Barrett Business Services, Inc. — Q3 2013 Form 10-Q
Business context and period. The unaudited filing covers the quarter and nine months ended September 30, 2013, compared with the same 2012 periods. BBSI provides professional employer services (PEO), staffing, recruiting and related human-resource and risk-management services, primarily to small and medium-sized businesses. PEO revenue is reported net of certain payroll costs, while staffing revenue is reported gross; revenue and margin comparisons should be read with that presentation difference in mind.
Financial performance
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Total revenue | $148.0 million | $111.1 million | $388.3 million | $289.0 million |
| Gross margin | $30.2 million | $21.6 million | $62.2 million | $44.5 million |
| Operating income | $12.9 million | $8.4 million | $17.6 million | $10.3 million |
| Net income | $9.0 million | $5.8 million | $12.3 million | $7.3 million |
| Diluted EPS | $1.21 | $0.81 | $1.67 | $0.91 |
| Gross margin as % of reported revenue | 20.4% | 19.4% | 16.0% | 15.4% |
| Operating margin | 8.7% | 7.6% | 4.5% | 3.6% |
- Q3 revenue grew 33.2% year over year: PEO fees increased 41.9% and staffing revenue 15.3%. Nine-month revenue grew 34.4%: PEO fees increased 43.5% and staffing revenue 15.1%.
- Q3 net income increased about 55%; nine-month net income increased about 68%. Nine-month diluted EPS also benefited from approximately 700,000 fewer weighted-average diluted shares, largely reflecting the 2012 share repurchase.
- Management attributed PEO growth to new customers, strong referrals and retention, and increased headcount and hours at continuing customers. New customer business was nearly three times lost business in Q3 and three times lost business for the nine-month period.
- Workers’ compensation expense rose to $28.2 million in Q3 from $19.4 million, and to $75.0 million for nine months from $49.6 million. As a share of reported revenue, it increased to 19.1% from 17.5% in Q3 and to 19.3% from 17.2% year to date.
Cash flow, balance sheet and liquidity
- Nine-month operating cash flow was $47.2 million, up from $32.4 million. Increased receivables used $34.8 million of cash; increases in accrued payroll and workers’ compensation liabilities provided $37.5 million and $25.4 million, respectively.
- Cash and cash equivalents were $35.0 million at September 30, 2013, down from $45.7 million at December 31, 2012. Investing activities used $54.4 million, including the purchase of $63.9 million of restricted certificates of deposit; financing activities used $3.5 million. Capital expenditures were $3.4 million.
- Current assets were $216.7 million and current liabilities $155.0 million. Current assets included $63.9 million of restricted certificates of deposit pledged as collateral for California workers’ compensation surety requirements, so not all reported current assets are freely available.
- There were no revolving-credit borrowings at quarter-end; the facility’s maximum availability was $21.5 million. Long-term debt, including its current portion, was approximately $5.3 million. Standby letters of credit totaled $70.6 million. The facility expires in October 2017 and includes financial covenants; BBSI reported compliance at September 30.
- Total estimated workers’ compensation claims liabilities were $96.0 million, versus $70.6 million at December 31, 2012. The reserve includes reported claims, incurred-but-not-reported claims and related adjustment expenses, and is based on an actuarial valuation. Safety-incentive liabilities were $11.9 million, versus $9.8 million.
Management commentary, outlook and risks
- Management said growth-related SG&A increases reflected management payroll, branch incentive pay and other variable costs. Workers’ compensation costs rose because of current-year claims, higher estimated costs to close prior-year claims and increased insurance broker commissions associated with higher rates.
- Management expects payroll taxes and benefits as a percentage of reported revenue to continue increasing as PEO grows. It expected the effective tax rate for the balance of 2013 to remain similar to Q3’s 30.6% rate. No quantitative revenue or earnings guidance was provided.
- Management expected operating cash generation and revolving-credit availability to be sufficient for working-capital needs over the next 12 months. The company’s strategy emphasized growth at existing offices and selective acquisitions; consummation of future acquisitions was not assured.
- Management cited seasonality, customer demand and retention, competition, economic conditions, workers’ compensation claim frequency and severity, adverse development of prior claims, regulatory changes, receivable collectability, investment-market conditions, and access to capital or letters of credit for mandated surety deposits as risks. Approximately 74% of revenue came from California in both Q3 and the nine-month period.
- The company self-insures workers’ compensation in several states and operates captive insurers; excess insurance is maintained, subject to stated retentions and policy limits. Reserve estimates may change as claims develop. The filing reported no material change in risk factors from the 2012 Form 10-K.
- No common shares were repurchased during Q3. Cash dividends were $0.13 per share in Q3 and $0.39 per share for the nine-month period.
Most important facts for investors to verify
- Whether strong PEO customer growth and retention continue, and how much growth is attributable to new customers versus existing-customer activity.
- Whether workers’ compensation reserves are adequate, particularly given the increase in claims liabilities and higher current- and prior-period claim costs.
- How the California surety requirement and restricted $63.9 million deposit affect usable liquidity, credit availability and covenant headroom.
- Whether revenue and margin trends remain favorable as PEO becomes a larger share of the business and payroll taxes, benefits and workers’ compensation costs change.
- The filing’s reported financial results are interim and unaudited; management states that quarterly results are not necessarily indicative of full-year results.