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Deluxe Corp.’s transformation driven by acquisitions and cost cuts

Lee Schram has had a busy few days marking his fourth anniversary as CEO of Deluxe Corp.

First was the announcement of a $98 million acquisition of Custom Direct, a direct-to-consumer check-printing company and the seventh acquisitions since he joined the Shoreview-based company from a 23-year career at NCR Corp. He capped it off Thursday with a first-quarter earnings release that beat the high end of the company’s own projections by a penny.

Apparently investors and traders like the performance, boosting Deluxe stock (NYSE:DLX) $2.48, or 11.86 percent, to close at $23.39 on nearly 975,000 shares traded, more than two-and-one-half times its average daily volume.

Schram has spearheaded a wholesale transformation of the company beyond its traditional check-printing business and financial services segment, which remain key ingredients in the strategy. Schram and his team are taking the company on an acquisition-fueled expansion of the business portfolio into new areas such as web-hosting and marketing services for small business and direct-to-consumer check writing.

“Lee’s vision is the right one, diversifying beyond the declining check printing business,” said CJS Securities analyst Charles Strauzer, who currently has a “market outperform” rating on the stock.

“The acquisitions make a lot of sense,” he added. Describing the value of the expansion strategy, Strauzer said, “Look at what Intuit has done [providing online services to small business] combined with [Deluxe’s] check and collateral printing businesses.” But he said the company was not “out of the recession woods yet,” predicting that as the economy picks up, Deluxe will benefit.

But the most recent acquisition drew some criticism as well. “From a financial perspective, [the Custom Direct acquisition] is a no-brainer … financially accretive, a  natural fit, makes a lot of sense,” said D.A. Davidson analyst John Kraft. “The problem is, the more you weight the business to paper checks, it makes it that much harder to get top-line growth.”

Nonetheless, Kraft who has a “market neutral” rating on the stock gave Schram and company credit for aggressively taking costs out and stabilizing the company.  “These guys deserve some attention. It’s nice to see some success given the challenges they face,” he said.

But the transformation is not complete, according to Schram. In a teleconference with investors, he discussed brand research that revealed that the highly profitable but declining traditional check-printing business is what people identify with Deluxe.

“They don’t know the breadth of offering” the changing company now offers, he told investors. As a result, Deluxe will launch an advertising campaign to expand awareness of the small business services. The company did not quantify the investment, but said it would hit targeted venues in online, radio and television campaigns.

He also said the company will continue to look for small to midsize acquisitions. And the cost reduction will continue as well. The company said it remains on track to take an additional $65 million of costs out of sales and marketing, manufacturing, distribution and infrastructure this year.

That comes on top of the $260 million the company said it has already taken out since the second half of 2006. With the exception of the general counsel, the senior leadership team members are new to their positions since Schram’s arrival.

While pleased with the strong Q1 performance, and “good progress in transforming Deluxe,” Schram sounded a cautious note going forward. With a soft March, he only expects the economy to improve slightly, telling investors that “key indicators remain unclear.” If his outlook is too conservative, he sees an upside, particularly in the small business segment. 

“Our primary focus is on growing revenue and investing in our future with better products and services offers,” Schram said in a prepared release. “We are playing offense, making positive strategic moves to reposition the Company for sustainable longer-term growth. For the remainder of 2010, we remain focused on stabilizing check revenue, growing business services revenue, and continuing our cost reductions and process improvement initiatives.”

Revenue for the quarter dipped $4.4 million from a year ago to $335.1 million because of “continued economic softness” and “lower order volumes,” according to the company.

But profits jumped substantially, driven by cost-reduction initiatives. Operating profit margin for the quarter hit 20.6 percent, compared with 8 percent a year ago (which was halved by asset impairment charges and restructuring-related costs).

Operating income for the quarter was $69 million, compared with $27.2 million in the first quarter of 2009; fully diluted earnings per share were 65 cents, compared with 24 cents a year ago. The company also reported a $3.4 million charge to income tax expense in the recent quarter because of the impact of recent health care legislation.

Cash flow from operations continued strong, totaling $52.7 million in the quarter. The company projected total cash flow for the year between $195 and $215 million.

Here’s a quick-hit look at Deluxe acquisitions since Lee Schram’s arrival in April 2006:

Custom Direct,
direct-to-consumer checks, $98 million

e-commerce stores, e-mail services, domain name registration, website management for small business, and MerchEngines, search-engine marketing, $30 million for the two companies

, web-hosting for small businesses, $124 million (Canadian)

Logo Mojo, online logo design company, price undisclosed

PartnerUp, online networking community for small businesses and entrepreneurs, price undisclosed

The Johnson Group
, commercial printing, digital printing, web-to-print, $16.5 million

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