Business context and reporting period
i3 Verticals, Inc. provides payment-processing and software solutions to small and midsize businesses and organizations in vertical markets including education, public sector, property management, healthcare and nonprofits. This unaudited Form 10-Q covers the fiscal quarter and six months ended March 31, 2019 (fiscal Q2 and first half of 2019). Financial amounts below are in U.S. dollars; monetary figures are in millions unless stated otherwise.
Financial performance and liquidity
| Metric | Three months ended March 31, 2019 | Prior-year quarter | Six months ended March 31, 2019 | Prior-year six months |
|---|---|---|---|---|
| Revenue | $85.4 | $77.7 | $170.3 | $154.9 |
| Operating income (loss) | ($0.2) | $2.6 | $3.3 | $5.9 |
| Net income (loss), consolidated | ($1.2) | ($6.8) | $1.1 | ($7.2) |
| Net income (loss) attributable to i3 Verticals, Inc. | ($1.1) | ($6.8) | ($0.9) | ($7.2) |
| Interest expense, net | $1.2 | $2.6 | $2.1 | $5.0 |
Second-quarter revenue rose 9.9%; operating expenses grew 14.0%, and the company recorded an operating loss. Six-month revenue also grew 9.9%, while operating income declined 44.0%. Class A net loss per share was $0.12 for the quarter and $0.10 for the six-month period; prior-year EPS is not presented because the company’s pre-IPO ownership structure made it not meaningful.
Quarterly payment volume increased 6.7% to $2.9 billion; six-month volume increased 5.4% to $5.9 billion. Integrated payments reached 49% of quarterly volume, up from 39% a year earlier. Management reported approximately 1% net payment-volume attrition per month during the first half. Six-month processing margin was $47.3 million, compared with $39.8 million; this company-defined measure is revenue less interchange and network fees and other service costs, with specified residual expense added back.
For the six months, operating cash flow was $11.4 million, versus $9.6 million. Investing used $44.9 million, principally for acquisitions; financing provided $34.3 million, primarily reflecting revolving-credit borrowings. Cash and cash equivalents were $1.4 million at March 31, 2019, with a further $0.7 million of restricted cash. Total debt was $76.3 million before unamortized issuance costs, including $5.0 million current; $66.3 million of borrowing capacity remained under the then-existing facility. Current liabilities exceeded current assets by approximately $12.0 million.
Material changes and unusual items
- Four acquisitions completed in the first half had total consideration of $45.8 million, including $41.2 million funded with revolving-credit borrowings and $4.6 million of contingent consideration. Acquisitions contributed $11.3 million of the first-half revenue increase, according to management.
- SG&A increased 40.4% in the quarter and 40.9% for the first half, mainly from higher employment costs, stock compensation and acquisition-related headcount. First-half equity-based compensation was $2.3 million.
- Contingent-consideration fair-value expense was $2.5 million in the quarter and $2.2 million for the first half, primarily reflecting strong performance at some acquired businesses. The contingent-consideration liability was $8.6 million at March 31.
- Interest expense declined year over year, reflecting lower average borrowings and rates and repayment of older notes in connection with the 2018 IPO. The prior-year periods included $6.6 million and $8.2 million of warrant-liability fair-value expense for the quarter and six months, respectively; the warrants were exercised in June 2018.
- Revenue from certain older purchased merchant portfolios continued to decline: down 32.1% in the quarter and 29.8% for the first half. Excluding those portfolios, management reported revenue growth of 12.5% and 12.6%, respectively.
- The company changed the amortization rate for certain merchant-contract intangible assets prospectively from October 1, 2018, based on expected future cash flows.
Outlook, risks and contingencies
The filing provides no quantified revenue or earnings guidance. Management said operating cash flow, cash on hand and borrowing capacity under the new facility were expected to fund operations, planned capital expenditures and debt service for at least the next twelve months. It noted seasonal revenue patterns, including weaker payment activity in the first calendar quarter and education-related seasonality.
On May 9, 2019, after quarter-end, the company replaced its 2017 facility with a $300 million revolving credit facility, with options for up to $50 million of additional revolver capacity and/or term loans, subject to lender commitments. The new facility matures May 9, 2024 and is secured by substantially all company assets. The filing identifies risks including acquisition integration and financing, competition, client retention and attrition, reliance on distribution partners and third parties, technology and data-security risks, regulation, indebtedness and facility covenants.
Other obligations include $10.2 million of minimum processing commitments and $9.6 million of operating-lease payments disclosed at March 31. The company reported no off-balance-sheet financing arrangements. The Expert Auto class-action settlement of $1.0 million was funded April 8, 2019 and is concluded; a related insurance-coverage dispute settled for $0.1 million payable to the company, collected April 16, and is also concluded. Management said other indemnification matters were not expected to have a material impact. Subsequent to quarter-end, the company also completed acquisitions announced for April 3 and May 1, including cash consideration funded with revolver borrowings.
Most important facts for investors to verify
- Whether organic payment-volume growth and integrated-payment gains can offset attrition in the older purchased portfolios.
- Whether acquisition-driven revenue growth converts into sustained operating income and cash flow as SG&A, amortization and contingent-consideration costs rise.
- Post-acquisition leverage, borrowing costs, covenant headroom and liquidity under the new credit facility; March 31 balances predate that refinancing and subsequent acquisitions.
- The eventual fair values and cash payments for contingent consideration, and the financial performance of acquired businesses.
- The impact of the Tax Receivable Agreement, which entitles continuing equity owners to 85% of specified realized or deemed tax benefits; its reported liability was $1.5 million at March 31, and future payments may vary.