Kforce Inc. 2014 Q1 Form 10-Q Summary
Business context and reporting period
Kforce provides temporary and permanent professional staffing and solutions through Technology, Finance and Accounting, Health Information Management, and Government Solutions segments. The filing covers the unaudited three months ended March 31, 2014, compared with the three months ended March 31, 2013. Operations are primarily in the United States; international operations represented approximately 2% of revenue.
Financial performance and position
| Metric | Q1 2014 | Q1 2013 | Change |
|---|---|---|---|
| Net service revenues | $305.3 million | $265.6 million | 14.9% increase |
| Gross profit | $91.1 million | $83.3 million | 9.3% increase |
| Gross margin | 29.8% | 31.4% | Down 160 basis points |
| Income from operations | $10.5 million | $5.2 million | Approximately doubled |
| Net income | $6.2 million | $3.1 million | Approximately doubled |
| Diluted EPS | $0.19 | $0.09 | Increase |
| Adjusted EBITDA | $13.7 million | $7.9 million | 72.0% increase |
| Cash provided by operating activities | $5.9 million | $(8.4) million | Improved by $14.4 million |
Flex revenue increased 16.3% to $295.6 million, while Search revenue declined 15.7% to $9.7 million. Flex gross margin decreased to 27.5% from 28.3%, primarily because growth was concentrated among larger, lower-margin clients and Government Solutions used more subcontractor labor. SG&A declined to 25.6% of revenue from 28.5%, reflecting the 2013 organizational realignment.
Technology revenue increased 17.2%, Finance and Accounting increased 11.1%, and Health Information Management increased 25.0%. Government Solutions declined 0.3%. Q1 included 63 billing days in both periods, and management notes that first-quarter margins are seasonally affected by employment-tax resets.
At March 31, 2014, cash and cash equivalents were $0.8 million, trade receivables were $187.8 million, working capital was $118.1 million, and the current ratio was 2.3. Total assets were $352.3 million and stockholders’ equity was $161.4 million.
Debt consisted primarily of $61.2 million outstanding under the credit facility and $1.1 million of other long-term debt. Credit-facility availability was $58.6 million at March 31, 2014; the facility expires September 20, 2016. The weighted-average effective interest rate was 1.54%.
Capital expenditures were $1.2 million. Financing uses included $3.3 million of cash dividends and $0.3 million of share repurchases, primarily shares withheld for statutory tax obligations. The remaining authorization for share repurchases was approximately $62.3 million.
Material changes versus the prior comparable period
- Revenue growth was led by Flex staffing, particularly Technology, Finance and Accounting, and Health Information Management.
- Search revenue, placements, and average placement fees declined, partly because revenue-generating resources were redirected toward Flex staffing.
- Gross margins contracted despite higher gross profit dollars, reflecting client mix, bill-rate/pay-rate spread compression, and a higher subcontractor mix in Government Solutions.
- Operating leverage improved materially as SG&A grew only 3.3% while revenue grew 14.9%.
- Operating cash flow turned positive, although receivables increased by $8.7 million from year-end.
- The company began paying a quarterly dividend of $0.10 per share; management expected future quarterly dividends of a similar amount, subject to Board approval.
Guidance, outlook, risks, contingencies, and unusual items
Management remained optimistic about temporary staffing demand, citing a March 2014 temporary-staffing penetration rate of 2.06%, described as an all-time high, and continued improvement in staffing indicators. Kforce expected Technology and Finance and Accounting growth to continue, expected Flex margins to remain stable for the remainder of 2014, and expected Search revenue to improve sequentially in Q2 but decline year over year for the remainder of 2014.
Health Information Management benefited from expected ICD-10 implementation work; legislation enacted April 1, 2014 delayed implementation until at least October 1, 2015, creating potential near-term demand risk. Government Solutions revenue was expected to decline during the remainder of 2014 because of a strategic shift toward prime integrated business solutions and lengthy government procurement cycles.
Kforce recorded a $14.5 million Government Solutions goodwill impairment charge in Q4 2013. The filing warns that deterioration in the underlying assumptions could result in additional impairment. Q1 2014 also included a $122 thousand settlement gain related to the supplemental executive retirement health plan.
Management believed cash, operating cash flow, and credit-facility availability would meet operating and capital requirements for at least the next 12 months, but identified economic deterioration, lender funding capacity, financing terms, acquisitions, and share repurchases as liquidity risks. Letters of credit totaled $3.1 million.
Kforce disclosed a California wage-related class action appeal involving an individual waiting-time claim after summary judgment largely favoring Kforce. It also disclosed a qui tam and whistleblower action alleging False Claims Act, accounting, employment, and defamation violations; the government had not intervened, and an independent investigation concluded that the False Claims Act and accounting allegations lacked material, credible support. Management did not expect current proceedings to have a material effect, but noted litigation uncertainty.
Important facts for investors to verify
- Whether Flex revenue growth can continue without further erosion in bill-rate/pay-rate spreads and gross margins.
- The pace of Government Solutions revenue decline and the timing of new prime integrated business contracts.
- The effect of the ICD-10 implementation delay on Health Information Management demand.
- Receivables collection, operating cash conversion, and continued dependence on the credit facility.
- Compliance with credit-facility availability and covenant requirements, particularly if operating conditions deteriorate.
- Potential outcomes and costs of the California litigation and qui tam proceeding.
- Whether the anticipated $0.10 quarterly dividend remains supportable, since future dividends are discretionary.