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HHS > SEC Filings for HHS > Form 10-Q on 5-May-2014All Recent SEC Filings

Show all filings for HARTE HANKS INC

Form 10-Q for HARTE HANKS INC


5-May-2014

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 with regard to the negative performance trends in our Shoppers business and the adverse impact of continuing economic uncertainty in the U.S. and other economies 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, 2013 (2013 Form 10-K) and in the "Cautionary Note Regarding Forward-Looking Statements" in our first quarter 2014 earnings release issued on May 1, 2014. 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, Inc. (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 2013 Form 10-K. Our 2013 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 one of the world's leading, insight-driven multi-channel marketing organizations, delivering impactful business results for some of the world's best-known brands. Through strategic agencies and our core marketing services, we develop integrated solutions that connect brands with prospects and customers, moving them beyond awareness to transactions and brand loyalty.


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We offer a wide variety of integrated, multi-channel, 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 multi-channel 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 and business-to-business lead generation;

data quality software and services with Trillium Software;

direct mail; and

contact centers.

Previously, Harte Hanks also provided shopper advertising opportunities through our Shoppers segment, which operated in certain California markets. On September 27, 2013 we sold the assets of our California Shoppers operations, The Pennysaver, for gross proceeds of $22.5 million. This transaction resulted in an after-tax loss of $12.4 million. 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 are reported as continuing operations. After this sale, Harte Hanks no longer has any Shoppers operations or circulation.

With business operations in several countries, we are affected by the general local, national and international economic and business conditions in the markets where we and our customers operate. Marketing budgets are often 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 mail supply chain management.

Results of Continuing Operations

As discussed in Note L, Discontinued Operations, we sold the assets of our California Shoppers operations on September 27, 2013. Therefore, the operating results of our California Shoppers are being 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:

                                          March 31,    March 31,
 In thousands, except per share amounts      2014         2013      % Change
 Revenues                                 $  132,727   $  132,352       0.3%
 Operating expenses                          128,148      122,949       4.2%
 Operating income                         $    4,579   $    9,403     -51.3%

 Income from continuing operations        $    1,845   $    6,319     -70.8%

 Diluted EPS from continuing operations   $     0.03   $     0.10     -70.9%

1st Quarter 2014 vs. 1st Quarter 2013

Revenues

Revenues increased 0.3%, to $132.7 million, in the first quarter of 2014 compared to the first quarter of 2013. These results reflect the impact of our select markets vertical increasing $3.1 million, or 30%, compared to the first quarter of 2013, primarily due to non-recurring streaming enrollment services from a large contract with an existing contact center customer. In addition, our automobile and consumer brands vertical increased $2.9 million, or 14%, over the prior year quarter, due to additional work with an existing contact center customer and a large Trillium contract, and our pharmaceuticals vertical increased $2.4 million, or 24%, due to new mail business with an existing customer. Our retail, high tech, and financial services verticals decreased 8%, 9%, and 10%, respectively. 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 were $128.1 million in the first quarter of 2014, compared to $122.9 million in the first quarter of 2013.

Labor costs increased $3.8 million, or 5.7%, compared to the first quarter of 2013, primarily due to an increase in salaries and wages related to an investment in key personnel to generate additional revenues, as well as headcount reductions which resulted in approximately $1.0 million of severance, the benefits of which will impact our performance from April onwards. Production and distribution costs increased $1.3 million, or 3.3%, due to increased outsourced services to support additional revenues and software service contracts repairs and maintenance costs. General and administrative expense, increased $0.3 million, or 2.4%, compared to prior year, reflecting increased promotion expense related to rebranding and various increased business services expenses. Depreciation and intangible asset and software amortization expense decreased $0.2 million, or 5.6%, compared to the prior year, primarily related to decreased software depreciation.

Our 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.

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


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Interest Expense

1st Quarter 2014 vs. 1st Quarter 2013

Interest expense is comparable to the first quarter of 2013 and decreased $0.1 million, or 13.1%, in the first quarter of 2014. This was due to a lower average debt balance in the first quarter of 2014. The lower average debt balance in the first quarter of 2014 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.

Other Income and Expense

1st Quarter 2014 vs. 1st Quarter 2013

Other expense, net, was $0.7 million in the first quarter of 2014 compared to other income, net of $1.2 million in the first quarter of 2013. This $1.9 million variance from the prior year quarter is due to a $1.0 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

1st Quarter 2014 vs. 1st Quarter 2013

Income tax expense decreased $2.2 million in the first quarter of 2014 compared to the first quarter of 2013. Our effective tax rate was 41.7% for the first quarter of 2014, increasing from 35.8% for the first quarter of 2013. The increase in the effective tax rate is primarily due to an increase in state deferred tax accruals resulting from the state enacted tax legislation.
Excluding the impact of our first quarter discrete items, including the state enacted legislation, which was offset by other discrete items, our effective tax rate for the first quarter of 2014 would have been 37.2%.

Income/Earnings Per Share from Continuing Operations

1st Quarter 2014 vs. 1st Quarter 2013

We recorded income from continuing operations of $1.8 million and diluted earnings per share from continuing operations of $0.03. These results compare to income from continuing operations of $6.3 million and diluted earnings per share from continuing operations of $0.10 per share in the first quarter of 2013. The decrease in income from continuing operations is primarily a result of no change in revenues and increased expenses that resulted in decreased operating income, the change in other income and expense discussed above, and the increase in the effective tax rate discussed above.

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, which is reflected in the discontinued operations results throughout our financial statements. In addition, local, national and international economic and business conditions affect the marketing expenditures of our clients, as they adjust expenditures in reaction to market conditions. These conditions are presently uneven among the markets we serve, with most showing modest but uncertain economic growth. These conditions also affect our costs and ability to attract and retain qualified employees.


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Liquidity and Capital Resources

Sources and Uses of Cash

As of March 31, 2014, cash and cash equivalents were $84.5 million, decreasing $4.2 million from cash and cash equivalents of $88.7 million at December 31, 2013. This net decrease was a result of net cash provided by operating activities of $6.7 million, net cash used in investing activities of $2.6 million, net cash used in financing activities of $8.5 million and the effect of exchange rate changes of $0.0 million.

Operating Activities

Net cash provided by operating activities for the three months ended March 31, 2014 was $6.7 million, compared to $12.1 million for the three months ended March 31, 2013. The $5.4 million year-over-year decrease was primarily attributable a decrease in net income, as well as changes within working capital assets and liabilities.

For the three months ended March 31, 2014, 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, 2013 receivables as well as higher revenues in the fourth quarter of 2013 compared to the first quarter of 2014. Days sales outstanding were approximately 72 days at March 31, 2014, which increased from 71 days at December 31, 2013;

An increase in prepaid expenses due to timing of payments related to prepaid insurance, rent and annual licenses/agreements.;

A decrease in accrued payroll and related expenses due to the timing of the first payroll in January of 2014 and accrual of severance at year-end 2013;

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.

Investing Activities

Net cash used in investing activities was $2.6 million for the three months ended March 31, 2014, compared to net cash provided by investing activities of $0.1 million for the three months ended March 31, 2013. The $2.7 million variance is the result of the sale of our Belgium facility in the first quarter of 2013 for net proceeds of $4.6 million, partially offset by decreased capital spending in the first three months of 2014 compared to the first three months of 2013.

Financing Activities

Net cash used in financing activities was $8.5 million for the three months ended March 31, 2014 compared to $3.4 million for the three months ended March 31, 2013. The $5.1 million increase is primarily due the $5.4 million in dividends paid in the first quarter of 2014. We accelerated the payment of our regular first quarter 2013 dividend into December of 2012.

Credit Facilities

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 matured on August 12, 2013.

On August 16, 2011, we entered into a five-year $122.5 million term loan facility (2011 Term Loan Facility) with Bank of America, N.A., as Administrative Agent. The 2011 Term Loan Facility matures on August 16, 2016. For each borrowing under the 2011 Term Loan Facility, we can generally choose to have the interest rate for


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that borrowing calculated based on either (i) the LIBOR rate (as defined in the 2011 Term Loan Facility) for the applicable interest period, plus a spread (ranging from 2.00% to 2.75% per annum) based on our total net funded debt-to-EBITDA ratio (as defined in the 2011 Term Loan Facility) then in effect; or (ii) the highest of (a) the Agent's prime rate, (b) the BBA daily floating rate LIBOR, as determined by Agent for such date, plus 1.00%, and (c) the Federal Funds Rate plus 0.50%, plus a spread (ranging from 1.00% to 1.75% per annum) based on our total net funded debt-to-EBITDA ratio then in effect. We may elect to prepay the 2011 Term Loan Facility at any time without incurring any prepayment penalties. At March 31, 2014, we had $94.9 million outstanding under the 2011 Term Loan Facility.

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) by amending and restating the 2010 Revolving Credit Facility agreements. The 2013 Revolving Credit Facility permits us to request up to a $15 million increase in the total amount of the facility, and matures on August 16, 2016. The 2013 Revolving Credit Facility replaces the 2010 Revolving Credit Facility, under which Harte Hanks had no borrowings as of August 8, 2013, except for letters of credit totaling approximately $9.5 million. 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, which spread ranges from 1.25% to 2% per annum. We are also required to pay a quarterly commitment fee under the 2013 Revolving Credit Facility. The rate of which is applied to the amount equal to the difference of the total commitment amount under the 2013 Revolving Credit Facility less the aggregate amount of outstanding obligations under such facility. The commitment fee rate ranges from 0.50% to 0.55% per annum, depending on our total net debt-to-EBITDA ratio then in effect. In addition, we pay a letter of credit fee with respect to outstanding letters of credit. That fee is calculated by applying a rate equal to the spread applicable to Eurodollar based loans plus a fronting fee of 0.125% per annum to the average daily undrawn amount of the outstanding letters of credit. We may elect to prepay the 2013 Revolving Credit Facility at any time without incurring any prepayment penalties.

Under all of our credit facilities we are required to maintain an interest coverage ratio of not less than 2.75 to 1 and a total debt-to-EBITDA ratio of not more than 2.25 to 1. The credit facilities also contain customary covenants restricting our and our subsidiaries' ability to:

authorize distributions, dividends, stock redemptions and repurchases if a payment event of default has occurred and is continuing;

enter into certain merger or liquidation transactions;

grant liens;

enter into certain sale and leaseback transactions;

have foreign subsidiaries account for more than 25% of the consolidated revenue, or 20% of the assets of Harte Hanks and its subsidiaries, in the aggregate;

enter into certain transactions with affiliates; and

allow the total indebtedness of Harte Hanks' subsidiaries to exceed $20.0 million.

The credit facilities each also include customary covenants regarding reporting obligations, delivery of notices regarding certain events, maintaining our corporate existence, payment of obligations, maintenance of our properties and insurance thereon at customary levels with financially sound and reputable insurance companies, maintaining books and records and compliance with applicable laws. The credit facilities each also provide for customary events of default including nonpayment of principal or interest, breach of representations and warranties, violations of covenants, failure to pay certain other indebtedness, bankruptcy and material


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judgments and liabilities, certain violations of environmental laws or ERISA or the occurrence of a change of control. Our material domestic subsidiaries have guaranteed the performance of Harte Hanks under our credit facilities. As of March 31, 2014, we were in compliance with all of the covenants of our credit facilities.

Outlook

We consider such factors as total cash and cash equivalents, current assets, current liabilities, total debt, revenues, operating income, cash flows from operations, investing activities and financing activities when assessing our liquidity. Our primary sources of liquidity have been cash and cash equivalents on hand and cash generated from operating activities. Our management of cash is designed to optimize returns on cash balances and to ensure that it is readily available to meet our operating, investing and financing requirements as they arise.

Capital resources are also available from and provided through our 2013 Revolving Credit Facility, subject to the terms and conditions of that facility. The amount of cash on hand and borrowings available under our 2013 Revolving Credit Facility are influenced by a number of factors, including fluctuations in our operating results, revenue growth, accounts receivable collections, working capital changes, capital expenditures, tax payments, share repurchases, pension plan contributions, acquisitions and dividends.

As of March 31, 2014, we had $72.5 million of unused borrowing capacity under our 2013 Revolving Credit Facility (which matures on August 16, 2016) and a cash balance of $84.5 million. Based on our current operational plans, we believe that our cash on hand, cash provided by operating activities, and availability under the 2013 Revolving Credit Facility will be sufficient to fund operations, anticipated capital expenditures, payments of principal and interest on our borrowings, dividends on our common stock and pension contributions for the next 12 months. Nevertheless, we cannot predict the impact on our business performance of the economic climate in the U.S. and other economies in which we operate. A lasting economic recession in the U.S. and other economies could have a material adverse effect on our business, financial position or operating results.

Critical Accounting Policies

Our financial statements and accompanying notes are prepared in accordance with U.S. GAAP. Preparing financial statements requires that management make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses. These estimates and assumptions are affected by management's application of accounting policies. We consider the following to be our critical accounting policies, as described in detail in our 2013 Form 10-K:

Revenue recognition;

Allowance for doubtful accounts;

Reserve for healthcare, workers' compensation, automobile and general liability insurance;

Goodwill and other intangible assets; and

Stock-based compensation.

There have been no material changes to the critical accounting policies described in our 2013 Form 10-K.

As discussed in Note B, Recent Accounting Pronouncements, of the Notes to Unaudited Condensed Consolidated Financial Statements, certain new financial accounting pronouncements have been issued which either have already been reflected in the accompanying consolidated financial statements, or will become effective for our financial statements at various dates in the future. The adoptions of these new accounting pronouncements have not and are not expected to have a material effect on our consolidated financial statements.


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