I3 Verticals, Inc. — FY2020 Form 10-K
Business context and reporting period. The company provides integrated payment processing and software to small and midsize businesses and organizations, primarily in public sector, education, nonprofit and healthcare markets. It reports Merchant Services and Proprietary Software and Payments segments. This annual report covers the fiscal year ended September 30, 2020; amounts below are in U.S. dollars.
Financial performance and position
- Revenue: Reported revenue was $150.1 million, down 60.1% from $376.3 million. This headline comparison is not like-for-like: upon adopting ASC 606 on October 1, 2019, the company began presenting interchange and network fees net against revenue. On a basis excluding that presentation change, FY2020 revenue was $394.2 million, up 4.8%. Acquisitions added $42.2 million; excluding those acquisitions, revenue on that basis declined $24.3 million, primarily reflecting COVID-19.
- Operating results: Operating income was $7.8 million versus $6.4 million. Net loss was $1.0 million versus net income of $0.6 million; net loss attributable to I3 Verticals, Inc. was $0.4 million versus $3.0 million. Diluted loss per Class A share was $0.03 versus $0.29. FY2020 included an income tax benefit of $2.8 million, including a $2.7 million reduction in a deferred-tax valuation allowance.
- Margins and operating metrics: Processing volume rose 9.4% to $14.4 billion. Integrated payments represented 55% of volume, up from 50%; average monthly net volume attrition remained below 2%. Operating margin was approximately 2.0% using ASC 606-adjusted revenue of $394.2 million; reported-revenue margin is not comparable across years because of the accounting presentation change.
- Cash flow: Operating cash flow was $23.7 million, down from $26.6 million. Investing cash use was $35.4 million, versus $143.7 million, largely reflecting lower acquisition spending. Financing provided $29.1 million, versus $119.1 million.
- Liquidity and debt: Cash and cash equivalents were $15.6 million; restricted cash was another $5.0 million. The company had no borrowings under its $275 million revolving facility, all of which was available subject to covenants. Exchangeable Notes had $117 million principal outstanding after $21 million was repurchased; their balance-sheet carrying amount, net of issuance costs and discount, was $90.8 million. The company reported covenant compliance, with a 6.71x interest coverage ratio, 2.59x total leverage ratio and 0.0x senior secured leverage ratio.
- Other balance-sheet items: Total assets were $403.5 million, total liabilities $163.4 million and total equity $240.2 million. The Tax Receivable Agreement liability was $27.6 million.
Material changes versus prior period
- ASC 606 changed revenue presentation by netting interchange and network fees. The company states the change had no effect on operating income and no material effect on net income; prior-year figures were not restated.
- COVID-19 caused payment volume and transaction declines beginning in the second half of March, followed by a partial recovery. The company reported monthly volume of $0.8 billion in April, recovering to $1.5 billion in August before easing to $1.3 billion in September.
- FY2020 acquisitions cost $32.6 million. SG&A rose 24.6% to $78.3 million, principally due to higher employment costs, acquisitions and stock compensation; equity-based compensation increased to $10.5 million from $6.1 million.
- Interest expense increased 48.7% to $8.9 million, including debt-discount amortization on the Exchangeable Notes. Other expense of $2.6 million primarily reflected a loss on retirement of debt.
Outlook, risks and unusual items
- Management provided no numerical FY2021 guidance. It expected pandemic-related disruption to materially adversely affect FY2021 results, while noting the duration and full financial impact could not be reasonably estimated.
- Management said cash, operating cash flow and available revolver capacity were expected to fund operations, planned capital expenditures and debt service for at least 12 months. It may pause or terminate much of its acquisition program if its financial position requires.
- After year-end, the company acquired four businesses for $59.6 million in cash and revolving-credit proceeds, plus contingent consideration still being valued. Earn-outs could total up to $30.2 million through April 2023.
- Key risks include ongoing COVID-19 effects, SMB and public-sector/education exposure, acquisition integration and contingent-payment estimates, competition, reliance on distribution and processing partners, cybersecurity and regulatory compliance, debt covenant and liquidity risks, and the LIBOR transition.
- Other commitments include $9.2 million of minimum processing fees, $10.9 million of facility leases and a conditional $3.5 million loan commitment to a sales organization. A potential business buyout and related earn-outs are not estimable. Management said ordinary-course legal matters were not expected to materially affect the company.
- The company reported no goodwill impairment in FY2020. It cautioned that prolonged economic weakness or a sustained share-price decline could trigger further impairment testing. It also early adopted lease accounting effective October 1, 2020, expecting recognition of $9.1 million of right-of-use assets and $9.8 million of lease liabilities.
Important facts for investors to verify
- Compare revenue using the ASC 606-adjusted basis, not the unadjusted 60.1% reported decline; assess organic performance separately from acquisitions and pandemic effects.
- Track payment volume recovery, integrated-payment mix and attrition, especially in education and public sector markets.
- Reconcile the $117 million face amount of Exchangeable Notes with their $90.8 million reported carrying value, and monitor exchange, repurchase, dilution and cash-settlement provisions.
- Review covenant headroom and liquidity under renewed COVID-19 disruption, including whether the $275 million revolver remains accessible subject to its terms.
- Assess acquisition integration and the valuation, timing and cash impact of contingent consideration, including the four post-year-end acquisitions.
- Evaluate the $27.6 million Tax Receivable Agreement obligation, future payments and potential effects of additional unit exchanges.