Barrett Business Services, Inc. — Q1 2017 Form 10-Q
Business context and period: The company provides professional employer organization (PEO) and staffing services, primarily to small and mid-sized businesses. This unaudited report covers the three months ended March 31, 2017; comparisons are with Q1 2016 unless noted. Amounts below are in U.S. dollars and millions unless stated otherwise.
Financial performance and position
| Metric | Q1 2017 | Q1 2016 / prior date |
|---|---|---|
| Revenue | $210.0 | $191.0 |
| PEO service fees | $172.2 | $154.7 |
| Staffing services revenue | $37.8 | $36.3 |
| Gross margin | $10.5; 5.0% of revenue | $10.4; 5.4% |
| Operating loss | $(17.1); 8.1% of revenue | $(12.3); 6.4% |
| Net loss / diluted loss per share | $(11.2) / $(1.55) | $(8.0) / $(1.11) |
| Cash used by operating activities | $(0.9) | $(7.8) |
| Cash and cash equivalents at quarter-end | $18.4 | $50.8 at Dec. 31, 2016 |
| Restricted cash and investments at quarter-end | $323.7 | $301.3 at Dec. 31, 2016 |
| Debt at quarter-end | Approximately $4.6 | Approximately $4.6 at Dec. 31, 2016 |
- Revenue increased 10.0% year over year: PEO fees rose 11.3% and staffing revenue 4.1%. GAAP PEO revenue is reported net of specified payroll and safety-incentive costs. The filing also presents non-GAAP gross revenue of $1,199.5 million for Q1 2017, including amounts excluded from GAAP revenue.
- Cost of revenue increased to $199.5 million. Payroll taxes and benefits were $115.4 million, and workers’ compensation expense was $55.4 million. SG&A rose to $26.6 million from $21.9 million; depreciation and amortization was $0.9 million.
- The gross-margin rate declined as payroll taxes and benefits and workers’ compensation costs rose as a share of revenue. The operating and net losses widened despite revenue growth.
- Workers’ compensation claims liabilities totaled $326.2 million at March 31, including $162.8 million of incurred-but-not-reported reserves. The company recorded $2.9 million of additional expense for prior-period claims in Q1.
- Investing activities used $29.6 million, mainly reflecting purchases of restricted cash and investments, partly offset by maturities and sales. Financing activities used $1.8 million, primarily for dividends; dividends paid were $0.25 per share.
Changes, outlook, and significant risks
- Management attributed PEO growth to new and existing clients; new-client business nearly doubled business lost from former clients. Revenue from continuing PEO customers increased 3.7%, primarily from higher employee headcount and hours worked.
- Management expects operating cash generation, liquid assets, and the revolving facility to fund working-capital needs for the next 12 months. No specific revenue or earnings guidance is provided. Management noted that quarterly results fluctuate seasonally and that first quarters have historically produced losses.
- The company had no revolver borrowings and reported compliance with its bank covenants. Its $25 million revolving facility expires July 1, 2018; the approximately $4.6 million mortgage balance is due February 1, 2018. Workers’ compensation collateral requirements include $135.0 million in required investments or financial instruments and $128.8 million in surety bonds and standby letters of credit.
- Most restricted funds support future workers’ compensation claims. The Chubb trust account held $299.6 million at quarter-end. Management says the cash decline was primarily due to increased purchases of restricted cash and investments.
- Workers’ compensation reserve estimates rely on actuarial assumptions and are subject to uncertainty; actual claim costs may differ materially. Other cited risks include customer retention, claims trends, healthcare and medical costs, investment-market and interest-rate changes, and availability of capital and required collateral.
- The company is cooperating with SEC inquiries into reported financial-statement errors and workers’ compensation reserve accounting, and with a Department of Justice investigation. Management could not estimate the probability or potential loss from these matters. A shareholder derivative suit was pending, with no decision on dismissal motions reported.
- Management concluded disclosure controls were not effective at March 31, 2017 because of material weaknesses involving IT access/change controls and review of data used for workers’ compensation estimates. Remediation was underway; management had not yet demonstrated that the revised controls operated effectively for a sufficient period.
Investor verification priorities
- Track workers’ compensation reserve development, actuarial assumptions, and any further prior-year claims adjustments.
- Monitor remediation and independent assessment of the two material weaknesses, and whether disclosure controls become effective.
- Follow SEC and DOJ investigations and the derivative litigation, including any quantified exposure or resolution.
- Verify the availability and restrictions on cash and investments, collateral requirements, covenant compliance, and the upcoming mortgage maturity.
- Assess whether revenue growth can translate into improved gross margins and lower operating losses, given higher claims costs and SG&A.