NCR Corporation reported financial results for the three months ended June 30, 2018. Second quarter highlights include:

• Revenue of $1.54 billion, down 4% as reported

• Software revenue up 1% driven by cloud revenue growth of 7%

• GAAP diluted EPS of $(1.31); Non-GAAP diluted EPS of $0.65

• Services revenue up 4% and gross margin expansion of 70 basis points

• Additional $200 million share repurchase authorized

• Guidance reduced for full year 2018

“Second quarter results were mixed and given current execution challenges we are lowering our full year outlook,” said Michael Hayford, President and Chief Executive Officer. “I spent my first ninety days engaging with customers and employees around the world and am excited about our long-term growth profile. We are taking a number of steps to address current challenges with the goal of accelerating our growth and driving improved utilization of our resources. We added new members to our executive leadership team and made other organizational changes that are focused on improving the quality and delivery of our solutions, simplifying our business, and putting a greater focus on customer voice and success."

Hayford continued, “NCR’s business model is sound and is supported by our global scale and ability to power transactions across multiple attractive markets. We will continue to lead with compelling software and services offerings that drive competitive advantage, diversify our revenue streams, and develop customer loyalty, while streamlining our costs. Execution of this strategy and building upon our global leadership will best position NCR to deliver sustainable shareholder value creation. Our focus on innovation will continue, but in the near term our priority will be on resolving our execution challenges.”

In this release, we use certain non-GAAP measures, including presenting certain measures on a constant currency basis. These non-GAAP measures include free cash flow and others with the words “non-GAAP," or "constant currency" in their titles. These non-GAAP measures are listed, described, and reconciled to their most directly comparable GAAP measures, under the heading "Non-GAAP Financial Measures" later in this release.

Second Quarter 2018 Operating Results

Revenue

Second quarter revenue of $1.54 billion was down 4% year-over-year. Foreign currency fluctuations had a favorable impact on the revenue comparison of 1%.

The following table shows the revenue by segment for the second quarter:

Software revenue was up 1% driven by cloud revenue growth of 7%. Software license revenue declined 12% primarily due to lower Hardware sales and unattached software licenses.

Services revenue was up 4% driven by hardware maintenance and implementation services growth, as well as continued momentum in managed service offerings.

Hardware revenue was down 16%. ATM revenue declined 21% primarily due to supply constraints related to higher than expected demand for new products. ATM orders increased for the second consecutive quarter, which is expected to drive improved revenue performance in the back half of the year. SCO revenue increased 3% due to the timing of customer roll-outs. POS revenue decreased 16% in the quarter compared to growth of 18% in the prior year, which benefited from several large customer roll-outs.

Gross Margin

Second quarter gross margin of $403 million was down from $461 million in the prior year period. Gross margin rate was 26.2%, down from 28.9%. The decrease in gross margin was primarily due to $41 million of costs incurred related to our restructuring and transformation initiatives. Second quarter gross margin (non-GAAP) of $449 million was down from $477 million in the prior year period. Gross margin rate (non-GAAP) was 29.2%, down from 29.9%. The decrease in gross margin (non-GAAP) was primarily due to lower software license and Hardware revenues, offset by continued focus on productivity improvements in our Services segment.

Expenses

Second quarter operating expenses of $509 million increased from $286 million in the prior year period. The increase in operating expenses (GAAP) was primarily due to $183 million of asset impairment charges described below and $25 million of costs incurred related to restructuring and transformation initiatives. Second quarter operating expenses (non-GAAP) of $284 million increased from $265 million. The increase in operating expenses (non-GAAP) was due to continued investment in the business to improve execution.

Operating Income

Second quarter loss from operations of $106 million decreased from income from operations of $175 million in the prior year period. The decrease in income from operations was primarily due to $183 million of asset impairment charges described below and $66 million of costs incurred related to restructuring and transformation initiatives. Second quarter operating income (non-GAAP) of $165 million decreased from $212 million. Operating income (non-GAAP) reflected lower software license and Hardware revenue and continued investment in the business, partially offset by continued Services margin expansion.

Other (Expense)

Second quarter other (expense) and other (expense) (non-GAAP) of $50 million increased from $45 million compared to the prior year period.

Income Tax Expense

Second quarter income tax benefit of $12 million decreased from expense of $33 million compared to the prior year period. The second quarter effective income tax rate was 8% compared to 25% in the prior year. Second quarter income tax expense (non-GAAP) of $18 million decreased from $45 million in the prior year period. The second quarter effective income tax rate (non-GAAP) was 16% compared to 27% in the prior year. Income tax expenses decreased due to lower income before taxes in the quarter, favorable audit settlements and the impact of U.S. Tax Reform.

Net Income from Continuing Operations Attributable to NCR

Second quarter net loss from continuing operations attributable to NCR of $143 million decreased from net income of $97 million in the prior year period. Second quarter net income from continuing operations attributable to NCR (non-GAAP) of $97 million decreased from $122 million in the prior year.

Cash Flow

Second quarter cash provided by operating activities of $119 million increased from cash provided by operating activities of $95 million in the prior year period. Free cash flow was $27 million in the second quarter of 2018 as compared to $18 million in the second quarter of 2017. The increases were due to working capital improvements, primarily in accounts receivable.

Non-Cash Charges

In the second quarter of 2018, the Company recorded pre-tax asset impairment charges of approximately $183 million due to expected lower operating performance of the Hardware business. These non-cash charges included a $146 million pre-tax impairment of goodwill assigned to the Hardware operating segment, for which no goodwill remains after this impairment, and a $37 million pre-tax impairment charge related to long-lived assets held and used in our Hardware operations.

Restructuring and Transformation Initiatives

Our previously announced restructuring and transformation initiatives continue to progress on track. In Services, our Mission One performance and profit improvement program continues to deliver revenue growth and margin expansion. In Hardware, we are moving to a more variable cost structure by reducing the number of manufacturing plants and increasing the use of contract manufacturers. We will continue to manage our costs and seek to capture operational efficiencies, as part of the normal course of business.

As part of these initiatives, in the second quarter of 2018 we incurred a $66 million pre-tax charge and $22 million of cash payments. In the six months ended June 30, 2018, we incurred a $82 million pre-tax charge and $36 million of cash payments. Our outlook remains unchanged and we still expect to incur a pre-tax charge over the next two years in the range of approximately $200 million to $250 million, with $100 million to $150 million in 2018, which will be included in income from operations. The cash impact is still expected to be approximately $150 million to $200 million over the next two years, with $100 million in 2018. We plan to achieve run-rate savings of approximately $150 million per year by 2020. The estimate of the pre-tax charges and cash impact has been included in our 2018 GAAP diluted earnings per share and free cash flow guidance.

Share Repurchase Program

NCR has repurchased shares of its common stock for approximately $45 million in the second quarter and $210 million in the first half of 2018 of the previously authorized $300 million share repurchase program.

Additionally, on July 25, 2018, the Company’s board of directors authorized an incremental $200 million of share repurchases. The timing and amount of any repurchases under the program will depend upon market conditions and will be made at the Company’s discretion. Repurchases under the program may be made from time to time in the open market, private transactions, accelerated stock repurchase programs, issuer self-tenders or otherwise, and may be discontinued at any time.

Full Year 2018 Outlook

We are reducing our full year 2018 guidance. The execution challenges surrounding product introductions, including supply chain constraints, is negatively impacting our revenue and costs versus our previous expectations. We are focused on improving execution in the current year to benefit 2019. Foreign currency has negatively impacted our revenue guidance by approximately $90 million and non-GAAP diluted earnings per share by approximately $0.08 from the previous quarter guidance. We now expect revenue growth to be (1)% to (3)%, (previous guidance of 0% to 3%). In addition to foreign currency, we have experienced softness in our Hardware revenue and to a lesser extent in our Software business, primarily due to execution challenges. Our view of ATM revenue growth is unchanged at roughly flat for the year and is supported by strong backlog.

GAAP diluted earnings per share is now expected to be $0.07 to $0.65 (previous guidance of $2.08 to $2.48), and non-GAAP diluted earnings per share to be $2.55 to $2.75 (previous guidance of $3.30 to $3.45). The decreases in diluted earnings per share is due to lower revenue, decreased gross margin rates in our Hardware business and continued investment to improve our execution. GAAP diluted earnings per share has also been impacted by the asset impairment charges described above. Non-GAAP diluted earnings per share guidance assumes an effective tax rate of 23% for 2018 compared to 25% in 2017. The decrease is due to the expected impact of U.S. Tax Reform. Free cash flow is now expected to be $300 million to $350 million or approximately 80% - 90% of non-GAAP net income.

We expect approximately two-thirds of the full year decrease in non-GAAP diluted earnings per share guidance to impact the third quarter of 2018. We expect costs and expenses to be higher in the third quarter as we address our execution and supply challenges. Revenue is expected to be higher in the fourth quarter as the supply constraints are resolved and the higher backlog converts to revenue.