WEX Inc. (WEX) Earnings Call Transcript

Welcome back, everybody, to the final panel that we have today. We are welcoming Steve Elder, SVP of Global Investor Relations at WEX. Steve, thanks so much for being here. I always appreciate it.

Thank you, Ramsey. Appreciate it.

Great to see you. Let's dive right in here with your largest segment, Mobility. Last year, there was some knock-on effects of the freight recession. And I think you guys tightened the credit box around the smaller fleets. Where are we at in terms of sort of cycling those impacts? That's the first question. I have another follow-up. Where are we at?

I mean the over-the-road trucking market, the freight market certainly has had a lot of ups and downs in the last few years, starting with all the goods that you and I were buying during the pandemic and that led to a massive increase in shipping demand that as the world opened back up, inevitably led to a massive decline in shipping demand, right? And so we kind of went through that boom and bust cycle. I think right now, the freight market is pretty steady, I'd say. You can see it in the spot rates that people charge. You can see it in -- we can see it in our activity. I think this is the first quarter in [ 5 ], I think it was, that we actually were positive in terms of the gallons that our over-the-road trucking customers purchased. It wasn't a lot, but it's certainly on the right side of 0. So that's good. So we think we've kind of stabilized at fairly low levels, but stable being kind of the key word. And no real insight versus anybody else as to one that's going to pick up. I mean we can read the same commentary from trucking from our customers that anyone else can read. But they're optimistic, but it hasn't seemed to kind of happen yet. So we're waiting for that day as well.

Sometimes I get questions from investors about WEX, trying to understand the relationship between freight prices and the freight pricing environment and the performance of public freight dollars and your volumes. I always sort of think like the freight's got a rule no matter what the price is, but how should we think about the correlation or the relationship between those 2 things?

I would say it's not a perfect correlation, right? I mean there's a spot market out there for trucking rates, and that spot rate will kind of imply supply and demand in the marketplace, right? So during the pandemic when there's this huge demand, the rate went up and then it came back down. Those rates don't really have any direct impact on us. You could maybe potentially read through them as like an overall supply and demand balance. But I don't want to sound callous about it or anything, but if a trucking company moves goods, driving those miles is what we care about, right? That's what's going to drive our volume in our revenue. And then it doesn't matter whether they make $1 on that or $100 on that mileage that they drive. So as long as they can pay their bill, we all want a healthy industry, but the rate itself doesn't have any direct impact on this. There's a little bit of -- in our trucking customer base, we do a little bit of factoring. So that spot rate would have a little bit of impact on our factoring business because we get a percentage of that. But that's -- it's a small part of the overall. So really no direct impact from that.

And contrast your mobility customer base today versus, let's just say, pre-pandemic, how has it changed? Or has it changed?

I would say it's almost like the more things change, the more they stay the same. If I think back to post the EFS acquisition in 2016 ,so call it 2017, '18, we've been running at around 30% of segment revenue, it's been over-the-road trucking related. I think we were 28% to 29% in Q1, right? I mean during the pandemic, that went up into the low 30s, I'll say, but it actually hasn't really moved that much. We're bigger. We're doing more volumes, but it hasn't really translated into a much different mix. It's all kind of growing at roughly the same kind of rates.

Yes. Interesting. It is.

It is interesting, right?

The more things change.

Yes, exactly.

Rates have also changed quite a bit over the last couple of years. And you guys have kind of messaged that there's essentially some built-in hedges in the model, now that kind of helped to neutralize that impact. Maybe and broad strokes, what are the puts and takes in your business when it comes to impact of rates?

Yes. Interest rates are a fairly complex topic for us on the fleet, right? So I'll say there's 4 areas of kind of puts and takes. So on the -- I'll say, on the positive side or on the positive revenue side, at least, higher rates means we get more from our HSA cash deposits that we've invested. So that's positive for revenue. We get higher interchange rates, right? We have these interest rate escalator clauses in our number of our Mobility contracts with merchants that say, "This kind of before on a ceiling level, and we're well above the floor levels now with all the interest rate increases we've had." So as rates go up, once they reach that floor level, these rates have gone up. We've been able to increase the interchange rate that we charge, which eventually some day, rates will come back down and those rates will come back down a little bit, but it's kind of designed to offset the operating interest cost, which is kind of the third component of the first on the downside. We have carrying costs, working capital costs on our Mobility customers mostly, but also a little bit on our Corporate Payments side. And so that's a negative interest rate rise. And then we've got our fixed -- our corporate structure debt, which is all floating rate. When you take all 4 of those pieces and throw them into the mix, and we kind of do the analysis on a monthly basis, but when you look at absolute interest rate levels, what's in the HSA portfolio and what's fixed versus floating, what's in the broker deposits at WEX Bank, how much of that is maturing or being renewed, how much of the corporate structure debt is all floating, right? So that's a pretty easy one. But when you put it all together, there's segment impacts on the revenue side, which can lead to margin impacts. But at the net income level, it's actually pretty immaterial. And that's by design, right? Well, if we get to a point where one side outweighs the other, we'll make some more fixed or make some more floating to kind of balance it out. But that's the long-term idea is we want to be fairly neutral to changes in interest rates.

And let me ask you a couple of questions on the credit side of things. I think you guys signaled in Q2, there was a little bit of a tick up in Mobility credit losses. Maybe talk a little bit more about the trends you saw in early Q2 that led to this guidance. Sort of give it some context for us.

Yes. So if I back up for almost all -- I mean, 99% of our Mobility customer transactions, from the day the transaction occurs, we either collect the downs or we charge it off in 6 months. But there's nothing in our portfolio that is more than 6 months past due. And so we start -- when we set our reserve levels, the reserve on our balance sheet is intended to cover those charge-offs in that AR base for that -- on that day. So that's basically 6 months of charge-offs. And so that's what we're trying to project when we do our models for forecasting. What we're seeing right now is we've got this little bubble, I'll say, of charge-offs coming through. It's not alarming, it's not unusual and just a little bubble that's going to add a couple of basis points to the -- to kind of a more, I'll say, the normalized rate, if you will. And then we expect it to be right back in our normalized ranges if you look at our full year guidance. So it's something that we knew about and we saw it coming. We didn't have a big panic moment in late March or April or something like that, that said, "Oh, no, we got to adjust things in Q2." We knew it was common. We didn't change our guidance for the year for credit losses, and I don't expect it's going to have much of an impact. Just a little bubble coming through.

And I guess more broadly speaking on the credit box, I guess, how frequently -- how nimble are you guys in terms of opening and closing the credit box? And I think it's also a question that's a little more longer duration in terms of, is there sort of -- I mean, evidently, there probably would be a longer sort of cyclical [ layer ] related to the credit box when times are good, maybe the box starts to creep up a little more. Maybe 2 slightly separate questions a little bit, I guess.

We try not to make frequent changes. I mean, obviously, we have our own proprietary scoring models and those split out a number and above that number, you get approved and below that number, you don't. And we can move that number quite easily, but we, I'd say, generally speaking, don't move it intentionally. We clearly did a year ago, right? If you rewind the clock, ending with Q1 of last year, those 12 months were I think the highest loss rate 12-month period of time we've ever had. Part of that was a little bit of fraud, but part of that was just over-the-road trucks. We were in really bad shape and we took a lot of losses. So we tightened up things quite a bit. We did everything you can imagine, right? We tightened the standards for who we would underwrite going forward. We reduced credit lines. We increased the frequency of payment terms. We asked for cash security. We did all kinds of stuff. And we haven't reversed necessarily any of those things at this point. We've left those policies in place. But what I will say is we're using more data tools, like machine learning, essentially to say this customer scored whatever X on our credit profile, and if you look at all the people in that kind of box, who performed well and who didn't perform well. And one of the characteristics of those people that did perform well versus not, and can you approve more of those guys. So we didn't actually change any kind of cut-off levels. But there's -- if you go a layer deeper and get a little more granular, which we're looking at tens of thousands of applications in a month and 600,000 customers in our customer base in the U.S. today in Mobility, you can -- it's hard for an individual to get a lot deeper, right? So -- but with the machine learning, you can actually do that, get to a much more granular level. So we're using that to try and improve things. But we haven't -- like I said, we haven't rolled back any of the policies that we put in place.

That's interesting. So there's still sort of always ongoing work to kind of tune the models and you know...

Yes, they're tuned frequently. I mean every customer in our portfolio is rescored every month, and that may or may not make or necessitate any changes, but we'll make changes fairly frequently to people's credit lines. If fuel prices go up, we'll likely look and see who's a good credit risk and add to their credit lines proactively so they don't have to contact us and vice versa. If first fuel prices go down, we'll do the same thing. And we'll just ratchet it down a little bit to kind of manage the risk.

Changing channels entirely. Electric vehicles, that's something -- the narrative there is, there was quite a bit of discussion about it. I think it's kind of settled down. You guys have made great progress. I think convincing people that you can be a part of the evolving electric vehicle payments value chain. I think there was -- I remember a moment in time when people thought that, that was going to be a free transaction somehow because you could plug your Tesla into your garage and that meant that you could -- anything, you can charge up as well. Give us some color on where you are in this sort of EV journey. What types of things you're doing to make sure that you stay in the mix as the world evolves?

The first thing I'd say is, if I think about the investor interest, it is clearly waned as Tesla stock prices come down or deliveries of EVs have come down. But from our customers' perspective, it's been pretty steady, right? It was never maybe quite as high as investor interest was, call it, a year ago. And it's not as low as investor interest is now, right? There's mandates out there. There's companies who have made promises, right? Most of the interest in our customer base is coming from larger organizations that have made promises, let's say, around their carbon neutrality or a government organization where they just want to do those things. And not to mention like individual states that have said by X state, we'll have to transition or things like that. And those can always change, but our customers are wanting to be prepared. So when you think about EVs, right, I think the narrative initially was charging is cheaper than gasoline, so Lexus revenue is going to go away. And we actually see it very, very differently from that, right? This is introducing a lot of complexity into the fleet operators' daily life, right? So oftentimes they'll ask, "Does anyone have an EV. And what do you do when you're going on a long trip." And generally, the answer is like, "Take my other car, right?" And if you start thinking about that in terms of like, what's the complexity in a fleet that has hundreds of vehicles? And how do you manage that, right? That fleet manager's job is a lot harder. There's 3 different ways that we've imagined, at least to charge a fleet. You can go to the public locations kind of like a gas station and today, you can use the WEX app to do that. So effectively, we have 80-ish, 80%, 85% of all the charging locations in the U.S., you can use the WEX product there. You can have your employee bring it home, plug it into your garage, and hopefully, you got a level 2 charger there. But we can calculate how much electricity is used and reimburse the employee for that amount. Take all the data about from that transaction and bring it back into your systems. So that's a really powerful tool so that the fleet manager still knows what's the efficiency of this. The employee doesn't have to pay for it, right? And then later this year, we'll roll out what we call more of a depot functionality, but a company building out their own infrastructure. They build out whatever it is, [ 20 lots ] to charge vehicles. And there, it's much more about power management and the data integration and things like that. There's no kind of money movement. But all of this is like added complexity for that fleet manager. And at least in this medium term here, that's opportunity for us, right? We see this as potentially higher revenue per vehicle compared to what we earn today from all this complexity. And then once you get beyond charging, there's a massive pipeline of adjacent opportunities or kind of near-term products that you can imagine. You can do ESG reporting. You can build out a reservation system so that when you pull into this public charging location, there's actually one available. You can calculate what's the range going to be on that vehicle and kind of consult with people to say, for this vehicle and the route it drives and the function it performs, it's a good candidate for an EV or not and kind of help people through that transition. So all of this is like kind of in play. WEX's made a lot of investments in the area. We haven't slowed down much or at all at this point. So it's an area that we think is going to come, but it is a long transition, very long transition. We're still very, very early. As early as it feels from a consumer perspective, it is far earlier from a commercial perspective.