HealthEquity, Inc. — FY2020 Form 10-K
Reporting period: Fiscal year ended January 31, 2020 (not calendar 2019 Q4). The year includes WageWorks results only from its August 30, 2019 acquisition, so comparisons are materially affected by the transaction.
Business context
HealthEquity operates a U.S. technology-enabled platform for health savings accounts (HSAs) and other consumer-directed benefits, including FSAs, HRAs, COBRA and commuter benefits. It earns service, custodial and payment-card interchange revenue. At year-end, it administered 5.3 million HSAs with $11.5 billion of HSA assets, plus 7.4 million other benefit accounts, for 12.8 million total accounts.
Financial and operating performance
| Metric | FY2020 | FY2019 | Change |
|---|---|---|---|
| Revenue | $532.0 million | $287.2 million | +85% |
| Gross profit / margin | $325.9 million / 61.3% | $181.2 million / 63.1% | Margin down 1.8 points |
| Operating income / margin | $77.0 million / 14.5% | $77.7 million / 27.0% | Income down 1% |
| Net income | $39.7 million | $73.9 million | Down 46% |
| Diluted EPS | $0.58 | $1.17 | Down 50% |
| Adjusted EBITDA (non-GAAP) / margin | $196.5 million / 37% | $118.4 million / 41% | EBITDA +66% |
| Operating cash flow | $105.0 million | $113.4 million | Down $8.4 million |
Revenue by source: service $262.9 million (+161%), custodial $181.9 million (+44%) and interchange $87.2 million (+44%). WageWorks contributed $184.7 million of FY2020 revenue, with only five months consolidated. Growth also reflected higher HSA balances and custodial yields; average custodial cash yield rose to 2.38% from 2.15%.
Cash and cash equivalents were $191.7 million, versus $361.5 million a year earlier; working capital was $145.4 million. Investing cash outflow was $1.740 billion, largely reflecting the acquisition. Financing cash inflow was $1.466 billion. Capital expenditures were $32.9 million. Total assets were $2.565 billion and total liabilities $1.535 billion.
Debt at year-end was $1.242 billion principal ($1.221 billion net of issuance costs), under a secured term loan; the $350 million revolving facility was undrawn. Stated interest was 3.65% (effective 4.10%). The company reported compliance with its credit covenants. Management said existing cash, operating cash flow and revolver availability should cover operating and capital needs for at least 12 months.
Material changes versus the prior year
- The WageWorks acquisition for approximately $2.0 billion substantially expanded accounts, CDB services, revenue and assets. Total accounts rose 180%; HSAs rose 34% and HSA assets rose 43%.
- Operating expenses increased 140% to $248.9 million, including $32.1 million of merger-integration expense and $34.7 million of acquired-intangible amortization. Acquisition costs were $40.8 million, and interest expense rose to $24.8 million from $0.3 million.
- Net income and EPS declined despite higher revenue, primarily reflecting acquisition-related costs, debt interest, amortization and other transaction effects. Adjusted EBITDA grew, but its revenue margin fell from 41% to 37%.
- Cash declined following the acquisition and related investment activity. The company issued 7.76 million shares in a follow-on offering and received $458.5 million net proceeds.
Outlook, risks and unusual items
- Integration targets: Management estimated approximately $50 million in annualized ongoing net synergies by the end of FY2021, with $80–$100 million of aggregate non-recurring integration costs over 24–36 months. Further longer-term revenue synergies were expected, but not quantified.
- COVID-19 outlook: The filing, signed March 31, 2020, warned of expected adverse effects from lower interest rates on custodial revenue, market fluctuations affecting investment assets and related fees, delayed or virtual sales, potential service disruptions, reduced commuter-benefit activity, and possible client payment difficulties. The impact was described as highly uncertain; the filing did not provide quantified forward guidance.
- Integration and controls: Client platform migrations, attrition, employee turnover, integration costs and the realization of synergies remain risks. WageWorks’ previously identified material weaknesses in financial reporting controls were unremediated at January 31, 2020. HealthEquity excluded WageWorks from its own control assessment for the permitted first year; management and the auditor concluded HealthEquity’s assessed controls were effective, excluding WageWorks.
- Other principal risks: Reliance on tax-advantaged HSAs and CDBs, interest rates and depository partners, payment-card interchange, third-party vendors, cybersecurity and privacy, regulation, competition, and the secured variable-rate debt and its covenants. A 1 percentage-point rise in rates on year-end debt was estimated to add about $12.5 million of annual interest expense.
- Contingencies: WageWorks-related securities and derivative litigation, SEC and U.S. Attorney investigations, and a dispute with OPM were pending. The company said losses were not then considered probable or reasonably estimable; an adverse outcome could materially affect results. Goodwill was $1.33 billion and acquired intangibles $783.3 million; no impairment was reported.
- The auditor issued an unqualified opinion on the financial statements and on HealthEquity’s internal controls within the scope assessed. The acquisition purchase-price allocation and acquired intangible valuations remained subject to measurement-period estimates.
Most important facts for investors to verify
- Whether the company achieved the stated integration synergies and controlled the estimated $80–$100 million integration costs, while retaining migrated WageWorks clients.
- How COVID-19 affected custodial yields, commuter and interchange activity, client collections, service levels, and compliance with debt covenants.
- Debt repayment, leverage and covenant headroom, including sensitivity to variable interest rates and the large FY2025 principal maturity.
- Progress in remediating WageWorks’ material weaknesses and integrating its financial reporting systems and controls.
- Whether HSA asset growth and account expansion translate into sustainable GAAP earnings and margins, rather than mainly acquisition-driven scale or adjusted EBITDA.
- Developments and potential exposure from WageWorks litigation, government investigations, the OPM claim, and goodwill or intangible-asset impairment testing.