TriNet Group, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018; comparative period is Q1 2017 unless otherwise stated. TriNet provides HR, payroll, benefits, and related services to small and midsize businesses through a co-employment model. It reports one segment; less than 1% of revenue is generated outside the U.S.
Financial and operating performance
| Metric | Q1 2018 | Q1 2017 / comparison |
|---|---|---|
| Total revenue | $861 million | $808 million; up 7% |
| Net Service Revenues (non-GAAP) | $220 million | $199 million; up 11% |
| Operating income | $71 million | $50 million; up 43% |
| Net income | $54 million | $29 million; up 88% |
| Diluted EPS | $0.75 | $0.41 |
| Adjusted EBITDA (non-GAAP) | $91 million | $63 million; up 45% |
| Adjusted Net Income (non-GAAP) | $58 million | $32 million; up 84% |
| Average WSEs | 314,561 | 327,803; down 4% |
| Payroll and payroll taxes processed | $10.3 billion | $9.8 billion; up 5% |
Insurance service revenue was $732 million, up 7%, while professional service revenue was $129 million, up 7%. Insurance costs were $641 million; costs were 88% of insurance service revenue versus 89% a year earlier. Net Insurance Service Revenues (non-GAAP) rose 16% to $91 million, and its margin increased to 12% from 11%. Adjusted EBITDA margin was 41% of Net Service Revenues, compared with 32%.
The effective tax rate fell to 20% from 36%, mainly reflecting the U.S. federal corporate tax-rate reduction under the Tax Cuts and Jobs Act, along with other tax effects. Interest expense, bank fees, and other, net, were $4 million versus $5 million.
Liquidity, debt, and cash flow
At March 31, 2018, cash and cash equivalents were $330 million, working capital was $247 million, total assets were $2.047 billion, and total liabilities were $1.785 billion. Stockholders’ equity was $262 million. The balance sheet reports notes payable of $413 million, down from $423 million at year-end; a note separately gives carrying value of $415 million, so the filing presents differing debt figures. The $75 million revolving credit facility had $60 million unused, and the company was in compliance with its financial covenants.
Net cash used in operating activities was $536 million, including $581 million used in WSE-related activities; corporate operating cash flow was positive $45 million. Management attributed the WSE cash outflow primarily to timing of client receipts, payroll and tax payments, collateral funding, and insurance claims. The company adopted restricted-cash cash-flow guidance retrospectively, so cash-flow presentation is affected by the treatment of restricted cash. Investing activities provided $2 million, including $14 million of investment maturities and $12 million of capital expenditures. Financing activities used $19 million, including $8 million of share repurchases and $10 million of debt repayment.
TriNet reported approximately $1.2 billion in cash, cash equivalents, and investments, but substantial amounts are restricted or designated for payroll, insurance collateral, and other WSE obligations. Management stated corporate cash and positive working capital should meet working-capital and capital expenditure needs for at least 12 months.
Changes, outlook, and notable items
- Average WSEs declined 4%, which management linked partly to client attrition during migration from the legacy SOI platform to the common platform. Management expected elevated attrition to continue until the third quarter of 2018. New sales, growth among existing clients, higher medical-plan participation, and pricing increases partly offset the decline.
- Management cited improved insurance service revenues and favorable insurance-cost developments as drivers of operating-income growth. Monthly total revenue per Average WSE increased 11%.
- TriNet adopted ASC Topic 606 on January 1, 2018 using the modified retrospective method. It recorded a $1 million opening retained-earnings adjustment. For Q1, adoption increased reported revenue by $3 million and reduced commission expense by $9 million; reported net income was $9 million higher than under the previous standard. The comparative period was not restated.
- Management expects operating expenses to increase in the foreseeable future as it invests in growth, vertical products, platform integration, systems, processes, and internal controls. It also expected tax payments to increase in 2018 due to restrictions under the new tax law. No specific full-year earnings or revenue guidance is provided in the supplied filing text.
- Disclosure controls were deemed ineffective at quarter-end because of a material weakness in internal control over financial reporting. Management said the weakness had not caused a restatement, described remediation efforts, and said timing and success could not be assured.
- A securities class-action dismissal was on appeal; TriNet said it could not reasonably estimate any potential loss. It also disclosed litigation over employment tax credits, for which it anticipated recovery of less than the $11 million refund amount previously paid, plus interest. Management did not expect the disclosed proceedings to have a material adverse effect, while noting outcomes remain uncertain.
- TriNet repurchased 160,033 shares for approximately $8 million during the quarter, with approximately $129 million remaining under repurchase authorizations. The company had two standby letters of credit totaling $18 million, not drawn at quarter-end.
Important facts for investors to verify
- Whether client attrition stabilizes after the platform migration and whether new-customer and installed-base growth offset lower Average WSEs.
- How much of earnings growth reflects underlying operating performance versus ASC 606 adoption and the lower tax rate; review the company’s non-GAAP reconciliations and definitions.
- The composition and availability of reported cash and investments, given significant WSE-related restrictions and large quarter-to-quarter movements in payroll-related balances.
- The notes-payable figure: the balance sheet and key metrics report $413 million, while the fair-value note reports a $415 million carrying value.
- Progress and independent evidence of remediation of the material weakness in internal controls.
- Developments in the securities appeal, employment-tax-credit litigation, insurance reserves, and collateral requirements.