NRC

Business Context and Reporting Period

Company: National Research Corporation (NRC Health)

Filing Type: Form 10-K (Annual Report)

Reporting Period: Fiscal year ended December 31, 2001

Business Overview: NRC is a leading provider of survey-based performance measurement, analysis, and tracking services for the healthcare industry. Its primary offerings include the "Listening System" (renewable performance tracking), custom research, and the syndicated "Healthcare Market Guide." The company serves healthcare payers and providers, helping them measure patient satisfaction and health status to improve quality and profitability.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Decline: Total revenues decreased 3.5% to $17.7 million. This was primarily due to the non-renewal of $2.1 million in lower-margin contracts from 2000. This decline was partially offset by $1.0 million in revenue from the May 2001 acquisition of the Picker Institute's healthcare survey business and new client additions.
• Expense Fluctuations:
  • Direct Expenses: Decreased 11.6% to $8.1 million, driven by lower labor, telephone, and rent costs, partially offset by higher printing/postage expenses. Direct expenses as a percentage of revenue improved to 45.6% from 49.8% due to new software efficiency.
  • Selling, General & Administrative (SG&A): Increased 8.3% to $5.0 million. The primary driver was a $1 million increase in legal and consulting fees related to the Cap Gemini litigation (see Risks).
  • Depreciation & Amortization: Increased 50.1% to $1.9 million due to internal software development and the Picker acquisition.
• Profitability: Operating income fell to $2.71 million, and net income dropped to $1.67 million. The effective tax rate increased to 36.4% in 2001 from 29.5% in 2000, as 2000 benefited from nonrecurring tax credits.
• Liquidity: Cash and cash equivalents decreased significantly from $3.22 million to $1.08 million. This was due to investing activities, including a $3.8 million cash outflow for the Picker acquisition and $1.5 million for building renovations and equipment.

Guidance, Outlook, and Risks

• Outlook: Management expects direct expenses as a percentage of revenue to increase by about 1% in 2002. SG&A expenses are expected to decrease to around 22% of revenue in 2002. Depreciation and amortization are expected to decrease back to 2000 levels due to new accounting rules (SFAS 142) eliminating goodwill amortization starting in 2002.
• Accounting Changes: The company will cease amortizing $9.5 million of goodwill in 2002, replacing it with an annual impairment test. The company does not currently expect a material impairment loss.
• Legal Contingency: In a lawsuit filed by Cap Gemini America, Inc., a jury returned a verdict in February 2002 ordering NRC to pay approximately $700,000 plus $64,000 in prejudgment interest. NRC had already recorded an $800,000 liability related to the software acquisition, so management does not expect a significant impact on financial condition, though an expense for the interest will be recorded in 2002.
• Key Risks:
  • Client Concentration: The ten largest clients accounted for 50% of total revenues in 2001. The Department of Defense (via United Healthcare) alone accounted for 18.7% of revenues.
  • Competition: The market is highly competitive with low barriers to entry, posing risks of pricing pressure and market share loss.
  • Contract Renewals: A significant portion of revenue relies on the renewal of annual performance tracking contracts.

Investor Verification Checklist

• Client Concentration: Verify the stability of the top 10 clients, specifically the Department of Defense contract representing 18.7% of revenue.
• Legal Exposure: Confirm the final settlement amount and timing of payment for the Cap Gemini lawsuit verdict ($764,000 total).
• Goodwill Impairment: Monitor the results of the initial goodwill impairment review required under SFAS 142 in 2002, which could impact future earnings if a write-down occurs.
• Cash Position: Assess the company's ability to fund operations and capital expenditures given the drop in cash equivalents to $1.08 million and the reliance on operating cash flow.
• Revenue Mix: Evaluate the sustainability of revenue growth following the loss of $2.1 million in lower-margin contracts and the integration of the Picker Institute acquisition.