergy opportunities upon closing this transaction, as we work through the integration process. Additionally, we anticipate net leverage at close to be in the range of 4.2 times to 4.4 times. We have line of sight to bring net leverage toward approximately 3 times run rate adjusted EBITDA within 24 months of closing on the transaction and then ultimately returning to our long term target net leverage range of 2 to 3 times.
David will go into further detail on this shortly. Upon closing the transaction, we will immediately nearly double our revenue and adjusted EBITDA profile. We expect to generate double-digit EPS accretion on a run rate basis and to continue compounding EPS at a teens growth rate over time through the combination of top line growth, ongoing synergy capture and significant deleveraging enabled by our strong free cash flow generation. As we look ahead, our priorities after closing the transaction will be focused on our customers, successful integration, achieving synergies and deleveraging our balance sheet. Overall, we expect that this strategic and accretive acquisition will benefit customers and investors, accelerate and advance our strategic priorities, and drive long-term value creation.
I will now turn the call over to David for more details on our first quarter results.
David Gamsey: Thank you, Scott, and good morning, everyone. Turning to our first quarter results on slide nine; our first quarter revenues were $169.4 million, a decrease of 3.5% from the prior year. Currency had nearly no impact on results. For the quarter, Infinite ID contributed approximately $2.8 million. In our Americas segment, revenues of $149 million, or 87% of consolidated revenues, were down just 2% from the prior year, driven primarily by base weakness and substantially offset by strength in new business revenues and upsell cross-sell. In our international segment, revenues of $22 million, or 13% of consolidated revenues, were down 11% from the prior year. Macro factors impacting international base growth continue to be a headwind.
For the total company, adjusted EBITDA was nearly $47 million and our adjusted EBITDA margin was 27.5%, which aligns with our historical first quarter performance trends. As a reminder, our first quarter adjusted EBITDA margin is typically the lowest quarter of the year. Adjusted EBITDA on an LTM basis has grown at a compounded annual growth rate of 14.7% over the last three years. Our adjusted effective tax rate was 24.4%. GAAP net loss was $2.9 million and is after $11.1 million in Sterling acquisition related costs that we have added back on an adjusted basis. Adjusted net income was approximately $25 million. Adjusted diluted EPS was $0.17 for the quarter. On slide ten, you will see our revenue growth algorithm, which is based on our historical performance and future expectations and supports our long-term revenue growth target.
Revenue on an LTM basis has grown at a compounded annual growth rate of 12.6% over the last three years and remains above our long-term growth target of 8% to 10%. On slide eleven, you can see that our historical performance for upsell, cross-sell, new customer logos and attrition has been largely consistent with our growth algorithm and demonstrates that we are managing and delivering on what we can control with the variation being driven by the base. Revenues from upsell and cross-sell contributed $7.7 million, or 4.4% to our performance in Q1. New customer logos contributed an additional $8.9 million, or 5.1% in Q1. Base declined by $19.6 million, or 11% on a consolidated basis in Q1. We anticipate base revenues improving throughout the remainder of the year.
Turning now to our balance sheet and capital allocation on slide 12; for the first quarter we generated strong operating cash flows of $38 million. During the quarter, we used cash of $6 million for purchases of property and equipment and capitalized software development costs. As we mentioned last quarter, given the pending Sterling acquisition, we have suspended share repurchases, as we continue to build cash. Our primary areas of focus upon closing the transaction will be on our customers, on integration, on achieving synergies and on deleveraging. In addition to our existing $565 million of First Advantage debt, we anticipate raising approximately $1.6 billion of new-term debt to fund the Sterling acquisition; this results in approximately $2.15 billion of gross debt, or approximately $2 billion of net debt when considering the approximately $125 million of balance sheet cash expected at close.
Additionally, at close, we expect net debt-to-adjusted EBITDA leverage in the range of 4.2 times to 4.4 times. As part of our financing agreement, we will upsize our revolver from $100 million to $250 million and extend the maturity date to five years after the closing date of the transaction, which will provide additional liquidity for our business. We have a proven track record of managing leverage and we remain committed to our long-term net leverage target of 2 times to 3 times. Over the four years since Silver Lake invested in us, we de-levered from 6 times, as a private company, to less than 2 times prior to the announced Sterling acquisition. This is also after repurchasing approximately $120 million in shares, paying a $218 million one-time special dividend and acquiring five businesses.
Our goal within 24 months of closing is to reduce net leverage toward approximately 3 times run rate adjusted EBITDA. Our path to de-lever will be driven by high margin top line growth of the combined businesses productivity efficiencies, cost synergies and the continued strong cash flow generation. Now moving to slide 13; today we are reaffirming our 2024 annual guidance. Our first quarter results, coming in at or above our expectations, positions us well to achieve our full year midpoint guidance targets. We still expect sequential quarter-over-quarter growth for revenues, adjusted EBITDA, and adjusted EBITDA margins similar to 2023. For 2024, we expect to generate full year revenues in the range of $750 million to $800 million. Based on the midpoint of $775 million, this results in slightly positive year-over-year organic revenue growth.
This includes revenues related to Infinite ID, which is expected to contribute approximately $7 million in the first eight months of the year, as we cycle over the anniversary of that acquisition. We expect customer retention to remain in line with our strong historical performance of around 97%. We also expect continued execution of upsell, cross-sell and new logo growth consistent with historical trends and long term targets. We expect to maintain full year adjusted EBITDA margins of approximately 31% at the midpoint and adjusted EBITDA in the range of $228 million to $248 million. This reflects the strength of our flexible model, disciplined cost management and investments in automation. As a reminder, our adjusted EBITDA guidance includes increases in annual employee wages, normalization of management incentive plans, and increases in benefit costs totaling approximately $10 million.
It also includes new investments in product, technology and sales of approximately $7 million. At the midpoint, we expect 2024 adjusted net income of approximately $134 million and adjusted EPs of $0.93. Looking at the quarterly phasing, we expect sequential top line improvement as we move through 2024. We expect second quarter revenues to trend from negative toward relatively flat year-over-year, with positive overall growth in the second half of the year, more heavily weighted toward Q4. The midpoint of our guidance range also assumes continued macro-driven base declines, with base remaining negative in Q2 down in the mid-to-high single digits, though improving from Q1, which was down 11%. We still expect base growth to improve sequentially through the year, turning positive in Q4.
We continue to expect adjusted EBITDA margins of approximately 30% in the second quarter, with further improvement in the second half of the year. In closing, I would like to share Scott's sentiment and thank our team for the progress we continue to make in achieving our objectives and for their resilience and dedication, as we work through the Sterling transaction. With that, let me turn it back to Scott for closing remarks before we open the line for questions.
Scott Staples: Thank you, David. We have made significant progress on our strategic initiatives over the last several years, as evidenced by our verticalized go to market approach, tech enablement, investments in automation, AI and machine learning, strategic partnerships, and tuck-in acquisitions. We are seeing the return on our investments flow through our impressive adjusted EBITDA margin and cash flow generation. The acquisition of Sterling is another significant step forward in our value creation playbook and we are excited to continue to shape the future of First Advantage and to better serve our customers. With that, we will open the line for questions.
Operator: Thank you. [Operator Instructions] Our first question will come from Shlomo Rosenbaum with Stifel. Please go ahead.
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