Healthcare Services Group, Inc. — Q2 2010 Form 10-Q
Business context and period. Unaudited quarterly filing for the three and six months ended June 30, 2010; comparisons are with the corresponding 2009 periods. The company provides housekeeping, laundry, linen, facility maintenance, and dietary services to healthcare facilities. Housekeeping served about 2,400 facilities in 47 states; Dietary served about 350. CES operations, acquired in 2009, were fully integrated effective January 1, 2010.
Key financial metrics
| Metric | Q2 2010 | Q2 2009 | Six months 2010 | Six months 2009 |
|---|---|---|---|---|
| Revenue | $193.0 million | $170.9 million | $376.8 million | $331.3 million |
| Income before taxes | $14.2 million | $12.7 million | $26.3 million | $25.3 million |
| Net income | $8.7 million | $7.8 million | $16.1 million | $15.6 million |
| Diluted EPS | $0.20 | $0.18 | $0.36 | $0.35 |
| Net margin | 4.6% | 4.6% | 4.3% | 4.7% |
- Revenue growth: Q2 rose 12.9%; six-month revenue rose 13.7%. Housekeeping segment revenue increased 13.7% in Q2 and 13.0% for the half; Dietary grew 10.1% and 16.3%, respectively.
- Margins and costs: Cost of services was 85.6% of revenue in Q2 versus 85.3%; for the half, 85.9% versus 85.6%. Pre-tax margin was 7.4% versus 7.5% in Q2 and 7.0% versus 7.6% for the half. Management attributed Housekeeping labor efficiencies and favorable insurance claims to offsets; Dietary labor costs were less efficient. SG&A excluding deferred-compensation investment changes grew 9.2% in Q2 and 14.9% for the half.
- Cash flow: Six-month operating cash flow was $14.2 million, down from $15.1 million. Investing activities provided $6.1 million, versus $8.8 million used in 2009; financing used $16.6 million, mainly dividends of $18.9 million. Cash increased $3.7 million to $35.0 million.
- Liquidity and debt: Cash plus marketable securities totaled $79.1 million, compared with $83.9 million at year-end 2009. Working capital was $177.5 million; current ratio was 6.5:1. No line borrowings were outstanding, but a $35.42 million insurance letter of credit reduced availability on the $36 million demand line to about $0.58 million. The company reported covenant compliance; the line expires June 30, 2011.
- Balance sheet: Total assets were $266.6 million and stockholders’ equity $210.2 million at June 30. No funded debt is reported in the supplied balance sheet. Accounts and notes receivable were $107.3 million, net of a $5.1 million doubtful-account allowance.
Material changes versus prior period
- Q2 revenue increased $22.1 million and net income increased $0.9 million year over year. Six-month revenue increased $45.5 million, while net income increased $0.6 million.
- Six-month net margin declined from 4.7% to 4.3%, and pre-tax margin declined from 7.6% to 7.0%, despite higher sales. Investment and interest income fell to $0.4 million for the half from $2.1 million, including deferred-compensation fund losses and lower interest and marketable-securities gains.
- Cash flow from operations declined by $0.9 million. Receivables, long-term notes receivable, and inventory together used $6.9 million of cash, primarily reflecting revenue growth.
- CES contributed to Dietary growth; management said new Housekeeping client agreements were the primary source of Housekeeping growth. CES represented less than 1% of Q2 Housekeeping segment revenue growth and about 6% of Q2 Dietary growth.
Outlook, risks, and unusual items
- Management said it anticipates the remainder of 2010 may be comparable to the reported revenue-related financial performance percentages, including margins, and expects segment revenue mix to remain broadly similar. It expected Housekeeping growth primarily from new clients and Dietary growth primarily from existing Housekeeping clients. This is not a specific earnings or revenue forecast.
- Management expected a 38.5% effective tax rate for the remainder of 2010 absent significant tax-law changes. Planned capital expenditures for the remainder of 2010 were approximately $1.5–$2.5 million in one discussion and $2.0–$2.5 million in another; the filing does not provide one unambiguous estimate.
- Key exposures include reliance on clients funded by Medicare and Medicaid, potential reimbursement reductions or payment delays, bad debts, and labor, supply, and insurance costs that may not be recoverable from clients. The company cited the 2010 healthcare reform laws and state Medicaid budget pressures as sources of uncertainty.
- One nursing-home-chain client represented 11% of revenue in both six-month periods, down from 13% in the comparable 2009 quarter. Its loss or a payment-term change could materially affect operations or cash flow.
- Insurance claims are significant estimates: accrued insurance claims totaled $17.7 million, including $12.4 million long term. Management noted adverse claims experience could affect results. Tax and ordinary-course legal matters were described as not expected to have a material adverse effect, though outcomes and amounts of certain tax matters could not be reasonably estimated.
- Dividends paid in the first half totaled $18.9 million, or $0.43 per share, exceeding first-half net income. The board declared a further $0.23 per-share dividend payable August 6, 2010. Management expected to continue regular quarterly dividends but gave no assurance.
- Management reported disclosure controls effective and no material change in internal control over financial reporting. No material change to the prior annual report’s risk factors was reported.
Most important facts for investors to verify
- Whether customer growth and the integrated CES business sustain revenue growth and translate into improved margins.
- Receivable aging, collections, promissory-note recoverability, and adequacy of the $5.1 million doubtful-account allowance, particularly as client reimbursement and liquidity pressures evolve.
- Insurance-claim reserve assumptions and any change in workers’ compensation or general-liability experience.
- Actual liquidity available after the $35.42 million letter of credit, covenant headroom, and renewal of the credit line before its June 2011 expiry.
- Whether cash generation can support dividends and planned investment; confirm the differing capital-expenditure estimates in the filing.
- Effects of healthcare reform and state Medicaid reimbursement changes on clients’ ability to pay, and any developments affecting the 11%-of-revenue major client.