FICO(FICO) - 2023 Q4 - Annual Report

Part I Business FICO, a leading applied analytics company, provides credit risk scores and decision management software through its Scores and Software segments General Overview FICO, a leading applied analytics company, provides data-driven insights and the FICO® Score to global businesses and consumers - FICO is a leading applied analytics company serving thousands of businesses in over 100 countries, with a primary focus on enabling intelligent business decisions through software and analytics[18] - The company operates through two main segments: Scores and Software[19] Products and Services FICO offers Scores (B2B FICO® Score, B2C myFICO.com) and Software (pre-configured solutions, FICO® Platform), with strategic migration to the platform - The Scores segment includes B2B scoring solutions, primarily the FICO® Score distributed through consumer reporting agencies, and B2C scoring solutions sold directly to consumers via myFICO.com[37][20] - The Software segment includes pre-configured solutions and the FICO® Platform, a modular software offering for advanced analytics. The company is investing significantly to migrate its software portfolio onto this platform[20][43] FICO® Platform Performance | Metric | Value (as of Sep 30, 2023) | | :--- | :--- | | Annual Recurring Revenue (ARR) | $173.2 million | | Share of Total Software ARR | 26% | - FICO offers professional services including implementation, custom analytics, and strategic advisory to help customers effectively use its software and solutions[66][76][77] Markets and Customers FICO primarily serves the financial services industry (91% of 2023 revenue) and the Americas (85%), with major credit bureaus contributing significantly to Scores revenue Fiscal 2023 Revenue Breakdown | Category | Percentage of Total Revenue | | :--- | :--- | | Financial Services Market | 91% | | Americas Geographic Market | 85% | - Revenues from agreements with Experian, TransUnion, and Equifax collectively accounted for 41% of total revenues in fiscal 2023, up from 39% in 2022 and 38% in 2021[79] - FICO's client base includes three-quarters of the 100 largest U.S. financial institutions, nine of the top ten U.S. property and casualty insurers, and eight of the top ten Fortune 500 companies of 2023[73] Competition FICO faces intense competition in Scores (credit bureaus, VantageScore) and Software (Nice Actimize, Experian, Pegasystems, SAS, IBM), and direct-to-consumer services - In the Scores segment, FICO competes with the three major U.S. consumer reporting agencies (Experian, TransUnion, Equifax), their joint venture VantageScore, and other data providers[92] - In the Software segment, key competitors vary by market and include Nice Actimize, Experian, Pegasystems, BAE Systems, SAS, ACI Worldwide, IBM, Adobe, and Salesforce[93] - For direct-to-consumer services, competitors include Credit Karma, Credit Sesame, Experian, and TransUnion[87] - Principal competitive factors include technical performance, access to proprietary models, product attributes (scalability, functionality), price, and reputation[86] Product Protection and Trademarks FICO protects its proprietary rights through patents, copyrights, trademarks, and trade secrets, holding 196 U.S. patents and 24 trademarks as of September 30, 2023 Intellectual Property Portfolio (as of Sep 30, 2023) | IP Type | Count | | :--- | :--- | | U.S. Patents Held | 196 | | Foreign Patents Held | 23 | | Pending Patent Applications | 69 | | Registered Trademarks (U.S. & Foreign) | 24 | - The company relies on a combination of patents, copyrights, trade secrets, and contractual agreements to protect its intellectual property[88][89] - The U.S. government retains ownership rights and licenses in technologies developed by FICO under government contracts and can make research results public[5] Human Capital Resources As of September 30, 2023, FICO employed 3,455 people globally, with significant presence in the U.S. and India, focusing on engagement, diversity, and competitive compensation Employee Headcount (as of Sep 30, 2023) | Region | Employee Count | Percentage | | :--- | :--- | :--- | | United States | 1,283 | 37% | | India | 1,259 | 36% | | United Kingdom | 270 | 8% | | Total | 3,455 | 100% | - The Board's Leadership Development and Compensation Committee (LDCC) oversees all human capital management policies, including talent, culture, diversity, and compensation[467] - FICO uses quarterly surveys to measure employee engagement, with results driving organizational changes such as expanded benefits (parental leave, well-being programs) and enhanced professional development[447][448] - The company promotes diversity and inclusion through ERGs, targeted recruiting with partners like MLT.org, and mandatory training on unconscious bias and anti-harassment[469][470][471] - Nearly 33% of the workforce participates in the annual performance-based equity program, and an Employee Stock Purchase Plan is offered to promote broader equity ownership[482] Governmental Regulation FICO is subject to complex U.S. and foreign regulations covering data privacy (GDPR, CCPA), consumer credit (FCRA), financial data (GLBA), and increasing scrutiny on AI and algorithms - The company is subject to numerous U.S. and foreign laws concerning consumer protection, data privacy, and cybersecurity, which affect business conduct and product demand[1][2] - Key U.S. regulations include the California Consumer Privacy Act (CCPA) and California Privacy Rights Act (CPRA), which grant consumers privacy rights and established a new enforcement agency. Several other states have enacted similar laws[3] - International regulations like the GDPR in the E.U. and U.K. impose strict obligations on the use of personal data and cross-border data transfers[2] - FICO is also governed by industry-specific laws such as the Fair Credit Reporting Act (FCRA), the Gramm-Leach-Bliley Act (GLBA), and HIPAA, for which it acts as a "business associate" for certain customers[48][54][4] - There is heightened regulatory scrutiny on algorithms and AI, with the European Commission's draft EU AI Act expected to establish new requirements for technologies like credit scoring[97] Risk Factors FICO faces strategic risks from platform adoption and customer concentration, operational risks from cybersecurity and IT failures, and legal/regulatory risks from evolving data privacy and AI laws Business, Market and Strategy Risks FICO faces strategic risks from FICO® Platform market acceptance, heavy reliance on key customers (credit bureaus, banking), U.S. mortgage market dependence, intense competition, and technology protection challenges - The company's strategy to migrate software to the FICO® Platform is a key risk; market unacceptance or volatility in revenue during the transition could harm growth prospects[168][304] - A substantial portion of revenue comes from a few key customers, including the three major U.S. consumer reporting agencies (Experian, TransUnion, Equifax), and the banking industry (91% of FY23 revenue). Loss or change in these relationships could materially harm results[306][290][507] - A significant portion of Scores revenue depends on the use of the FICO® Score by Fannie Mae and Freddie Mac in the U.S. mortgage market. If other scores are approved or FICO's is not, it could have a material adverse effect[521] - The company faces intense competition from in-house developers, other scoring model builders (like VantageScore), and large software companies, many of whom have greater resources[510][520] - Failure to protect proprietary technology through patents, copyrights, and trade secrets could harm the business, and litigation to enforce these rights could be costly[531][533] Operational Risks FICO faces operational risks from cybersecurity threats, IT system failures, challenges in recruiting and retaining skilled personnel, and dependence on obtaining reliable data from partners - The company is a routine target of sophisticated cybersecurity threats. A compromise of its systems could lead to unauthorized data access, reputational damage, and significant liabilities[536][541] - Business interruptions or failures of IT and communication systems, including those of external service providers, could interrupt product availability and adversely affect business and financial condition[543][544] - The failure to recruit and retain qualified personnel, particularly in competitive technical fields like data science and software engineering, could hinder business management and growth[545][556] - The business depends on obtaining reliable and statistically relevant data from customers and partners. A failure to maintain these data sourcing relationships could harm product development and effectiveness[557] Legal, Regulatory and Compliance Risks FICO faces significant legal and regulatory risks from evolving data privacy (GDPR, CCPA), consumer protection (FCRA), and AI/algorithm laws, leading to high compliance costs and potential infringement claims - The company and its customers are subject to numerous complex laws and regulations globally, including those related to data privacy (GDPR, CCPA), consumer protection (FCRA, UDAAP), and fair lending[558][547] - There is an increased regulatory focus on the use of AI, machine learning, and algorithms, with the draft EU AI Act expected to impose new requirements on products like credit scoring[551][552] - The costs of compliance with these regulations are significant, and any failure to comply could lead to fines, penalties, and reduced demand for FICO's solutions[553] - FICO may be subject to intellectual property infringement claims, which could result in significant defense costs, substantial damages, or the need to license or redevelop technology[584][585][562] Financial Risks FICO faces financial risks from long and variable sales cycles in Software, making revenue forecasting difficult, and Scores revenue dependence on macroeconomic conditions, leading to fluctuating quarterly results - The Software segment has long and variable sales cycles (sometimes over a year), making it difficult to predict the timing of sales and leading to fluctuations in quarterly revenue[566] - Scores segment revenue depends heavily on macroeconomic conditions, especially transaction volumes in the U.S. mortgage and credit card markets, which are hard to forecast[116] - Quarterly financial results and key metrics fluctuate, making period-to-period comparisons unreliable and future results difficult to predict, which could cause the stock price to decline[567] General Risk Factors General risks include adverse tax law changes, stock price fluctuations due to market conditions, and anti-takeover provisions that could deter acquisitions - Changes in tax laws or adverse outcomes from income tax examinations could negatively affect results of operations[119] - The company's stock price has been and will likely continue to be subject to fluctuations, which may be unrelated to operating performance[592] - Anti-takeover defenses, such as the ability to issue preferred stock without stockholder approval, could make it difficult for another company to acquire control of FICO[569] Unresolved Staff Comments The company reports no unresolved staff comments - Not applicable[570] Properties FICO's headquarters are in Bozeman, Montana, with various leased office facilities globally for corporate, sales, R&D, and data center operations - The Company's headquarters are in Bozeman, Montana, and it leases office facilities in various locations for its operational needs[593] Legal Proceedings The company reports no material legal proceedings - Not applicable[572] Mine Safety Disclosures This item is not applicable to the company - Not applicable[595] Part II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities FICO's common stock trades on the NYSE, with no cash dividends since 2017, and a $500 million share repurchase program with $120.5 million remaining as of September 30, 2023 - The company's common stock trades on the NYSE under the symbol FICO[597] - FICO has not paid cash dividends since May 2017 and does not plan to in the foreseeable future[123] Issuer Purchases of Equity Securities (Q4 FY2023) | Period | Total Shares Purchased | Average Price Paid per Share | Shares Purchased as Part of Publicly Announced Program | Max Dollar Value Remaining Under Program | | :--- | :--- | :--- | :--- | :--- | | Jul 2023 | 48,412 | $821.21 | 47,500 | $197,895,136 | | Aug 2023 | 52,563 | $864.13 | 52,000 | $152,950,805 | | Sep 2023 | 36,000 | $900.13 | 36,000 | $120,546,951 | | Total | 136,975 | $858.42 | 135,500 | $120,546,951 | Reserved This item is reserved - Item 6 is reserved and contains no information[578] Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A) In FY2023, FICO's revenue grew 10% to $1.5 billion, with operating income up 19% to $642.8 million, driven by Scores and Software segment growth and platform strategy success Business Overview In FY2023, FICO focused on FICO® Score 10 adoption and cloud-first software strategy, achieving 10% revenue growth, 19% operating income increase, and $407.3 million in share repurchases - Strategic focus in fiscal 2023 included promoting adoption of FICO® Score 10 and 10 T, and advancing the platform-first, cloud-delivered strategy for the Software segment[580][631] Fiscal 2023 Financial Highlights | Metric | FY 2023 | % Change vs FY 2022 | | :--- | :--- | :--- | | Total Revenue | $1.5 billion | +10% | | Operating Income | $642.8 million | +19% | | Net Income | $429.4 million | +15% | | Diluted EPS | $16.93 | +19% | | Software Segment ARR | $669.4 million | +22% | | Software Segment DBNRR | 120% | N/A | - The company returned $407.3 million to stockholders through share repurchases during fiscal 2023[604] Results of Operations In FY2023, total revenues grew 10% to $1.51 billion, with both Scores and Software segments contributing, leading to a 19% increase in operating income to $642.8 million and a 42% operating margin Consolidated Revenue by Segment (in thousands) | Segment | FY 2023 | FY 2022 | % Change | | :--- | :--- | :--- | :--- | | Scores | $773,828 | $706,643 | 10% | | Software | $739,729 | $670,627 | 10% | | Total | $1,513,557 | $1,377,270 | 10% | - Scores segment revenue growth was driven by a $85.6 million increase in B2B revenue due to higher unit prices, partially offset by an $18.4 million decrease in B2C revenue[639] - Software segment revenue growth was due to a $75.4 million increase in on-premises and SaaS revenue, primarily from SaaS growth, partially offset by a $6.3 million decrease in services revenue[140] Consolidated Operating Results (in thousands) | Line Item | FY 2023 | FY 2022 | % Change | | :--- | :--- | :--- | :--- | | Total Revenues | $1,513,557 | $1,377,270 | 10% | | Total Operating Expenses | $870,727 | $834,856 | 4% | | Operating Income | $642,830 | $542,414 | 19% | | Net Income | $429,375 | $373,541 | 15% | - Scores segment operating income increased by $61.7 million (10%), while Software segment operating income increased by $58.1 million (32%)[150][657] Capital Resources and Liquidity As of September 30, 2023, FICO had $136.8 million in cash. Operating cash flow was $468.9 million, a decrease from prior year, mainly due to non-cash items and working capital. Financing cash outflow decreased due to lower stock repurchases. The company's debt includes a revolving line of credit, a term loan, and $1.3 billion in Senior Notes. Management believes current cash, available credit, and operating cash flows are sufficient to fund needs for the foreseeable future Summary of Cash Flows (in millions) | Activity | FY 2023 | FY 2022 | | :--- | :--- | :--- | | Net Cash from Operating Activities | $468.9 | $509.5 | | Net Cash used in Investing Activities | ($16.0) | ($5.7) | | Net Cash used in Financing Activities | ($455.0) | ($547.2) | - The decrease in operating cash flow was mainly due to a $68.9 million decrease in non-cash items and a $27.5 million decrease from working capital timing, partially offset by a $55.8 million increase in net income[153] - The decrease in financing cash outflow was primarily due to a $698.7 million reduction in common stock repurchases[155] - As of September 30, 2023, the company had $300.0 million outstanding on its revolving line of credit and a $273.8 million balance on its term loan[694] Critical Accounting Policies and Estimates FICO's critical accounting policies involve significant judgment in revenue recognition, goodwill impairment, income taxes, share-based compensation, and contingencies, relying on complex estimations and forecasts - Revenue recognition requires significant judgment in identifying distinct performance obligations, allocating transaction prices based on standalone selling prices (SSPs), and estimating variable consideration in SaaS contracts[698][161][700] - Goodwill is assessed for impairment annually at the reporting unit level (Scores and Software). For fiscal 2022 and 2023, a qualitative analysis concluded that it was not more likely than not that the fair value of either reporting unit was less than its carrying amount[163][177] - Income tax accounting involves significant judgment in estimating tax provisions, assessing deferred tax assets, and evaluating uncertain tax positions[179][673][705] - Share-based compensation is measured at fair value on the grant date using models like Black-Scholes and Monte Carlo, which require assumptions about stock volatility, employee turnover, and other factors[165] Quantitative and Qualitative Disclosures About Market Risk FICO is exposed to market risk from interest rate changes on its variable-rate debt ($573.8 million as of Sep 30, 2023) and foreign exchange rate fluctuations, managed with short-term forward contracts - The company is exposed to market risk from changes in interest rates and foreign exchange rates and does not use derivative instruments for speculative purposes[181] - Interest rate risk affects the company's variable-rate debt, which includes the revolving line of credit and term loan. As of September 30, 2023, borrowings of $300.0 million under the revolver and $273.8 million under the term loan were subject to variable interest rates[742] - FICO uses short-term foreign currency forward contracts (maturities < 3 months) to manage exchange rate risk on foreign-currency-denominated receivables and cash balances[709][241] Financial Statements and Supplementary Data This section presents FICO's audited consolidated financial statements for FY2021-2023, with an unqualified auditor's opinion, highlighting revenue recognition as a Critical Audit Matter, and detailed notes on accounting policies and financial data Report of Independent Registered Public Accounting Firm Deloitte & Touche LLP issued an unqualified opinion on FICO's financial statements and internal controls, identifying Revenue Recognition as a Critical Audit Matter due to its complexity - The auditor, Deloitte & Touche LLP, issued an unqualified opinion on the financial statements and the effectiveness of internal control over financial reporting[680] - A Critical Audit Matter (CAM) was identified concerning Revenue Recognition for Contracts with Customers. This was due to the complexity and significant auditor judgment required to audit the identification of performance obligations and the estimation of variable consideration[187][716] Consolidated Financial Statements FICO's consolidated financial statements show total assets of $1.58 billion, total liabilities of $2.26 billion, and a stockholders' deficit of $688.0 million as of Sep 30, 2023, with FY2023 net income of $429.4 million Consolidated Balance Sheet Highlights (as of Sep 30, 2023, in thousands) | Account | Value | | :--- | :--- | | Cash and cash equivalents | $136,778 | | Total Assets | $1,575,281 | | Long-term debt | $1,811,658 | | Total Liabilities | $2,263,271 | | Total stockholders' deficit | ($687,990) | Consolidated Income Statement Highlights (FY 2023, in thousands) | Account | Value | | :--- | :--- | | Total Revenues | $1,513,557 | | Operating Income | $642,830 | | Net Income | $429,375 | | Diluted EPS | $16.93 | Consolidated Cash Flow Highlights (FY 2023, in thousands) | Activity | Value | | :--- | :--- | | Net cash provided by operating activities | $468,915 | | Net cash used in investing activities | ($15,954) | | Net cash used in financing activities | ($455,001) | Notes to Consolidated Financial Statements The notes provide detailed explanations of accounting policies and financial data, covering revenue recognition, segment information, debt instruments, and share-based compensation Changes in and Disagreements with Accountants on Accounting and Financial Disclosure This item is not applicable as there were no changes in or disagreements with accountants on accounting and financial disclosure - Not applicable[430] Controls and Procedures Management concluded that the company's disclosure controls and internal control over financial reporting were effective as of September 30, 2023, with no material changes identified - Management, including the CEO and CFO, concluded that the company's disclosure controls and procedures were effective as of September 30, 2023[449] - Based on an evaluation using the COSO framework, management concluded that the company's internal control over financial reporting was effective as of September 30, 2023[431] - No changes in internal control over financial reporting occurred during the quarter ended September 30, 2023, that have materially affected, or are reasonably likely to materially affect, these controls[402] Other Information No directors or officers adopted, modified, or terminated any Rule 10b5-1 trading plans or non-Rule 10b5-1 trading arrangements during Q4 FY2023 - No directors or officers adopted, modified, or terminated any Rule 10b5-1 trading plans or other trading arrangements during the fourth quarter of fiscal 2023[491] Disclosure Regarding Foreign Jurisdictions that Prevent Inspections This item is not applicable to the company - Not applicable[452] Part III Directors, Executive Officers and Corporate Governance This section provides information on FICO's directors and executive officers, including CEO William J. Lansing and CFO Steven P. Weber, and details on the company's Code of Ethics and Code of Conduct - Information regarding directors, executive officers, the audit committee, and compliance with Section 16(a) is incorporated by reference from the company's 2024 Proxy Statement[434][408][505] - FICO has adopted a Code of Ethics for Senior Financial Management and a Code of Conduct and Business Ethics for all employees, which are available on its website[456] Executive Compensation The required information on executive compensation is incorporated by reference from the company's 2024 Proxy Statement - The required information is incorporated by reference from the information under the captions "Director Compensation for Fiscal 2023" and "Executive Compensation" in the 2024 Proxy Statement[492] Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters The required information on security ownership by certain beneficial owners and management is incorporated by reference from the company's 2024 Proxy Statement - The required information is incorporated by reference from the information under the caption "Security Ownership of Certain Beneficial Owners and Management" and "Executive Compensation Plan Information" in the 2024 Proxy Statement[437] Certain Relationships and Related Transactions, and Director Independence The required information on certain relationships, related party transactions, and director independence is incorporated by reference from the company's 2024 Proxy Statement - The required information is incorporated by reference from the information under the caption "Certain Relationships and Related Persons Transactions" in the 2024 Proxy Statement[516] Principal Accountant Fees and Services The required information on principal accountant fees and services is incorporated by reference from the company's 2024 Proxy Statement - The required information is incorporated by reference from the information under the caption "Ratification of Independent Registered Public Accounting Firm" in the 2024 Proxy Statement[457] Part IV Exhibits and Financial Statement Schedules This section lists the financial statements and exhibits filed with the Annual Report on Form 10-K, including consolidated financial statements and various agreements - This item lists the consolidated financial statements and all exhibits filed with the 10-K[506] - All financial statement schedules have been omitted because the required information is not applicable or is included in the consolidated financial statements and related notes[458] Form 10-K Summary No summary is provided in this section of the report - None provided[759]