Business context and reporting period
National Research Corporation (NRC Health) provides performance measurement, healthcare analytics and governance education services to healthcare organizations in the U.S. and Canada. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2012; financial amounts below are in U.S. dollars.
Financial performance
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Revenue | $20.6m | $18.3m | $43.0m | $38.1m |
| Operating income | $5.2m | $3.8m | $11.3m | $9.5m |
| Operating margin | 25.3% | 21.0% | 26.3% | 25.0% |
| Net income | $3.9m | $2.3m | $7.8m | $5.8m |
| Diluted EPS | $0.57 | $0.34 | $1.12 | $0.85 |
| Operating cash flow | Not reported separately for the quarter | $7.8m | $8.3m |
Q2 revenue increased 12.6% year over year and six-month revenue rose 12.9%, which management attributed to market-share gains and growth within existing clients. For the first half, subscription-based agreements generated 71% of revenue versus 56% a year earlier and represented 75% of contract value at June 30.
Q2 direct expenses rose 18.9% to $8.6m, increasing to 41.8% of revenue from 39.6%, reflecting higher survey-related costs and investment in technology, research and service resources. SG&A fell 7.0% to $5.6m and declined to 27.0% of revenue from 32.7%, as revenue growth leveraged these costs. For the first half, direct expenses rose 25.3% and were 40.8% of revenue, while SG&A fell 3.0% and was 27.2% of revenue.
Liquidity, cash flow and debt
Cash and cash equivalents were $11.2m at June 30, 2012, up from $8.1m at year-end 2011; $4.6m was held in Canada and intended to remain invested in foreign operations. Working capital was $3.0m, compared with a $2.3m deficit at December 31, 2011. Current deferred revenue was $17.4m, up from $16.5m, largely reflecting contract billing timing.
First-half operating cash flow was $7.8m, versus $8.3m in 2011. Capital expenditures were $1.3m; investing cash use totaled $1.3m, compared with $5.3m in 2011, which included about $4.0m of acquisition earn-out payments. Financing cash use was $3.4m, including $3.5m in dividends and $0.9m in term-loan repayments. Cash increased $3.1m over the half-year.
Total notes payable were $13.6m at June 30, including $2.1m current; the term loans bear 3.79% interest and have balloon payments due July 31, 2013. The company said it expects to refinance before maturity and believes operating cash flow could meet debt and capital needs if extension is unavailable. A $6.5m revolving facility was renewed through June 30, 2013, was undrawn, and had $6.5m available under the borrowing base. The company was in compliance with debt covenants.
Outlook, risks and notable items
- Management projected full-year 2012 direct expenses averaging about 40% of revenue, SG&A about 28%, and depreciation and amortization about 6%. It expected capital expenditures similar to the first half. The filing provides no clear full-year revenue or earnings guidance.
- The effective tax rate fell to 22.9% for Q2 and 29.5% for the first half, primarily due to a $575,000 adjustment from lower deferred state tax rates, a $45,000 reduction in state tax balances, and federal tax credits of $87,000 for Q2 and $198,000 for the first half. The rate reduction materially supported earnings comparisons.
- Unrecognized tax benefits were $350,000, plus $22,000 interest; management said these could decrease over the next 12 months as certain statutes of limitation expire.
- Goodwill was $57.7m; management reported no indication of impairment of goodwill or other non-financial assets at June 30.
- Key stated risks include contract non-renewals, dependence on a limited number of key clients, competition and pricing pressure, economic weakness, healthcare-industry consolidation and regulatory changes, and retention of key personnel. The company reported no material changes to its previously disclosed risk factors.
- Disclosure controls were assessed as effective, with no material change in internal control over financial reporting reported during the quarter.
Most important facts for investors to verify
- Whether revenue and subscription growth continue, and whether rising direct costs moderate as management projected.
- Progress toward refinancing the $13.6m term debt before the July 2013 balloon maturities, and continued covenant compliance.
- Cash conversion and working-capital trends, particularly receivables, unbilled revenue and deferred revenue.
- How much of the earnings increase reflects operating growth versus the lower effective tax rate and tax adjustments.
- Client concentration and renewal performance, given the disclosed contract-renewal and key-client risks.