Barrett Business Services, Inc. — 2017 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2017. Annual results are summarized below; fourth-quarter figures are identified separately. Unless stated otherwise, dollar amounts are in millions.
Business context
BBSI provides professional employer organization (PEO) and staffing services, combining payroll, workers’ compensation, human resources, and management consulting support for small and mid-sized businesses. It served more than 5,600 PEO clients and approximately 188,000 employees during 2017. PEO fees accounted for 82.4% of revenue; staffing services accounted for 17.6%. California generated approximately 79% of revenue.
Financial results and liquidity
| Metric | 2017 | 2016 |
|---|---|---|
| Total revenue | $920.4 | $840.6 |
| PEO service fees | $758.0 | $673.9 |
| Staffing revenue | $162.4 | $166.7 |
| Gross margin | $158.5 (17.2%) | $145.5 (17.3%) |
| Operating income | $29.9 (3.2%) | $28.9 (3.4%) |
| Net income | $25.2 | $18.8 |
| Diluted earnings per share | $3.33 | $2.55 |
| Operating cash flow | $112.9 | $80.3 |
| Cash and cash equivalents at year-end | $59.8 | $50.8 |
| Current assets / current liabilities | $308.2 / $322.3 | $235.4 / $275.2 |
| Workers’ compensation claims liabilities, total | $363.5 | $312.5 |
At December 31, 2017, the company had no borrowings on its $25.0 million revolving credit line and approximately $4.4 million of mortgage debt. The revolving facility was scheduled to expire July 1, 2018. The company reported compliance with its covenants. Current liabilities exceeded current assets by $14.0 million. Restricted cash and investments totaled approximately $394.9 million on the balance sheet; these assets are substantially associated with workers’ compensation claims and are not equivalent to unrestricted cash.
Annual cash dividends were $1.00 per share, or approximately $7.3 million in total. The company reported $94.8 million of net cash used in investing activities, driven largely by purchases of restricted and unrestricted cash and investments.
Material changes versus 2016
- Revenue rose 9.5%, led by 12.5% growth in PEO fees. PEO revenue from continuing customers grew 7.2%, primarily reflecting higher employee headcount and hours. Staffing revenue declined 2.6%.
- Net income increased 33.9%; diluted EPS rose from $2.55 to $3.33. Operating income grew modestly, while operating margin declined from 3.4% to 3.2%.
- Gross margin percentage edged down to 17.2%. Workers’ compensation expense rose to $234.7 million from $210.4 million, including a $5.2 million unfavorable prior-period reserve adjustment in 2017 versus a $0.3 million favorable adjustment in 2016. Payroll taxes and benefits also increased as a percentage of revenue.
- Other income improved to $4.4 million from a $3.4 million expense, reflecting higher investment income and lower litigation costs. 2016 included a $3.5 million litigation loss.
- Operating cash flow increased by $32.6 million. Growth in workers’ compensation liabilities and accrued payroll contributed materially to cash generation.
Fourth quarter: Revenue was $244.7 million versus $221.1 million in fourth-quarter 2016; net income was $10.5 million versus $8.0 million; diluted EPS was $1.38 versus $1.08.
Outlook, risks, contingencies, and unusual items
- Management gave no specific numerical revenue or earnings guidance. It expected operating cash generation, liquid assets, and the revolving facility to be sufficient for working-capital needs over the next twelve months.
- The company’s business and profitability are highly exposed to California economic, regulatory, and insurance conditions. Management noted staffing labor shortages during 2017; weak conditions could reduce client payrolls, staffing demand, and collections.
- Workers’ compensation reserve estimates are highly judgmental and may change materially. The company retains risk up to $5.0 million per occurrence for most claims, with lower stated retentions in Maryland and Colorado. Chubb’s fronted-program arrangement was scheduled to run through February 1, 2019, with possible annual renewals.
- Workers’ compensation claims liabilities increased to $363.5 million; incurred-but-not-reported reserves were $202.2 million, or 56% of the total. The company’s $380.6 million Chubb trust-account balance is restricted for future claims payments.
- The SEC was investigating reported financial-statement errors and workers’ compensation reserve accounting; the company said discussions were ongoing regarding a potential enforcement action. The Department of Justice had also commenced an investigation. A shareholder derivative lawsuit remained pending. Management could not estimate the probability or potential loss from the described legal matters.
- The Tax Cuts and Jobs Act led to a provisional $1.1 million tax expense, primarily from remeasuring deferred tax assets after the federal corporate rate reduction. The 2017 effective tax rate was 26.8%.
- A previously identified material weakness in IT controls over user access and program/data changes was reported remediated as of December 31, 2017. Management and the external auditor concluded internal control over financial reporting was effective at year-end.
- Management cited seasonal quarterly volatility, including a first-quarter loss in 2017, and sensitivity to payroll-tax wage limits, claims experience, customer seasonality, and service demand.
Important facts for investors to verify
- Workers’ compensation reserve development, especially IBNR assumptions, claim severity, and the $5.2 million unfavorable prior-period adjustment.
- Status and potential financial impact of the SEC and DOJ investigations and the pending derivative litigation; the filing does not provide a clear estimate of potential loss.
- Renewal and terms of the revolving credit facility, scheduled to expire July 1, 2018, and the Chubb program scheduled through February 1, 2019.
- Liquidity quality: distinguish unrestricted cash from restricted claims-related assets, and monitor the working-capital deficit and claims funding requirements.
- California concentration, PEO client and employee growth, and whether staffing revenue stabilizes or continues to decline.
- Final tax accounting under the Tax Cuts and Jobs Act and the effect of the revenue-recognition standard adopted January 1, 2018; management expected no material revenue-recognition changes.