Mastech Digital, Inc. quarterly report, Q3 FY2019

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Mastech Digital, Inc. — Q3 2019 Form 10-Q

Business and period: Unaudited results for the quarter and nine months ended September 30, 2019, compared with the same 2018 periods. Mastech provides IT staffing, data and analytics consulting, and digital transformation services through its Data and Analytics Services and IT Staffing Services segments. Dollar figures below are in millions unless otherwise noted.

Financial performance

  • Q3 revenue: $49.5, up 12% year over year. IT Staffing revenue was $42.5, up 10%; Data and Analytics revenue was $7.1, up 22%.
  • Q3 profit: Gross profit was $12.3 versus $10.7; operating income was $3.1 versus $2.5; net income was $1.9 versus $1.6. Diluted EPS was $0.17 versus $0.14.
  • Q3 margins: Gross margin improved to 24.9% from 24.2%. Data and Analytics gross margin was 45.7% (44.5% prior year), and IT Staffing was 21.4% (21.1%). Operating margin was approximately 6.2% versus 5.7%; net margin was approximately 3.9% versus 3.7%.
  • Nine-month revenue and earnings: Revenue was $143.2, up 8%; gross profit was $35.2 versus $31.9; operating income was $13.5 versus $9.4; net income was $8.9 versus $5.8. Diluted EPS was $0.79 versus $0.52. Gross margin rose to 24.6% from 24.0%.
  • Cash flow: Nine-month operating cash flow was $13.1, compared with cash used of $3.3 in 2018. Investing used $0.8 and financing used $11.6. Cash ended at $2.0, up from $1.3 at year-end 2018.
  • Liquidity and debt: Current assets were $38.3 and current liabilities $21.7 at September 30; current ratio was approximately 1.8. Borrowings were $5.3 on the revolver and $22.1 on the term loan; management reported net bank debt of $25.4 after cash. Revolver availability was approximately $17.2. The company was compliant with credit-facility covenants.
  • Other balance-sheet items: Total assets were $93.1 and shareholders’ equity $43.8. Adoption of lease accounting added $5.7 of lease assets and liabilities at the start of 2019; operating lease liabilities were $5.1 at September 30.

Changes and drivers

  • Q3 growth reflected more billable IT consultants and a higher average bill rate ($74.60 per hour versus $72.51), as well as stronger Data and Analytics project opportunities and wins. Billable consultants numbered 1,197, versus 1,089 a year earlier.
  • Management attributed margin expansion to improved margins in both segments and a more favorable mix from higher Data and Analytics revenue. Nine-month Data and Analytics revenue grew 6%, while segment operating income fell to $3.9 from $4.5.
  • Nine-month operating cash flow improved substantially, supported by collections and working-capital movements, including higher payroll accruals. Management said issues affecting cash conversion after its cloud ERP implementation were largely resolved; DSO improved five days sequentially to 61 days.
  • SG&A excluding specified special items and acquired-intangible amortization rose as a share of revenue to 17.9% from 16.5% for the nine-month periods, reflecting sales, recruiting, compensation, facilities, technology and other investments.

Outlook, risks and unusual items

  • Outlook: No specific numerical revenue or earnings guidance is provided. Management said continued U.S. economic and job-market growth was encouraging, while expecting supply constraints for skilled IT professionals to persist.
  • Business risks: Demand is sensitive to North American economic conditions. A limited number of clients account for a significant share of revenue: one client represented 11.3% in both Q3 and the nine-month period; the top ten accounted for about 45%. Systems integrators, staffing intermediaries and managed service providers may pressure IT Staffing margins. Staffing supply constraints, foreign-exchange movements and seasonal Q4 utilization patterns are also noted.
  • Unusual items: A $6.1 reduction in the InfoTrellis contingent-consideration liability was recorded as a nine-month expense credit after management determined payment conditions were unlikely to be fully met. The comparable 2018 period included a $9.1 credit from revaluation and a $7.7 goodwill impairment charge. These items affect year-over-year earnings comparisons. No goodwill impairment was recorded in 2019.
  • Contingencies and controls: Management said ordinary-course lawsuits and administrative proceedings were not expected to materially affect financial position, results or cash flows. The company reported effective disclosure controls and no material change in internal control during the quarter. Risk factors were unchanged from the 2018 Form 10-K.

Important facts for investors to verify

  1. Whether revenue growth, billable consultant counts and bill rates remain sustainable, especially given IT talent-supply constraints and economic sensitivity.
  2. How much reported earnings growth reflects ongoing operations versus the contingent-consideration revaluation and prior-year goodwill impairment.
  3. Whether the improved collections and cash conversion persist, and whether working-capital changes—including payroll accrual timing—reverse.
  4. Revolver availability, debt repayment progress and ongoing compliance with facility covenants.
  5. Client concentration and potential margin pressure from managed service providers, intermediaries and systems integrators.