H&R Block, Inc. — Form 10-Q summary
Reporting period: Fiscal second quarter and six months ended October 31, 2013; comparisons are to the periods ended October 31, 2012. Amounts below are in U.S. dollars. H&R Block’s business is highly seasonal, with peak tax-preparation revenue generally occurring January through April, so interim losses are not indicative of full-year results.
Financial performance and position
| Metric | Three months ended Oct. 31, 2013 | Six months ended Oct. 31, 2013 | Prior comparable period |
|---|---|---|---|
| Revenue | $134.3 million | $261.5 million | $137.3 million; $233.8 million |
| Operating loss | $(180.6) million | $(360.2) million | $(165.1) million; $(337.5) million |
| Net loss | $(104.9) million | $(220.1) million | $(105.2) million; $(212.7) million |
| Diluted loss per share | $(0.39) | $(0.80) | $(0.39); $(0.78) |
| Cash used in operating activities | Not reported separately | $(492.4) million | $(567.0) million |
- Quarterly revenue declined 2.1%; six-month revenue increased 11.9%. Six-month Tax Services revenue rose 13.5%, including higher U.S. preparation fees, Emerald Card fees and other revenue. Management attributed much of the international revenue timing change to Australian operations and expected it to substantially reverse by the end of fiscal Q3.
- Operating losses widened in both periods. Six-month expenses rose 8.8%, faster than revenue, with Tax Services costs affected by higher compensation, litigation expense, foreign-currency losses, credit-card program costs and Emerald Card transaction activity. Six-month Tax Services pretax loss increased to $303.7 million from $271.0 million.
- Cash and cash equivalents were $790.8 million at October 31, down from $1.261 billion a year earlier and $1.748 billion at April 30, 2013. The six-month net cash decrease was $956.8 million. Financing activities used $392.5 million, including a $275.8 million net reduction in customer banking deposits and $109.3 million of dividends paid.
- Total debt, including current and long-term portions, was approximately $906.6 million, versus $1.507 billion at October 31, 2012. Current debt was $400.5 million and long-term debt $506.1 million. Current assets of $1.196 billion were below current liabilities of $1.547 billion.
- Management said existing capital sources, including borrowing capacity under its $1.5 billion committed credit line and potential commercial paper issuance, should be sufficient for operating needs absent unexpected developments. HRB Bank held $386.1 million of cash; dividends of that cash require regulatory approval. Cash held by foreign subsidiaries was $220.0 million, and repatriation could trigger additional taxes.
- Quarterly and six-month dividends were $0.20 and $0.40 per share, respectively. No open-market share repurchases occurred in the six-month period.
Material changes and developments
- The planned sale and transfer of certain HRB Bank operations to Republic Bank was terminated after Republic withdrew its application to convert to a national bank and its application for the transaction. H&R Block planned to continue offering financial products through HRB Bank during the 2014 tax season while exploring alternatives to cease being regulated as a savings and loan holding company.
- The IRS announced a one-to-two-week delay to the start of the 2014 filing season. The company warned this could shift return volumes and revenue from fiscal Q3 into Q4 and could increase expenses.
- Property and equipment purchases rose to $86.9 million from $60.7 million for the six months, primarily due to tax-office upgrades. Business-acquisition cash outlays were $20.9 million, compared with $10.4 million.
- Basel III capital rules were scheduled to become effective for the holding companies and HRB Bank beginning January 1, 2015, with phase-ins thereafter. Management was assessing the impact; the filing warns that capital requirements and regulatory oversight could constrain dividends, buybacks, acquisitions and other investment.
Outlook, risks and contingencies
- No specific earnings or revenue guidance was provided. Management emphasized seasonality and the possible filing-season delay, and expected the Australian revenue timing effect to substantially reverse by the end of fiscal Q3.
- Discontinued mortgage operations carried a $158.8 million accrued liability for representation-and-warranty claims. The company estimated reasonably possible additional losses of up to $40 million; this estimate excludes potentially substantial indemnification claims for which a loss range could not be estimated. New claims received in the six-month period totaled $69.1 million, with no claim-loss payments reported in that period.
- Other litigation liabilities accrued were $20.6 million. For certain matters, estimated reasonably possible losses above accruals ranged from $0 to approximately $33 million; the filing cautions this is not a maximum exposure and some matters cannot be estimated. Pending cases include mortgage-related claims, tax-preparation and product class actions, employment claims and Form 8863 litigation.
- Credit risks include the mortgage portfolio: $295.9 million net carrying value, with 59% concentrated in Florida, California, New York and Wisconsin. The loan-loss allowance was $12.7 million, or 4.2% of the portfolio. Management also identified uncertainty in franchisee, Emerald Advance and credit-card receivables.
- Gross unrecognized tax benefits were $129.8 million. Management considered it reasonably possible that this balance could decrease by about $23 million before October 31, 2014, primarily from statute expirations and anticipated state audit settlements.
Most important facts for investors to verify
- Whether the delayed 2014 filing-season start changes quarterly return volumes, revenue timing or costs.
- Progress on replacing or restructuring HRB Bank arrangements, and the effects of SLHC regulation and Basel III requirements on capital allocation.
- Developments in mortgage representation-and-warranty claims and indemnification exposure, including whether settlement discussions alter the $158.8 million accrual or the estimated additional loss range.
- Cash use, debt maturities and access to the committed credit line through the seasonal operating-loss period.
- Developments in RAC, Form 8863 and other class-action litigation that could affect product offerings, fees or liability.