HealthEquity, Inc. — Form 10-Q Summary
Reporting period: Fiscal first quarter ended April 30, 2023; comparisons are to the three months ended April 30, 2022 unless noted. HealthEquity administers HSAs and complementary consumer-directed benefits. At quarter-end, it administered 15.0 million total accounts, including 8.0 million HSAs, and $22.3 billion in HSA assets. HSA assets are custodial assets held for members, not company cash.
Financial results and position
| Metric | Q1 2023 | Prior-year period / comparison |
|---|---|---|
| Revenue | $244.4 million | $205.7 million; up 19% |
| Gross profit and margin | $147.8 million; 60.5% | $111.2 million; 54.1% |
| Operating income (loss) | $23.2 million | $(7.3) million |
| Net income (loss) | $4.1 million; $0.05 diluted EPS | $(13.6) million; $(0.16) diluted EPS |
| Adjusted EBITDA (non-GAAP) | $86.6 million; 35% of revenue | $58.3 million; up 48%; 28% of revenue |
| Operating cash flow | $31.5 million | $7.1 million |
| Cash and cash equivalents | $225.6 million at April 30 | $254.3 million at January 31, 2023 |
| Debt | $886.9 million principal; $872.9 million net carrying value | $941.3 million principal at January 31, 2023 |
Revenue growth was led by custodial revenue, up 59% to $94.4 million, as average annualized yield on HSA cash rose to 2.32% from 1.69% and average daily HSA cash increased 9%. Service revenue was nearly flat at $105.1 million, while interchange revenue rose 7% to $44.9 million. Total cost of revenue increased 2% to $96.6 million.
Interest expense increased 43% to $15.0 million, reflecting higher variable rates on the term loan and a $1.2 million debt-extinguishment loss. The income tax provision was $5.9 million, compared with a $4.4 million benefit a year earlier; the reported effective tax rate was 59.1%, affected in part by discrete tax items. Cash used in investing activities was $9.1 million, versus $74.2 million, primarily because the prior-year period included HSA portfolio acquisitions. Financing used $51.0 million, including a $50.0 million voluntary term-loan prepayment; cash declined $28.6 million during the quarter.
Material changes and operating trends
- Total accounts rose 4% year over year to 15.0 million; HSAs increased 9% to 8.0 million, while CDBs declined 2% to 7.0 million. Management attributed the CDB decline mainly to a change in COBRA account counting after a platform migration.
- Gross margin improved as custodial revenue grew faster than costs. Custodial costs rose 36%, partly reflecting higher interest retained by members and larger average HSA cash balances.
- Operating expenses increased 5% to $124.6 million. Technology and development rose 18%, sales and marketing rose 20%, and merger integration expense declined 63% to $3.5 million as Further-related integration activity decreased.
- HSA assets increased 10% year over year to $22.3 billion. Client-held funds were $926 million, up 6%; these funds support administration of CDBs.
Outlook, risks, and unusual items
- Management expectations: No specific consolidated revenue or earnings guidance is provided in the supplied filing text. Management expects custodial revenue to benefit as partner agreements renew or are replaced in the current rate environment, and from a higher share of cash in the Enhanced Rates offering. It expects cost of revenue to decline as a percentage of revenue relative to fiscal 2023, but interest expense to increase year over year because of higher rates, partly offset by lower term-loan principal.
- Spending and liquidity: The company expects capital expenditures to continue at the current level for the remainder of fiscal 2024, mainly for technology systems. Management believes cash, operating cash generation, and the undrawn $1.0 billion revolving facility will meet operating and capital needs for at least 12 months. The company reported compliance with debt covenants and no revolving-facility borrowings at quarter-end.
- Rate exposure: The term loan’s stated rate was 6.56% at quarter-end; management estimated a 1-percentage-point increase would add approximately $2.9 million of interest expense over the next 12 months. On June 1, 2023, after quarter-end, the credit agreement was amended to replace LIBOR-based provisions with Term SOFR provisions.
- Business risks: Custodial revenue depends on yields and partner contracts; fixed-rate arrangements can delay the benefit of rising rates. Management also cited uncertainty around healthcare and tax policy, competition, inflation, data security and privacy, and continued work-from-home effects on commuter benefits. COBRA election trends following the end of federal disaster relief remain uncertain.
- Legal and tax matters: WageWorks is litigating a disputed termination of an Arizona office lease; the landlord drew a $2.8 million letter of credit, and filed a motion for partial summary judgment in April 2023. The company said it could not determine the ultimate outcome of other ordinary-course matters; it had not accrued losses it considered both probable and estimable. The IRS and Texas were examining tax matters, and gross unrecognized tax benefits were $8.8 million.
- Other notable items: Further-related merger integration costs were expected to total approximately $55 million over roughly five to six years from the November 2021 acquisition. Management concluded disclosure controls were effective; the filing reported no material change in internal control during the quarter.
Important facts for investors to verify
- Whether the improved custodial yield and account growth persist, including how partner contract renewals affect future revenue and member interest retention.
- The sensitivity of earnings and cash flow to variable-rate debt, future rate changes, and the pace of additional term-loan repayments.
- Whether service revenue stabilizes amid FSA and COBRA fee attrition and platform migrations, and whether CDB account trends reflect underlying demand or counting changes.
- Progress and total cost of Further integration, technology investment, and the expected margin impact of those expenses.
- Developments in the Union Mesa lease litigation, tax examinations, and any resulting financial exposure.
- Management’s liquidity assumptions, including capital spending and the availability of the revolving credit facility.