Business Context and Reporting Period
Company: National Research Corporation (NRC Health)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2007
NRC Health is a leading provider of survey-based performance measurement, improvement services, and governance education to the healthcare industry in the United States and Canada. The company's primary offerings include renewable performance tracking services (Qualisys), custom research, subscription-based governance information (The Governance Institute), and the syndicated NRC Healthcare Market Guide. The company operates in a single industry segment and relies heavily on client renewals and the annual delivery of the Market Guide.
Key Financial Metrics
| Metric | 2007 | 2006 | 2005 |
|---|---|---|---|
| Revenue | $48.9 million | $43.8 million | $32.4 million |
| Operating Income | $11.4 million | $9.9 million | $8.4 million |
| Net Income | $6.8 million | $5.9 million | $5.2 million |
| Diluted EPS | $0.98 | $0.85 | $0.74 |
| Operating Margin | 23.2% | 22.6% | 25.9% |
| Effective Tax Rate | 38.5% | 38.1% | 38.5% |
| Total Debt | $3.0 million | $11.1 million | $1.5 million |
| Working Capital | ($2.4 million) | ($1.5 million) | $8.1 million |
| Cash & Equivalents | $3.4 million | $0.9 million | $0.8 million |
| Operating Cash Flow | $14.6 million | $6.8 million | $8.2 million |
Material Changes vs. Prior Period
- Revenue Growth: Revenue increased 11.8% to $48.9 million, driven by expanded scope of work with existing clients, new client acquisitions, and the full-year impact of the 2006 acquisition of The Governance Institute (TGI), which contributed an additional $4.1 million in revenue compared to 2006.
- Expense Trends: Direct expenses rose 12.1% to $21.8 million, primarily due to increased conference costs, postage, fieldwork, and printing to support revenue growth. Selling, general, and administrative (SG&A) expenses increased 8.4% to $13.2 million, largely due to salary and benefit increases associated with the TGI acquisition.
- Debt Reduction: Total debt decreased significantly from $11.1 million in 2006 to $3.0 million in 2007. The company paid off its $2.4 million line of credit and made $5.7 million in payments on its term note used to finance the TGI acquisition.
- Liquidity Position: Despite strong operating cash flow of $14.6 million, the company ended the year with a working capital deficiency of $2.4 million, an increase from the $1.5 million deficiency in 2006. This was primarily due to an increase in "billings in excess of revenue earned" (deferred revenue) and accrued expenses.
Guidance, Outlook, and Risks
Management Commentary & Outlook: Management expects 2008 direct expenses to remain within the 43% to 45% of revenue model. SG&A expenses are expected to leverage against higher revenue in 2008 to return to the 23% to 25% model range. Depreciation and amortization are expected to be in the middle of the 4.5% to 6% model range. The company anticipates continued growth driven by demand for performance measurement and public reporting programs.
Key Risks & Contingencies:
- Client Concentration: The ten largest clients accounted for 29% of total revenue in 2007. The U.S. Department of Veterans Affairs alone accounted for 8%. Loss of a key client would materially adversely affect results.
- Renewal Dependency: A substantial portion of revenue comes from annually renewable contracts that are generally cancelable on short notice without penalty. Failure to renew would materially impact quarterly results.
- Seasonality: Operating results fluctuate quarterly, particularly due to the timing of the Market Guide delivery (typically Q3), which concentrates revenue and expense recognition.
- Competition: The market is highly competitive, with Press Ganey identified as a significantly larger competitor. Increased competition could lead to pricing pressure.
- Regulatory Changes: The introduction of the HCAHPS survey by the Centers for Medicare and Medicaid Services may increase competition and pricing pressure.
Investor Verification Checklist
- Client Concentration: Verify the stability of the top 10 clients, specifically the U.S. Department of Veterans Affairs (8% of revenue), given the risk of non-renewal.
- Working Capital Deficiency: Investigate the sustainability of the $2.4 million working capital deficit and the company's ability to manage cash flow despite strong operating cash generation.
- Debt Covenants: Confirm continued compliance with financial ratios required by the $3.5 million revolving credit facility and the term note maturing in 2013.
- Market Guide Timing: Monitor the delivery schedule of the annual Market Guide, as delays could materially impact Q3 revenue recognition and quarterly earnings.
- Stock Repurchases: Note that subsequent to year-end, the company repurchased 263,013 shares at an average price of $24.91, reducing the remaining authorized repurchase amount.