Business Context and Reporting Period
Company: H&R Block, Inc.
Filing Type: Form 10-K (Annual Report)
Period Ended: April 30, 2009
H&R Block operates three primary segments: Tax Services (retail, online, and software tax preparation), Business Services (accounting and consulting via RSM McGladrey), and Consumer Financial Services (retail banking via H&R Block Bank). The fiscal year was significantly impacted by the sale of its financial advisory business (HRBFA) to Ameriprise in November 2008, which is now reported as discontinued operations. The company also exited its mortgage loan origination business in the prior year.
Key Financial Metrics
| Metric | Fiscal 2009 | Fiscal 2008 |
|---|---|---|
| Total Revenues | $4,083.6 million | $4,086.6 million |
| Net Income (Loss) | $485.7 million | $(308.6) million |
| Net Income from Continuing Operations | $513.1 million | $445.9 million |
| Diluted EPS (Continuing Ops) | $1.53 | $1.36 |
| Operating Cash Flow | $1,024.4 million | $258.8 million |
| Total Assets | $5,359.7 million | $5,623.4 million |
| Long-Term Debt | $1,032.1 million | $1,031.8 million |
| Cash and Cash Equivalents | $1,654.7 million | $664.9 million |
Material Changes vs. Prior Period
- Revenue Stability: Total revenues remained essentially flat ($4.1 billion) compared to the prior year, despite a 3.2% decline in U.S. tax returns prepared due to the economic recession and clients seeking lower-cost alternatives.
- Profitability Improvement: Diluted earnings per share from continuing operations increased 12.5% to $1.53, driven by cost containment measures and a 320 basis point increase in the Tax Services segment's pretax margin to 29.5%.
- Discontinued Operations: The company reported a net loss of $27.4 million from discontinued operations in 2009, a significant improvement from the $754.6 million loss in 2008, which included massive provisions for mortgage loan repurchases and impairments.
- Banking Segment Loss: The Consumer Financial Services segment reported a pretax loss of $14.5 million, reversing a $11.5 million profit in 2008. This was primarily due to a $63.9 million provision for loan losses on mortgage loans held for investment, driven by declining home prices and rising delinquencies.
- Acquisition: In November 2008, the company acquired its last major independent franchise operator for $279.2 million, adding approximately 470,000 tax returns to its company-owned volume.
Guidance, Outlook, and Risks
Management Commentary: Management highlighted successful cost reduction initiatives across all segments. The Tax Services segment benefited from higher average fees per return (up 7.2%) due to increased return complexity. The company maintains a strong liquidity position with $1.65 billion in cash and $2.0 billion in available credit facilities.
Key Risks and Contingencies:
- Mortgage Loan Portfolio: The company holds $821.8 million in mortgage loans for investment. Delinquency rates rose to 20.23%, and the allowance for loan losses increased to 10.23% of the portfolio. Management warns that further declines in home prices could necessitate additional significant provisions.
- Discontinued Mortgage Operations: The company faces ongoing litigation and repurchase obligations related to its former mortgage origination business (Sand Canyon Corporation). A liability of $206.6 million was recorded for loan repurchase obligations.
- Legal Proceedings: Significant pending litigation includes class actions regarding Refund Anticipation Loans (RALs) and the "Peace of Mind" guarantee program. While management believes it has meritorious defenses, outcomes are uncertain.
- Economic Conditions: The ongoing recession poses risks to consumer spending, demand for tax services, and the credit quality of the loan portfolio.
Investor Verification Checklist
- Mortgage Loan Loss Provisions: Verify the adequacy of the $84.1 million allowance for loan losses against the $821.8 million mortgage portfolio, specifically regarding the 65% of loans purchased from Sand Canyon Corporation which have higher delinquency rates.
- Discontinued Operations Liability: Review the $206.6 million liability for mortgage loan repurchase obligations and the potential for future claims to exceed current estimates.
- Legal Reserves: Assess the potential financial impact of pending RAL and Peace of Mind class action lawsuits, noting that no liability has been recorded for most matters as losses are not deemed probable.
- Liquidity Covenants: Confirm compliance with debt covenants, specifically the requirement to maintain a minimum net worth of $650 million and the "clean-down" requirement for short-term debt.
- Franchise Acquisition Integration: Monitor the financial performance of the recently acquired franchise operator to ensure it meets projected revenue and margin targets.