HealthEquity(HQY) - 2022 Q3 - Quarterly Report

Part I. FINANCIAL INFORMATION Financial Statements The company reported a net loss of $5.0 million for Q3 FY2022 and $11.5 million for the nine months ended October 31, 2021, with total assets increasing to $3.1 billion Condensed Consolidated Balance Sheets Balance Sheet Highlights (as of October 31, 2021 vs. January 31, 2021) | (in thousands) | October 31, 2021 (unaudited) | January 31, 2021 | | :--- | :--- | :--- | | Total Assets | $3,099,614 | $2,710,407 | | Cash and cash equivalents | $649,129 | $328,803 | | Goodwill | $1,363,549 | $1,327,193 | | Intangible assets, net | $820,946 | $767,003 | | Total Liabilities | $1,227,764 | $1,331,679 | | Long-term debt, net | $923,501 | $924,217 | | Total Stockholders' Equity | $1,871,850 | $1,378,728 | Condensed Consolidated Statements of Operations Statement of Operations Summary (unaudited) | (in thousands, except per share data) | Three months ended Oct 31, 2021 | Three months ended Oct 31, 2020 | Nine months ended Oct 31, 2021 | Nine months ended Oct 31, 2020 | | :--- | :--- | :--- | :--- | :--- | | Total revenue | $179,954 | $179,351 | $553,259 | $545,401 | | Gross profit | $103,320 | $104,558 | $318,407 | $314,416 | | Income (loss) from operations | $(366) | $11,502 | $3,012 | $35,601 | | Net income (loss) | $(5,038) | $1,789 | $(11,471) | $3,467 | | Diluted EPS | $(0.06) | $0.02 | $(0.14) | $0.05 | Condensed Consolidated Statements of Cash Flows Cash Flow Summary (Nine months ended October 31, unaudited) | (in thousands) | 2021 | 2020 | | :--- | :--- | :--- | | Net cash provided by operating activities | $90,438 | $120,717 | | Net cash used in investing activities | $(167,946) | $(76,730) | | Net cash provided by financing activities | $397,834 | $63,643 | | Increase in cash and cash equivalents | $320,326 | $107,630 | - Cash used in investing activities increased significantly, driven by acquisitions of Luum ($49.5M), intangible member assets ($64.5M), and software development ($49.0M)[11][199] - Financing activities provided a large cash inflow due to net proceeds from a follow-on equity offering ($456.6M) and issuance of long-term debt ($950.0M), which were used to repay prior debt ($1.0B)[11][201] Notes to Condensed Consolidated Financial Statements - In Q1 FY2022, the company completed a follow-on public offering of 5.75 million shares, raising net proceeds of $456.6 million[19] - On March 8, 2021, the company acquired Luum for $50.2 million in cash plus contingent consideration, adding $36.4 million in goodwill[25][27] - On September 29, 2021, the company acquired the Fifth Third Bank HSA portfolio for $60.8 million, adding approximately 160,000 HSAs and $491.0 million of HSA Assets[39] - On October 8, 2021, the company refinanced its debt, issuing $600.0 million of 4.50% Senior Notes due 2029 and entering a new credit agreement for a $350.0 million term loan and a $1.0 billion revolving credit facility[56][62][71] - Subsequent to the quarter end, on November 1, 2021, the company closed the acquisition of Further for $455 million, and on December 6, 2021, it entered an agreement to acquire HealthSavings' HSA portfolio for $60 million[84][85] Management's Discussion and Analysis (MD&A) Management reported flat Q3 FY2022 revenue at $180.0 million, with operating income declining to a $0.4 million loss due to increased expenses, while continuing its active acquisition and integration strategy Overview & Recent Acquisitions - As of October 31, 2021, the company administered 6.2 million HSAs with $16.4 billion in assets and 7.1 million complementary CDBs, for a total of 13.3 million accounts[89] - The company is continuing a multi-year integration of the WageWorks acquisition, expecting to achieve approximately $80 million in annualized net synergies by the end of fiscal 2022, with $75 million already achieved[97] - The company has been highly active in acquisitions, including Luum (March 2021), the Fifth Third Bank HSA portfolio (September 2021), Further (closed November 2021), and the pending HealthSavings HSA portfolio transition[98][99][101] Key Financial and Operating Metrics Key Operating Metrics (as of October 31, 2021) | (in thousands, except percentages) | October 31, 2021 | October 31, 2020 | % Change | | :--- | :--- | :--- | :--- | | HSAs | 6,241 | 5,460 | 14% | | CDBs | 7,085 | 7,060 | 0% | | Total Accounts | 13,326 | 12,520 | 6% | HSA Assets (as of October 31, 2021) | (in millions, except percentages) | October 31, 2021 | October 31, 2020 | % Change | | :--- | :--- | :--- | :--- | | Total HSA cash | $10,469 | $9,017 | 16% | | Total HSA investments | $5,959 | $3,423 | 74% | | Total HSA Assets | $16,428 | $12,440 | 32% | Adjusted EBITDA Reconciliation (unaudited) | (in thousands) | Three months ended Oct 31, 2021 | Three months ended Oct 31, 2020 | Nine months ended Oct 31, 2021 | Nine months ended Oct 31, 2020 | | :--- | :--- | :--- | :--- | :--- | | Net income (loss) | $(5,038) | $1,789 | $(11,471) | $3,467 | | Adjusted EBITDA | $61,087 | $61,139 | $185,576 | $184,149 | Results of Operations Comparison Revenue Breakdown (Three months ended October 31) | (in thousands) | 2021 | 2020 | $ Change | % Change | | :--- | :--- | :--- | :--- | :--- | | Service revenue | $102,733 | $104,562 | $(1,829) | (2)% | | Custodial revenue | $49,006 | $48,544 | $462 | 1% | | Interchange revenue | $28,215 | $26,245 | $1,970 | 8% | | Total revenue | $179,954 | $179,351 | $603 | 0% | - Service revenue decreased 2% YoY for the quarter, primarily due to a drop in CDB accounts related to the COVID-19 pandemic and efforts to simplify CDB engagements[154][155] - Custodial revenue increased 1% YoY for the quarter, as a 16% increase in average HSA cash balances was largely offset by a decline in the average annualized yield from 2.08% to 1.72%[156] - Total operating expenses increased 11% YoY for the quarter, driven by a 24% rise in Technology & Development costs and a 62% increase in Merger Integration expenses[170] Liquidity and Capital Resources - As of October 31, 2021, the company had cash and cash equivalents of $649.1 million, up from $328.8 million at January 31, 2021, boosted by a $456.6 million follow-on equity offering[190] - In October 2021, the company refinanced its debt, securing a new $350 million term loan and a $1.0 billion revolving credit facility, and issuing $600 million in senior notes[193] - The company believes existing cash, cash equivalents, and its Revolving Credit Facility will be sufficient to meet operating and capital expenditure requirements for at least the next 12 months[196] Quantitative and Qualitative Disclosures About Market Risk The company faces market risks including concentration in healthcare accounts, credit risk from cash balances, and significant interest rate exposure on its $16.4 billion HSA assets and variable-rate debt - A substantial portion of revenue is derived from tax-advantaged healthcare accounts, making the company vulnerable to downturns in this market or adverse regulatory changes[208] - The company is exposed to interest rate risk on its $16.4 billion in HSA Assets and $811.0 million in Client-held funds, as declining rates reduce custodial revenue[211][212] - The company has variable-rate debt, with $350.0 million outstanding under its Term Loan Facility, where a hypothetical 1% increase in interest rates would result in an additional $3.5 million of annual interest expense[214] Controls and Procedures Management concluded that disclosure controls and procedures were ineffective as of October 31, 2021, due to material weaknesses in internal control over financial reporting inherited from the WageWorks acquisition, with remediation efforts ongoing - The CEO and CFO concluded that as of October 31, 2021, the Company's disclosure controls and procedures were not effective[217] - The ineffectiveness is due to material weaknesses in internal control over financial reporting at the acquired WageWorks subsidiary, specifically related to the COSO framework components of Risk Assessment, Information and Communication, and Monitoring[220][221] - Specific control activity weaknesses identified include: A) Accounting Close and Financial Reporting, B) Contract to Cash Process, and C) Information Technology General Controls (ITGCs), with ongoing integration and remediation efforts to address these issues[222][223][224] Part II. OTHER INFORMATION Legal Proceedings The company is involved in legal disputes, including a lease termination dispute where $2.8 million was drawn from a letter of credit, and a $30.0 million securities class action settlement against WageWorks - WageWorks is in a legal dispute with landlord Union Mesa 1, LLC over a terminated lease in Arizona, seeking declaratory judgment and return of a $2.8 million letter of credit drawn by the landlord[45] - A putative class action against WageWorks was settled for $30.0 million, with WageWorks contributing $5.0 million and insurers paying the remaining $25.0 million[46] Risk Factors Key risk factors include the complex integration of the Further acquisition, challenges in retaining personnel due to market trends and vaccine mandates, and operational restrictions imposed by substantial debt covenants - The successful integration of the Further acquisition presents a risk, as it involves a complex carve-out from its parent company[235] - The company faces risks in retaining qualified personnel due to the 'great resignation' and a federal COVID-19 Vaccine Mandate for contractors, which could increase team member attrition[236][237][239] - The company's substantial debt ($350M term loan and $600M in notes) and associated covenants impose significant operational and financial restrictions, limiting its ability to incur more debt, make investments, and pay dividends[242][244] Exhibits This section lists key legal and financial documents filed with the Form 10-Q, including acquisition agreements, debt indentures, and executive certifications - Lists key legal and financial documents filed with the report, including acquisition agreements, debt indentures, and executive certifications[246]