HealthEquity, Inc. — Q3 FY2019 Form 10-Q
Reporting period: Quarter and nine months ended October 31, 2018; comparisons are with the corresponding 2017 periods. HealthEquity provides technology-enabled healthcare account services, including HSA administration, custody and payment-card services.
Financial performance
| Metric | Three months | Nine months |
|---|---|---|
| Revenue | $70.5 million, up 24% | $211.5 million, up 25% |
| Gross profit / margin | $45.8 million / 65.0% (prior: 59.4%) | $136.7 million / 64.7% (prior: 61.1%) |
| Operating income | $19.0 million, up 40% | $61.1 million, up 33% |
| Net income | $15.7 million, up 50%; diluted EPS $0.25 | $60.8 million, up 47%; diluted EPS $0.96 |
| Adjusted EBITDA (non-GAAP) | $29.7 million, up 40%; 42% of revenue | $91.1 million, up 35%; 43% of revenue |
| Operating cash flow | — | $80.8 million (prior: $61.9 million) |
For the quarter, service revenue was $25.0 million (+9%), custodial revenue $31.6 million (+43%), and interchange revenue $13.9 million (+18%). Year-to-date, these were $74.8 million (+10%), $90.7 million (+45%), and $46.0 million (+21%), respectively. Custodial growth reflected both higher average cash balances and yield.
At October 31, cash, cash equivalents and marketable securities totaled $330.3 million, versus $240.3 million at January 31. Current assets were $363.8 million and current liabilities $17.4 million. Total liabilities were $20.9 million; the company had no borrowings under its $100 million revolving facility and reported covenant compliance. Cash increased $89.5 million during the nine months. Investing activities used $12.6 million and financing activities provided $21.3 million, primarily from stock-option exercises.
Business trends and changes
- HSA members reached 3.677 million, up 22% year over year; active members were 2.972 million, up 17%.
- Custodial assets rose 27% to $7.09 billion; custodial investments increased 53% to $1.51 billion. Average custodial cash yield increased to 2.14% in the quarter from 1.85% a year earlier.
- Revenue growth outpaced cost of revenue growth, supporting higher gross margin. Operating expenses rose 33% in the quarter and 32% year to date, including increased staffing, stock-based compensation, technology investment and acquired-intangible amortization.
- Service revenue per HSA member declined about 11%; management attributed this partly to tiered partner pricing. Interchange revenue per member also declined, reflecting lower payment activity per member.
- Adoption of ASC 606 led to capitalization and amortization of eligible sales commissions. It increased nine-month net income by $0.3 million versus the prior accounting treatment and increased opening retained earnings by $13.0 million.
Outlook, risks and unusual items
- No specific revenue, earnings or other quantitative guidance was provided. Management expects technology and development spending to rise for the foreseeable future; sales and marketing and general and administrative expenses are also expected to increase in dollars. Capital expenditures were expected to rise for the remainder of FY2019.
- Management said existing liquidity should meet operating and capital requirements for at least 12 months. It expects annual gross margin to increase somewhat in the near term as custodial revenue grows as a share of revenue, while noting period-to-period variability.
- Results are exposed to interest rates, HSA and healthcare policy changes, partner/member growth, competition, regulation and seasonality. A sustained decline in rates could reduce custodial revenue.
- The filing highlights several limited data-privacy incidents in 2018 and heightened cybersecurity, privacy, regulatory, litigation and reputational risks; it reports no material litigation as of the filing date.
- A September 2018 lease amendment expands Draper, Utah office space from February 2020 and extends the lease through November 2030. The company disclosed approximately $35.5 million of rent increases over the lease term and $79.2 million of future minimum lease payments across listed obligations.
- Quarter results included a $0.7 million loss on disposal of previously capitalized software development costs. The nine-month tax benefit was $1.3 million, while the quarter had a $1.7 million tax expense; management cited tax-law changes, R&D credits and excess stock-compensation tax benefits.
Investor verification points
- Verify whether custodial asset growth and higher yields can continue, and assess sensitivity to rate changes and partner deposit terms.
- Track member growth alongside revenue per member, active-member trends and payment activity.
- Review the sustainability of margin expansion against rising operating expenses, stock-based compensation and capitalized commission costs.
- Assess the long-term lease commitment, planned technology investment and any future use of the revolving credit facility.
- Monitor cybersecurity incidents, related disclosures and remediation, as well as unresolved tax-law measurement estimates and unrecognized tax benefits.
- Reconcile Adjusted EBITDA to GAAP results and consider the effects of the filing’s excluded costs and non-cash items.