NRC Health — Q3 2018 Form 10-Q
Reporting period: Three and nine months ended September 30, 2018. Unless stated otherwise, financial amounts are in U.S. dollars. NRC Health provides analytics, insights, and related services to healthcare organizations, primarily through annually renewable subscriptions.
Financial performance
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Revenue | $30.0 million | $29.0 million | $89.0 million | $87.7 million |
| Operating income | $9.2 million | $7.1 million | $25.9 million | $25.6 million |
| Operating margin | 30.5% | 24.6% | 29.1% | 29.2% |
| Net income | $7.0 million | $4.2 million | $22.2 million | $16.4 million |
| Diluted EPS, Common Stock | $0.27 | $0.09 | $0.73 | $0.38 |
Q3 revenue grew 3.7%; nine-month revenue grew 1.6%. For the first nine months, operating income was nearly flat year over year, while net income increased substantially. The effective tax rate fell to 16.6% in Q3 from 42.1%, and to 11.6% for the nine months from 35.9%; tax law changes and transaction- and equity-related tax benefits contributed. Interest expense rose to $544,000 for Q3 and $990,000 for the nine months, primarily due to the new term loan.
Cash flow, liquidity and debt
- Nine-month operating cash flow was $25.9 million; investing cash outflow was $4.9 million, mainly for software and other property and equipment. Financing cash outflow was $48.2 million.
- Cash and equivalents were $7.3 million at September 30, down from $34.7 million at year-end 2017. The company attributed the decrease principally to the recapitalization payment.
- Working capital was a $6.7 million deficit, versus a $19.9 million surplus at year-end 2017. Deferred revenue was $18.6 million.
- Debt carrying amount was $38.9 million, including a $40 million term loan originated in April. The loan bears fixed interest at 5%, has monthly principal payments and matures in April 2023. The $15 million revolving facility and $15 million delayed-draw facility had no outstanding balance at quarter-end. The company reported compliance with its debt covenants.
- Management said cash, available credit and operating cash flows should be sufficient for projected capital and debt needs and the dividend policy for the foreseeable future. It expected capital expenditures for the rest of 2018 to be similar to the first nine months.
Material changes, outlook and risks
- Recapitalization: Effective April 17, 2018, each former Class B share was exchanged for one Common Stock share and $19.59 cash. The company issued approximately 3.6 million shares and paid $72.4 million, funded in part by the new term loan. The dual-class structure was eliminated. The company also declared $12.6 million in dividends during the first nine months.
- Revenue accounting: ASC 606 was adopted January 1, 2018 using the modified retrospective method. The transition increased opening retained earnings by approximately $2.7 million, net of tax. The company reported that adoption increased Q3 revenue by $269,000 and nine-month revenue by $221,000 versus amounts calculated without adoption; year-over-year comparisons therefore are not fully on the same accounting basis.
- Management attributed revenue growth to new customers and higher sales to existing clients. Q3 direct and selling, general and administrative expenses declined, but nine-month SG&A rose 6.7%, including higher software/platform hosting and personnel costs. Depreciation and amortization increased with software investment.
- Customer contracts are generally annually renewable and may be cancelable on short or no notice without penalty. The filing identifies client retention, competition and price pressure, healthcare industry consolidation and regulation, staffing, and cybersecurity or intellectual-property risks, among others. No material changes to previously disclosed risk factors were reported.
- Shareholder litigation related to the recapitalization remained a disclosed contingency, with no loss accrued because management did not consider a loss probable or estimable. The Wisconsin court granted dismissal on September 9, 2018, but judgment had not yet been entered as of quarter-end; the Nebraska federal court granted dismissal and entered judgment on October 9, after quarter-end.
- No formal revenue or earnings guidance is provided in the supplied filing text. Management’s liquidity and capital-spending comments are expectations, not quantified earnings guidance.
Key facts for investors to verify
- How much of reported revenue growth and earnings improvement reflects underlying business performance versus ASC 606 and the unusually low effective tax rate.
- Customer renewal, retention, and cancellation trends, given the short-notice cancellation provisions described for many contracts.
- Cash generation and liquidity after the $72.4 million recapitalization payment, dividends, and the new debt; assess debt service and covenant headroom.
- Whether software/platform investment and higher depreciation and amortization translate into sustained growth and operating returns.
- Final status and any subsequent developments in the recapitalization litigation, particularly entry of the Wisconsin judgment.