Diebold Nixdorf, Incorporated (DBD) Q4 2014 Earnings Report, Transcript and Summary

Good day, everyone. Welcome to Diebold, Incorporated's Fourth Quarter 2014 Financial Results Conference Call. [Operator Instructions] At this time, for opening remarks and introductions, I would like to turn the call over to Vice President and Chief Communications Officer, Mr. John Kristoff. Please go ahead, sir.

Thank you, Tanisha. Good morning, and thank you for joining us today for Diebold's fourth quarter and year-end conference call. Joining me today are Andy Mattes, President and Chief Executive Officer; Chris Chapman, Senior Vice President and Chief Financial Officer. Just a few notes before we get started. In addition to the earnings release, we've provided a supplementary presentation on the Investor page of our website. Andy and Chris will be walking through this presentation as part of their comments today, and we encourage you to follow along. Before we discuss our results, as of past calls, it's important to note that we are excluding certain restructuring charges and nonroutine expenses from our non-GAAP financials. We believe that excluding these items gives an indication of the company's baseline operational performance. As a result, many of the remarks this morning will focus on non-GAAP financial information. For reconciliation of GAAP to non-GAAP financials, please refer to the supplemental material at the end of the presentation. Also as a reminder, some of the comments today may be considered forward-looking statements. Internal and/or external factors could significantly impact actual results. As a precaution, please refer to the more detailed risk factors that have previously been filed with the SEC. A replay of this conference call will be available later today from our website. For those listening to the replay, please keep in mind that the information discussed is only current as of today, and subsequent events may render the information and the replay out of date. And now with opening remarks, let me turn the call over to Andy.

Thanks, John. Good morning, and welcome. Thank you for joining the call today as we discuss our results for the fourth quarter and full year. Let me begin by saying, we are pleased to report another strong operational performance. Our full year 2014 results demonstrate that our company is continuing to execute our transformation strategy and our work is paying off. A couple of key highlights for the year include growing our bottom line at a healthy multiple or top line. Total revenue for the year was up 7%, gross profit was up 16% and operating profit grew by more than 30%. This represents more than 4x revenue growth on a percentage basis. The revenue growth was broad-based with all 3 of our segments, FSS, security and Brazil Other growing in the year. Excluding the impact of currency, revenue increased 9%. Margins improved across the board but total gross margins expanding 190 basis points compared with the prior year. Product margins expanded 140 basis points coming in just above 20%, and we were able to grow service margins by 300 basis points, resulting in a 30% gross margin. Also, we were able to significantly exceed our free cash flow guidance for the year. This was a record cash collection quarter for Diebold as the entire organization focused on that effort. We are proud of the team's work to ensure we more than met our target. Our free cash flow of $125 million represents over 100% of net operating profit after taxes for the year. Non-GAAP EPS for the year was $1.73. This was within our range of expectations. Throughout 2014, the company was still in the crawl phase of our transformation. There were a number of challenges we needed to overcome and items to address which impacted earning results. As we transition to the walk phase at the second half of 2015, our expectation is that most of these sort of things should be behind us. Looking quickly at the fourth quarter results, solid revenue growth and margin performance helped us finish the year strong and positions us well heading into 2015. We're also encouraged that our product backlog increased 3% on a constant currency basis compared with the prior year. Looking at our core FSS and security businesses, excluding Brazil Other, backlog is up 23% year-over-year, demonstrating that our core business is strong and growing. Overall, we're pleased with the operational performance we delivered in 2014. We have stabilized the company, improved core operations and are starting to build the foundation for future growth by executing our transformation strategy. As our employee base around the globe can attest, it has been and will be a lot of hard work going forward. However, the euro and real experiencing additional pressure since our Analyst Day in December, we believe it is prudent to reflect these factors in our 2015 guidance. Chris will provide more color on this later in the call, but let me emphasize, this is solely for FX purposes and our expectation is that our core business will continue to grow on a constant currency basis. We're working hard to offset these headwinds with our ongoing cost-reduction actions. Just one of the reasons why we made the announcement in mid-January, is we are combining operations in Latin America and Brazil. Now let's talk about our regional order performance on Slide 8. In the quarter, we were encouraged to see double-digit order growth in Asia Pacific, EMEA and Latin America. In North America, total orders declined in the mid-single digit range for the quarter, and we were down slightly for the year. However, within that number, services and software continued to grow as we gained more traction with our managed services and brand automation offering. The focus on North America is on improving operational efficiencies, moving up the value chain and gaining market share in emerging solutions. With that in mind, we recently attracted a new sales leader to North America, Tom Signorello, who has a successful track record of driving services and software growth in technology-driven industries. His experience will help us accelerate our transformation. Total security orders were down low-single digits in the quarter due to our physical security business. Electronic Security ended the year up double-digit as we, once again, grew in the quarter. We were able to add over 70 new commercial logos in 2014, surpassing the 60 new logos we added in 2013. Going all the way back to 2012, Electronic Security had shown order growth in essentially every consecutive quarter. Looking at Asia Pacific. Total orders increased 12% for the quarter and were up 9% on a full year basis. In the quarter, notable strength in China and India were catalysts for growth. Looking at India specifically, I want to highlight some of the milestones we achieved in the market during the past year. First, we invested in our manufacturing facility to accommodate the increase in demand we've seen in this market. As a result, unit production increased nearly 40% year-over-year, and we now have over 50,000 ATMs installed across the country. Also, our service offering, our key differentiator, which allowed us to significantly increase machines under contract in the managed services business. India represents an attractive growth market for Diebold, and we are encouraged by the opportunities we see to continue to expand our footprint. Turning to EMEA. Total orders were up 20% for both the fourth quarter and the full year. Growth in the quarter was driven primarily by strong order activity in Switzerland and in the U.K. This is a strong testament to the success of our targeted account strategy in the region that we have highlighted throughout the year. We have been able to make inroads with new customers and are growing our share of the market. In Latin America, total orders for the quarter were up approximately 10%, primarily driven by growth in Columbia, Chile and Ecuador. On a full year basis, total orders were up 9% with notable strength seen in Mexico. Growth for the year was fueled by branch automation efforts with local bank with the increased adoption of cash-recycling technology. We also made inroads to the Chilean ATM market this year where we were able to secure roughly a 10% share in 2014. Banks in Latin America are gravitating towards our innovative solution. There is a clear shift towards branch automation, software and services. Also, we are encouraged by the strong demand for our recently launched 5500 series in these regions. We've expanded our market leadership in Latin America, and we are confident the operational changes in the region we announced last month will help accelerate our momentum. In Brazil, total orders reflect the lumpy nature of the Brazil Other business. However, looking at the core FSS business in Brazil for the quarter, orders grew 35% compared with prior year period, reflecting growth across multiple accounts. Turning to Slide 9. We continue to make progress towards becoming a more services-led, software-enabled company. For example, we grew value-added services revenue, double digits for the year with a number of notable wins, such as our recent wins with the Belgian Post. Most other things has helped expand our service gross margin by 300 basis points to 30%. Also as Alan Kerr, our new Head of Software, communicated during Analyst Day, we will put more emphasis on our software business in 2015. As the year progresses, we'll be providing more details around our strategy and execution in this area. Moving to Slide 10. As discussed, our Diebold 2.0 turnaround strategy, there's few key initiatives regarding our 8-point program. When rolled out the program over a year ago, we emphasized that much of our progress would come in form of qualitative business improvements rather than strictly measured throughout our near-term financial statements. Along those lines, we're bringing more innovative solutions to the marketplace. During the quarter, we launched a cardless transaction solution with Banque Internationale in Luxembourg that allows customers to remotely program and withdraw cash using their smartphones. We think there is a large potential for this technology in our developed markets and opportunities in emerging markets will follow. Another innovative solution we've recently announced is our antimicrobial touch screen that was developed in partnership with Corning Incorporated. The Corning Gorilla glass inhibits the growth of bacteria on its surface, which is important for touch screen ATMs, especially in high-traffic areas like airports since they are universally shared device. Also, we're gaining more traction in the market following the launch of our next-generation ATMs. For example, Regions Bank had an agreement in the quarter for our next-generation terminals to be deployed across their footprint in 2015. In addition, we are making inroads with new logos, such as Flagstar Bank and WesBanco both in North America, each of which purchased our next-generation ATMs to replace competitive units. Taken in concert with the other innovation we introduced earlier in the year, such as our responsive banking concept, ActivEdge ATM card reader and the world's greenest ATM, we believe our collaborative approach to innovation is reinforcing our position as a trusted partner in the FSS space. In regards to establishing a competitive cost structure in generating long-term profitable growth, our cost-savings initiative and subsequent reinvestments are tracking in line with our expectations. As we outlined previously, the fourth quarter represented the peak level of our transformation reinvestments. These reinvestments will remain elevated in the first half of 2015 and then gradually decrease in the second half of the year as we expect to complete our back-office transformation and upgrade to Oracle 12. These are key milestones in our transition of crawl to walk. Also as I previously mentioned, we recently announced efforts to streamline our operations by combining our Brazil and Latin America businesses. We've been on a solid growth trajectory in Latin America, and I'm confident that Octavio Marquez and his leadership team across the region will help us unlock more opportunities to drive growth, improve efficiencies and reduce cost. In conclusion, we delivered strong operating results throughout the year, creating a solid springboard for us going forward. We made meaningful progress against each of the 4 pillars of our transformation: Cost, cash, talent and growth to build the foundation required to take the company forward. Throughout 2014, our focus was to deliver consistent execution and one of our main objectives is to carry that discipline into 2015 and beyond. Similar to many other technology companies though, 2015 is starting out with more volatility than many of us would have anticipated due to severe currency fluctuations. Having said that, we remained focused on improving business excellence and delivering bottom line growth each and every year. With that, I'll turn the call over to Chris for more details on our financial performance.

Thanks, Andy, and good morning, everyone. I will start off by walking through our fourth quarter and full year financial performance and then provide an update on our 2015 revenue, earnings and free cash flow outlook. Starting on Slide 15. Total revenue for the quarter increased 6% on a GAAP basis and approximately 10% in constant currency, seen increases in all regions. Our financial self-service business was the primary driver of growth in the quarter, up approximately 9% in constant currency with strong performance in North America. The Brazil Other business was also a strong contributor to total revenue growth. Looking at full year 2014, total revenue increased approximately 7% or 9% adjusted for currency. We're pleased with the progress we made in our constant currency growth across the majority of our businesses illustrating solid demand in our core markets. North America revenue was essentially flat with 15% year-over-year growth in Electronic Security. This was offset by a slight decline in FSS, which was impacted by restructuring activities in the first half of the year and improved as the year progressed. Latin America was down slightly but as Andy highlighted, we're pleased with the strong quarter activity and momentum we've seen in that region. Brazil has solid growth at 34%, or 46% on a constant currency basis, driven primarily by the Brazil Other business. EMEA and Asia-Pacific saw solid growth over the prior year, up 16% and 4% respectively, on a GAAP basis. Adjusting for currency, growth for the full year was 21% in EMEA and 8% in Asia Pacific. I will provide more details shortly, but as we've seen, the currency translation impact increased as 2014 progressed, and those headwinds have materialized further as we've entered 2015. As we move to Slide 16, financial self-service revenue for the quarter was up approximately 5% on a GAAP basis with increases in North America and Asia Pacific, partially offset by decreases in EMEA and Brazil due to currency. On a constant currency basis, revenue grew 9% with all regions reporting growth in the quarter versus the same period in the prior year. North America experienced strong double-digit growth with increases in Canada and our regional account business. In Brazil, we had approximately 5% growth adjusting for currency, driven by the delivery of orders we have highlighted on previous calls. For the full year, financial self-service revenue increased 4% on a constant currency basis. The increase is primarily attributable to the growth in EMEA and Asia-Pacific, partially offset with decreased volume in Brazil, North America national accounts give a tough comp with 2013. Total revenue on Slide 17 for the quarter was down approximately 2% compared with the prior year period. Increase of approximately 6% in Electronic Security was offset by a 14% decline in our physical security business. Looking at the full year results. Our security revenue increased approximately 2% with a growth of 13% in Electronic Security, partially offset by a 14% decline in physical security. The Electronic Security business now represents approximately 2/3 of our total security revenue. Looking at Slide 18, Brazil Other in the fourth quarter was up $25 million mostly driven by delivery on the lottery project. For the full year, Brazil Other increased approximately $150 million over the prior year, but the increase is driven by lottery and IT-related equipment. On Slide 19, total gross margin for the quarter improved 110 basis points to 25.8%. This was driven by an improvement in product gross margin, which increased 440 basis points to 21.4%. The increase was primarily the result of favorable geographic mix by the higher volume in North America. In addition, Latin America was also the strong contributor as we benefited from certain contractual provisions in Venezuela that settled in the quarter which were partially offset by non-controlling interest. For the full year, our product gross margin finished at 20.1%. Service gross margin for the quarter was 30.3%, a slight decrease from the prior year. As I noted in last quarter, some of our reinvestments are being charged to service cost to sales as we focus on improving our systems and infrastructure to support our growth and transformation efforts. For the full year, service gross margins increased 300 basis points finishing at 30%, reflecting the benefit of our cost improvement focus and transformation efforts. Moving on to Slide 20. Total operating expense for the quarter was 19.3% of revenue compared with 17.7% in the prior year period. As we previously highlighted, we are making investments in our transformation, including IT, back-office and R&D, those combined with higher selling expense from increased volume contributed to the year-over-year increase. In addition, we recorded a $2.1 million impairment related to certain operating leases in India. Turning to Slide 21. As we previously communicated, we've already realized our planned $25 million in net savings for the year in the third quarter. As expected, our gross savings and reinvestments, both of which were approximately $15 million, offset one another in the quarter. Turning to Slide 22. Non-GAAP operating margin in the fourth quarter decreased 50 basis points to 6.5%. For the year, non-GAAP operating margin increased 110 basis points to 6% as we balanced our reinvestments while improving our underlying operational performance. We will continue to take a measured approach to our reinvestments and make sure that our cost savings are dropping through to the bottom line. Looking at operating profit by segment on Slide 23. Latin America, Brazil and North America all improved in the fourth quarter of 2013. North America was up slightly versus the prior year as we start to overlap our cost-reduction actions. Asia Pacific was down slightly, impacted by the previously mentioned impairment in India. The decrease in EMEA is attributable to a difficult comparison to the fourth quarter of 2013 which represented approximately half of the region's profit for that year. The increase in Latin America is primarily tied to the contractual provisions in Venezuela, I mentioned earlier. Improvements in Brazil were driven by delivery of previously highlighted orders. The change in the global and corporate line reflects the business reinvestments we have been highlighting on the call. EPS on a non-GAAP basis was $0.48 for the quarter. This excludes restructuring charges of $0.05, legal, indemnification and professional fees of $0.03 as well as a $0.06 per share benefit related to the reversal of a provision for Brazil indirect taxes. For the year, non-GAAP EPS was $1.73, which was within our guidance range for the year. As Andy outlined, we were able to absorb a number of one-off items throughout the year and still deliver solid operational results, including most recently the impairment in India, the foreign exchange loss, which were approximately $0.04 during the quarter. This compares with $1.36 per share non-GAAP EPS in 2013, excluding the Brazil valuation allowance impact. Non-GAAP effective tax rate payment of 32.7% compared with the approximate 32% guidance we previously provided. Moving on to free cash flow on Slide 25. We were encouraged by full year free cash flow of $125 million, which increased $37 million from the same period last year. Strong collection and prepaid activity across all geographies resulted in free cash flow exceeding our prior expectations. Improving free cash flow has been a focus for all Diebold employees around the globe, and we are encouraged that we've been able to stabilize and now grow our annual free cash flow over the last 2 years. We will continue to bring additional discipline and focus to further improve our cash-generation capabilities. Looking at Slides 26 and 27. DSO remained unchanged at 42 days compared with the prior year period. Our inventory turns decreased slightly year-over-year. Net debt on Slide 28 for the period was $47 million, a slight decrease from the prior year period resulting in a net debt to capital ratio of 5%. Now I want to take a moment to update you on a few additional items. As outlined on the last call, we remediated our material weakness related to controls over Brazil indirect taxes and communication. In addition, we have now also remediated our remaining material weakness in India related to a system adoption and account reconciliation processes. The company is continuing to strengthen its control environment with investments in our systems, offices and people. Next, we remain committed to our dividend, which our board recently approved to maintain a $0.2875 for the first quarter. At current prices, this represents an approximate 3.5% dividend yield on an annual basis, but all remains to grow into a 35% dividend payout ratio over the long-term. We are currently generating more than enough free cash flow to cover the dividend and our transformation investments. Looking at our outlook on Slide 29. We are adjusting our full year 2015 projections to reflect recent currency movements. When we initially outlined our guidance in December, we projected an approximate 2% headwind. Based on current market exchange data, we're now anticipating an approximate 5% currency headwind primarily attributable to the movement in the euro and the real. Therefore, we are adjusting our total revenue projections to be down approximately 5% to 6% for the year. As a result, we are adjusting our non-GAAP EPS be in the range of $1.80 to $2 per share. Looking at it on a constant currency basis, we are maintaining our guidance for each of our businesses. This would translate to FSS growth of 4% to 6% adjusted for currency. As a management team, we remain committed to delivering on our turnaround strategy and are actively rolling our cost mitigation plans across the company to help address the impact of currency. In terms of our earnings expectations on a seasonal basis, we will follow our normal seasonality to be weighted more heavily towards the second half. As we previously discussed, our reinvestments will remain elevated in the first half of 2015 and then gradually decrease through the second half of the year and into 2016. We are maintaining our free cash flow outlook for the year of approximately $120 million, which includes an approximate $5 million increase in capital expenditures and a $15 million voluntary contribution to our North America pension plans. We also continue to expect full year non-GAAP effective tax rate to be approximately 30%. Overall, we are focused on consistent execution -- consistently executing our Diebold 2.0 turnaround strategy, and we remain steadfast on our focus on continuous improvement. During the past year, we have strengthened our control environment, while reducing our operational costs, improving our working capital efficiencies. As you can see, the company is beginning to demonstrate tangible results from our turnaround efforts and we will continue to lay the foundation for long-term earnings growth. With that, I'll open up the call for questions.

[Operator Instructions] And our first question will go to Matthew Lipton with Autonomous Research.

I wanted to start with the product sales. You mentioned North American mix helping product gross margin. And I wanted to ask you more broadly about the trends you saw in ATM hardware demand in the quarter based on other reporters and yourself, it seems the market could be firming a bit from product sales. So where is the net demand coming from and do you think it could be -- it's lumpy or is it sustainable through '15?

The drive for financial institutions to increase efficiency is creating some momentum in the market. Market researchers have the market grow at 4% to 5% over the next years. We see that manifesting itself. The encouraging thing if you take a look at the full year 2014 for us in North America was that the regional banks are starting to get more active. The branch automation is becoming topical in all kinds of financial institutions. So I mean, it's way too early to say the market is rebounding at a rapid pace but I do believe that the overall market conditions are looking -- starting to look better especially in North America.

So Andy, would you say then that it seems the conversations are moving more broadly with smaller financial institutions, whereas in previous quarters, you didn't concentrate at the -- just at the largest institutions? Is that fair?

That is a very fair statement. The branch automation is a phenomena that we see across the board, and we have conversations with banks, large and small. And if I take a look at our wins, if I take a look at our pipeline, it's very encouraging to see that the regionals as well as the local bank, the credit unions are starting to embrace this technology.

That's great. And then, Chris, one for you on the FX. I think the incremental change in revenue and earnings, I mean, the earnings guidance moved, it imply a 5% FX headwind. I don't think you're that mismatched. So is it just kind of how you move the numbers around and really we should be thinking about incremental change in FX as both 3% on the top line and on the bottom line?

Yes. I think you're thinking about it correct, Matt. If you look at the top line impact versus the previous outlook we provided back in December, you're looking at about an additional $90 million move. The fallout of that obviously is coming from these geographies and the fallout rate on that's probably around 9%, 10% drop rate as we have more of our cost, obviously, sitting in U.S. dollar-denominated locations. So you got to apply a little bit higher, I would say, drop rate from a margin standpoint when you think about it from a modeling standpoint.

Our next question comes from Gil Luria with Wedbush Securities.

In Asia, did you call out specifically China. How is the Chinese market progressing? Is it still broken out carefully between the different Western providers in the Chinese incumbent? Or is the Chinese incumbent getting more favorable treatment now from the Chinese banks?

I think the answer to both of your questions is, yes. There is the -- there is a clear bias in China in the very large banks, in the Tier 1 banks, to -- towards local suppliers. By the same token, there is a vast opportunity in Tier 2 in Tier 3 banks which traditionally have been the strong suit of Diebold. And we are being successful in those type of account and that was also the reason why we had a strong Q4 in China.

Got it. And then I know we just started 2015, but when I look at 2016 consensus estimates and I compare that with what you said on -- in your recent Analyst Day, you talked about growing slightly above the market. So maybe low- to mid-single digits and growing earnings 2x to 3x that. That sounds like low-double digits, but it looks like consensus estimates for 2016 of almost 30% growth. Is there anything unusual about 2016 that can explain that difference? Or are you sticking with the mid-term guidance you provided on the Analyst Day?

Yes. Gil, the guidance we provided during Analyst day still holds, but I think and obviously the environment given the exchange rate volatility has changed little bit. So when you're looking at on a constant-currency basis, the outlook we provided for 2016 still holds true. But -- and obviously the world changed a little bit with the significant drop we've seen in a few of these currencies so that's obviously going to impact, just from a translation impact some of the top line, bottom line numbers.

Our next question comes from Paul Coster with JPMorgan. Paul Coster - JP Morgan Chase & Co, Research Division: So just a little bit picky on the 2015 guidance. So it looks like the GAAP EPS numbers have been reduced relative to prior guidance by, what, $0.15 to $0.20, but the pro forma by only $0.10. And it looks like there is some change to restructuring charges in non-routine. Is that foreign exchange related? Or is there something else happening there in the adjustments?

No. The change in the restructuring charges in non-routine expense not really is much related to currency. A big piece there is we're increasing our restructuring plan in the first half of the year, and so we estimate that to be more in the $0.05 to $0.07 range, and it was probably around $0.01 to $0.03 in the previous guidance. So that's the biggest piece of the change there. Slight increase in some of our legal and indemnification cost as well, but the big components really related to our restructuring charges increase. Paul Coster - JP Morgan Chase & Co, Research Division: Okay, got it. And then your -- one of your competitors just talked about bookings not being a very good lead indicator of business from both American and financial services business anymore. Is that something you concur with? And sort of echoing the prior questions, we see a lot of activity in branch automation, branch transformation, which it does not seem to at least be reflected in bookings activity. So is there some kind of disconnect there?

Those are 2 questions, Paul. Let me start with the latter. There is definitely way more activity or way more conversations in the market than what has manifested in orders for all players at this point in time. The encouraging point here is the conversations are happening and they are picking up. And as I said earlier, they are picking up especially also in the regional space. Now from the way you measure the market, bookings are a good indicator for a hardware business. The more we look into becoming a services-led software-enabled company, your -- you want to start looking at recurring monthly revenue, you want to look at TCVs because in many cases, especially in the software side if you go down, a SaaS model as well as in the managed services side if you have 3- or 5-year commitment, the revenue will show a pro rata versus the deal, which of course is a big deal, but it would not be reflected in the booking numbers. So I think collectively as an industry, we are looking to find KPIs that will give you and everybody else a better indication of where the pup is going and will be adding additional KPIs to our conversations once we're through with our new linked process and most important also, once we have the global IT infrastructure to provide this data in a consistent fashion.

Our next question goes to Joe Radigan with KeyBanc.

I want to first touch on OpEx. So SG&A was about 15.6% of sales in 2013 adjusted for some of the restructuring charges. It jumped up to 16.3% this year with some of the reinvestments you're making, which it sounds like that's going to moderate as we go through this year. Longer-term, as you get leveraged from the work you're doing now, what do you think is a reasonable target for SG&A? And then maybe part 2 there, does the RD&E component of OpEx stay at around 3% of revenue? Or does that go up given kind of your new product pipeline and what you have in development?

I'll address the latter first. With regards to the R&D, we would expect that to probably stay at current levels for the foreseeable future and maybe level off a little bit. As we obviously continue to drive our collaborative innovation process. With regards to the SG&A, we're not giving forward-looking -- a forward-looking number specifically. The expectation is we're going to continue to leverage and see that come down as we exit '15 and go into '16 and the reinvestments start to tail off. And so, obviously, we'll be looking to leverage that as we move forward.

Okay. And then on the branch automation or branch transformation, how competitive is the environment there, particularly in the small and regional bank space? And given that it's a new product set with some new technology, how are your customers treating it? Is it typically a big off where they're evaluating multiple options? Or is it more of a consultative sale where it's been driven more by the legacy relationship? And I guess what I'm getting at, is this a door opener for a potential share shift among your customer base? Or how is that process going in the early stages here?

This is a great question. This is clearly a consultative sale. This is not about a product, this is about process, this is about TCO, this is about customer experience, this is about omni-channel. And in many cases, our customers, especially in the regional bank space, they approach us and ask us for experiences around the globe from projects that's been done somewhere else, lessons learned, so very much a higher-level sale, very much a consultative approach, and we're leveraging all the relationships that we have and we actually consider those relationships a big asset going forward, as we're jointly plotting a course into uncharted territory with our customers.

Okay, that's helpful. And then maybe lastly, Andy. You've made some recent changes around your leadership team and several at the regions. Can you talk about what drove that? And are you comfortable now with the team that you have in place at this point?

We've had really good success bringing top leadership into the company. We've brought a lot of great athletes to Diebold. We've been very -- working very hard and are working very hard to turn all these athletes into a great All-Star team. The results so far are very encouraging. Whenever we brought a new regional leader in, we can see positive momentum in the numbers, you can see that in LatAm, you can see that in Asia Pacific, you can see that in EMEA. And we expect this trend to continue as we upgrade leadership across the organization. In general, we've -- if you take a look at the mix, we've upgraded about 2/3 of the leadership team, but half of the leadership team is coming from external. We've got some noticeable internal promotions, Chris, of course, being the most prominent of them all. And my senior team is starting to stabilize, which is really a good thing. Now the challenge for us is in the task at hand is to make sure that, that talent upgrade flows through the organization. And as we get the mid-level of the organization to the get to the phase performance level and align them with our thought process. And that's always the hardest part in a turnaround is to get it through every layer of the organization. But I can tell you, we had a town hall with our North Canton workforce last night. If I take a look at the type of questions, the level of enthusiasm in the room today versus what it looked like when I joined the company 18 months ago, it's night and day and while we still have a lot of work ahead of us, I'm very encouraged about the progress that we've been making so far.

Our next question comes from Kartik Mehta with Northcoast Research.

Andy, I wanted to ask you a little bit about Brazil and your outlook for operating margins in 2015 for that region. And specifically, the ability to improve maybe some volatility, is that possible? Or there is some unique characteristics that won't allow you to do that?

Well, the Brazilian market is a very unique market, as you know. Let's take it in different buckets. Brazil Other is lumpy, will remain lumpy, and we've always said, we're opportunistic about this business, and we only do business that helps us to drive factory load, which is a table stake that you have to have if you want to play in the FSS market in Brazil. The FSS business is concentrated around basically 6 major banks in Brazil, so their buying patterns will be cyclical and basically depending on their investment strategies. But what's very encouraging was the fact that the FSS growth that we saw in Q4 were happening across multiple accounts and that we were able to gain share, especially also in the out of branch network in Brazil. But talking to volatility on the cost side, one of the -- since we've done in the past, since we treated Brazil as an island, it's just very easy to do giving all the regulatory environment that you have. The regulatory environment don't necessarily pertain to the workforce that we have employed there. And if they take a look at the very solid growth that had -- we had in Latin America, if I take a look at the highly qualified workforce we have in Brazil, you can see that it's very logical to make sure that you have a broader workforce pool and that we drive utilization of the workforce, utilization of expertise across a multitude of countries and Octavio has done a spectacular job turning Latin America around in the first 12 months that he's been with the company, and we have very high expectations of him in the combined region.

And then, Andy, I think in your opening remarks, you mentioned that some opportunities you have for managed services. I guess, the two-part question there. One, is that on the ATM side or the security side? And second, is that U.S. or international right now?

The answer to both of your questions is, both. So the security business -- that's where the whole idea of recurring monthly revenue is way more prominent that these deals are primarily 3-year deals, and you go into long-term customer relationships like the deal we've announced at Analyst Day with Sprint for instance. Now if you take a look at the banking side, as we go into branch automation, as the banks are reinventing themselves, they're also exploring new business models, and that's where the idea of the whole managed services comes in. And more, for instance, the more there are security issues out there, the Windows 7 upgrade, people all of a sudden realize that being always concurrent with their security on their software system is a key item, making sure, for instance, that a company like ourselves guaranteed that for a bank versus your internal staff who might not be focused or might not be 100% in the loop of all the latest and greatest things that are happening is a true value proposition. Same holds true on the compliance side. So those type of conversations are increasing rapidly. Then again, until you sign these type of contracts, a very lengthy conversation, those are anywhere between 12- to 24-month sales cycles. But once you form those relationships, they are long-term relationships. And I mentioned Belgian Post. I mean, they pretty much have handed the keys of the car over to us. We do everything. We do the hardware, we do software, we do services, we do software upgrades, we do security patches, do, do not's and it's those types of relationships that we believe will be very important and where we see a clear market differentiator from Diebold versus all our competitors.

And then just one last question, Chris, for you. Would you expect capital working improvements in 2015 and that being a source of cash for you guys?

My expectation is to see slight improvement. Again, as we talked about before we have on the DSO side, a little bit of geographic mix that comes through. And so I think continuing to perform somewhere in that 41, 43 range is appropriate. Inventory, in my opinion, is our biggest opportunity still, and we'll continue to drive improvements in that regard, and I've been very pleased with the work we've had in our procurement organization on appropriately extending contract terms, and so that's been a nice benefit that we've seen there from an efficiency standpoint on the working capital. And I would also point out, as I outlined in a few of the -- on the slides regarding the pension impact we're going to see next year on -- of about $15 million that will impact our free cash flow. But overall, very happy with our focus and the performance there.

[Operator Instructions] And our next question comes from Justin Bergner with Gabelli & Company.

First of all, I want to congratulate you on the strong free cash flow performance. Finishing 2014 it seems like you came in well above your forecast, but you're -- it seems like you're also maintaining your $120 million free cash flow forecast in 2015, notwithstanding the better performance in '14 and maybe some currency headwinds. Could you maybe talk about what's allowing you to maintain your '15 free cash flow forecast?

Yes. If you look at our 2015 free cash flow forecast, we feel good about the underlying GAAP earnings, GAAP results that are going to drive the operational portion of that cash flow. And so we've got good line of sight to that. Our focus on the working capital efficiencies, in that regard, gives us pretty good line of sight. Again, very, very encouraged with the all-around performance across the geographies that we've seen as we exited 2014. And again, this is an area where we see there is continuous room for improvement. And overall, again, we've outlined our goal as to finish our free cash flow at greater than 90% of our net operating profit after tax, and I feel good about that target as we move forward.

Justin, let me just add on a higher level. I think it's a really good example how the alignment of company goals and strategy and individual goals and compensation payout. We started 2 years ago to make sure that working capital objectives, free cash flow objectives are in everybody's goal sheet. It's a KPI that we talk about. When I joined the company, we took it out of the financial closet and made it a broad area of discussion. There is not a monthly business review where we would not hit on these topics. There are weekly calls that we have on -- around improvement. And if you'd ask somebody today in the organization, it doesn't matter whether you're talking to a sales person, a service person, a finance specialist, an accountant, everyone within Diebold would be able to tell you which role he or she plays in driving better working capital metricies for the company. And that's one of the main reasons why you see this improvement because free cash flow is one of the things where this is not the work of a few people, this is a work of all 16,000 Diebold employees we have around the globe. Everybody is been pitching and everybody will continue to pitch in. And we feel very confident that this is starting to become part of the -- our DNA and part of the way we're thinking as a company.

Great. So then I should infer that whatever benefits you got in the fourth quarter from, I guess, prepayments on the working capital side will either not be given back in '15 or if they're given back, will be offset with gains elsewhere?

Yes. If you look at the overall prepayment benefit, I would say that the activity we saw in the fourth quarter of 2014 was above some of the historical performance we've seen there. But as you point out though, we'll continue to drive that activity appropriately. We've seen the behaviors in the past. We're not modeling quite a strong performance on the prepay side against some of that -- can push 1 month or 2 and could end up in 2016 or '15. But overall, we feel good about our program and delivering on that commitment.

Okay. On the pension side, are you -- is there any mortality table hit for you in '15? Or is that going to come later?

Yes. We've adopted a new mortality table, and so that's impacting our pension expense slightly as we move forward in addition to the change in discount rates. So if you looked at that from a modeling standpoint, 2014 pension expense was around $3 million and as you think about that in 2015, it's going to be approximately $8 million so about $5 million increase year-on-year.

Okay. And that's within your adjusted guidance?

Correct. That's included in our -- that was included in our guidance.

And was it anticipated back in December as well?

A fairly similar amount, yes.

Okay. Finally, I know that we're trying to sort of move beyond orders because they're very product focused. But if I sort of do the math on your constant currency orders, excluding sort of Brazil Other, I guess, I'm arriving at like a high-single digit quarter rate in the fourth quarter globally, weighting it by your different geographies, am I sort of in the right ballpark?

Yes, you are.

Our next question comes from Jeffrey Kessler with Imperial Capital.

No security questions today. The question I do have though is about the content of your services business as it becomes a more predominant part of the company and drives more and more of the company and hopefully with higher margins. What are the 4 or 5 leading services that you are going to be able to kind of throw into that or recurring revenue bucket that we can start maybe using monthly recurring revenue as a part of the valuation process to value your stock? In other words, what are those 5 or 6 bullet points in terms of services that are going to drive the majority of the services increase as it gets bigger relative to product?

That's really a good question, Jeff. So if you think about we like to focus on everything that is remote manageable. So we do intrusion, we do video, we do fire, a lot of the monitoring. Our -- if you take a look at our solutions portfolio, SecureStat, that I know that you're very familiar with, is a very important element because what it does, it allows us to go into just about any customer, switch them over to Diebold's remote monitoring without them having to upgrade any their -- of their equipment on-site. So there's no forklift upgrade, we can work with whatever they have, whatever video camera, whatever monitoring panels, whichever vendor they like. And if you look at the announcement that we just sent out yesterday in our collaboration with Eagle Eye, that's taken it even a step forward because that's when you get into the cloud monitoring space and providing cloud analytics around video. So those are the main areas that we're thriving on. The other thing that you, I know, you're aware of that's a key value proposition for Diebold is our fact that we solely focus on large regional and national accounts. We don't do residential, we don't do so small business, we only focus on those large operations because the value proposition that we bring is one throat to choke, single solutions that you have that people have easy access and especially when you talk about software cash management, transaction processing, these are complicated things. But having one partner coast-to-coast is a huge differentiator.

Okay. Can you translate that over also into the FSS area? What specific services areas are growing fastest for you in that there?

Video is being one of them, especially. And everything that's around the ATM security. The fact that every one of our new machines is equipped with video cameras is yet another driver for that. And then if you look into the other services element, the whole idea of doing total implementation services when a financial institution wants to upgrade, whether it's going from a Diebold legacy base into a new base or from a competitive base into a new base. And we take care of all the idiosyncrasies, all the project management, all the work that has to be done because whenever a bank looks at upgrading 20, 30 branches a week, as an example, that's a massive project management task and that's again one of the sweet spots where Diebold has been excelling. And you know that, for instance, in Europe, our Bankia contract spotted out exactly around this value proposition. A lot of our French contracts are based on this value proposition, and we've now started to offer the same services here in the United States, and it's starting to pick up traction.

And at this time, I would like to turn the program back over to John Kristoff with any closing remarks.

Thank you, everyone, for joining us on the call this morning. As always, if you have any follow-up questions, please contact me or Chris Sikora directly. Thanks, again.