Insperity, Inc. — Q2 2013 Form 10-Q
Business and period: Insperity provides HR and professional employer organization (PEO) services to small and midsize businesses, plus adjacent businesses such as payroll, benefits, and workforce-management services. This unaudited filing covers the quarter and six months ended June 30, 2013, compared with the same 2012 periods.
Financial performance
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Revenue | $547.3 million | $519.3 million | $1,159.1 million | $1,114.4 million |
| Gross profit | $97.7 million | $87.3 million | $205.9 million | $190.3 million |
| Operating income | $10.2 million | $9.4 million | $32.2 million | $32.5 million |
| Net income | $3.5 million | $5.6 million | $16.7 million | $19.5 million |
| Diluted EPS | $0.14 | $0.22 | $0.65 | $0.75 |
| Gross margin | 17.9% | 16.8% | 17.8% | 17.1% |
| Operating margin | 1.9% | 1.8% | 2.8% | 2.9% |
Growth and costs: Q2 revenue rose 5.4%, supported by a 2.0% increase in average worksite employees paid per month and a 3.4% increase in revenue per employee per month. Gross profit rose 12.0%; management cited improved pricing relative to direct-cost growth and increased contribution from adjacent businesses. Operating expenses grew 12.4%, faster than revenue, including higher staffing, advertising, and technology-related depreciation and amortization.
For the first half, revenue increased 4.0% and gross profit increased 8.2%, but operating income fell 0.7% and net income fell 14.6%. Results included a $2.7 million noncash impairment of the company’s minority investment in The Receivables Exchange. Q2’s effective tax rate was 54.2% versus 41.4%; the impairment generated no tax benefit due to federal limitations on capital losses. The first-half effective rate was 43.9% versus 40.8%.
Cash flow and financial position: First-half operating cash flow was negative $21.1 million, versus negative $2.7 million a year earlier. Investing cash flow was negative $43.5 million, largely reflecting net purchases of marketable securities; financing cash flow was negative $21.4 million, including $15.1 million of share repurchases and $8.7 million of dividends. Cash and cash equivalents were $178.5 million at June 30, down from $264.5 million at year-end; marketable securities were $52.7 million. Working capital was $118.5 million. The filing reports no drawn debt: the $100 million revolving credit facility, which may be increased to $150 million subject to conditions, was undrawn and the company was in covenant compliance.
Reported cash and investments require context: approximately $117.3 million of cash related to payroll tax withholdings and other payroll deductions, and $14.8 million to client prepayments, were payable in early July. The company also reported $47.5 million of restricted cash. Management said available cash, securities, operating cash flows, and the credit facility should meet liquidity needs for the remainder of 2013.
Changes, outlook, and risks
- Q2 net income declined 37.9% and diluted EPS declined 36.4%, despite higher revenue, gross profit, and operating income. The investment impairment and higher tax rate were significant contributors to the earnings decline.
- Health insurance costs included a $3.4 million reduction for lower-than-expected prior-period claims and premium taxes; workers’ compensation costs included a $3.0 million reduction for prior-period loss estimates. These estimates and favorable adjustments affect comparability and rely on claims assumptions.
- For the first half, management said client retention and net changes in existing clients weakened versus 2012, while worksite employees from new-client sales improved. Q2 retention improved year over year.
- No specific earnings or revenue guidance is provided in the supplied filing text. Management’s stated liquidity outlook covers the remainder of 2013.
- Risks include economic conditions, regulatory and tax changes, health and workers’ compensation costs and claims trends, insurer solvency and replacement coverage, client retention and competition, growth execution, payroll-related liabilities, data privacy, acquisition returns, and litigation.
- A material contingency concerns former workers’ compensation carrier Lumbermens Mutual, which was ordered into liquidation in May 2013. State guaranty associations may seek reimbursement for claims and related costs; potentially affected outstanding claims were estimated at $1.1 million to $5.0 million. Insperity said it would contest any such claims. Management believed other ordinary-course litigation would not materially adversely affect results.
Key investor verification points
- Assess whether revenue and worksite-employee growth, client retention, and pricing can sustain gross-profit gains as operating expenses rise.
- Separate recurring operating performance from the $2.7 million investment impairment, elevated tax rate, and prior-period insurance-cost adjustments.
- Evaluate operating cash conversion and liquidity after accounting for payroll-related funds, client prepayments, restricted cash, and timing-related working-capital movements.
- Monitor health and workers’ compensation claims estimates, carrier arrangements, and any recovery demands tied to Lumbermens Mutual liquidation.
- Review capital returns—share repurchases and dividends—against cash-flow needs and the undrawn credit facility.