Business context and reporting period
National Research Corporation (NRC Health) provides performance measurement, healthcare analytics, and governance education services to healthcare organizations in the United States and Canada. This unaudited Form 10-Q covers the three months ended March 31, 2012, compared with the same period in 2011. NRC reports eight operating segments as one reportable segment.
Key financial results
Amounts are in millions of dollars except per-share data and percentages.
| Metric | Q1 2012 | Q1 2011 | Change |
|---|---|---|---|
| Revenue | $22.407 | $19.791 | +13.2% |
| Operating income | $6.082 | $5.700 | +6.7% |
| Operating margin | 27.1% | 28.8% | -1.7 percentage points |
| Net income | $3.849 | $3.456 | +11.4% |
| Diluted EPS | $0.56 | $0.51 | +9.8% |
| Operating cash flow | $2.081 | $3.876 | -46.3% |
| Capital expenditures | $0.633 | $0.760 | -16.7% |
Direct expenses rose 32.2% to $8.931 million, increasing from 34.1% to 39.9% of revenue. Selling, general and administrative expense was $6.151 million, or 27.5% of revenue, versus $6.090 million, or 30.8%. Depreciation and amortization was $1.243 million in both periods. The effective tax rate declined to 35.1% from 37.2%, primarily due to $111,000 in federal tax credits and lower Canadian statutory rates.
Cash and cash equivalents were $7.872 million at March 31, 2012, down from $8.082 million at year-end 2011. Current assets of $25.259 million exceeded current liabilities of $24.417 million, leaving working capital of $0.842 million; the company had reported a $2.3 million working-capital deficiency at December 31, 2011. Total notes payable were $14.020 million, including $2.072 million current; capital lease obligations were $0.394 million. The $6.5 million revolving facility was undrawn, subject to its borrowing base. Total liabilities were $44.971 million and shareholders’ equity was $58.407 million.
Material changes and cash flow
- Revenue growth reflected market-share gains and growth within existing clients. Subscription-based agreements represented 68% of quarterly revenue, up from 49%, and 75% of contract value at quarter-end.
- Operating income and net income increased, but operating margin contracted as direct expenses grew faster than revenue. Management attributed higher direct costs to survey volume, postage, labor, contracted survey services, and investments in technology, research, and service resources.
- Operating cash flow fell to $2.081 million from $3.876 million. The filing attributes the 2012 shortfall primarily to a $3.6 million working-capital use, including timing of client billings and higher prepaid expenses.
- Investing used $0.633 million, all for property and equipment, compared with $2.324 million in 2011, which included approximately $1.6 million of acquisition earn-out payments. Financing used $1.755 million, including $1.762 million of dividends and $0.467 million of term-debt repayments. Cash declined by $0.210 million during the quarter.
Outlook, risks, and notable items
- Management expects direct expenses to average 39–40% of revenue for full-year 2012, SG&A 28–29%, and depreciation and amortization approximately 6%. It expects capital expenditures to be similar to the first-quarter level. No revenue or earnings forecast is provided.
- Management believes cash, borrowing availability, and operating cash flow will be sufficient for projected capital and debt needs and the dividend policy. It expected to extend the revolving credit facility beyond its June 30, 2012 maturity; if not extended, management believed operating cash flow would be adequate.
- The term loans bear fixed interest at 3.79% and have balloon payments due July 31, 2013: $4.8 million on the MIV loan and $6.7 million on the OCS loan. The loans are secured and subject to financial and other covenants; NRC reported compliance at quarter-end.
- $3.7 million of cash was held in Canada and intended to remain indefinitely invested in foreign operations. Repatriation could result in U.S. federal income tax; the filing says any additional liability is impracticable to determine.
- Risks highlighted include client contract non-renewals and reliance on a limited number of key clients, competition and price pressure, economic weakness, healthcare-sector consolidation and regulatory change, personnel retention, and protection of proprietary technology. NRC reported no material change to its previously disclosed risk factors, no material market-risk changes, and no indication of impairment of goodwill or other nonfinancial assets.
- Unrecognized tax benefits were $0.303 million, plus $0.020 million of accrued interest and no penalties. The company said these benefits could decrease over the next 12 months as certain statutes of limitation expire.
Important facts for investors to verify
- Whether the revolving facility was extended beyond June 30, 2012, and the company’s ability to address the July 2013 loan balloons.
- Whether the working-capital and billing timing effects reverse, and whether operating cash flow improves alongside reported earnings.
- Whether subscription growth and client retention continue, given the stated renewal and key-client risks.
- Whether higher direct-cost levels and planned expense ratios are consistent with subsequent results and full-year expectations.
- The cash-flow and capital-allocation implications of dividends, share repurchases, and cash held in Canada.