Feb 3, 2009
Executives
Marvin Sims – Vice President, Investor Relations Rich Daly – Chief Executive Officer Dan Sheldon – Vice President and Chief Financial Officer
Analysts
Ian Zaffino - Oppenheimer & Co. Anurag Rana - KeyBanc Capital Markets Tien-Tsin Huang - J.P.
Morgan [Stefan Sook] – No Company Listed
Operator
At this time I would like to welcome everyone to the Broadridge Financial Solutions, Inc. second quarter fiscal 2009 earnings conference call.
(Operator Instructions) I will now turn the conference over to Marvin Sims, Vice President of Investor Relations. Please go ahead Sir.
Marvin Sims
Good morning everyone and welcome to the Broadridge quarterly earnings call and web cast for the second quarter of the fiscal year 2009. I'm Marvin Sims, Vice President of Investor Relations.
As usual this morning I am here with Rich Daly, Chief Executive Officer for Broadridge and Dan Sheldon, Chief Financial Officer for Broadridge. I'm sure by now everyone has had the opportunity to review the earnings release we issued earlier this morning.
The news release and slide presentation that accompanied today's earnings call and web cast can be found on the Investor Relations homepage of our website at www.Broadridge.com. Before we begin, I would like to remind everyone that during today's conference call we will discuss some forward-looking statements that involve risks.
These risks are discussed here on Slide 1 and in our periodic filings with the SEC. Now let's turn to the next slide and review today's agenda.
Rich Daly will start today's call with his opening remarks and will provide you with a summary of the financial results for the quarter, followed by a discussion on some key topics. Dan Sheldon will then review the second quarter results in further detail including a review of the cash flows for the quarter end.
Rich will then return and summarize the fiscal year 2009 guidance and provide his overall summary and some closing thoughts before we head into the Q&A part of the call. Now please turn to the next slide and I'll turn the call over to Rich Daly.
Rich?
Rich Daly
Thanks Marvin. Good morning everyone.
I am now on slide number three. This morning I will talk about the following topics: A summary of our second quarter financial results and the reaffirmation of our 2009 fiscal year EPS guidance, a review of our sales performance, an update on the current market dynamics including industry consolidation and how to put these dynamics into context for Broadridge.
Finally, after Dan’s financial update I will provide some concluding thoughts before Q&A. So, let’s go to slide number four and start.
Given the current market environment I am satisfied overall with our second quarter results. I am also pleased with our sales results, increased market share, liquidity and forecasted free cash flows.
I will talk more about these points a little later. Our Q2 performance was better than our expectations as we continued to experience strong trade volumes in our securities processing segment.
Our revenues for the quarter were down 1%. However, operating revenue growth for the business segments excluding foreign exchange and other was up 2% and recurring fee revenues were up 7%.
Event driven mutual fund proxies were down year-over-year as well as distribution revenues related to the increased adoption rate of notice and access. The increase in notice and access adoption rate lowers overall revenues but creates a positive offset in fee revenues at higher margins.
Reductions in distribution revenues replaced by recurring fee revenues at higher margins is the only time I am not upset with declining revenues. Net earnings for the quarter are up 3% and were better than expected.
Despite the anticipated expense rollovers we previously disclosed our earnings growth was primarily due to our trade revenue over performance and lower interest expense related to our lower debt level. Despite the challenging market conditions the business fundamentals continue to demonstrate resiliency as the core investor communications key recurring revenue drivers remain essentially unaffected by volatile market activity.
Mutual fund interim positions continue to grow and stock record growth for equities is better today than it was last year at this time. Given this, we continue to anticipate volume growth for the year in equity proxy’s.
These factors are helping to offset much lower event driven mutual fund proxy activity. As we look forward to the remainder of the fiscal year we are once again reaffirming our full year guidance for non-GAAP EPS to be in the range of $1.45 to $1.55 which excludes the benefit of $0.04 for the one-time gain on the purchase of our senior notes from our first quarter.
Therefore, we are also reaffirming our GAAP EPS of $1.49 to $1.59 which does include the $0.04. We are anticipating a revenue decline of minus 3% to flat which is down from our previous growth guidance of flat to 3% growth.
The 3 point drop in both the low and high end of the guidance is primarily due to the FX in the second half, lower mutual fund proxy event driven activities and reduced distribution revenues resulting from higher notice and access adoption rates. We are still expecting recurring revenue to grow in the second half of the fiscal year and on a full year basis a contribution of 3-4% towards overall revenue growth.
Irrespective of the unfavorable impact from foreign exchange rates and product exchanges driving our lower revenue growth guidance for the year we still expect to generate free cash flows in the range of $210-250 million, where we have increased the lower end from our November guidance. Keep in mind that over 50% of our free cash is generated in our fiscal fourth quarter.
Dan will talk more on cash flow in his section. This quarter we purchased one million Broadridge shares at an average price of approximately $11 per share and have authorization to buy back another million shares.
In the short-term given the banking and credit market environment we remain focused on our liquidity options to ensure we have the ability to run, invest in and grow our business. We believe our liquidity for the current needs of the business are strong given our impressive free cash flow, balance sheet and financial flexibility from our $500 million committed revolver and other bank lines.
We are also confident that our balance sheet is strong and given our debt level at a 1:1 debt to EBITDA ratio we are pleased that the liquidity crisis is not a direct threat to Broadridge or our ability to execute on strategy. Now let’s move on to sales on slide number five.
As I mentioned earlier I am pleased with our sales performance. As a matter of fact, if you promise to keep it a secret from our sales management I am actually very pleased with our sales performance.
Our closed sales of $47 million for the quarter are up 36% for the quarter and year-to-date closed sales of $80 million are up 26% over the prior year. Recurring sales year-to-date represent almost 80% of total closed sales and are up 100% over the prior year.
Recurring closed sales being this high over the prior year is very good news for the long-term given our successful history of client retention? This quarter we closed a $5 million statement deal.
We signed an international deal with Instinet, a subsidiary of Nomura Bank. We also signed a new contract with JP Morgan for fixed income processing which now includes the old Bear Stearns fixed income business.
We signed a new contract with Barclays for both equity and fixed income processing services including all of the Lehman business they acquired. In addition, 67% of our closed sales were made to 15 different entities each purchasing greater than $1 million in new services.
Our sales pipeline remains strong and is still building momentum. Our only disappointment is that the level and length of our outsourcing sales cycle for mid-sized prospects has increased, in some cases influenced by the liquidity crisis but we also have a stronger pipeline of promising larger deals that we are moving along in the sales cycle.
Although talking about promising larger deals lets never forget that it ain’t over till it is over. Even though we arguably have the most efficient processing platform in the industry, the complexity of conversion remains the biggest hurdle to overcome in closing larger deals.
Outsourcing the people function to Broadridge along with the system should ultimately reduce this hurdle. Our comfort level about achieving our full year sales forecast of $160-180 million is even higher than it was one quarter ago.
Our market’s current challenges ironically add to our optimism for Broadridge’s future, given the financial industry’s focus on cost reductions and more than likely future greater regulatory requirements. Our industry’s recent challenges means that every firm needs to look at cost, look at efficiency and look at functionality as they recognize that regulatory requirements are expected by virtually everyone to increase.
Broadridge, as the number one player in our space as substantiated by Brown and Wilson’s Black Book of Outsourcing is best positioned not only to be able to reduce costs but simultaneously improve accuracy, meet any new regulatory requirements and ultimately provide our clients a platform with scalability, flexibility and the industry’s best reliability and functionality. Now on slide number six let’s talk about the current headwinds in the financial services industry and how we are managing through them.
We believe these headwinds are creating short-term revenue slow down or shrinkage for us. However, as I just mentioned they are also providing long-term opportunities.
In the short-term as we move into the second half of our fiscal year we are expecting to see less trade volumes and increased concessions in our securities processing business and continued shrinkage in mutual fund proxy activity in our core investor communications business. With regard to seeing lower trading volumes we normally see trades per day decline shortly after they spike especially in markets like we are in now.
With respect to pricing pressures, we are resigning and extending contracts for existing clients earlier than normal. This has created greater concessions than we had originally anticipated for fiscal 2009 and will impact the second half of our fiscal year as well as carry over into the future.
The offsetting point is that we have been able to retain clients and market share with longer contract terms and we believe this better positions Broadridge to benefit for the longer term when the markets return to normal. Last quarter I provided you with a summary of the impact to Broadridge from consolidation in the financial services industry.
So let me recap that summary. I stated that we were winning about as much as we were losing and that in the long-term it appeared the consolidation would create new opportunities for us to demonstrate our strong value proposition.
The consolidation of Lehman and Bear Stearns into Barclays and JP Morgan respectively will negatively impact revenues in our securities processing segment given volume discounts. However, with Neuberger going to our clearing segment and new sales to JP Morgan and Barclays of fixed income products which I mentioned in my sales update we are still in a net positive position on a consolidated Broadridge basis.
With respect to Bank of America and Merrill Lynch, the transaction just closed and their processing platform strategy has not yet been settled. We are still involved in discussions around their immediate decisions and their longer term platform strategy.
There are two new items related to industry consolidation that I want to address now. The first is the combination of Morgan Stanley’s wealth management business with Smith Barney.
Virtually the only impact we can see from this if any would be upside benefit. This is because neither firm makes any material use of Broadridge products other than our core proxy offering.
Of course we expect them to continue using our proxy offering and we will look at this new opportunity as aggressively as we can to induce them to use other Broadridge communications and securities processing offerings. The next item is related to the future potential consolidations driven by the TARP good bank/bad bank activities.
It is too soon to have any clear view regarding any positive or negative impact on Broadridge if any at all. In our favor we believe the controlled environment of our processing applications should be very attractive to any bank in this position.
On the other hand it seems unlikely that if a bank in this position was performing any proprietary trading activities they would continue these activities at the same level going forward. Both of these new items are still unclear at this point.
Overall, in the securities processing and outsourcing businesses there are many reasons to be pleased. Our strategy is sound.
We have a strong sales pipeline and have active dialogues taking place. But in order for me to be completely pleased with the performance of the securities processing business I have to be convinced that we are near the end of the market correction and we were winning new business by adding outsourcing clients and adding new applications to all clients at a rate that creates market share and revenue gains well beyond being just net positive.
As for our investor communications business I am pleased with our financial results and how we are faring in these markets. This is not surprising given the high quality of the investor communications recurring revenue base.
The investor communications core proxy recurring revenue which is more than 50% of Broadridge’s overall revenues is maintaining its unique historical resiliency to negative markets. Recurring fee revenue is expected to do well in the second half of our fiscal year.
We have also had increases in notice and access adoption rates as well as increased market share in registered equity proxy. As for the strategy and long-term, we expect we will exit this down market with additional market share and increased compliance opportunities as the new administration in Washington is expected to champion increased transparency for investors and regulatory oversight of industry participants which would most likely increase compliance requirements.
When you take all of the factors that I have just discussed for all of the businesses into consideration, we anticipate leaving these challenging times with more market share than we entered them with and we will be better positioned when the markets return. We continue to make strategic investments in the business at a slightly higher run rate than last year as we believe the financial services crisis will create significant long-term opportunity to serve our markets.
This is an opportune time for a trusted and proven partner like Broadridge. I will now turn the call over to Dan who will go into more detail about the quarter, year-to-date and full year with respect to each of the segments.
Dan Sheldon
Thanks Rich. I am now on slide seven.
As Rich mentioned our revenues are down slightly for the quarter and up slightly year-to-date. Looking at the specific revenue drivers you can see that sales and losses are running at our Q2 forecasted contribution to revenue rate and we expect the year-to-date contribution rates to continue into the second half.
Once you are half way into a year you pretty much know your contributions for revenue for sales and losses given the conversion and de-conversion timeframes. Also we have included in the appendix a general guideline for conversion timeframes between closed sales and revenue recognition.
Looking down at internal growth it continues to be up and slightly over our forecast given the strong trade volumes and time and material activity in the quarter. For the second half we are expecting additional contributions to internal growth as Rich mentioned from our investor communications business and less from the other two segments given lower trade per day growth, lower time on material jobs and less interest revenue which I will go into more detail on when I review the segments.
Both our event driven mutual fund proxy and foreign exchange revenues continued to strengthen in the quarter and were slightly below our Q2 forecast and we are also forecasting the shrinkage to continue into the second half. Our year-to-date pre-tax margins are slightly down and diluted EPS is flat to last year but above our forecast given the revenue mix and the net FX transaction gains.
Let’s move to the next slide where I will go into more detail on the quarter, year-to-date and full year view of our segments, other and wrap up with cash flows. I am now on slide eight, investor communications solutions.
For the quarter our revenues were down 3%. Recurring revenues up and event driven and distribution fees down.
The good news is that recurring revenues driven by net new business and internal growth from equity and mutual fund stock record positions as well as transaction and fulfillment activity continued to show growth this quarter and are slightly better than our expectations. You see the growth in recurring revenues continue into the second half where we are anticipating increased notice and access adoption rates as well as increased market share gains with respect to registered equity U.S.
and global product fees. However, we are lowering our full year forecast with respect to event driven and distribution revenues.
Let me go into that a bit. Our event revenues are down entirely due to mutual fund proxies.
Given where we are year-to-date in our sales pipeline we are now forecasting the mutual fund proxy to be down this year by 50% to 60%. As we said before, mutual fund proxies don’t repeat each year and it takes a triggering effect like a change in directors, a change in pricing or fund mergers to cause a proxy.
Although we are forecasting this year to be down, I really suspect given all the activity in mutual funds that in FY10 and into FY11 we will see the resurgence as we have seen before given that at some point there will be a triggering event. The good news on our other event driven revenues for equity proxy content, mutual fund supplemental mailings and pre-sale fulfillment have been up slightly year-over-year and we see this continuing into the second half.
With respect to distribution fees they are down for the quarter and expected to be down for the year due to both increased notice and access adoption and revenue mix. With respect to notice and access as Rich mentioned overall lower revenues but overall higher margin dollars is a good thing.
With respect to our margins they are down for the quarter and year-to-date but it is entirely due to the revenue mix of less event driven. For the full year we are still expecting margin expansion given strong fourth quarter growth which is heavily weighted towards recurring revenues primarily driven from the equity proxy products.
I will now move to slide nine, securities products. This segment had revenue growth of 9% for the quarter and year-to-date 8%.
Net new business for the quarter and year-to-date contributed 2% to revenue growth and we expect sales to continue to contribute 5-6% to overall revenue and losses to continue at about a 4% rate for the year. Our internal growth this quarter was very positively impacted and above our forecast due to increased trading volumes as well as higher than expected time and material revenues and delayed price concessions.
We saw the increased trade volumes toward the end of Q1 and they continued for the most part into Q2. However, we have seen both retail and institutional volumes drop since December and are forecasting trades per day growth to be less in the second half but still forecasting growth in both the low and high end between 3-8%.
We are also forecasting less E&M in the second half given the tightening of R&D spend by our clients. I mentioned a delay in price concessions had a positive impact to our forecast in Q2.
We have historically averaged an annualized negative 2-3% impact to revenue from concessions each year in this segment due to contract re-signs. In some fiscal years we have had as low as 1% negative impact to revenues from price concessions and some years plus 4%.
It is all dependent upon when the contracts are re-signed. As Rich mentioned this year we have some very large clients up for renewal and finalization of pricing terms will take place in the second half.
So where we experienced some negative impact to revenue from price concessions in the first half we will have at least 4% negative impact to revenue in the second half. Overall for the year it averages out about the same 3% that we have talked about.
Our margins for the quarter were positively impacted by the internal growth contribution. Full year forecasted margins are down year-over-year due to the planned investment and less deferred conversion expenses this year as well as the higher concessions I just walked through on the second half.
Let’s turn to slide ten. This is our clearing and outsourcing segment.
Our revenue growth for the quarter and year-to-date is primarily driven by the addition of the Neuberger sale which impacted September and all of Q2. Offsetting the growth is the continued drop in interest revenue due both to reduced Fed fund rates and approximately a 25% decrease in margin balances.
Besides the Neuberger sale we also added net two clearing clients over the last six months and sold one new outsourcing deal in Q2 and converted two clients from our securities processing segment onto outsourcing. For a full year perspective the contribution to revenue from net new business is primarily from the Neuberger deal as outsourcing deals are slower in closing than we had planned.
However, as Rich mentioned we do have some larger outsourcing deals we are working on. If closed they would not benefit FY09 and likely not be a contribution until late FY10 or into FY11 given the long implementation times for large accounts.
Our internal growth from interest revenues continues to be a drag to both year-to-date and for the full year. The combination of lower Fed fund and lower margin balances negatively impacts the first half by $6 million and on a full year basis by $11 million.
I guess the good news with respect to interest revenues is that Fed fund rates really can’t go much lower and margin balances are forecasted to remain at the $700 million level of which were experienced in Q2. I look forward to providing an upside in the future.
With respect to pre-tax operating losses, the loss of interest revenues more than offset the positive contribution from net sales in that interest all falls to the bottom line. Moving on to slide 11, other and FX, we are giving you all the data points you asked for.
The only area I am going to cover in detail is with respect to FX because that is what has changed most since the last time we gave guidance. With a [penal] impact perspective both revenues and margins are negatively impacted primarily by the strengthening of the U.S.
dollar against the Canadian dollar in the latter part of Q2. Our full year forecast uses the forward rates which negatively impacted the second half revenues and margins.
By the way, the line called FX transaction activity which is the last line under other is all related to cash and billing we have in U.S. dollars in foreign locations.
Given the forward rates are about the same for the second half as they were at the end of December we are not forecasting additional gains or losses for the remainder of the year. Finally, interest is in line with our previous guidance and corporate expenses are down at the high end due to discretionary spend hold back and less stock compensation expense given where our stock price is at.
Moving to slide 12, we shared this slide with you before to help in understanding the grow over challenges we were faced with which primarily impacted us in the first half and really nothing has changed on this page. Let’s move to my last slide which is cash flow, and by the way this is my favorite slide.
The greatest benefit of an 80% recurring revenue model and a low capital intensive business is that free cash flows are mostly predictable and always positive. In our business model I pay very close attention to client retention as this is the foundation of our recurring revenues.
As we have discussed before, internal growth from market transaction activity including event driven will be up in good markets and down in bad markets but in any given 5-year period has been up on a compounded annual basis. The really good news is that our client revenue retention rates are forecasted to be over 98% this year.
With that said let’s focus on the first slide of earnings and go to the far right to the FY09 low and high range guidance. Even though we have lowered our revenue growth ranges from flat to a positive 3% to a negative 3% to flat, we have maintained our $207-222 million earnings range.
As Rich mentioned, we did not reduce our investment spend but addressed discretionary spend as appropriate. We are a highly fixed base cost company but we do have areas of discretionary spend including variable compensation and temporary employment that help us manage our expense levels to some degree.
As far as free cash flows we have tightened the ranges and are up on the low end. Our range is now, as Rich mentioned, $210-250 million.
With respect to cash flows from other investing and financing activities we really haven’t changed much here. We do expect to continue to pay a dividend and with respect to additional acquisitions, additional pay down or additional buy backs as we move into the second half will determine how to use cash based upon the returns of the opportunities and how we are tracking against the high and low end of our free cash flows.
As Rich mentioned, we earn and collect the majority of our cash in Q4. I do want to shift attention back to the left side of the page which addresses our rich clearing and financing activities.
First, let me say that our Broadridge business has had no write offs since we acquired the business and that is due to the tight credit and margin policies we have as well as the quality of our clients and how they operate their businesses. Remember, we are strictly a clearing firm and don’t have any investment positions or inventory ourselves.
Second, we are in a net positive cash position with short-term cash at the end of Q2 just as we were at the end of the last fiscal year. Just like in our Q1 of this year and last year’s Q3 we could be in a short-term debt position as it is all due to timing of activity.
However, given our margin credit policy and highly liquid collateral I don’t lose sleep over this swing and we purposely paid down our long-term debt to ensure we average over any period of time a 1:1 debt to EBITDA ratio including both long and short-term debt. I am also, by the way, happy to report that S&P upgraded us in November to DD+ with a stable outlook from DD flat with a negative outlook.
Our other two agencies, Moody’s and Fitch have maintained their investment grade ratings. With that said, Rich I will turn it back over to you.
Rich Daly
Thanks Dan. Let me summarize our fiscal year 2009 guidance on slide 14 as Dan and I have already touched on most of these points.
Our revenue for the year will be in the range of own 3% to flat. This is down from our previous guidance of flat to up 3% as a result of the continuation of unfavorable foreign exchange rates, lower event driven mutual fund proxy revenues and lower distribution fees related to higher notice and access adoption rates.
As I have already mentioned, we are very pleased with the growth in our recurring revenue this year and we expect the operating segments to generate revenue growth in the range of flat to 2%. We still expect our sales plan to be in the range of $160-180 million.
We expect EBIT margin of 16.2% to 17.1%. GAAP EPS of $1.49 to $1.59.
Non-GAAP EPS of $1.45 to $1.55 and a tax rate of 39%. Finally, we expect to generate free cash flows in a range of $210-250 million.
So, on slide 15 before we go into the Q&A part of the call let me leave you with a few thoughts on how I feel about the business as we continue to navigate through these unprecedented times. As you know, the financial services industry is in a crisis.
However, Broadridge is weathering the storm well. The majority of the Broadridge business model continues to be resilient as key recurring revenue metrics remain stable.
Our recurring fee revenue base contributed 2% to overall revenue growth in the first half of our fiscal year and is projected to do better in the second half. Our investor communications business had recurring revenue fee growth of 8% in the first half and is expected to grow 7-11% for the year.
We believe Broadridge has navigated the recent financial services industry consolidations well, to date providing slightly more upside than downside risk. Our unique three tiered securities processing model turned the Lehman loss into a Neuberger Barclays win.
We still have Bank of America/Merrill opportunities and/or risk on the table which we will understand better over the next few months. New consolidations will always create opportunities for us.
[inaudible] remain and are impacting our near to mid-term results as mutual fund proxy event driven activities have slowed and early contract renewals with term extensions are creating greater than planned pricing concessions. These headwinds combined are turning good execution into flat to slightly negative revenue growth.
We remain disciplined and focused on our long-term strategy as we continue to invest in the business with improving our long-term prospects to create greater long-term shareholder value. We will always continue our focused cause management practices that will help drive sustainable margin improvement.
In terms of our acquisition, we will pursue tuck in acquisitions that are strategic investments as opposed to acquiring revenue for the sake of acquiring revenue. However, the new liquidity filters and unsettled valuations have temporarily delayed acquisitions.
The financial services crisis really should create significant long-term opportunities for Broadridge to serve our industry. Our sales pipeline has good momentum with some exciting opportunities and we are closing meaningful business in this pipeline.
We are continuing to expand our market share as we have signed contracts for new business with some of the larger players in our space and positioned ourselves for when the up markets turn. The new administration in Washington we expect will be championing increased transparency for investors and the regulatory oversight of industry participants should increase or should translate into more requirements that Broadridge is best suited to fulfill and the industry cost savings mandates that are being made across the board should bode well for our high functionality, low cost, securities processing solutions which uniquely includes outsourcing.
When the storm subsides and capital returns to the equity markets, Broadridge will be well positioned to be on the high ground. I continue to believe Broadridge is well positioned for the future.
We have a strong recurring revenue base consisting of more than 50% of all of Broadridge’s revenue that historically always grows irrespective of market conditions. In our great communications business this is particularly true.
Our customer satisfaction levels are the highest in our market as noted by the Black book of Outsourcing. Our value propositions are the strongest in our market and we continue to generate new initiatives.
Our cash flow always remains strong and our balance sheet is solid and we have the liquidity we need to execute our strategy. All of this could not be possible without our dedicated and engaged associates.
I want to take this time to personally thank them again. As I said earlier, this is a good time for a trusted and proven partner like Broadridge.
I will now turn the call over for the Q&A part. Dan, Marvin and I welcome your questions.
Operator
(Operator Instructions) The first question comes from the line of Ian Zaffino - Oppenheimer & Co.
Ian Zaffino - Oppenheimer & Co.
I wanted to talk a little bit about new products or potential acquisitions. What are you thinking about in this current environment on the opportunity to introduce new products?
Are there any in particular you are able to introduce to take advantage of what is going on now with customer needs specifically? Or any companies out there that are planning something you would like to offer to your customers?
Rich Daly
First of all, we put a lot of effort into making sure we leave no stone unturned in terms of looking for new activity. So since the spend, the term we internally use is that we have the acquisition fly wheel turning and that we are comfortable we are out there not waiting for something to be delivered to us as a potential sale but going out there looking for products that under our umbrella would perform better.
We feel good about those activities and we have actually uncovered several pieces that are strategic that we feel good about. I am also particularly pleased that these opportunities are proportionally playing out about in the range and sizes of our business meaning we are looking at more things in communications than we are in any other area but we are looking at things across the board.
I said in my comments that the current market environment really has temporarily delayed some of the activities because what we are experiencing is that potential sellers are looking at valuations pre-market crisis and we don’t think that would be in the best interest of our shareholders. We are being very sensitive to that.
At the same time we are encouraged because there absolutely is more opportunity for Broadridge which is so well positioned versus competing prior to the crisis with I’ll call some of the irrational money that was around before the crisis.
Ian Zaffino - Oppenheimer & Co.
Dan, on the CNO business, what type interest rates do we need to see for the business to be profitable? Can it be profitable at these levels and what would you need to do?
Also, on the free cash flow build up can you just go into the working capital changeover a bit as far as what you are assuming for your DSO’s going up or payments, etc.?
Dan Sheldon
Let’s go first to the clearing outsourcing. When we talk about the impact of FX and the margins let’s focus primarily on the FX.
Even if the Fed fund, that has dropped over 400 basis points since we were talking about 18 months ago. So that has driven us down.
Bringing it back up the net new business is what we are primarily focused on. In focusing there and into next year we would hope to see profitability as we exit that year.
If the Fed Funds go up or if our margin balances come up that would absolutely impact us positively. So to put it in perspective, every 25 basis points is just under $1 million of Fed Fund opportunity the top and bottom line.
Going over to the cash flows when you think about our cash flow and you said working capital, I think I have got you pretty right in what we looked at there was we are pretty tight on when we look at how much are we going to spend on CapEx as we talked about…the receivables are the only thing that can drive really the change in the working capital. All the other items in there are pretty stable and we are understanding them and are very comfortable with them.
Did that help?
Ian Zaffino - Oppenheimer & Co.
You said exiting fiscal 2010?
Dan Sheldon
Yes. Exiting because unless I see the Fed Fund rates come up or the margin balances increase we will still have a drag in the first half of next year just by what is happening recently in Q2 with the lowering of the Fed Fund as well as the margins dropping from about $900 million average down to $700 million.
That will impact the beginning of our next year. But again I think what is important is if looking even if those don’t change at the second half of the following year which is FY10, I feel pretty good about it.
Rich Daly
It is also always worthy to mention that without the ridge capabilities we wouldn’t be in the outsourcing business. Again that is the key strategic reason why we are in the clearing business.
Operator
The next question comes from Anurag Rana - KeyBanc Capital Markets.
Anurag Rana - KeyBanc Capital Markets
I am again trying to beat a dead horse about the use of free cash flow. We have seen two quarters in a row with stable business, the guidance of free cash flow goes up and yet we don’t see any announcements regarding any buybacks or any further reduction in debt.
I do understand all the things you talked about on the call but can you give us any more color regarding what is the though process behind not utilizing cash flow at this point?
Rich Daly
First of all, there is only one factor here and that is time. Given the liquidity crisis we decided that we would err on the side of being conservative.
Now that we are at the 1:1 ratio, now that we have our ratings in a more solid position we will look at the opportunities as we go forward to use this cash flow to create shareholder value. I am very excited that we will have that opportunity and we will without question look to increase shareholder value through the use of our cash but I will say that to date I think our conservative view and the management of this free cash flow has served us well in all of our activities.
So, again historically my first choice would be to create profitable revenue and growth and I clarify that on the acquisition side by saying it would be more strategic than going out there to make a big deal for the sake of buying revenue. That likely means we will have even in execution of that strategy successfully we will have cash flow available for dividends and buybacks to be considered as we go forward and we will consider those as we go forward to create the best value for shareholders.
Anurag Rana - KeyBanc Capital Markets
Are the rating agencies giving you any pushback on that? What is their take on given where your EBITDA versus where you debt is at this point?
Dan Sheldon
The rating agencies are happy with our debt to EBITDA and as far as acquisitions they do those if they are right for the business and you have done all your due diligence and you are paying the right kind of prices. They have not had any issue with us on that.
Operator
The next question comes from Tien-Tsin Huang - J.P. Morgan.
Tien-Tsin Huang - J.P. Morgan
The change in the revenue guidance, I just wanted to clarify how much of that is coming from foreign currency versus the respective event driven mutual fund proxies and the distribution fees?
Dan Sheldon
If you think about it, I’ll give you the high and low type of approach here. The low end or what we will call the event driven will be the $10-15 million drag from the last time we spoke.
Post was down about $20-25 million and FX creating about $15-20 million. Net we are the same, down about $50 million on the low end and $75 million on the high end.
Those are the three drivers. When I look at those drivers especially since postage is really primarily the notice and access and that is bringing in extra revenue when you say on the [B] side it is definitely a higher dollar margin, I look at postage, event driven and we all know what can happen with FX at any period of time.
I kind of look forward to the future when it all starts coming back.
Tien-Tsin Huang - J.P. Morgan
On the pricing on the new deals and renewals that you discussed that was pretty clear. I guess what is the impact on margins in the second half?
How could that play out? Are there some offsets there?
Then longer term, or in the mid term, how should we think about pricing playing out as more business comes up for renewal?
Dan Sheldon
I’ll hit the margin piece first. When you think about us talking about concessions you really have to think top line falls to the bottom line.
When you talk about sales coming on you really need to be thinking depending on the type of business anywhere between 25-50% margin. I think the way we really think about now our second half is when we have looked at our ranges we pretty much comprehend what could be our high and low end with respect to concessions, with respect to losses as well as any kind of impact from even the event driven which have higher margins than our normal weaker revenues in investor communications.
The way I just do it, as you are trying to look at your models and that, is take our low end, take the second half, back into the various numbers and then take a look at the SPS business because really it is only the SPS business also that has any real impact from concessions. Again, it is all timing.
You are going to have small concessions one year and large concessions the next year because of contract re-signs when they come up. That is really what we have to deal with.
Rich Daly
Regarding how it is going to play out, this is really going as expected. If you go back and play back the tapes we pretty much addressed everything we are experiencing right now in the past and we talked about potential down markets.
Pricing pressure is always out there and it intensifies in difficult markets. The offsetting good news to that though is that firms are far more willing to consider internal changes to create cost savings.
So in every one of these pricing dialogues we are talking about how other Broadridge products, particularly outsourcing, could help them save significantly more than just getting a price reduction and these are all active, complicated dialogues but in every case dialogues are taking place.
Dan Sheldon
The only other thing I would add to that is we did make a point of pointing out that when we are doing some of these unplanned concessions they are all due to us also taking the clients and extending those contracts which is back to Rich’s point. You extend the contract and you have more option to sell additional business in there.
That I think is a real positive.
Operator
The next question comes from [Stefan Sook] – No Company Listed.
[Stefan Sook] – No Company Listed
First off, on the event driven I think you said in the first half of the year M&A was a little better than you planned. Just over the last few weeks it seems there has been a bit of pick up in M&A and also in maybe some proxy contests and things like that.
Are you factoring any of that into your guidance for the second half or are you just kind of assuming what occurred in the first half kind of continues?
Dan Sheldon
What we are actually doing is we kind of focused a lot on that event driven mutual funds and told you how much it came down but also when I take a look at the contest and special as well as a couple of our other areas where we say the fundamental for interims and some of our pre-sale fulfillment we are actually carrying that forward as a positive into the second half.
[Stefan Sook] – No Company Listed
But you are not assuming it gets any better in the second half, you are just assuming that the out performance in the first half continues?
Dan Sheldon
That is exactly right.
[Stefan Sook] – No Company Listed
You talked about how, and I think this chart is helpful on the conversions, if the sales success continues how it won’t help revenues for quite a while but I seem to recall that you are actually carrying some extra expenses post RBC conversion that were a bit of a drag on profitability and I’m just wondering if you do indeed convert some of these sales does that actually help the margins even though revenues won’t show up until much later?
Rich Daly
First of all let me just address the extra expense side of that. For the majority of the internal people that worked on RBC what we did was we shifted resources from other activities that need to be done and maintenance and other enhancements to focusing on getting that project done.
All of the contract labor that was brought in specifically for that activity was released once the job was complete. So, there isn’t a lot of extra expense floating around per se although as Dan commented we are looking at all discretionary expenses and all expenses overall even more carefully than we normally do.
Dan Sheldon
What I want to say there is what we are going to be doing going forward, the only time you really see any large impact there to the margins is a large deal we would convert. If we ever went into a large deal and said we were going to have to take some of our internal costs and capitalize them I would be very clear with you about how much that would be, how long it would be and what you should expect on an ongoing basis post conversion for anything like that.
I think that is very important. I think we have had some discussions before where that was confusing where we didn’t do that in the past.
[Stefan Sook] – No Company Listed
So just to be clear if you sign some very large deals there might be some capitalizing of expenses in the future that obviously improve margins from a cash perspective don’t really change things?
Dan Sheldon
Yes if you look, by the way, at the cash flow statement you will see that when we talk about change in long-term asset and liabilities you will see that cash being used there but that is exactly right. That is how I relate them.
I say the margin changed but I also talk about the use of cash. Again, this is all GAAP driven as we all know.
[Stefan Sook] – No Company Listed
Lastly, without beating a dead horse, just to point out it seems like net debt at the end of the quarter was $25 million. I know that is benefiting from the fact that the clearing and outsourcing balance sheet was improved but it would seem like within your guidance you will generate even if that balance for the clearing business goes up to $150 million or something like it can or has in the past you will generate that much by the end of June.
So it seems like you are probably on target for the end of the year around this $25-50 million in net debt which seems like you have quite a bit of room on the balance sheet to do a buy back and acquisitions. I know that is more of a statement than a question, but as a shareholder I appreciate that you are conservative but I do agree that you could be maybe a little more aggressive on the buy back going forward.
Phil Daly
Hopefully at the end of the day we will be viewed as conservative and not dumb. We are committed to create value.
We are committed to executing the strategy. We are pretty pleased at where we are positioned right now.
We believe when these markets settle we will be viewed as an organization that is on the high ground in terms of opportunity to execute and use its cash to create value.
Operator
I am showing that we have no further questions at this time. I will now turn the call back over to Mr.
Daly.
Rich Daly
Dan, Marvin and I certainly appreciate your participation. We look forward to speaking to you in the near future and certainly look forward to talking to you about big quarters in the future.
Thanks so much. Have a great day.
Operator
This concludes today’s Broadridge conference call. You may now disconnect.