Executive Summary / Key Takeaways

• CPI Card Group is strategically expanding its payments technology solutions beyond traditional card manufacturing into higher-value services and digital offerings, aiming to capture growth in adjacent markets and enhance its competitive moat.
• The recent acquisition of Arroweye Solutions significantly bolsters CPI's capabilities in digitally-driven, on-demand card production and personalization, opening access to the nimble fintech segment with minimal customer overlap and promising long-term earnings accretion despite near-term dilution.
• Despite facing temporary headwinds from sales mix, increased production costs, and tariff impacts in early 2025, the company has affirmed its organic 2025 outlook for mid-to-high single-digit growth in both net sales and adjusted EBITDA, signaling confidence in underlying market demand and strategic initiatives.
• Investments in the new Indiana production facility, digital solutions like Card@Once and push provisioning, and capabilities for the large closed-loop prepaid market are expected to drive future efficiency and addressable market expansion, balancing near-term spending with long-term growth objectives.
• While the Arroweye acquisition and ongoing investments will temporarily impact free cash flow and net leverage in 2025, management plans to deleverage in 2026, supported by anticipated synergy realization and continued operational cash generation.

CPI Card Group: Unpacking The Investment Narrative Beyond The Card

CPI Card Group Inc. ($PMTS) operates at the intersection of physical payment cards and evolving digital payment solutions, positioning itself as a key partner for financial institutions and program managers in the United States. At its core, CPI is a payments technology company specializing in the design, production, personalization, and fulfillment of secure debit and credit cards, including a significant presence in the prepaid debit card market. The company asserts a leadership position in several areas of the U.S. payment card solutions market, built on long-standing customer relationships and a focus on quality and service.

The company's strategic journey, marked by historical acquisitions that expanded its manufacturing capabilities and market reach, has evolved to emphasize innovation and diversification. This strategic pivot aims to expand CPI's addressable markets by offering new solutions to existing customers and delivering existing solutions to new customer verticals, moving beyond the cyclical nature of traditional card issuance.

Strategic Expansion and Technological Edge

CPI's strategy is underpinned by four pillars: customer focus, quality and efficiency, innovation and diversification, and people and culture. The innovation and diversification pillar is particularly critical to the company's future growth narrative. This involves not only enhancing its core card offerings but also developing and integrating digital solutions and expanding into adjacent markets.

A key technological differentiator is CPI's Software-as-a-Service (SaaS) based instant issuance solution, Card@Once. This platform allows financial institutions to issue personalized debit or credit cards on-demand within a branch location. With a presence in over 16,000 branches across the U.S., Card@Once is integrated within the broader payment ecosystem (processors, cores), offering a plug-and-play solution that facilitates rapid deployment. This SaaS offering provides a high-margin revenue stream and serves as an entry point to win additional core card and personalization business from new customers. While specific quantitative metrics on its margin contribution relative to other services are not detailed, management highlights it as a high-margin business that can help the overall margin profile as it scales.

Beyond instant issuance, CPI is developing other digital solutions, such as digital push provisioning for mobile wallets. While currently in early stages with a minor financial impact, there is growing interest from customers, including through partnerships like the one with MEA, which provides access to their network of approximately 300 financial institutions. This initiative leverages CPI's existing customer relationships and positions the company within the growing mobile payment ecosystem.

In its core product segment, CPI has been at the forefront of eco-focused card solutions, including those made with upcycled plastic. The company has sold over 350 million eco-focused cards and packaging solutions since their launch, demonstrating tangible market adoption and aligning with increasing environmental preferences. Furthermore, CPI is exploring new chip technologies, such as an advanced contactless chip that integrates the antenna within the chip itself. This innovation offers potential benefits like greater flexibility in card design and a reduced carbon footprint by eliminating the need for separate antenna layers. While adoption cycles for new chip technology are typically long, initiating pilots positions CPI as an early adopter.

The strategic acquisition of Arroweye Solutions, completed in May 2025 for $45.6 million, represents a significant step in CPI's diversification strategy. Arroweye is a provider of digitally-driven, on-demand payment card solutions, featuring a fully integrated end-to-end process for production, personalization, and fulfillment. Its technology platform enables hyper-personalization and rapid turnaround times without requiring customers to hold inventory. This capability is particularly appealing to smaller, more nimble card programs, such as those run by fintechs, a segment where CPI has historically had limited presence and minimal customer overlap with Arroweye. The acquisition is expected to be integrated into the Debit and Credit segment and is anticipated to contribute to sales and adjusted EBITDA for the remainder of 2025. Management believes the purchase price aligns with CPI's market multiples and expects strong adjusted EBITDA contribution and earnings accretion over time, driven by revenue sourcing and cost synergies, despite projecting the acquisition to be dilutive to EPS in 2025 and slightly in 2026 before becoming accretive in 2027. The acquisition also brings a state-of-the-art production facility in Las Vegas and approximately 200 employees.

In the Prepaid Debit segment, CPI is a market leader in secure packaging solutions. This business has demonstrated exceptional performance, growing 26% in 2024 and exceeding $100 million in net sales, driven by demand for higher-value, fraud-focused packaging solutions and expansion into the healthcare payment solutions vertical (e.g., FSA/HSA cards). Management sees the closed-loop prepaid market as a significant opportunity, estimated to be 4-5 times larger than the open-loop market. While historically lower value, the increasing need for fraud protection is driving a shift towards higher-value solutions in this segment. CPI is investing in capacity and specialized equipment to penetrate this market, with capabilities expected to become operational late in 2025, anticipating a small impact in that year but significant potential longer term.

Operational investments also include the relocation and modernization of the Fort Wayne, Indiana production facility, which commenced in Q1 2025 and is expected to be operational in the second half of 2025. This project will double CPI's footprint in Indiana and increase overall company footprint by approximately 10%, incorporating new equipment and automation to drive efficiency.

Competitive Landscape and Positioning

The U.S. payment card market is highly competitive, saturated, and consolidated. CPI competes directly with larger, diversified technology companies and more specialized providers. Key publicly traded competitors include CompoSecure (CMPO), Thales Group (HO), and Fiserv (FI).

CompoSecure is a notable competitor, particularly in the premium metal card segment. While CMPO focuses on product differentiation through proprietary metal card technology, potentially commanding higher pricing, CPI competes across a broader range of card types and leverages its integrated personalization and fulfillment services for operational efficiency, aiming for lower operating costs per unit. CPI's strength lies in its long-standing customer relationships, which foster loyalty and recurring revenue, contrasting with CMPO's higher customer concentration risk.

Thales Group, a global player, competes in secure payment technologies, including card personalization and EMV solutions. Thales benefits from a broader technology portfolio and global scale, offering advantages in areas like data processing speed. CPI competes effectively in the domestic market through its customer-centric service model and streamlined U.S.-focused operations, which contribute to cost efficiency in fulfillment. However, Thales's greater investment in R&D could pose a challenge to CPI's technological competitiveness over the long term if not matched.

Fiserv is a major competitor in payment processing and card services, offering end-to-end solutions and benefiting from significant scale and digital platforms that enable faster transaction processing. CPI competes by focusing on its core manufacturing and fulfillment expertise, offering competitive pricing and maintaining strong customer relationships. While Fiserv's integrated ecosystem provides a powerful value proposition, CPI's niche strengths and customer loyalty help it maintain a competitive position.

CPI's competitive advantages, or moats, include its deep customer relationships, which contribute to stable revenue and margins, and its operational efficiency, particularly in integrated services, which allows for competitive pricing and cost management. However, vulnerabilities exist, notably in the pace of technological innovation compared to some rivals and potential customer dependence. The Arroweye acquisition directly addresses the innovation gap by adding advanced on-demand digital capabilities and expanding reach into the fintech segment, enhancing CPI's ability to compete with more digitally-focused players like Fiserv in certain areas.

Indirect competition comes from digital payment alternatives like mobile wallets (Apple Pay) and blockchain solutions, which could reduce the demand for physical cards over time. CPI's investment in digital push provisioning is a strategic response to this trend, aiming to remain relevant in the evolving payment landscape.

Financial Performance and Outlook

CPI's financial performance in early 2025 reflected some anticipated pressures. In the first quarter of 2025, net sales increased 10% year-over-year to $122.76 million, driven by growth in both the Debit and Credit (10% increase, led by contactless and eco-focused cards) and Prepaid Debit (10% increase, driven by higher-value packaging and healthcare solutions) segments. However, gross profit decreased slightly, and gross profit margin declined to 33.2% from 37.1% in Q1 2024. This margin contraction was attributed primarily to negative sales mix and increased production costs, including operational inefficiencies and costs associated with the Indiana facility transition. Operating expenses decreased, benefiting from lower compensation costs compared to the prior year (which included CEO retention agreement expenses), partially offset by higher professional fees. Net income for Q1 2025 was $4.77 million, down from $5.46 million in Q1 2024, impacted by lower gross profit and higher interest expense (due to the new Senior Notes), partially offset by lower operating expenses and a lower effective tax rate (benefiting from stock-based compensation deductibility). Adjusted EBITDA decreased 8% to $18.37 million in Q1 2025.

Looking back at 2024, CPI delivered an 8% increase in full-year net sales to $480.60 million, with Debit and Credit growing 4% and Prepaid Debit growing an exceptional 26%. Full-year gross profit increased 10%, and the gross margin expanded slightly to 35.6%. Adjusted EBITDA increased 3% to $91.9 million, with the margin declining slightly to 19.1%, primarily due to increased employee performance-based incentive compensation and investments.

As of March 31, 2025, CPI had $31.52 million in cash and cash equivalents and no outstanding borrowings on its $75 million ABL Revolver, with $285 million in Senior Notes outstanding. Cash provided by operating activities in Q1 2025 was $5.59 million, down from $8.87 million in Q1 2024, primarily due to lower net income (excluding non-cash items) and increased working capital usage (including incentive payments and higher interest payments). Capital expenditures were $5.30 million in Q1 2025, up significantly from $1.51 million in Q1 2024, reflecting investments in the Indiana facility and other business support. Free cash flow was $0.3 million in Q1 2025. The net leverage ratio stood at 3.1x at March 31, 2025, up slightly from 3.0x at year-end 2024.

Management has affirmed its organic 2025 outlook, projecting mid-to-high single-digit growth for both net sales and adjusted EBITDA. This outlook assumes continued healthy customer demand, ongoing market normalization in channel inventories, and includes the impact of tariffs (projected $2 million incremental cost, assuming chip exemption remains). The outlook does not include the contribution from the Arroweye acquisition, which is expected to add to sales and adjusted EBITDA for the remainder of the year. Management anticipates similar margin pressures in Q2 2025 before seeing improvement in the second half of the year, driven by operating leverage and better mix.

The Arroweye acquisition, funded partly by a $35 million draw on the ABL Revolver subsequent to quarter-end, will temporarily increase the net leverage ratio above 3x in 2025, with plans to work it back down in 2026. The acquisition is expected to impact free cash flow negatively in 2025 due to integration costs and potential incremental CapEx. Full-year 2025 free cash flow is expected to be lower than 2024 levels, also impacted by increased cash interest expense and higher CapEx for the CPI business (Indiana facility, closed-loop capabilities). Depreciation and amortization are expected to increase by approximately $3 million in 2025 due to recent capital investments. The effective tax rate for 2025 is expected to be in the mid-to-high 20% range.

Risks and Challenges

Several risks could impact CPI's performance and the investment thesis. Macroeconomic uncertainty, including potential recessionary conditions, could reduce consumer confidence, business spending, and demand for payment cards. Changes in U.S. trade policy and the imposition of additional tariffs, particularly on semiconductor chips which are a significant component, could increase costs and disrupt the supply chain, negatively impacting profitability if costs cannot be passed on to customers.

The integration of the Arroweye acquisition presents execution risks, including potential difficulties in combining operations, achieving anticipated revenue and cost synergies, and diverting management attention. There is no guarantee that the expected benefits and synergies will be fully realized or offset integration costs in the near term. The increased indebtedness used to fund the acquisition adds financial risk, requiring sufficient cash generation or access to financing to service debt obligations.

Competition remains intense across all segments, potentially pressing pricing and market share. Failure to continue innovating and adapting to technological shifts, such as the increasing adoption of digital payment alternatives, could erode market position. While channel inventories are improving, unexpected changes in customer inventory management practices could still impact order volumes.

Conclusion

CPI Card Group is navigating a dynamic payments landscape by leveraging its established position in physical card solutions while strategically investing in diversification and higher-value offerings. The acquisition of Arroweye Solutions represents a bold move to enhance digital capabilities and access new market segments, aligning with the broader strategy to expand the addressable market and drive long-term growth. While near-term profitability may face pressure from integration costs, investments, and external factors like tariffs, the affirmation of the organic 2025 outlook signals management's confidence in the underlying business momentum and the effectiveness of strategic initiatives. The investment narrative for PMTS hinges on its ability to successfully integrate Arroweye, execute on its digital and adjacent market expansion plans, and translate these strategic efforts into sustained revenue growth, margin expansion, and ultimately, enhanced shareholder value beyond the traditional card manufacturing cycle. The path forward involves balancing necessary investments with disciplined cost management and effectively countering competitive pressures through innovation and operational excellence.