Item 7. Management’s Discussion and Analysis
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following management's discussion and analysis of financial condition and results of operations should be read together with our audited financial statements and the related notes included elsewhere in this Annual Report on Form 10-K. This section of this Form 10-K generally discusses 2022 and 2021 items and year-over-year comparisons between 2022 and 2021. Discussions of 2020 items and year-over-year comparisons between 2021 and 2020 are not included in this Form 10-K, and can be found in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Part II, Item 7 of the Company's Annual Report on Form 10-K for the year ended December 31, 202 1 .
Certain amounts in this section may not add mathematically due to rounding.
For a description and additional information about our three reportable segments, see Note 20. Segment Information , contained in " Item 8 - Financial Statements and Supplementary Data " of this Annual Report on Form 10-K.
Results of Operations
This section includes certain components of our results of operations for the years ended December 31, 2022 (or "2022"), December 31, 2021 (or "2021") and December 31, 2020 (or "2020"). We have derived this data, except key indicators for merchant bankcard processing dollar values and transaction volumes, from our audited Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K.
Revenue
For the year ended December 31, 2022, our consolidated revenue of $663.6 million increased by $148.7 million, or 28.9%, from $514.9 million for the year ended December 31, 2021. This overall increase was driven by an increase in payment volumes fueled by: 1) increased consumer spending and 2) the full-year impact of businesses acquired during the prior year.
Revenues by type for 2022 and 2021 were as follows:
(in thousands) Years Ended December 31, 2022 vs 2021
2022 2021 $ Change
Revenue Type:
Merchant card fees $ 553,037 $ 468,764 $ 84,273
Money transmission services 71,536 19,415 52,121
Outsourced services and other services 29,627 21,033 8,594
Equipment 9,441 5,689 3,752
Total revenues $ 663,641 $ 514,901 $ 148,740
Merchant Card Fees
For the year ended December 31, 2022, our merchant card fees revenue of $553.0 million increased by $84.2 million, or 18.0%, from $468.8 million for the year ended December 31, 2021. This increase was driven by an increase in the merchant bankcard volume processed by the Company.
Money Transmission Services
Money transmission services revenue of $71.5 million for the year ended December 31, 2022 increased by $52.1 million or 268.6%, from $19.4 million for the year ended December 31, 2021 and is primarily related to the full-year impact of the Finxera acquisition in September 2021 and continued growth in the customers and markets it serves.
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Outsourced Services and Other Services
Outsourced services and other services revenue of $29.6 million for the year ended December 31, 2022 increased by $8.6 million, or 41.0%, from $21.0 million for the year ended December 31, 2021. This increase was primarily driven by growth in revenue from AP automation solutions and increased volumes in the card issuing business. The increase was offset by a decrease of $1.7 million driven by the wind down of certain customer programs in the managed services business.
Equipment
Equipment revenue of $9.4 million for the year ended December 31, 2022, increased by $3.7 million, or 64.9%, from $5.7 million for the year ended December 31, 2021. The increase was primarily due to increased sales of mobile card reader equipment and other equipment from our MX product line.
Operating Expenses
Operating expenses for 2022 and 2021 were as follows:
(in thousands) Years Ended December 31, 2022 vs 2021
2022 2021 $ Change
Operating expenses
Cost of services (excludes depreciation and amortization) $ 436,753 $ 359,885 $ 76,868
Salary and employee benefits 65,077 43,818 21,259
Depreciation and amortization 70,681 49,697 20,984
Selling, general and administrative 34,965 28,408 6,557
Total operating expenses $ 607,476 $ 481,808 $ 125,668
Costs of Services (excludes depreciation and amortization)
Costs of services (excludes depreciation and amortization) of $436.8 million for the year ended December 31, 2022 increased by $76.9 million, or 21.4%, from $359.9 million for the year ended December 31, 2021, primarily due to the corresponding increase in revenues. For the year ended December 31, 2022, costs of services (excluding depreciation and amortization) as a percentage of total revenues decreased to 65.8% as compared to 69.9% for the year ended December 31, 2021. This decrease was primarily due the full-year impact of the Finxera acquisition in September 2021, partially offset by a mix of bankcard volume growth from larger reseller partners with higher commissions.
Salary and employee benefits
Salary and employee benefits expense of $65.1 million for the year ended December 31, 2022 increased by $21.3 million, or 48.6%, from $43.8 million for the year ended December 31, 2021, primarily due to pay raises, full-year impact of the Finxera business acquired in September 2021, an increase in stock-based compensation and overall growth of the Company. The Company's employee headcount increased to 870 in 2022 from 790 in 2021.
Depreciation and amortization expense
Depreciation and amortization expense of $70.7 million for the year ended December 31, 2022 increased by $21.0 million, or 42.3%, from $49.7 million for the year ended December 31, 2021, primarily due to the full-year amortization of finite-lived intangible assets from acquired businesses.
Selling, general and administrative
Selling, general and administrative expenses of $35.0 million for the year ended December 31, 2022 increased by $6.6 million, or 23.2%, from $28.4 million for the year ended December 31, 2021, primarily due to full-year impact of acquired businesses and certain non-recurring projects.
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Other (Expenses) Income, net
(in thousands) Years Ended December 31, 2022 vs 2021
2022 2021 $ Change
Other (expense) income
Interest expense $ (53,554) $ (36,485) $ (17,069)
Debt extinguishment and modification costs — (8,322) 8,322
Gain on sale of business and investment — 7,643 (7,643)
Other income, net 589 202 387
Total other expenses, net $ (52,965) $ (36,962) $ (16,003)
Interest expense
Interest expense of $53.6 million for the year ended December 31, 2022 increased by $17.1 million, or 46.8%, from $36.5 million for the year ended December 31, 2021, primarily due to full-year impact of additional borrowings to fund acquisitions in 2021 and an increase in variable interest rates in 2022.
Debt extinguishment and modification Costs
The Company refinanced its credit facilities in April 2021 and expensed unamortized deferred costs and discounts of $3.0 million associated with the retirement of its subordinated debt facility and expensed $5.3 million of third-party costs incurred in connection with the refinancing.
Gain on sale of business and investment
Gain on sale of business and investment for the year ended December 31, 2021 was $7.6 million, which resulted from consideration received by the Company in connection with the termination of certain warrants held in the Common Stock of an entity that was sold during the prior year.
Income tax expense
(in thousands) Years Ended December 31, 2022 vs 2021
2022 2021 $ Change
Income (loss) before income taxes $ 3,200 $ (3,869) $ 7,069
Income tax expense $ 5,350 $ (5,258) $ 10,608
Effective tax rate 167.2 % 135.9 %
The effective tax rate for 2022 increased primarily due to an increase in the valuation allowance against certain business interest carryover deferred tax assets.
Our consolidated effective income tax rates differ from the statutory rate due to timing and permanent differences between amounts calculated under GAAP and the U.S. tax code. The consolidated effective income tax rate for 2022 may not be indicative of our effective tax rate for future periods.
On August 16, 2022, the U.S. government enacted the Inflation Reduction Act into law. The IRA, among other provisions, implements a 15% corporate alternative minimum tax based on global adjusted financial statement income and a 1% excise tax on share repurchases, which shall take effect in tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material effect on our reported results, cash flows, or financial position when it becomes effective. If applicable, we expect to reflect the excise tax within equity as part of the repurchase price of Common Stock.
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Earnings Attributable to Common Shareholders
(in thousands) Years Ended December 31, 2022 vs 2021
2022 2021 $ Change
Net income (loss) $ (2,150) $ 1,389 $ (3,539)
Less: Dividends and accretion attributable to redeemable senior preferred stockholders (36,880) (18,009) (18,871)
Less: NCI preferred unit redemptions, net of deferred tax benefit — (8,021) 8,021
Net loss attributable to common stockholders $ (39,030) $ (24,641) $ (14,389)
Dividends and accretion attributable to redeemable senior preferred stockholders was $36.9 million for the year ended December 31, 2022, and was comprised of $22.1 million of accumulated dividends accrued as part of the carrying value of the redeemable senior preferred stock and the cash dividend payable at year end, $11.5 million of dividends that were paid in cash, and $3.3 million related to accretion of discounts and issuance costs for the redeemable senior preferred stock. The increase in dividends and accretion attributable to redeemable senior preferred stockholders from 2021 to 2022 is due to a full-year impact of dividends and accretion, as well as an increase in the dividend rate for 2022 resulting from an increase in variable interest rates during the year.
Segment Results
SMB Payments
(in thousands) Years Ended December 31, 2022 vs 2021
2022 2021 $ Change
Revenue $ 562,237 $ 475,630 $ 86,607
Operating expenses 507,371 422,746 84,625
Operating income $ 54,866 $ 52,884 $ 1,982
Operating margin 9.8 % 11.1 %
Depreciation and amortization $ 43,925 $ 41,144 $ 2,781
Key Indicators:
Merchant bankcard processing dollar value $ 59,440,491 $ 53,411,622 $ 6,028,869
Merchant bankcard transaction volume 636,576 578,102 58,474
Revenue
Revenue from our SMB Payments segment was $562.2 million for the year ended December 31, 2022, compared to $475.6 million for the year ended December 31, 2021. The increase of $86.6 million, or 18.2%, was primarily driven by increased merchant bankcard volume and certain fee revenues. The Company's revenue from the SMB Payments segment as a percentage of merchant bankcard processing dollar value during 2022 increased to 0.95% from 0.89% during 2021. The increase was primarily driven by increased volume (transaction count) related fee revenues and changes in the merchant mix.
Operating Income
Operating income from our SMB Payments segment was $54.9 million for the year ended December 31, 2022, compared to $52.9 million for the year ended December 31, 2021. The increase of $2.0 million, or 3.8%, is due to increased revenue and was offset by a mix of volume growth from larger reseller partners with higher commissions and an increase in other operating expenses. Increase in other operating expenses include a $6.3 million increase in salary and employee benefits due to higher headcount, a $2.2 million increase in selling, general and administrative expenses driven by higher travel and other operating costs, a $2.8 million increase in depreciation and amortization, and higher stock-based compensation and pay raises. The increase in headcount and selling, general and administrative expenses are mainly attributable to growth initiatives. Increase in other operating expenses were offset by an increase in operating income from higher revenue.
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B2B Payments
(in thousands) Years Ended December 31, 2022 vs 2021
2022 2021 $ Change
Revenue $ 18,890 $ 17,138 $ 1,752
Operating expenses 18,682 17,003 1,679
Operating income $ 208 $ 135 $ 73
Operating margin 1.1 % 0.8 %
Depreciation and amortization $ 744 $ 294 $ 450
Key Indicators:
Merchant bankcard processing dollar value $ 526,812 $ 323,502 $ 203,310
Merchant bankcard transaction volume 304 220 84
Revenue
Revenue from our B2B Payments segment was $18.9 million for the year ended December 31, 2022, compared to $17.1 million for the year ended December 31, 2021. The increase of $1.8 million, or 10.5%, was primarily driven by an increase of $3.5 million in the CPX business, of which $2.5 million is related to volume growth, and the remaining increase of $1.0 million is from the recognition of certain revenues for which recovery became probable during the current year. This increase was offset by a decrease of $1.7 million driven by the wind down of certain customer programs in the managed services business.
Operating Income
Operating income from our B2B Payments segment was $0.2 million for the year ended December 31, 2022, compared to $0.1 million for the year ended December 31, 2021. This is due to the increase in revenue from the CPX business was offset by a decrease in revenue from the managed services business due to the wind down of certain customer programs.
Enterprise Payments
(in thousands) Years Ended December 31, 2022 vs 2021
2022 2021 $ Change
Revenue $ 82,514 $ 22,133 $ 60,381
Operating expenses 51,577 15,370 36,207
Operating income $ 30,937 $ 6,763 $ 24,174
Operating margin 37.5 % 30.6 %
Depreciation and amortization $ 24,892 $ 7,158 $ 17,734
Key Indicators:
Merchant bankcard processing dollar value $ 1,760,518 $ 52,376 $ 1,708,142
Merchant bankcard transaction volume 2,779 549 2,230
Average number of billed clients 380,233 345,828 34,405
Revenue
Revenue from our Enterprise Payments segment was $82.5 million for the year ended December 31, 2022, compared to $22.1 million for the year ended December 31, 2021. The increase of $60.4 million, or 273.3%, was primarily driven by full-year impact of Finxera business acquired in September 2021 and continued growth in the customers and markets it serves.
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Operating Income
Operating income from our Enterprise Payments segment was $30.9 million for the year ended December 31, 2022, compared to $6.8 million for the year ended December 31, 2021. The increase of $24.1 million, or 354.4%, was primarily driven by full-year impact of Finxera business acquired in September 2021 and continued growth in the customers and markets it serves.
Depreciation and Amortization
Depreciation and amortization expense from our Enterprise Payments segment was $24.9 million for the year ended December 31, 2022, compared to $7.2 million for the year ended December 31, 2021. The increase of $17.7 million, or 245.8%, was primarily driven by the amortization of intangibles resulting from the Finxera acquisition in September 2021.
Liquidity and Capital Resources
Liquidity and capital resource management is a process focused on providing the funding we need to meet our short-term and long-term cash and working capital needs. We have used our funding sources to build our merchant portfolio, for technology solutions and to make acquisitions with the expectation that such investments will generate cash flows sufficient to cover our working capital needs and other anticipated needs, including for our acquisition strategy. We anticipate that cash on hand, funds generated from operations and available borrowings under our revolving credit agreement are sufficient to meet our working capital requirements for at least the next twelve months. This is based upon management's estimates and assumptions, including utilizing the most currently available information regarding the effects of the COVID-19 pandemic on our financial results. Actual future results could differ materially, as the magnitude, duration and effects of changes in economic, political and market conditions are difficult to predict, and ultimately could negatively impact our liquidity and capital resources.
Our principal uses of cash are to fund business operations (including capital expenditures and strategic investments) and administrative costs, and to service our debt.
Our working capital, defined as current assets less current liabilities, was $22.5 million at December 31, 2022 and $19.6 million at December 31, 2021. As of December 31, 2022, we had cash and cash equivalents with a balance of $18.5 million compared to $20.3 million at December 31, 2021. These cash and cash equivalent balances do not include restricted cash of $10.6 million and $28.9 million at December 31, 2022 and December 31, 2021, respectively, which reflects cash accounts holding customer settlement funds and cash reserves for potential losses. The current portion of long-term debt included in current liabilities was $6.2 million at December 31, 2022 and 2021.
At December 31, 2022, we had availability of approximately $27.5 million under our revolving credit arrangement.
The following tables and narrative reflect our changes in cash flows for the comparative annual periods.
Years Ended December 31,
(in thousands) 2022 2021
Net cash provided by (used in):
Operating activities $ 70,518 $ 9,377
Investing activities (36,503) (451,033)
Financing activities 8,502 871,629
Net increase in cash and restricted cash $ 42,517 $ 429,973
Cash Provided by Operating Activities
Net cash provided by operating activities was $70.5 million and $9.4 million for the years ended December 31, 2022 and December 31, 2021, respectively. The $61.1 million, or 650.0% increase in 2022 was driven by cash generated from the operations of the Company. Additionally, 2021 included the non-recurring payment of PIK interest of $23.7 million upon the refinancing of our credit facilities in April 2021 which decreased operating cash flows for the year ended December 31, 2021.
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Cash Used in Investing Activities
Net cash used in investing activities was $36.5 million compared to cash used investing activities of $451.0 million for the years ended December 31, 2022 and 2021, respectively. Net cash used to acquire businesses in 2022 was $5.0 million compared to net cash used of $407.1 million in 2021. Additions to property, equipment and software was $18.9 million for 2022 compared to $9.7 million in 2021 and acquisitions of intangible assets was $8.0 million compared to $49.5 million in 2021. Additionally, grants of certain loans to our partners was $4.7 million for the year ended December 31, 2022. For the year ended December 31, 2021, the Company received proceeds from the sale of an investment of $15.3 million.
Cash (Used in) Provided by Financing Activities
Net cash provided by financing activities was $8.5 million for the year ended December 31, 2022, compared to $871.6 million of cash used in financing activities in the year ended December 31, 2021. The net cash provided by financing activities for 2022 included changes in the net obligations for funds held on the behalf of customers of $43.1 million and $29.5 million related to additional borrowings under the revolving credit facility. This was offset by $38.2 million of cash used for the repayment of debt including borrowings under the revolving credit facility, $11.5 million of cash dividends paid to redeemable senior preferred stockholders, $7.5 million of cash used for stock repurchases, including a portion related to shares withheld for taxes, and $7.0 million of payments of contingent consideration for business combinations. The net cash provided by financing activities for 2021 included proceeds from the issuance of new debt of $598.2 million, net borrowings from the revolving credit facility of $15.0 million, proceeds from the issuance of the redeemable senior preferred stock of $211.0 million, proceeds from the exercise of stock options of $1.2 million and changes in the net obligations for funds held on the behalf of customers of $417.6 million. These cash inflows were offset by cash used for the repayment of debt of $361.4 million, cash used for the repurchase of Common Stock of $1.7 million, dividends paid to redeemable senior preferred stockholders of $7.5 million and distribution to NCIs in subsidiaries of $0.8 million.
Long-Term Debt
On April 27, 2021, the Company entered into a Credit Agreement with Truist which provides for: 1) a $300.0 million Initial Term Loan; 2) a $290.0 million Delayed Draw Term Loan; and 3) a $40.0 million senior secured revolving credit facility. The Credit Agreement was amended on September 17, 2021 to increase the amount of the Delayed Draw Term Loan facility by $30.0 million to $320.0 million. The additional Delayed Draw Term Loan is part of the same class of term loans made pursuant to the original commitments under the Credit Agreement.
Outstanding borrowings under the Credit Agreement accrue interest using either a base rate or a LIBOR rate plus an applicable margin per year, subject to a LIBOR rate floor of 1.00% per year. Accrued interest is payable on each interest payment date (as defined in the Credit Agreement). The revolving credit facility incurs an unused commitment fee on any undrawn amount in an amount equal to 0.50% per year of the unused portion. The future applicable interest rate margins may vary based on the Company's Total Net Leverage Ratio in addition to future changes in the underlying market rates for LIBOR and the rate used for base-rate borrowings.
As of December 31, 2022, the Company had outstanding debt obligations, including the current portion and net of unamortized debt discount of $605.1 million, compared to $610.3 million at December 31, 2021, resulting in a decrease of $5.2 million. The debt balance at December 31, 2022 consisted of $610.7 million outstanding under the term facility and $12.5 million outstanding under the revolving credit facility, offset by $18.1 million of unamortized debt discounts and issuance costs. Minimum amortization of the Initial Term Loan are equal quarterly installments in aggregate annual amounts equal to 1.0% of original principal, with the balance paid upon maturity. The term facility matures in April 2027 and the revolving credit facility expires in April 2026.
The Credit Agreement contains representations and warranties, financial and collateral requirements, mandatory payment events, events of default and affirmative and negative covenants, including without limitation, covenants that restrict among other things, the ability to create liens, pay dividends or distribute assets from the loan parties to the Company, merge or consolidate, dispose of assets, incur additional indebtedness, make certain investments or acquisitions, enter into certain transactions (including with affiliates) and to enter into certain leases.
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If the aggregate principal amount of outstanding revolving loans and letters of credit under the Credit Agreement exceeds 35% of the total revolving facility thereunder, the loan parties are required to comply with certain restrictions on its Total Net Leverage Ratio, which is defined in the Credit Agreement as the ratio of consolidated total debt less unrestricted cash to consolidated adjusted EBITDA (as defined in the Credit Agreement). If applicable, the maximum permitted Total Net Leverage Ratio is: 1) 6.50:1.00 at each fiscal quarter ended September 30, 2021 through June 30, 2022; 2) 6.00:1.00 at each fiscal quarter ended September 30, 2022 through June 30, 2023; and 3) 5.50:1.00 at each fiscal quarter ended September 30, 2023 and thereafter. As of December 31, 2022, the Company was in compliance with the covenants in the Credit Agreement and the Total Net Leverage Ratio was not applicable.
Critical Accounting Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ significantly from those estimates. We believe that the following discussion addresses our most critical accounting estimates, which are those that are most important to the portrayal of our financial condition and results of operations and require management's most difficult, subjective, and complex judgments.
Income Taxes
We account for income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using enacted tax rates and laws that are expected to be in effect when the differences are expected to be recovered or settled. Realization of deferred tax assets is dependent upon future taxable income. A valuation allowance is recognized if it is more likely than not that some portion or all of a deferred tax asset will not be realized based on the weight of available evidence, including expected future earnings.
We recognize an uncertain tax position in our financial statements when we conclude that a tax position is more likely than not to be sustained upon examination based solely on its technical merits. Only after a tax position passes the first step of recognition will measurement be required. Under the measurement step, the tax benefit is measured as the largest amount of benefit that is more likely than not to be realized upon effective settlement. This is determined on a cumulative probability basis. The full impact of any change in recognition or measurement is reflected in the period in which such change occurs. Interest and penalties related to income taxes are recognized in the provision for income taxes.
Goodwill and Long-lived Assets
We test goodwill for impairment for each of our reporting units on an annual basis on October 1 or when events occur, or circumstances indicate the fair value of a reporting unit may be below its carrying value. We perform the annual assessment using the qualitative method. Where deemed appropriate, we may perform a quantitative assessment that uses market data and discounted cash flow analysis, which involve estimates of future revenues and operating cash flows. Changes in these estimates and assumptions or a significant decrease in earnings, could materially affect the fair value of goodwill and could result in a goodwill impairment charge.
The annual impairment assessment for goodwill does not change our requirements to assess goodwill on an interim date between scheduled annual testing dates if triggering events are present.
We review our long-lived assets for impairment whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable. For long-lived assets, except goodwill, an impairment loss is indicated when the undiscounted future cash flows estimated to be generated by the asset group are not sufficient to recover the unamortized balance of the asset group.
We amortize the cost of our acquired intangible assets over their estimated useful lives using either a straight-line or an accelerated method that most accurately reflects the estimated pattern in which the economic benefit of the respective asset is consumed.
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Business Combinations
We allocate the purchase price of an acquired business to the assets acquired and liabilities assumed based on their estimated fair values. The excess of the purchase price over the fair value of the net assets acquired is recorded as goodwill. For acquisitions that include contingent consideration, we estimate the fair value of contingent consideration at the acquisition date. The estimated fair value of contingent consideration is updated in future periods based on information available at that time. Management uses all available information when estimating the fair values of the assets acquired, liabilities assumed and contingent consideration, and must apply judgement and make certain assumptions when making these estimates. The assumptions management uses when determining fair values include estimated future cash flows or income, market rate assumptions, actuarial assumptions and discount rate assumptions. We typically engage third-party valuation advisors to assist in estimating the fair values of acquired assets and assumed liabilities. Our estimates of fair value are based upon assumptions the Company believes to be reasonable, but that are inherently uncertain, and therefore, may not be realized. Accordingly, there can be no assurance that the estimates, assumptions and values reflected in the valuations will be realized, and actual results could differ materially.