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HHS > SEC Filings for HHS > Form 10-Q on 7-Nov-2013All Recent SEC Filings

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Form 10-Q for HARTE HANKS INC


7-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Cautionary Note Regarding Forward-Looking Statements

This report, including this Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A), contains "forward-looking statements" within the meaning of the federal securities laws. All such statements are qualified by this cautionary note, which is provided pursuant to the safe harbor provisions of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. Forward-looking statements may also be included in our other public filings, press releases, our website and oral and written presentations by management. Statements other than historical facts are forward-looking and may be identified by words such as "may," "will," "expects," "believes," "anticipates," "plans," "estimates," "seeks," "could," "intends," or words of similar meaning. Examples include statements regarding (1) our strategies and initiatives, (2) adjustments to our cost structure and other actions designed to respond to market conditions and improve our performance, and the anticipated effectiveness and expenses associated with these actions, (3) our financial outlook for revenues, earnings per share, operating income, expense related to equity-based compensation, capital resources and other financial items, (4) expectations for our businesses and for the industries in which we operate, including the adverse impact of local, national and international economic and business conditions on the marketing expenditures and activities of our Direct Marketing clients and prospects, (5) competitive factors, (6) acquisition, disposition of assets and development plans, (7) our stock repurchase program, (8) expectations regarding legal proceedings and other contingent liabilities and (9) other statements regarding future events, conditions or outcomes.

These forward-looking statements are based on current information, expectations and estimates and involve risks, uncertainties, assumptions and other factors that are difficult to predict and that could cause actual results to vary materially from what is expressed in or indicated by the forward-looking statements. In that event, our business, financial condition, results of operations or liquidity could be materially adversely affected and investors in our securities could lose part or all of their investments. Some of these risks, uncertainties, assumptions and other factors can be found in our filings with the Securities and Exchange Commission, including the factors discussed under "Item 1A. Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2012 (2012 Form 10-K) and in the "Cautionary Note Regarding Forward-Looking Statements" in our third quarter 2013 earnings release issued on October 31, 2013. The forward-looking statements included in this report and those included in our other public filings, press releases, our website and oral and written presentations by management are made only as of the respective dates thereof, and we undertake no obligation to update publicly any forward-looking statement in this report or in other documents, our website or oral statements for any reason, even if new information becomes available or other events occur in the future.

Overview

The following MD&A section is intended to help the reader understand the results of operations and financial condition of Harte-Hanks. This section is provided as a supplement to, and should be read in conjunction with, our financial statements and the accompanying notes to the financial statements contained elsewhere in this report and our MD&A section, financial statements and accompanying notes to financial statements in our 2012 Form 10-K. Our 2012 Form 10-K contains a discussion of other matters not included herein, such as disclosures regarding critical accounting policies and estimates, and contractual obligations.

Harte-Hanks is a worldwide direct and targeted marketing company that provides multichannel direct and digital marketing services to a wide range of local, regional, national and international consumer and business-to-business marketers.


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We offer a wide variety of integrated, multichannel, data-driven solutions for top brands around the globe. We help our clients gain insight into their customers' behaviors from their data and use that insight to create innovative multichannel marketing programs to deliver a return on marketing investment. We believe our clients' success is determined not only by how good their tools are, but how well we help them use the tools to gain insight and analyze their consumers. This results in a strong and enduring relationship between our clients and their customers. We offer a full complement of capabilities and resources to provide a broad range of marketing services and data management software, in media from direct mail to email, including:

†          agency and digital services;

†          database marketing solutions;

†          data quality software and services with Trillium Software;

†          business-to-business lead generation;

†          direct mail and fulfillment; and

†          contact centers.

Previously, Harte-Hanks also provided shopper advertising opportunities through our Shoppers segment, which operated in certain California and Florida markets. On December 31, 2012 we sold the assets of our Florida Shoppers operations, The Flyer®. On September 27, 2013 we sold the assets of our California Shoppers operations, The Pennysaver®. Because Shoppers represented a distinct business unit with operations and cash flows that can clearly be distinguished, both operationally and for financial purposes, from the rest of Harte-Hanks, the results of the Shoppers operations are reported as discontinued operations for all periods presented. Results of the remaining Harte-Hanks business is reported as continuing operations. After this sale, Harte-Hanks no longer has any Shoppers operations or circulation.

As a worldwide business, we are affected by general national and international economic and business conditions. Marketing budgets are often more discretionary in nature, and are easier to reduce in the short-term than other expenses in response to weak economic conditions. Our revenues are also affected by the economic fundamentals of each industry that we serve, various market factors, including the demand for services by our clients, and the financial condition of and budgets available to specific clients, among other factors. We remain committed to making the investments necessary to execute our multichannel strategy while also continuing to adjust our cost structure to reduce costs in the parts of the business that are not growing as fast. We believe these actions will improve our profitability in future periods.

Our principal operating expense items are labor, postage and transportation.

Results of Continuing Operations

As discussed in Note L, Discontinued Operations, we sold the assets of our Florida Shoppers operations on December 31, 2012 and the assets of our California Shoppers operations on September 27, 2013. Therefore, the operating results of both our Florida and California Shoppers have been reported as discontinued operations in the Condensed Consolidated Financial Statements, and are excluded from management's discussion and analysis of financial condition and results of operations below.


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Operating results from our continuing operations, were as follows:

In thousands, except                Three months ended                                             Nine months ended
per share amounts       September 30, 2013      September 30, 2012       Change        September 30, 2013      September 30, 2012       Change

Revenues                $           134,973    $            140,993           -4.3 %  $            407,430    $            423,243           -3.7 %
Operating expenses                  126,613                 125,395            1.0 %               377,253                 381,632           -1.1 %
Operating income        $             8,360    $             15,598          -46.4 %                30,177    $             41,611          -27.5 %

Income from
continuing
operations              $             4,451    $              8,869          -49.8 %                17,707    $             23,299          -24.0 %

Diluted earnings per
share from
continuing
operations              $              0.07    $               0.14          -50.0 %  $               0.28    $               0.37          -24.3 %

3rd Quarter 2013 vs. 3rd Quarter 2012

Revenues

Revenues decreased 4.3%, to $135.0 million, in the third quarter of 2013 compared to the third quarter of 2012. These results reflect the impact of our financial vertical decreasing $2.3 million, or 11%, compared to 2012, due to reductions from a mail supply chain customer, and our high-tech vertical decreasing $2.2 million, or 7%, compared to 2012, due to reductions from two contact center customers. Our retail and select verticals each decreased 5%, and the automotive and consumer brands vertical declined 2%. Our select markets vertical increased $1.4 million, or 13%, compared to 2012, due to ramp-up of a new fulfillment client. Revenues from our vertical markets are impacted by, among other things, the economic fundamentals of each industry, various market factors, including the demand for services by our clients, and the financial condition of and budgets available to specific clients.

Future revenue performance will depend on, among other factors, the overall strength of the national and international economies and how successful we are at maintaining and growing business with existing clients, acquiring new clients and meeting client demands. We believe that, in the long-term, an increasing portion of overall marketing and advertising expenditures will be moved from other advertising media to the targeted media space, and that our business will benefit as a result. Targeted media advertising results can be more effectively tracked, enabling measurement of the return on marketing investment.

Operating Expenses

Overall operating expenses increased 1.0%, to $126.6 million, in the third quarter of 2013 compared to the third quarter of 2012. The $1.2 million increase reflects an impairment loss of $2.8 million related to other intangible assets associated with our Aberdeen business recorded in the third quarter of 2013. Excluding this impairment loss, operating expenses decreased $1.5 million, or 1.2%, compared to the third quarter of 2012.

Direct Marketing operating expenses, excluding the impairment charge, decreased $1.7 million, or 1.4%, in the third quarter of 2013 compared to the third quarter of 2012. Labor costs increased $1.2 million, or 1.9%, primarily due to an increase in headcount. Production and distribution costs decreased $3.2 million, or 7.5%, due to decreased mail supply chain costs resulting from decreased fuel costs and decreased outsourced costs resulting from decreased outsourced volumes. General and administrative expense, excluding the impairment charge, and depreciation and software amortization expense each increased slightly compared to the prior year quarter. Intangible asset amortization decreased slightly compared to the prior year quarter.

Direct Marketing's largest cost components are labor, outsourced costs and mail supply chain costs. Each of these costs is somewhat variable and tends to fluctuate with revenues and the demand for our services. Mail supply chain rates have increased over the last few years due to demand and supply issues within the transportation industry. Future changes in mail supply chain rates will continue to impact our total production costs and total operating expenses, and may have an impact on future demand for our supply chain management.


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Postage costs of mailings are borne by our clients and are not directly reflected in our revenues or expenses.

General corporate expense increased $0.2 million, or 5.7%, in the third quarter of 2013 compared to the third quarter of 2012, primarily due to an increase in headcount.

Income/Earnings Per Share from Continuing Operations

We recorded income from continuing operations of $4.5 million and diluted earnings per share from continuing operations of $0.07. Excluding the impairment charge, income and diluted earnings per share from continuing operations in the third quarter of 2013 would have been $7.2 million and $0.11, respectively. These results compare to income from continuing operations of $8.9 million and diluted earnings per share from continuing operations of $0.14 per share in the third quarter of 2012. The decrease in income from continuing operations is primarily a result of decreased operating income and an increase in general corporate expense.

First Nine Months 2013 vs. First Nine Months 2012

Revenues

Revenues decreased 3.7%, to $407.4 million, in the first nine months of 2013 compared to the first nine months of 2012. Revenues from our pharmaceutical vertical decreased $6.7 million, or 17%, compared to 2012, reflecting the effect of volume reductions from a long standing customer beginning in the second quarter of 2012, and the loss of another long standing customer in the third quarter of 2012. Our high-tech and automotive and consumer brands verticals experienced revenue declines of 5% each. Our select vertical decreased 6% and our retail vertical decreased 1% compared to the first nine months of 2012. Our financial vertical increased 3% compared to the first three quarters of 2012. Revenues from our vertical markets are impacted by, among other things, the economic fundamentals of each industry, various market factors, including the demand for services by our clients, and the financial condition of and budgets available to specific clients.

Operating Expenses

Overall operating expenses decreased 1.1%, to $377.3 million, in the first nine months of 2013 compared to the first nine months of 2012. The $4.3 million decrease reflects an impairment loss of $2.8 million related to other intangible assets associated with our Aberdeen business recorded in the third quarter of 2013. Excluding this impairment loss, operating expenses decreased $7.1 million, or 1.9%, compared to the first three quarters of 2012.

Direct Marketing operating expenses, excluding the impairment charge, decreased $10.1 million, or 2.7%, in the first nine months of 2013 compared to the first nine months of 2012. Labor costs decreased $4.6 million, or 2.3%, primarily due to a reduction in temporary labor as a result of revenue performance. Production and distribution costs decreased $5.4 million, or 4.3%, due to decreased mail supply chain costs resulting from decreased fuel costs, partially offset by increased outsourced costs resulting from increased outsourced volumes. General and administrative expense, excluding the impairment charge, was consistent with the first nine months of 2012. Depreciation expense and intangible asset amortization each decreased slightly compared to the prior year first nine months, while software amortization increased slightly.

General corporate expense increased $0.7 million, or 32.1%, in the first nine months of 2013 compared to the first nine months of 2012. This increase was primarily attributable to approximately $2.0 million in compensation expense related to the retirement of our former Chief Executive Officer, professional fees related to the search for our new Chief Executive Officer and new members of our Board of Directors, as well as increased legal expenses.

Income/Earnings Per Share from Continuing Operations

We recorded income from continuing operations of $17.7 million and diluted earnings per share from continuing operations of $0.28. Excluding the impairment charge, income and diluted earnings per share from continuing operations in the first nine months of 2013 would have been $20.5 million and $0.33, respectively. These results


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compare to income from continuing operations of $23.9 million and diluted earnings per share from continuing operations of $0.37 per share in the first nine months of 2012. The decrease in income from continuing operations is primarily a result of decreased operating income and an increase in general corporate expense. The decrease was offset by a gain on the sale of our facility in Belgium, changes in net foreign currency transaction gains and losses and a lower effective tax rate.

Interest Expense

3rd Quarter 2013 vs. 3rd Quarter 2012

Interest expense decreased $0.1 million, or 11.3%, in the third quarter of 2013 compared to the third quarter of 2012 due to a lower average debt balance in the third quarter of 2013. The lower average debt balance in the third quarter of 2013 is a result of scheduled quarterly principal payments on the 2011 Term Loan Facility. See discussion of our credit facilities in the Liquidity and Capital Resources section below.

First Nine Months 2013 vs. First Nine Months 2012

Interest expense decreased $0.4 million, or 15.0%, in the first nine months of 2013 compared to the first nine months of 2012 due to a lower average debt balance in the first nine months of 2013. The lower average debt balance in the first nine months of 2013 is a result of scheduled quarterly principal payments on the 2011 Term Loan Facility. See discussion of our credit facilities in the Liquidity and Capital Resources section below.

Interest Income

3rd Quarter 2013 vs. 3rd Quarter 2012

Interest income increased slightly in the third quarter of 2013 compared to the third quarter of 2012.

First Nine Months 2013 vs. First Nine Months 2012

Interest income is flat in the first nine months of 2013 compared to the first nine months of 2012.

Other Income and Expense

3rd Quarter 2013 vs. 3rd Quarter 2012

Other expense, net, was $0.5 million in the third quarter of 2013 compared to other expense, net, of $0.7 million in the third quarter of 2012. This $0.2 million variance from the prior year quarter is due to a $0.3 million change in net foreign currency transaction gains and losses.

First Nine Months 2013 vs. First Nine Months 2012

Other income, net, was $0.6 million in the first nine months of 2013 compared to other expense, net, of $1.8 million in the first nine months of 2012. This $2.4 million variance from the prior year first nine months is due to a $0.9 million change in net foreign currency transaction gains and losses and a $0.9 million gain on the sale of our facility in Belgium in the first quarter of 2013.

Income Taxes

3rd Quarter 2013 vs. 3rd Quarter 2012

Income tax expenses were $2.6 million in the third quarter of 2013 compared to $5.1 million in the third quarter of 2012. The $2.5 million decrease is primarily a result of lower taxable income coupled with the $1 million tax benefit resulting from an intangible asset impairment loss recorded in the third quarter of 2013. Excluding this impairment loss, our effective tax rate was 37.3% for the third quarter of 2013, increasing from 36.7% for the third quarter of 2012. The increase in the effective tax rate is primarily due to 2012 reductions in tax accruals related to certain foreign subsidiaries.


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First Nine Months 2013 vs. First Nine Months 2012

Income tax expenses were $10.8 million in the first nine months of 2013 compared to $13.9 million in the first nine months of 2012. The $3.1 million decrease is primarily a result of lower taxable income coupled with the $1 million tax benefit resulting from the other intangible asset impairment loss recorded in the third quarter of 2013. Excluding this impairment loss, our effective tax rate was 37.9% for the first nine months of 2013, increasing from 37.3% for the first nine months of 2012. The increase in the effective tax rate is primarily due to 2012 reductions in tax accruals related to certain foreign subsidiaries.

Economic Climate and Impact on our Financial Statements

As discussed above, we sold the assets of the California Shoppers operations on September 27, 2013. The business and economic climate in California had a negative impact on our Shoppers' operations and cash flows, and therefore, the cash proceeds received at sale. The loss on sale of these assets is reflected in the discontinued operations results throughout our financial statements. In addition, as a result of a significant decrease in forecasted revenues, management completed an evaluation of the Aberdeen trade name intangible asset as of September 30, 2013. A discounted cash flow model was used to calculate the fair value of the Aberdeen trade name. The significant assumptions used in this method included the (i) revenue growth rates for the Aberdeen Group,
(ii) discount rate, (iii) tax rate and (iv) royalty rate. Harte-Hanks recorded a non-cash trade name intangible asset impairment charge of $2.8 million. The impairment charge is included in Impairment of other intangible assets in the Consolidated Statements of Comprehensive Income (Loss) in the third quarter of 2013

Liquidity and Capital Resources

Sources and Uses of Cash

As of September 30, 2013, cash and cash equivalents of Continuing Operations were $76.8 million, increasing $27.3 million from cash and cash equivalents of $49.4 million at December 31, 2012. This net increase was a result of net cash provided by operating activities of $34.7 million, net cash provided by investing activities of $14.4 million, net cash used in financing activities of $21.3 million and the effect of exchange rate changes of $0.5 million.

Operating Activities

Net cash provided by operating activities for the nine months ended September 30, 2013 was $34.7 million, compared to $39.9 million for the nine months ended September 30, 2012. The $5.1 million year-over-year decrease was primarily attributable to changes within working capital assets and liabilities and a decrease in net income from continuing operations (excluding impairment related charges including taxes).

For the nine months ended September 30, 2013, our principal working capital changes, which directly affected net cash provided by operating activities, were as follows:

† A decrease in accounts receivable attributable to collection of the December 31, 2012 receivables as well as lower revenues in the fourth quarter of 2012 compared to the third quarter of 2013. Days sales outstanding were approximately 77 days at September 30, 2013, which increased from 75 days at December 31, 2012.;

† An increase in inventory due to more days of supply held in inventory compared to December 31, 2012;

† An decrease in prepaid expenses and other current assets due to timing of payments;

† An increase in the current portion of the deferred income tax asset due to the timing of the deductibility of the incentive compensation accrued at December 31, 2012 and paid in the first quarter of 2013;

† A decrease in accounts payable due to higher overall operating expenses, in the fourth quarter of 2012 than in the third quarter of 2013;

† A decrease in accrued payroll and related expenses due to the timing of the first payroll in January of 2013 and payment of 2012 incentive compensation;

† A decrease in deferred revenue and customer advances due to timing of receipts; and

† A decrease in customer postage deposits due to timing of receipts and lower mail volumes.


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Investing Activities

Net cash provided by investing activities was $14.4 million for the nine months ended September 30, 2013, compared to net cash used in investing activities of $7.8 million for the nine months ended September 30, 2012. The $22.2 million variance is the result of cash received from the sale our California Shoppers operations, as well as the sale of our Belgium facility in the first quarter of 2013 for net proceeds of $4.6 million, partially offset by increased capital spending in the first nine months of 2013 compared to the first nine months of 2012.

Financing Activities

Net cash used in financing activities was $21.3 million for the nine months ended September 30, 2013 compared to $83.7 million for the nine months ended September 30, 2012. The $62.3 million decrease is primarily due to a $56.9 million decrease in net debt repayments in the first nine months of 2013 compared to the first nine months of 2012, as a result of retiring the 2008 Term Loan Facility in March 2012. Dividend payments also decreased $5.5 million compared to the first half of 2012 because we accelerated the payment of our regular first quarter 2013 dividend into December of 2012.

Credit Facilities

On March 7, 2008, we entered into a four-year $100 million term loan facility (2008 Term Loan Facility) with Wells Fargo Bank, N.A., as Administrative Agent. The 2008 Term Loan Facility matured on March 7, 2012, at which time we paid the remaining outstanding principal of $60.0 million using cash on hand.

On August 12, 2010, we entered into a three-year $70 million revolving credit facility (2010 Revolving Credit Facility) with Bank of America, N.A., as Administrative Agent. The 2010 Revolving Credit Facility was scheduled to mature on August 12, 2013.

On August 8, 2013, we entered into a three-year $80 million revolving credit facility, a $25 million letter of credit sub-facility and a $5 million swing line loan sub-facility (2013 Revolving Credit Facility) with Bank of America, N.A., as Administrative Agent. The 2013 Revolving Credit Facility permits us to request up to a $15 million increase in the total amount of the facility. The 2013 Revolving Credit Facility matures on August 16, 2016. The 2013 Revolving Credit Facility amends and restates that certain Credit Agreement, dated as of August 12, 2010 (2010 Revolving Credit Facility), between Harte-Hanks, the lenders party thereto and the Agent and replaces the three-year $70 million revolving credit facility under the Existing Revolver Credit Agreement, under which Harte-Hanks had no borrowings as of August 8, 2013, except for letters of credit totaling approximately $9.5 million. The Revolving Loan Facility will not replace, and is in addition to, the $122.5 million term loan facility, which Harte-Hanks entered into on August 16, 2011. For each borrowing under the 2013 Revolving Credit Facility, we can generally choose to have the interest rate for that borrowing calculated on either (i) the Eurodollar rate for the applicable interest period plus a spread which is determined based on our total net debt-to-EBITDA ratio then in effect, which ranges from 2.25% to 3.00% per annum; or (ii) the highest of (a) the Agent's prime rate, (b) the Federal Funds Rate plus 0.50% per annum, (c) Eurodollar rate plus 1.00% per annum, plus a spread which is determined based on our total debt-to-EBITDA ratio then in effect, . . .

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