H&R Block, Inc. — Q3 FY2015 Form 10-Q
Business context and period: The quarter and nine months ended January 31, 2015; fiscal year ends April 30. H&R Block provides assisted and do-it-yourself tax preparation and related financial products. The business is highly seasonal, with peak revenue generally from January through April. Unless noted, amounts below are in millions of dollars.
Financial results and liquidity
| Metric | Quarter ended Jan. 31, 2015 | Quarter ended Jan. 31, 2014 | Nine months ended Jan. 31, 2015 | Nine months ended Jan. 31, 2014 |
|---|---|---|---|---|
| Revenue | $509.1 | $199.8 | $777.3 | $461.3 |
| Loss from continuing operations | $35.3 | $212.8 | $257.4 | $429.0 |
| Net loss | $36.9 | $214.7 | $265.2 | $434.8 |
| Basic and diluted loss per share | $0.13 | $0.78 | $0.97 | $1.59 |
| Cash used in operating activities | Not reported by quarter | Not reported by quarter | $1,247.2 | $1,120.3 |
- Quarterly operating expenses were $584.2 million, exceeding revenue; the filing does not provide a standard gross-margin measure.
- At January 31, cash and cash equivalents were $1,321.1 million, including $51.1 million restricted. Current assets were $2,778.3 million and current liabilities $2,471.1 million.
- Commercial paper borrowings were $591.5 million; long-term debt was $505.5 million. Customer banking deposits were $1,286.2 million. The company repaid $400 million of 5.125% notes at maturity in October 2014.
- Cash used in investing activities was $132.7 million; cash provided by financing activities was $531.3 million for the nine-month period. Cash declined $864.2 million to $1,321.1 million.
- Dividends declared were $0.20 per share for the quarter and $0.60 per share year to date; cash dividends paid year to date were $164.9 million.
Material changes and operating trends
- Reported revenue rose sharply versus the prior-year quarter, primarily because $276.7 million of tax-preparation-related revenue was not recognized by January 31, 2014 and was recognized in that year’s fourth quarter. The filing says there was no comparable unearned revenue at January 31, 2015; therefore reported growth is not directly comparable.
- Excluding that timing effect, management cited U.S. tax-preparation price increases, greater return complexity, favorable mix, and growth in digital returns. U.S. digital revenue benefited from more desktop and online returns.
- For the nine months, U.S. assisted and franchise returns prepared were 2.479 million versus 2.553 million, while U.S. tax-software returns were 1.207 million versus 0.791 million. Through February 28, 2015, office-prepared returns were down 8.7% year over year and paid digital returns were up 6.7%.
- Operating expenses increased, including compensation, marketing, and depreciation and amortization; the latter reflected acquisitions and office improvements. Acquisitions of franchisee and competitor businesses cost $112.2 million year to date, versus $37.9 million in the prior-year period.
- Year-to-date operating cash use increased $126.9 million, primarily due to higher income tax payments. Investing cash use increased chiefly because of higher acquisition payments and the absence of a prior-year $64.9 million note collection.
Outlook, commentary, risks and unusual items
- Seasonality: Management cautions that interim results are not indicative of full-year results; the company typically incurs losses from May through December and generates substantial revenue and cash flow during January through April. Management said existing liquidity sources were sufficient for operating and financing needs absent unexpected developments.
- HRB Bank divestiture: The planned transaction with BofI remained subject to regulatory approvals and other conditions. The parties set June 30, 2015 as the expected closing date, unless otherwise agreed. If it closes then, H&R Block estimated a cash payment of $425–$575 million to BofI and intended to liquidate approximately $368 million of bank-held securities. Completion and timing were uncertain.
- Management estimated the ongoing annual impact of the related financial-product agreements would be dilutive by approximately $0.07–$0.09 per share beginning in fiscal 2016, depending on product volumes and closing date.
- Pending the bank divestiture, H&R Block became subject to savings and loan holding company capital requirements. Management said internal calculations exceeded minimums, but regulatory oversight was expected to restrict capital-allocation options, including share repurchases.
- Taxes: A $18.7 million discrete tax benefit was recorded in the quarter; the year-to-date net discrete tax benefit was $30.9 million, principally related to settlement of the 2011–2012 federal audit and statute expirations. The annual effective tax rate may differ from the interim rate.
- Mortgage-related contingencies: The discontinued mortgage business had a $143.8 million accrued liability for representation-and-warranty claims. The company stated that additional indemnification claims could be material, but it had not concluded a loss was probable or estimable for those claims. Outcomes and estimates remain uncertain.
- Other litigation includes refund-product, compliance-fee, Form 8863, and mortgage-related cases. The company reported no conclusion that losses were probable for several listed matters; unfavorable outcomes could nevertheless be material.
- HRB Bank had $1,286.2 million of deposits, and cash held by the bank was subject to regulatory constraints. The company also reported that foreign-exchange movements reduced cash by $15.5 million year to date.
Important facts for investors to verify
- Separate underlying tax-season performance from the prior-year revenue-recognition timing difference; review return volumes, pricing, mix, and digital growth.
- Track the BofI transaction’s regulatory approvals, closing date, final cash payment, and projected per-share dilution.
- Assess seasonal liquidity and funding needs, including commercial paper, customer deposits, restricted or bank-held cash, and the $1.5 billion committed credit line.
- Monitor mortgage representation-and-warranty accruals and unaccrued indemnification exposure, as well as other material litigation developments.
- Evaluate the sustainability of dividends and potential repurchases given regulatory constraints and the company’s seasonal cash flows.