Business context and reporting period
Insperity, Inc. filed this Form 10-K for the fiscal year ended December 31, 2012. Although the request identifies 2012 Q4, the filing primarily reports full-year results and also provides unaudited quarterly data. Insperity provides HR and business services, chiefly through its Workforce Optimization professional employer organization (PEO) offering. The company co-employs client worksite employees and assumes obligations for payroll taxes, benefits and workers’ compensation; its reported revenue excludes worksite employee payroll costs.
Financial performance and liquidity
| Metric | FY 2012 | FY 2011 | Change |
|---|---|---|---|
| Revenue | $2,158.8 million | $1,976.2 million | +9.2% |
| Gross profit | $382.2 million | $351.8 million | +8.7% |
| Operating income | $67.5 million | $57.3 million | +17.8% |
| Net income | $40.4 million | $30.5 million | +32.6% |
| Diluted EPS | $1.56 | $1.16 | +34.5% |
| Operating cash flow | $90.8 million | $73.9 million | — |
| Cash, cash equivalents and marketable securities | $281.4 million | $268.2 million | — |
| Working capital | $115.7 million | $126.6 million | — |
| Total debt | None reported | None reported | — |
Calculated from reported revenue, gross margin was approximately 17.7% (versus 17.8% in 2011), operating margin 3.1% (versus 2.9%), and net margin 1.9% (versus 1.5%). These percentages use Insperity’s reported revenue, which excludes worksite payroll.
Average paid worksite employees rose 7.5% to 125,650; revenue per worksite employee per month increased 1.6% to $1,432, gross profit per employee per month increased 0.8% to $253, and operating expenses per employee per month declined from $210 to $208. Direct costs rose 9.4% to $1,776.6 million. Cash flow from investing activities was positive $17.9 million, including $17.6 million of capital expenditures; financing activities used $55.3 million, primarily for dividends and share repurchases.
At year-end, cash and securities included $158.2 million of payroll tax withholdings and other deductions and $13.5 million of client prepayments, largely payable in early January. A $100 million revolving credit facility, potentially expandable to $150 million, was undrawn; management said available resources were expected to meet 2013 liquidity needs. FY2012 dividends totaled $42.7 million, including a $25.7 million special dividend; share repurchases cost $16.9 million.
Fourth-quarter snapshot
Q4 2012 revenue was $532.4 million versus $495.1 million in Q4 2011; gross profit was $93.5 million versus $89.9 million. Operating income was $15.9 million versus $16.7 million, net income $9.4 million versus $10.8 million, and diluted EPS $0.34 versus $0.42. Q4 2012 included a $4.2 million goodwill and intangible-asset impairment charge; reported EPS was also reduced by $0.03 under the two-class earnings allocation associated with dividends.
Material changes versus prior period
- Revenue growth reflected both a 7.5% increase in average paid worksite employees and a 1.6% increase in revenue per employee per month. Management said new client sales and retention declined versus 2011, while changes in existing clients were flat; annual employee growth slowed to 7.5% from 9.2%.
- Gross profit per employee increased only modestly: direct costs per employee rose 1.7%, slightly more than revenue per employee. Health-benefit costs increased 3.5% per covered employee; workers’ compensation costs rose 9.8%, while payroll taxes as a percentage of payroll declined.
- Operating expenses increased 6.9% in total, but declined per worksite employee. Advertising expense fell as 2011 rebranding costs did not recur; depreciation and amortization rose with technology investment and acquisition-related amortization.
- Net income growth also benefited from the comparison with 2011, which included a $4.4 million aircraft-exchange loss and a $3.1 million California tax settlement. FY2012 included a $2.9 million Pennsylvania sales-tax refund credited against payroll tax expense and the $4.2 million impairment charge.
Outlook, risks, contingencies and unusual items
Management forecast average paid worksite employees of 123,250–123,750 per month in Q1 2013, below the Q4 2012 average of 129,345. The filing provides no full-year 2013 revenue or earnings guidance. Management anticipated that some state unemployment tax rates might decline in 2013 but noted final rates were not yet known.
- Insurance and claims exposure: United provided approximately 89% of health coverage; its contract was extended through December 31, 2015, subject to 180 days’ cancellation notice. Insperity’s workers’ compensation arrangement with ACE was due to expire September 30, 2013. The company bears defined layers of claim costs and reported $111.7 million of accrued workers’ compensation claims at year-end, supported in part by restricted cash and deposits.
- Regulatory and client risks: Health-care reform provisions effective from 2014 could increase costs or affect client demand; the filing says the application of some requirements to PEOs remained unclear. Client service agreements are generally cancellable on 30 days’ notice; retention was approximately 81% in 2012. Insperity remains responsible for employee payroll and benefits even if a client fails to pay.
- Contingencies: Massachusetts assessed approximately $2.5 million, including interest and penalties, for alleged corporate income-tax underpayments for 2006–2008, in addition to earlier assessments of approximately $470,000. Insperity disputed the assessments; outcome was uncertain. Claims potentially exposed to recovery demands related to former carrier Lumbermens Mutual were estimated at $2.9–$5.0 million; whether guaranty associations will seek recovery was uncertain.
- Acquisition and accounting risk: The $4.2 million Q4 impairment related to the Performance Management reporting unit. Results also rely on estimates for health claims and workers’ compensation losses; the company reduced prior-period workers’ compensation estimates by $13.1 million in 2012. A change in estimates could affect future earnings.
- The independent auditor gave an unqualified opinion on the financial statements and internal controls; management reported disclosure controls and internal control over financial reporting were effective at year-end.
Important facts for investors to verify
- Review Q4 operating and EPS declines against the full-year improvement, including the impairment and dividend-related EPS allocation.
- Assess whether the modest improvement in gross profit per employee can persist as health, payroll-tax and workers’ compensation costs change.
- Monitor Q1 2013 worksite-employee levels, client acquisition and retention, particularly given the sequentially lower employee outlook.
- Confirm renewal or replacement of ACE workers’ compensation coverage before its September 2013 expiration and monitor the United health-plan contract.
- Track resolution of the Massachusetts tax assessments and any recovery claims involving Lumbermens Mutual, along with the amounts ultimately payable.
- Distinguish available liquidity from funds supporting payroll, tax deductions, client prepayments and insurance claims; verify that the undrawn credit facility remains available and covenant-compliant.