H&R Block, Inc. — Q2 FY2019 Form 10-Q
Reporting period: Quarter and six months ended October 31, 2018. Unless noted, amounts are in millions. H&R Block provides assisted and do-it-yourself tax preparation and related services. Its business is highly seasonal, with peak revenue and cash flow generally occurring from February through April; interim losses are not indicative of full-year results.
Financial performance and position
| Metric | Three months ended Oct. 31, 2018 | Prior year | Six months ended Oct. 31, 2018 | Prior year |
|---|---|---|---|---|
| Revenue | $148.9 | $140.9 | $294.1 | $278.7 |
| Net loss from continuing operations | $(170.9) | $(148.3) | $(319.7) | $(276.1) |
| Net loss, including discontinued operations | $(176.3) | $(153.6) | $(328.9) | $(284.1) |
| Consolidated loss per share | $(0.86) | $(0.74) | $(1.59) | $(1.36) |
| EBITDA from continuing operations (non-GAAP) | $(169.3) | $(170.2) | $(306.4) | $(310.6) |
- Revenue grew 5.7% for the quarter and 5.5% for the six-month period, while net losses widened. Operating expenses increased 2.0% and 1.7%, respectively. The filing does not present a conventional positive operating margin for these seasonal interim periods.
- Six-month operating cash use was $627.7, compared with $648.5 a year earlier. Investing cash use was $83.2; financing cash use was $226.3, including $103.5 of dividends and $102.1 of share repurchases and surrendered shares. Cash, cash equivalents and restricted cash declined $940.4 to $723.3.
- At October 31, cash and cash equivalents excluding restricted cash were $600.8; restricted cash was $122.5. Total current assets were $891.0 and current liabilities $435.7. Stockholders’ equity was a deficit of $31.3.
- Long-term debt was $1,491.3, principally senior notes. The company had no borrowings under its $2.0 billion revolving credit facility; covenant limits reduced available borrowing capacity to approximately $1.7 billion. It reported compliance with the facility covenants.
- Dividends declared were $0.25 per share for the quarter and $0.50 for the six months, versus $0.24 and $0.48, respectively, a year earlier.
Changes versus the prior comparable period
- U.S. assisted tax preparation revenue rose 13.6% in the quarter and 9.2% year to date, attributed primarily to higher off-season volume and average charge. U.S. DIY revenue fell 29.8% and 22.9%, respectively.
- International revenue declined 5.1% in the quarter and 4.2% year to date, reflecting unfavorable exchange rates in Australia; the year-to-date comparison also reflected an extended Canadian tax season in the prior year.
- Tax Identity Shield revenue increased substantially, primarily because a new product feature affected the timing of revenue recognition. Peace of Mind revenue rose 7.7% year to date, partly due to a change in the claims pattern used for recognition.
- Occupancy costs increased, partly due to lease buyout payments associated with previously announced field-office consolidation and higher rental rates. Technology wages and software/IT maintenance spending also increased. Depreciation and amortization declined.
- Net losses were higher despite lower pretax losses, primarily as the income tax benefit decreased. Management attributed the lower benefit to the Tax Cuts and Jobs Act.
Outlook, risks and unusual items
- On October 29, 2018, the company announced upfront, transparent pricing across tax preparation methods beginning January 2019, including lower prices for millions of assisted tax clients. Management said this would reduce FY2019 revenue; no quantified impact or earnings guidance is provided in the supplied filing text.
- Management said existing liquidity sources were expected to meet operating, investing and financing needs absent unexpected developments. The company typically uses cash and borrowing capacity to fund off-season working-capital needs.
- The company was still finalizing provisional accounting for the 2017 U.S. tax legislation. Final adjustments were expected in Q3 FY2019 and could materially affect financial statements. The six-month effective tax rate was 25.8%, compared with 37.5% a year earlier. Adoption of an income-tax accounting standard increased opening retained earnings and deferred tax assets by $101.0.
- New lease accounting was expected to take effect May 1, 2019. Management said the effect could be significant; future minimum operating lease commitments were $820.9 as of April 30, 2018.
- The CFPB Payday Rule’s implementation remained uncertain following a proposed reconsideration and a court stay of its compliance date. Depending on its final form and timing, it could materially affect the Emerald Advance product and the company.
- Discontinued mortgage operations remain a source of litigation and potential indemnification or contribution claims. No loss was deemed probable or accrued for the described major claims; the company said the reasonably possible loss range in excess of accruals was not material where estimable, while some exposures could not be estimated. Total accrued litigation liabilities were $3.0.
- The company renewed its revolving credit agreement, extending maturity to September 2023. It also exercised an option to acquire an office building previously recorded as a capital lease.
Investor verification priorities
- Track the realized revenue and earnings effects of the January 2019 pricing changes, especially assisted-tax pricing and client volume.
- Review tax-season results and cash conversion before drawing conclusions from the seasonal first-half losses and cash outflow.
- Monitor tax-legislation measurement adjustments, including the expected Q3 finalization and any impact on the effective tax rate.
- Confirm borrowing capacity and covenant compliance as seasonal cash needs evolve; distinguish restricted cash from funds available for general use.
- Follow developments in the Payday Rule, lease-accounting adoption and discontinued-mortgage litigation and indemnification claims.
- Assess whether reported revenue growth from Tax Identity Shield and Peace of Mind reflects durable underlying demand or primarily changes in recognition timing.