TriNet Group, Inc. — Q2 2019 Form 10-Q
Reporting period: Three and six months ended June 30, 2019. TriNet provides HR, payroll, benefits, and employment-risk services to small and midsize businesses through a co-employment model; it reports one operating segment.
Financial performance
| Metric | Q2 2019 | Change vs. Q2 2018 | H1 2019 | Change vs. H1 2018 |
|---|---|---|---|---|
| Total revenue | $935M | +10% | $1.869B | +9% |
| Net Service Revenue (non-GAAP) | $231M | +5% | $482M | +9% |
| Operating income | $55M | −28% | $137M | −7% |
| Net income | $46M | −22% | $109M | −3% |
| Diluted EPS | $0.64 | −20% | $1.53 | −1% |
| Adjusted EBITDA (non-GAAP) | $85M | −16% | $193M | +1% |
| Adjusted net income (non-GAAP) | $50M | −21% | $120M | −2% |
Q2 operating margin was approximately 5.9% of reported revenue, compared with 8.9% a year earlier; net margin was approximately 4.9%, versus 6.8%. For H1, operating margin was approximately 7.3%, versus 8.6%, and net margin approximately 5.8%, versus 6.5%. These ratios use GAAP revenue, which includes insurance billings and related costs.
- Revenue and workforce: Q2 professional service revenue was $127M and insurance service revenue was $808M. Average worksite employees (WSEs) rose 2% to 318,874 in Q2 and 1% to 315,817 for H1. Payroll and payroll taxes processed increased 9% in Q2 and 11% in H1. Management attributed growth to improved retention, new sales, client hiring, pricing, and increased health-plan enrollment.
- Insurance economics: Net Insurance Service Revenue was $104M in Q2 (−2%) and $219M in H1 (+11%). Its margin was 13% in Q2 versus 14% a year earlier and 14% for H1 versus 13%. Higher medical cost trends and health-plan participation increased insurance costs; favorable prior-year workers’ compensation development was $11M in Q2 and $16M in H1.
- Cash flow: H1 net cash used in operating activities was $162M, versus $543M used in H1 2018. The company reported $107M of corporate operating cash flow, approximately flat with $108M a year earlier; reported operating cash flow also reflects timing and movements in WSE-related assets and liabilities. H1 investing cash use was $25M and financing cash use was $77M. Capital expenditures were $25M.
- Liquidity and debt: At June 30, corporate cash and cash equivalents were $219M, corporate investments were about $193M, and corporate working capital was $236M. The $250M revolving facility had $234M unused. Long-term debt was $402M, including current maturities; total liabilities were $1.879B. The company said corporate liquidity should cover working-capital and capital-expenditure needs for at least 12 months and reported compliance with credit covenants.
Material changes, outlook, and risks
- Revenue growth did not translate into higher operating profit: Q2 operating income fell $21M as increased revenue was more than offset by higher insurance costs and operating expenses. Management cited medical cost trends, greater health-plan enrollment, additional corporate headcount, customer-service improvements, and growth initiatives.
- Operating expenses are expected to increase in the foreseeable future as TriNet invests in customer experience, systems, and processes. Management also intends to continue its investment strategy to improve interest income. The filing provides no specific revenue or earnings guidance.
- Interest income increased to $7M in Q2 and $13M in H1, from $3M and $5M, respectively. In June, TriNet entered a no-upfront-premium interest-rate collar covering $213M of floating-rate debt, with settlement through May 2022, to hedge interest-rate exposure.
- TriNet repurchased 1,175,609 shares for approximately $62M in H1. The board authorized an additional $300M for the repurchase program in February; approximately $313M remained authorized at quarter-end.
- The company adopted lease accounting guidance in January, recording a $60M operating lease right-of-use asset and $72M of lease liabilities at June 30; management said adoption did not materially affect income or cash flows. The company identified no material change in the risk factors disclosed in its 2018 Form 10-K.
- Risks highlighted include changing insurance claims and medical costs, complex employment and benefits regulation, client retention and concentration, cybersecurity and technology, competition, and the company’s co-employment liabilities. A securities class action was terminated after the appellate court affirmed dismissal. Separately, the IRS employment-tax-credit dispute remains under appeal after a $15M judgment in TriNet’s favor.
Important facts for investors to verify
- Whether medical-cost trends and health-plan enrollment continue to pressure insurance margins, and whether favorable workers’ compensation reserve development recurs.
- How much of reported cash and investments is restricted for payroll, insurance collateral, or claims; corporate liquidity is not the same as total cash and investments.
- The sustainability and cash-conversion implications of corporate operating cash flow, given the substantial timing effects from WSE-related balances.
- The pace and returns of customer-service, technology, and growth spending, alongside the effects of continued share repurchases and $402M of debt.
- The eventual outcome of the IRS appeal and any changes in insurance, regulatory, or co-employment exposures.