Business context and reporting period
H&R Block, Inc. filed this unaudited Form 10-Q for the quarter ended October 31, 2014 (Q2 FY2015). The company provides assisted and do-it-yourself tax preparation, related financial products and other services. Results are highly seasonal: peak revenue and cash generation typically occur from February through April, so first-half losses are not representative of full-year results.
Key financial metrics
| Metric | Three months ended October 31, 2014 | Six months ended October 31, 2014 |
|---|---|---|
| Revenue | $134.6 million | $268.2 million |
| Operating expenses | $319.1 million | $614.0 million |
| Loss from continuing operations | $113.2 million; $0.41 per share | $222.1 million; $0.81 per share |
| Net loss, including discontinued operations | $112.0 million | $228.2 million |
| Operating cash flow | Not presented quarterly | Cash used: $627.6 million |
| Cash and cash equivalents at October 31 | $627.5 million, including restricted cash of $55.5 million | |
| Long-term debt, including current portion | $506.4 million | |
| Dividends declared per share | $0.20 | $0.40 |
For the six-month period, total assets were $3.09 billion, total liabilities $1.85 billion and stockholders’ equity $1.24 billion. Cash used in investing activities was $80.7 million and cash used in financing activities was $845.3 million. The $1.56 billion net decrease in cash included repayment of $400 million of notes and a $316.3 million net decline in customer bank deposits. The company also had a $1.5 billion committed credit line scheduled to expire in August 2017; management said existing liquidity sources were sufficient absent unexpected developments. No operating margin figure is stated in the filing.
Material changes versus the prior comparable period
- Six-month revenue rose $6.7 million, or about 2.6%, to $268.2 million; the three-month total was nearly flat year over year.
- Six-month net loss widened to $228.2 million from $220.1 million, and continuing-operations loss per share increased to $0.81 from $0.79.
- Six-month operating expenses increased $19.9 million. Tax Services expenses rose $35.9 million, particularly compensation and depreciation/amortization, partly offset by lower other expenses. Management attributed increased depreciation and amortization largely to acquisitions and office improvements.
- Operating cash use increased $135.2 million, primarily from higher income-tax payments and bonus and payroll-tax payments. Acquisition payments rose to $94.2 million from $20.9 million.
- Cash and cash equivalents fell from $2.19 billion at April 30, 2014 to $627.5 million at October 31, reflecting seasonal cash use, debt repayment and lower bank deposits.
- The company repaid its $400 million 5.125% Senior Notes at maturity in October 2014. Remaining long-term debt was principally $497.8 million of 5.5% Senior Notes due 2022, plus capital leases.
Outlook, management commentary, risks and unusual items
- HRB Bank divestiture: The proposed transfer of bank assets and deposits to BofI Federal Bank remained subject to regulatory approvals and other closing conditions. The parties extended the termination date to May 31, 2015; management did not expect completion during calendar 2014 and said HRB Bank would serve clients for the upcoming tax season. If closed on October 31 terms, H&R Block would have paid approximately $437 million to BofI, and intended to liquidate about $381 million of bank-held securities. Completion timing and final terms remain uncertain.
- Expected transaction impact and regulation: Management estimated the ongoing annual impact of related product and service agreements would be dilutive by approximately $0.07–$0.09 per share beginning in fiscal 2016, subject to product volumes and closing timing. The company expected to exceed new savings-and-loan-holding-company capital minimums effective January 1, 2015, but said regulatory oversight would constrain capital allocation until divestiture.
- Discontinued mortgage operations: Sand Canyon Corporation’s accrued representation-and-warranty liability was $193.8 million. A settlement agreement entered December 5, 2014, after quarter-end, was fully covered by prior accruals. Potential indemnification claims from securitization counterparties were not accrued because losses were not determined probable or reasonably estimable; outcomes could nevertheless be material.
- Tax and other items: A $12.1 million discrete tax benefit was recorded in the six-month period, largely from releases of tax reserves as statutes of limitations expired. Federal tax returns for 2011 and 2012 were under examination; management said unrecognized tax benefits could decline by about $18 million within twelve months. The quarter included gains on sales of available-for-sale securities and tax offices/businesses, among other items.
- Litigation and product exposure: The company reported multiple continuing- and discontinued-operations lawsuits. A court compelled arbitration in the refund anticipation loan litigation, with an appeal pending. The filing noted a California Attorney General inquiry regarding refund anticipation checks; fiscal 2014 RAC revenue was $181 million, and restrictions or changed disclosures could materially affect the business.
- Liquidity and capital returns: The company paid $109.9 million in dividends during the first half. No open-market share repurchases were made; $857.5 million remained under the repurchase authorization, but regulatory supervision could restrict repurchases. Cash held by HRB Bank and foreign subsidiaries was not fully available for general corporate purposes.
Most important facts for investors to verify
- Whether and when the BofI transaction receives regulatory approval, its final cash consideration and the resulting earnings and capital effects.
- First-half operating cash use, cash balances available outside HRB Bank and the company’s seasonal funding needs.
- Tax-season revenue, expense growth and acquisition-related amortization, given the seasonal losses reported through October.
- Developments in Sand Canyon representation-and-warranty and indemnification exposures, including whether the accrued amount remains adequate.
- Outcomes of tax examinations and litigation involving refund products, compliance fees and Form 8863.
- Whether dividends and any future repurchases remain consistent with liquidity needs and regulatory capital constraints.