Business context and reporting period
Insperity, Inc. provides HR and business services, principally through professional employer organization (PEO) offerings to small and medium-sized businesses. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2018; comparisons are with the corresponding 2017 periods. Revenue is reported net of worksite employee payroll costs.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Change |
|---|---|---|---|
| Revenue | $922.3 million | $795.6 million | +15.9% |
| Gross profit | $154.5 million | $130.6 million | +18.4% |
| Operating income | $33.6 million | $22.9 million | +46.4% |
| Net income | $24.6 million | $14.0 million | +75.2% |
| Diluted EPS | $0.58 | $0.33 | +75.8% |
| Adjusted EBITDA (non-GAAP) | $46.6 million | $33.3 million | +39.9% |
For the six months, revenue was $1.937 billion (+15.4%), gross profit $354.3 million (+22.2%), operating income $98.3 million (+28.6%), net income $74.6 million (+50.2%), diluted EPS $1.77 versus $1.18, and adjusted EBITDA (non-GAAP) $130.4 million (+35.8%).
Approximate Q2 gross, operating and net margins were 16.8%, 3.6% and 2.7%, respectively, versus 16.4%, 2.9% and 1.8% a year earlier. For the six-month periods, those margins were approximately 18.3%, 5.1% and 3.8%, versus 17.3%, 4.6% and 3.0%.
Cash flow, balance sheet and liquidity
- First-half operating cash flow was $17.3 million, down from $26.0 million; investing cash outflow was $19.3 million and financing cash outflow was $31.9 million. Cash, cash equivalents and restricted cash, including workers’ compensation deposits for cash-flow reporting, ended at $515.7 million.
- At June 30, cash and cash equivalents were $308.7 million, marketable securities $7.2 million and working capital $95.0 million, compared with $52.5 million at year-end 2017. Management’s adjusted cash, cash equivalents and marketable securities measure was $110.1 million after excluding payroll-related amounts and client prepayments.
- Long-term debt was $104.4 million under a $350 million revolving facility, with $244.6 million available after the outstanding letter of credit. The facility matures in 2023; its interest rate was 3.59% at quarter-end. Insperity reported compliance with financial covenants.
- First-half capital returns included $16.2 million of share repurchases and $16.8 million of dividends. The company repurchased 80,000 shares under its program and had authorization for a further 2,597,564 shares at June 30.
Material changes and management commentary
- Growth was primarily volume-led: average worksite employees paid per month rose 13.1% in Q2 and 12.7% in the first half. Revenue per worksite employee per month increased 2.4% in both periods. Management said new-client sales and net changes in existing clients improved year over year, while retention remained consistent.
- Q2 gross profit per worksite employee per month rose 5.0% to $253. First-half gross profit per employee per month rose 8.5% to $295. Q2 operating expenses increased 12.4%, slower than revenue growth; first-half operating expenses increased 19.9%, including a $9.3 million one-time tax-reform bonus. Excluding that bonus, adjusted operating expenses (non-GAAP) increased 15.6%.
- The Q2 effective tax rate was 28.4%, versus 38.6%; the first-half rate was 25.0%, versus 34.8%, reflecting the lower U.S. statutory rate following 2017 tax reform, among other factors.
- Claims estimates affected reported costs: Q2 included a $6.8 million charge for prior-period health claims run-off and a $6.2 million reduction in workers’ compensation costs for prior-period estimates. For the first half, health costs included a $1.9 million reduction for prior claims run-off, while workers’ compensation costs included a $10.9 million reduction for prior-period losses. These estimates are subject to revision.
- Management said cash on hand, marketable securities, operating cash flow and available credit were expected to meet liquidity needs for the remainder of 2018. The filing does not provide numerical earnings or revenue guidance.
Risks, contingencies and other items
- A certified class action concerning fiduciary duties and fees in the worksite employee 401(k) plan remained pending. Insperity moved for summary judgment in June 2018, said it would vigorously defend the case, and recorded no provision because the outcome was uncertain. Other routine litigation was not expected by management to materially affect financial position or results.
- Key disclosed risks include health and workers’ compensation costs and claims trends, availability and pricing of insurance contracts, client cancellations on 30 days’ notice, economic and regional exposure, regulatory and tax changes, payroll-related liabilities, data privacy, IT system failures, competition and growth execution.
- Cash-flow comparisons are affected by the timing of client payroll funding and payroll payments; management noted that the reporting period ended on a Friday. The company also has exposure to variable interest rates on its borrowings and to changes in market rates on fixed-rate securities.
Investor verification points
- Assess whether worksite employee growth, client retention and new-client sales remain sustainable, and whether revenue per employee continues to outpace direct-cost growth.
- Separate recurring operating trends from the one-time $9.3 million tax-reform bonus and the effects of health and workers’ compensation estimate changes; review both GAAP and non-GAAP reconciliations.
- Track operating cash conversion and the large payroll-related working-capital movements; distinguish reported cash from the company’s adjusted available-cash measure.
- Monitor insurance claim development, required workers’ compensation deposits and health-plan funding, as well as the pending 401(k) litigation and credit-facility covenants.
- Confirm future results against management’s liquidity statement: the filing provides no quantified full-year earnings or revenue outlook.