Disrupting The Teller
IntroductionNCR Corporation (NYSE:NCR) is an old company with a bag of new
BackgroundNCR operates in four segments finance (55% of 2012 sales), retail (29%), hospitality (9.1%), and “emerging” (6.3%). The four segments supply both products and services to end users in banking, retail, restaurants, healthcare, gaming and travel. NCR recently shifted focus from products to highermargin software and services, so margins have expanded and sales have grown as customers recognize the value NCR’s software/services add to traditional physical machines. NCR operates with geographic diversity, obtaining 50% of sales from the Americas (with a major presence in Brazil), 26% from Europe, and 25% from Asia.
NCR’s retail segment offers two primary solutions for customers pointofsale and selfcheckout. Grocers, box stores, and others are beginning to use selfcheckout as a costsaving mechanism and NCR’s solutions are gaining favor. In late 2012, NCR announced a $100 million agreement to place 10,000 selfcheckout units in WalMart (NYSE:WMT) stores in 2013. Sales from selfcheckout now exceed sales of traditional cash registers. NCR’s hospitality segment serves the foodservice and healthcare industries. While offering a range of traditional inventory management solutions, NCR’s mobile strategy provides valueadded features like the ability to order food from a smartphone, potentially before the customer even arrives at the restaurant. If you’ve flown Southwest Airlines (NYSE:LUV) or visited TicketMaster recently, you may have used a virtual ticket rendered on NCR’s software for smartphones.
ATMs are the cash cow at NCR, accounting for over half its annual revenue. In its primary North American market, NCR competes with Diebold (NYSE:DBD) for ATM sales, but Diebold’s ability to compete is constrained by its recent leadership change and deteriorating finances. In 2012, NCR became the largest supplier of ATMs in India, where depositcapable ATM technology has proven popular. In the United States, there are 1,500 ATMs per million people. China has 100 ATMs per million and India has just 50, illustrating NCR’s opportunity for international growth despite its present 30% share of installed ATMs worldwide. Domestic ATM sales were driven by mandatory upgrades in 2011, and early 2012, but NCR beat a tough financial comparison with outsized international growth in late 2012 and early 2013.
NCR has a number of housekeeping matters, having entered Phase 3 of its threepart plan to reduce its pension obligations. By the end of 2014, NCR will lower its pension obligation to $100 million from nearly $700 million at the beginning of 2012. This makes NCR less volatile, less risky, and easier to evaluate as an investor. Further, NCR sold its DVD kiosk segment to RedBox in early 2013, raising money and exiting an unprofitable business.
Catalyst (The Interactive Teller)The APTRA Interactive Teller is the most exciting product in NCR’s promising portfolio. Unlike a traditional ATM that allows withdrawals and (sometimes) deposits while interacting with a computer, NCR’s interactive teller features the ability to videoconference with a bank representative and execute a range of transactions from withdrawals and deposits to wires and money transfers. Since videoconferencing can be centralized, the potential economies of scale for banks deploying APTRA Interactive Tellers is immense. The terminals open the opportunity for 24/7 banking, since a central representative could be available at all times just like a call center.
Financially, there are many reasons for banks to adopt the interactive teller concept. There are also a few good reasons not to do so, which I will address later. The argument for the interactive teller comes down to cost savings on labor and a change in the ways people choose to bank. Those accustomed to the conveniences of mobile and online banking can be forgiven if they haven’t wandered into their local bank branch lately. Though national moneycenter banks have embraced technology to an extent, regional and community banks employ armies of tellers who facilitate customer business via inperson transactions. While technology has made numerous industries more efficient, it has not disrupted the willingness to hire tellers despite declining physical traffic in most bank branches. Tellers, however, are expensive. According to the Department of Labor, the average bank teller makes $25,000 per year with benefits and taxes adding another $10,000 to the annual cost of employment. Thus, each teller processing transactions at your local branch costs an estimated $35,000 annually to employ. Additionally, turnover for lowskill tellers exceeds 30% and turnover costs must be factored into the analysis.
In economics, production results from a mix of capital and labor man and machine. The ideal mix is determined by the price of labor (wages) and the price of capital (interest rate). Firms substitute capital for labor when wages are high, and viceversa when wages are low or rates are high. In the current environment, rates are low and capital is cheap. Further, regulatory developments like the Patient Protection and Affordable Care Act (“Obamacare”) increase the cost of labor by mandating more expensive benefits for employees or penalties. The environment is ripe, economically speaking, for firms to reduce their labor consumption and substitute capital in its place. In banking, this means phasing out rows of traditional tellers, paper, and PCs while replacing them with NCR’s Interactive Teller units. The units boost returns by enabling one bank employee to be multiple places at once, serving more customers than ever before.
At the same time, DoddFrank and other postcrisis regulations loom as specters over the heads of regional and community banks. Documentation from American Banker indicate the minimum asset size required to deal with exploding compliance costs is $1 billion smaller banks simply can’t afford to comply. While the exact numbers are certainly controversial, the inescapable conclusion is that banks will consolidate to spread compliance costs (and lingering Commercial Real Estate risk) over a larger asset base. Stifel Nicolaus (NYSE:SF) recently backed this forecast with its acquisition of KBW, an investment bank specializing in M advice for banks and other financial institutions. If the economy rebounds and directors feel comfortable offering and accepting deals above book value, the bank M market will improve, driving the need for efficiencies like those offered by NCR. The rush to realize synergies after major acquisitions could lead to widespread layoffs of branch employees and adoption of virtual teller solutions.
While the cost of employing lowskill workers combined with regulatory challenges presents a massive tailwind to NCR’s ATM business, there are obstacles. Banking, especially community banking, is a relationship game where customers value personal interaction. Nevertheless, American Banker says these same customers are leaving small banks for regional and national players in disproportionate numbers, drawn by the convenience of advanced online and mobile banking solutions. The mobile generation only came to banking within the last five years, so the way people will
The payoff may be in the offing for NCR, with APTRA Interactive Teller recording 10fold sales growth in the first quarter of 2013. Management guided for fullyear sales of $80100 million in 2013, with volume improving beyond this “test year.” NCR’s management has underpromised and overdelivered for 10 consecutive quarters, but it wasn’t shy about the potential for “branch transformation,” noting the products and associated services could ultimately be larger than NCR’s entire traditional ATM business (55% of sales). NCR has already made some headlines with the new system, partnering with Wells Fargo to place APTRA Interactive Tellers in Well Fargo’s new “neighborhood bank” locations. These advanced new branches use virtual tellers to eliminate the need for a teller row and the associated paper. Wells Fargo can provide a full banking experience in 1,000square feet with fewer employees, saving the bank 50% of its traditional branch expenses. Wells Fargo’s innovative new concept could be complimented by standalone APTRA units in nontraditional locations, all of which have direct video access to a bank employee. WalMart, which has toyed with creation of a banking subsidiary to serve customers, could expand its partnership with NCR to offer APTRA units in place of a full branch, giving WalMart a physical banking presence and freeing store space otherwise devoted to a traditional branch.
ValuationThe reality of a highgrowth business is it can be difficult to value. Scaling up production of APTRA units from $80 million in 2013 to billions of dollars in the future (using management’s most optimistic guidance) creates numerous variables, which must be taken into account. I constructed a fiveyear forecast for each of
ConclusionNCR’s product portfolio is wellpositioned with numerous exciting, useful products. None is more exciting than the APTRA Interactive Teller. A changing landscape for regional banks, unnecessary labor expenses, and low capital costs combine to make APTRA a major disruptor especially for the rows of tellers the machine could replace. Cutting costs for banks hit with a double whammy of low rates and expanded regulation puts the wind firmly at NCR’s back as it pushes for widespread adoption of APTRA. Sales begin in 2013, and will accelerate through 2015, according the management. In my opinion, the prospects for APTRA system could be much brighter and drive meaningful performance above expectations. This is a very longterm investment for those with a two or threeyear horizon, but NCR’s longterm outlook is extremely positive considering its $5.2 billion market valuation. Investors would do well to invest near $30/shr.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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