Mastech Digital, Inc. — 2017 Form 10-K
Reporting period: Fiscal year ended December 31, 2017; filed March 23, 2018. The filing reports full-year results and quarterly data, including Q4. Mastech provides IT staffing and digital transformation services. Following its July 13, 2017 acquisition of InfoTrellis, it reported two segments: Data and Analytics Services and IT Staffing Services. Unless noted otherwise, figures below are in U.S. dollars.
Financial performance and liquidity
| Metric | 2017 | 2016 |
|---|---|---|
| Revenue | $147.9 million | $132.0 million |
| Gross profit / gross margin | $31.6 million / 21.4% | $26.3 million / 19.9% |
| Operating income | $4.1 million | $4.5 million |
| Net income | $1.6 million | $2.5 million |
| Diluted EPS | $0.33 | $0.56 |
| Cash from operating activities | $3.4 million | $2.3 million |
| Cash and cash equivalents at year-end | $2.5 million | $0.8 million |
| Operating working capital | $16.1 million | $11.4 million |
- Revenue and segments: 2017 revenue grew 12%. Data and Analytics Services contributed $9.2 million from acquisition through year-end, with a 44.8% gross margin. IT Staffing Services revenue was $138.7 million, up about 5% organically; its gross margin was 19.8%, versus 19.9% in 2016.
- Profitability: Overall gross margin rose primarily because the acquired data and analytics business carries higher margins. Operating income and net income nevertheless declined as expenses and interest costs increased. 2017 included $2.0 million of acquisition-related transaction expenses and a $372,000 estimated tax-reform charge.
- Q4: Revenue was $40.5 million, gross profit $9.5 million, and net income $865,000; diluted EPS was $0.16. Q4 2016 revenue was $32.4 million, gross profit $6.4 million, net income $640,000, and diluted EPS $0.14.
- Cash flow: Operating activities generated $3.4 million; investing activities used $35.9 million, principally for InfoTrellis; financing activities provided $34.2 million. Capital expenditures were $1.1 million.
- Debt and liquidity: Year-end bank borrowings were approximately $38.5 million, versus $9.9 million at the end of 2016; cash was $2.5 million. Management reported approximately $13 million of unused revolver capacity and expected operating cash flow, available cash, and facility capacity to meet needs over the next 12 months. Year-end DSO was 58 days. The company reported compliance with credit-facility covenants.
- Balance sheet: Total assets were $98.6 million, including $35.8 million of goodwill and $25.5 million of net intangible assets; total liabilities were $71.5 million and shareholders’ equity was $27.2 million.
Material changes versus the prior comparable period
- InfoTrellis added a project-based data management and analytics business, included only from July 13, 2017. The $55 million stated purchase arrangement included $35.75 million cash at closing, subject to an $861,000 working-capital adjustment, and up to $19.25 million of deferred, EBIT-contingent payments. The recorded fair value of contingent consideration was $17.125 million.
- IT staffing growth reflected an increase of 102 billable consultants, partly offset by lower utilization and a lower average hourly bill rate: $73.55 in 2017 versus $75.35 in 2016. The company attributed utilization pressure in part to weather disruptions and downtime in digital learning.
- Revenue concentration increased: two clients exceeded 10% of 2017 revenue (CGI, 12.6%; Accenture, 10.7%), and the top ten represented 47%, versus 44% in 2016. No client exceeded 10% in 2016.
- Interest expense rose to $1.1 million from $462,000, primarily reflecting acquisition-related borrowing. Selling, general and administrative expense increased to $27.5 million from $21.8 million.
- The acquisition was funded with new credit facilities and a $6.0 million private placement to co-founders Ashok Trivedi and Sunil Wadhwani, issuing 857,144 shares at $7.00 per share.
Outlook, commentary, and risks
- Management described economic growth and an expanding job market as supportive entering 2018, but expected skilled-labor supply pressures to persist, particularly in the United States. The filing gives no numerical revenue or earnings guidance.
- Management warned that growth in staffing through systems integrators and managed service providers could pressure IT staffing margins and weaken direct client relationships. Fourth-quarter utilization is typically lower because of holidays and vacation patterns.
- Key risks include client and industry concentration, contracts generally terminable without penalty, competition, recruiting and retaining skilled professionals, and immigration or H-1B visa changes. Approximately 40% of the workforce worked under company-sponsored H-1B permits at year-end.
- Other material exposures include acquisition integration and execution, contingent consideration estimates, debt service and covenant restrictions, interest rates, Indian rupee and wage movements, cybersecurity, and changes in tax law. Substantially all assets secure the credit agreement; the company had entered an interest-rate swap covering $15 million of notional debt.
- The 2017 tax-reform charge was provisional; management expected to finalize its tax accounting during 2018. The company anticipated a favorable effect from the lower federal corporate tax rate beginning in 2018, while noting uncertainty around other provisions.
- Management said ordinary-course legal proceedings were not expected to materially affect financial position, results, or cash flows. The independent auditor issued an unqualified opinion on the financial statements. Management’s internal-control assessment excluded the acquired InfoTrellis business; the auditor did not attest to internal control effectiveness.
Most important facts for investors to verify
- Whether InfoTrellis meets the EBIT targets underlying the deferred consideration, and how its revenue, margins, and integration progress develop.
- Whether core IT staffing growth can be sustained despite lower bill rates, labor scarcity, utilization pressure, and MSP-related pricing.
- Debt repayment capacity, borrowing availability, interest expense, and continued compliance with credit-facility covenants.
- Customer concentration and exposure to the loss or reduced spending of major clients, especially CGI and Accenture.
- Final tax-reform accounting and the effect of tax changes on cash taxes and earnings.
- Integration of InfoTrellis controls and systems, and any subsequent updates to the control assessment or goodwill and intangible-asset impairment testing.