Harte Hanks, Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018. Dollar amounts are in millions unless noted. Harte Hanks provides multichannel marketing services, including agency and digital services, database marketing, direct mail and fulfillment, and contact centers.
Financial performance and liquidity
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Revenue | $69.6 | $94.7 | $150.8 | $189.6 |
| Operating loss | ($6.3) | ($1.8) | ($11.3) | ($8.1) |
| Operating margin | (9.1%) | (1.9%) | (7.5%) | (4.3%) |
| Net income/(loss) | ($6.7) | ($2.7) | $25.9 | ($10.0) |
| Diluted EPS | ($1.10) | ($0.43) | $3.62 | ($1.62) |
| Operating cash flow | Not separately presented | Not separately presented | $2.5 | ($41.8) |
- Revenue fell 26.5% in Q2 and 20.5% in the first half. Management attributed the declines to lower volumes and lost clients across all verticals, as well as the February sale of 3Q Digital.
- Q2 operating expenses fell 21.3%, less than the revenue decline, and operating loss widened. First-half expenses declined 18.0%, also less than revenue.
- First-half net income included a $31.0 million pretax gain on the 3Q Digital sale and a $9.4 million income tax benefit. The reported $3.62 diluted EPS therefore does not reflect recurring operating profitability.
- Cash was $20.2 million at June 30, versus $8.4 million at year-end 2017. Current assets were $96.5 million and current liabilities $54.1 million. Total liabilities were $117.5 million; stockholders’ equity was a deficit of $7.3 million. Pension liabilities were $58.8 million.
- No long-term debt was outstanding at June 30. The secured revolving credit facility has a $22 million capacity and matures April 17, 2020; $2.8 million of letters of credit were outstanding, with none drawn. The facility is secured by substantially all company assets and guaranteed by HHS Guaranty.
- First-half investing cash flow was positive $1.8 million, including disposition proceeds; financing cash flow was positive $8.5 million. Capital expenditures were $2.1 million.
Material changes and unusual items
- On February 28, 2018, the company sold 3Q Digital for $5.0 million in cash, subject to working-capital adjustments, with up to $5.0 million of additional consideration if specified resale conditions are met. The buyer assumed the company’s $35.0 million contingent consideration obligation related to the 2015 acquisition; the transaction generated a $31.0 million pretax gain.
- In January, Wipro purchased $9.9 million of Series A convertible preferred stock. It carries cumulative dividends at 5% annually, is convertible into approximately 1.0 million common shares, and has specified investor protections and potential redemption rights. It is classified as mezzanine equity.
- The company completed a 1-for-10 reverse stock split effective February 1, 2018. 2017 share and per-share figures were retrospectively adjusted.
- ASC 606 was adopted January 1, 2018. Management reported no significant impact on first-half earnings or operating cash flow; 2018 and 2017 revenue figures are prepared under different accounting standards.
Outlook, risks and controls
- No specific revenue, earnings, or cash-flow guidance is provided. Management described a challenging competitive environment and said it is focusing on core business, restructuring the workforce, reducing expenses, and investing selectively in product offerings. It expects the 3Q Digital sale and Wipro financing to enhance liquidity and financial flexibility.
- Management stated that it saw no conditions, considered in aggregate, raising substantial doubt about the company’s ability to continue as a going concern for the 12 months following issuance of the statements.
- Marketing budgets are discretionary and may be reduced by clients. Other disclosed exposures include competition, client retention and demand, mail transportation costs, foreign-exchange movements, pension obligations, and contingent legal claims. Management said no material changes to previously disclosed risk factors occurred; it considers material loss beyond recorded legal accruals remote.
- Disclosure controls were concluded to be ineffective because of material weaknesses in the control environment and revenue-recognition controls. Remediation efforts were underway, with further work and testing expected through 2018; management gave no assurance of successful or timely remediation. Management nevertheless concluded the financial statements were fairly presented in all material respects.
Investor verification points
- Assess underlying revenue trends and operating losses by business and client, separating ongoing performance from the 3Q Digital divestiture effect.
- Reconcile first-half reported earnings to ongoing results, including the sale gain, tax benefit, preferred dividends, and participating-security allocation.
- Review operating cash generation, working-capital movements, credit-facility availability and collateral terms, and the company’s pension funding needs.
- Verify the terms and potential dilution, dividends, redemption rights, and governance provisions of Wipro’s preferred investment, along with related-party service costs.
- Track remediation and independent testing of the disclosed internal-control material weaknesses, particularly revenue recognition.