Jack Henry and Jack Henry and AssociatesAssociates
RCMP RecommendationRCMP Recommendation
James FalkoffJames Falkoff
12/6/0512/6/05
RCMP PositionRCMP Position
Purchased 200 shares at $36/share on Purchased 200 shares at $36/share on December 10, 1999.December 10, 1999.
After two stock splits, RCMP now owns 800 After two stock splits, RCMP now owns 800 shares at a cost basis of $9/share.shares at a cost basis of $9/share.
Current share price: $19.13Current share price: $19.13 13.3% CAGR, vs. 12.0% for the S&P MidCap 13.3% CAGR, vs. 12.0% for the S&P MidCap
400 and -0.7% for the S&P 500.400 and -0.7% for the S&P 500. Constitutes 5.7% of the RCMP portfolio (after Constitutes 5.7% of the RCMP portfolio (after
AEOS & DELL sales). AEOS & DELL sales).
Company OverviewCompany Overview
Corporate HistoryCorporate History 1976.1976. Jack Henry and Jerry Hall found Jack Henry & Jack Henry and Jerry Hall found Jack Henry &
Associates. The company develops software systems for Associates. The company develops software systems for small banks.small banks.
1985.1985. JKHY is listed on the NASDAQ. JKHY is listed on the NASDAQ. 1992.1992. JKHY sets out on a mission to become a one-stop JKHY sets out on a mission to become a one-stop
shop for all the technology needs of small banks. The shop for all the technology needs of small banks. The company begins making acquisitions of complementary company begins making acquisitions of complementary technology solutions.technology solutions.
2005. 2005. One third of the nation’s small- and mid-size banks One third of the nation’s small- and mid-size banks rely on Jack Henry solutions. Jack Henry and Jerry Hall still rely on Jack Henry solutions. Jack Henry and Jerry Hall still sit on the Board of Directors, as does Mike Henry, Jack’s sit on the Board of Directors, as does Mike Henry, Jack’s son.son.
Company OverviewCompany Overview
Business Description:Business Description: Provides data processing solutions to small banks Provides data processing solutions to small banks
and credit unions (assets under $30 billion). and credit unions (assets under $30 billion). Customers either install systems in-house or Customers either install systems in-house or
outsource their operations to Jack Henry.outsource their operations to Jack Henry. 3 sources of revenue:3 sources of revenue:
Software licensingSoftware licensing Support and ServiceSupport and Service HardwareHardware
Macroeconomic ReviewMacroeconomic Review
GICS Sector: Information TechnologyGICS Sector: Information Technology Sub-industry: Application SoftwareSub-industry: Application Software
Neutral industry outlook. Spending expected to accelerate in a few Neutral industry outlook. Spending expected to accelerate in a few key areas such as security while others experience slower growth. key areas such as security while others experience slower growth.
Commoditization of software industry. Competition from Commoditization of software industry. Competition from international (Indian, Eastern European) developers.international (Indian, Eastern European) developers.
Peer Group: Accounting and Financial SoftwarePeer Group: Accounting and Financial Software Consolidation: Number of commercial banks has declined by 3% Consolidation: Number of commercial banks has declined by 3%
annually over past five years. Credit unions have consolidated at annually over past five years. Credit unions have consolidated at the same rate.the same rate.
Sarbanes-Oxley compliance a major information technology hurdle Sarbanes-Oxley compliance a major information technology hurdle and source of IT spending.and source of IT spending.
Macroeconomic ReviewMacroeconomic Review
Competition:Competition: Major competitors: Major competitors:
Fiserv Inc.: Closest competitor. Focuses on financial Fiserv Inc.: Closest competitor. Focuses on financial data processing services. (Mkt. Cap $8.5B)data processing services. (Mkt. Cap $8.5B)
Marshall & Ilsley Corp.: A multibank holding company Marshall & Ilsley Corp.: A multibank holding company that offers financial technology services through its that offers financial technology services through its Metavante unit. ($10.2B)Metavante unit. ($10.2B)
Automatic Data Processing Inc. ($27.1B) Automatic Data Processing Inc. ($27.1B) First Data Corp. ($31.8B).First Data Corp. ($31.8B).
Stock FactsStock Facts
Price: $19.13Price: $19.13 52wk Range: $15.35 - $21.9652wk Range: $15.35 - $21.96 Mkt. Cap: $1.75BMkt. Cap: $1.75B P/E (ttm): 22.89P/E (ttm): 22.89 Div & Yield: $0.18 (0.90%) Div & Yield: $0.18 (0.90%)
Stock Market PerformanceStock Market Performance
Five-Year Share Price History
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Stock Market PerformanceStock Market Performance
Business DescriptionBusiness Description
Core SystemsCore Systems Can be used in-house or outsourced.Can be used in-house or outsourced. Provide core processing functionality: deposits, loans, etc.Provide core processing functionality: deposits, loans, etc. 5 core systems:5 core systems:
Silverlake System: for banks with $500 million to $30 Silverlake System: for banks with $500 million to $30 billion in assetsbillion in assets
CIF 20/20: for banks with less than $1 billion in assetsCIF 20/20: for banks with less than $1 billion in assets Core Director: for banks with less than $1 billion in Core Director: for banks with less than $1 billion in
assets (Windows-based)assets (Windows-based) Episys: for credit unions with greater than $50 million in Episys: for credit unions with greater than $50 million in
assetsassets Cruise: for credit unions with less than $50 million in Cruise: for credit unions with less than $50 million in
assetsassets
Business DescriptionBusiness Description
Complementary Products (around 100)Complementary Products (around 100) Allow the company to offer custom-tailored, Allow the company to offer custom-tailored,
integrated suites of software solutions.integrated suites of software solutions. Expose the company to high-growth areas, like Expose the company to high-growth areas, like
security, risk management, online bill pay, and security, risk management, online bill pay, and electronic funds transfer.electronic funds transfer.
Product offering expanded through acquisitions of Product offering expanded through acquisitions of small companies providing specialized technology small companies providing specialized technology solutions. 17 Acquisitions since the start of FY02.solutions. 17 Acquisitions since the start of FY02.
Business DescriptionBusiness Description
Examples of complementary productsExamples of complementary products Synapsis: Relationship management (customer profiling, Synapsis: Relationship management (customer profiling,
referral tracking, etc.)referral tracking, etc.) NetTeller: Online home banking system with real-time NetTeller: Online home banking system with real-time
account information and transaction capabilities.account information and transaction capabilities. Remote Deposit Capture: Peforms image capture, storage, Remote Deposit Capture: Peforms image capture, storage,
and processing for paper checks.and processing for paper checks. PassPort: Drives and monitors ATM networks.PassPort: Drives and monitors ATM networks. Biodentify: Biometric fingerprint security.Biodentify: Biometric fingerprint security. Centurion Disaster Recovery: Disaster recovery protection.Centurion Disaster Recovery: Disaster recovery protection.
Business DescriptionBusiness Description
StrategyStrategy Expand existing customer relationships to garner Expand existing customer relationships to garner
more revenue with little marketing expense.more revenue with little marketing expense. Expand customer base.Expand customer base. Increase sales outside core customer base.Increase sales outside core customer base. Build recurring revenue through service and Build recurring revenue through service and
outsourcing contracts.outsourcing contracts. Maximize economies of scale to increase margins.Maximize economies of scale to increase margins.
Recent TrendsRecent Trends
Revenue by Segment FY03-FY05
0
50,000
100,000
150,000
200,000
250,000
300,000
350,000
400,000
2003 2004 2005
License
Support and Service
Hardware
Recent TrendsRecent Trends
Gross Margins by Segment FY03-FY05
93.3%92.4%91.9%
33.0%33.3%31.6%27.9% 28.4% 28.7%
0.0%10.0%20.0%30.0%40.0%50.0%60.0%70.0%80.0%90.0%
100.0%
2003 2004 2005
License Margin
Support and ServiceMargin
Hardware Margin
Recent TrendsRecent Trends
Q1 FY06 Results:Q1 FY06 Results: License revenue License revenue down 13.5%down 13.5% Support and Service revenue Support and Service revenue up 18.8%up 18.8% Hardware revenue Hardware revenue down 1.1%down 1.1% License margin License margin up to 95.0%up to 95.0% from 91.8% from 91.8% Support and Service margin Support and Service margin up to 35.4%up to 35.4% from from
33.0%33.0% Hardware margin Hardware margin up to 25.8%up to 25.8% from 23.9% from 23.9%
Forecasting Assumptions Forecasting Assumptions
Support and Service: Support and Service: Fairly constant sales growth on Fairly constant sales growth on stable margins.stable margins.Rationale:Rationale: Historical stability of performance in this segment.Historical stability of performance in this segment. Management’s emphasis on this segment in conference Management’s emphasis on this segment in conference
calls and the 10K’s description of business strategy.calls and the 10K’s description of business strategy.
Hardware: Hardware: Flat sales on declining margins.Flat sales on declining margins.Rationale:Rationale: Falling P and rising Q should offset one another.Falling P and rising Q should offset one another. Macro trend toward lower margins on computer hardware.Macro trend toward lower margins on computer hardware.
Forecasting AssumptionsForecasting Assumptions
License: License: ?????? Historically volatile segment.Historically volatile segment. Unexpected dropoff in Q1 license revenue.Unexpected dropoff in Q1 license revenue. Management anticipates a ramp-up as the Management anticipates a ramp-up as the
year progresses. Estimates 20% yoy year progresses. Estimates 20% yoy revenue growth. revenue growth.
Unbroken upward trend in license margins.Unbroken upward trend in license margins.
Volatility of License SegmentVolatility of License Segment
License Revenue - Historical
010,00020,00030,00040,00050,00060,00070,00080,00090,000
2000 2001 2002 2003 2004 2005
Volatility of License SegmentVolatility of License Segment
20012001 Q1 Q1 107.6%107.6% Q2 Q2 192.9%192.9% Q3 Q3 77.8%77.8% Q4 Q4 21.7%21.7%
20042004 Q1 Q1 7.4%7.4% Q2 Q2 -10.2%-10.2% Q3 Q3 46.9%46.9%Q4 Q4 83.0%83.0%
20022002 Q1 Q1 -9.3%-9.3% Q2 Q2 -6.0%-6.0% Q3 Q3 -3.9%-3.9% Q4 Q4 -1.7%-1.7%
20052005 Q1 Q1 50.9%50.9% Q2 Q2 78.6%78.6% Q3 Q3 36.7%36.7% Q4 Q4 -9.9%-9.9%
20032003 Q1 Q1 -18.3%-18.3% Q2 Q2 -13.8%-13.8% Q3 Q3 -40.8%-40.8% Q4 Q4 -34.0%-34.0%
20062006 Q1 Q1 -13.5%-13.5%
Scenario AnalysisScenario Analysis
License Revenue Scenario - Bad 2006, 2007
0
20,000
40,000
60,000
80,000
100,000
120,000
140,000
160,000
2005 2006 2007 2008 2009 2010 2011 2012 2013
Scenario AnalysisScenario Analysis
License Revenue Scenario - Recession 2007-2008
020,00040,00060,00080,000
100,000120,000140,000160,000180,000200,000
2005 2006 2007 2008 2009 2010 2011 2012 2013
Scenario AnalysisScenario Analysis
License Revenue Scenario - Tapered Growth, No Setbacks
0
50,000
100,000
150,000
200,000
250,000
2005 2006 2007 2008 2009 2010 2011 2012 2013
ValuationValuation Given the established Given the established
forecasting assumptions for forecasting assumptions for the service and hardware the service and hardware segments, and assuming segments, and assuming license margins remain strong license margins remain strong for the next few years before for the next few years before slowly tapering off, here are slowly tapering off, here are the DCF valuations for three the DCF valuations for three license revenue scenarios.license revenue scenarios.
Bad FY06 Bad FY06 and FY07and FY07
$17.17$17.17
Recession Recession 2007-20082007-2008
$18.99$18.99
Tapered Tapered GrowthGrowth
$21.53$21.53
SWOT AnalysisSWOT Analysis
StrengthsStrengths Industry knowledge.Industry knowledge. Customer relationships.Customer relationships. Provides custom-tailored, Provides custom-tailored,
integrated solutions.integrated solutions.
WeaknessesWeaknesses Little control over when customers Little control over when customers
purchase licenses.purchase licenses.
OpportunitiesOpportunities Potential to increase market Potential to increase market
share.share. Shifting product mix.Shifting product mix. Market for complementary Market for complementary
products outside base of core products outside base of core
systems customers.systems customers.
ThreatsThreats Integration of acquisitions may fail.Integration of acquisitions may fail. Bank consolidation could lead to Bank consolidation could lead to
cancelled contracts.cancelled contracts. New competitors always a threat.New competitors always a threat.
RecommendationRecommendation
Recommendation: Recommendation: HoldHold Management is following through on its Management is following through on its
strategy.strategy. Stock’s price reflects uncertainty in the Stock’s price reflects uncertainty in the
license segment.license segment. Potential for positive surprises to lift the Potential for positive surprises to lift the
stock price.stock price.
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