Harte Hanks Inc

NASDAQ:HHS

Earnings Call Transcript 2022-Q2

[Operator]

Good day, everyone, and welcome to the Harte Hanks Second Quarter Earnings Call. At this time, all participants are in a listen-only mode. Later, you’ll have the opportunity to ask questions during the question-and-answer session. [Operator Instructions]

It is now my pleasure to turn the conference over to Mr. Tom Baumann of FNK IR. Please go ahead Mr. Baumann.

[Tom Baumann, Investor Relations, FNK IR]

Thank you. Hosting the call today are Brian Linscott, Chief Executive Officer; and Lauri Kearnes Chief Financial Officer.

Before we begin, I want to remind participants that during the call management's prepared remarks may contain forward-looking statements that are subject to risks and uncertainties. Management may also make additional forward-looking statements in response to your questions today. Therefore the company claims protection under the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.

Actual results may differ from results discussed today and therefore we refer you to a more detailed discussion of these risks and uncertainties in the company's filings with the SEC. In addition any projections as to the company's future performance represented by management include estimates as of today, August 11, 2022 and the company assumes no obligation to update these projections in the future as market conditions change.

This webcast and certain financial information provided on the call, including reconciliations of non-GAAP financial measures to comparable GAAP financial measures are available in the earnings press release that was issued shortly after the market closed. A copy of that press release and other corporate disclosure is available on the Investor Relations section of Harte Hanks website at hartehanks.com.

With that, I would now like to turn the call over to Brian. Brian the floor is yours.

[Brian Linscott, Chief Executive Officer]

Thank you, Tom, and good afternoon. The systemic changes we have made to Harte Hanks are clearly paying off as we have delivered significant improvements in operating income and EBITDA, even as revenues modestly decreased, as expected, due to run-off of some pandemic-related projects.

This improved profitability is a direct result of our strategic decisions to implement an asset-light business model and focus on profitable business to drive higher margins. Our operating margins improved over 8% compared to less than 3% in the year ago quarter. Harte Hanks is now sustainably profitable, with a strengthening balance sheet and a business model that generates cash.

Our restructuring is behind us, but we will continue to drive operational improvements and strive for continued expansion of revenues and margins. Entering 2022, we expected revenues to be in line with what we had experienced in 2021, given that there were a number of pandemic-related projects that we onboarded in 2020 and 2021, that would be concluding this year. The 1.4% revenue decrease in the second quarter, especially the $3.8 million decrease in customer care revenue reflects this expectation.

However, we have been successful in adding new customer relationships and expanding our work with our existing blue-chip customer base. So even with the well-documented slowdown in the economy, we remain confident in our outlook with a clear path to grow our top line for full year revenues on a year-over-year basis.

As an example, this month, we have begun ramping up our customer care staffing to support the August 21 streaming release of the House of Dragons, the prequel to the Game of Thrones. This event, as well as a significant win in logistics and other new business wins provide added confidence in our ability to exceed a strong third quarter comp we face against 2021. We will face a particularly challenging comparison again in the fourth quarter, but looking out into 2023, we believe we have ample opportunities to drive growth in all three business segments as we continue to invest in sales, marketing and partnerships while expanding existing client opportunities.

Deepening our existing customer relationship continues to be a key area of focus. Our offerings are in demand and increasingly, we are expanding relationships beyond a signal business segment. This is largely due to the sophisticated customers we work with and the fact that our customers view Harte Hanks as a valued and trusted partner.

We focus on data-centric industry-leading solutions to effectively enable and create optimal customer experiences. And increasingly, we are bringing technology solutions to drive improvement to our customers' workflows further strengthening these relationships.

We continue to invest in our business to drive growth, increase profitability and maximize shareholder value. Hiring and retaining people along with improving our technology platforms and expanding third-party partnerships will improve our market opportunities and provide more cross-segment sales of our fully integrated offerings.

We continue to believe these investments will drive additional revenue expansion through improved cross-functional leverage and additional growth within our customer base through deeper penetration and increased wallet share. We are focused on strengthening our balance sheet and leveraging our free cash flow and our capital allocation decisions.

At the end of the second quarter, we reached an agreement to repurchase all preferred shares held by Wipro. The repurchase of the preferred shares will eliminate the dilutive impact to common shareholders and will give us greater flexibility with our capital structure going forward.

Another more recent third quarter improvement to our balance sheet came as a result of our efforts to migrate to a cloud-based infrastructure platform. As part of this process, we identified more than 52,000 unused IP addresses purchased by Harte Hanks in the early 1990s. In July, we sold unused IP address blocks via a handful of transactions for proceeds totaling $2.5 million.

Our third quarter cash and third quarter non-operating earnings were realized a one-time improvement of approximately $2.5 million from the IP address block sales. While our long-term debt as of June 30 was $10 million, as of today we have no long-term debt and we are building cash.

Now on to our results. As you know our three segments are as follows; Customer Care, which is focused on delivering full-service customer care solutions that are tech-enabled and people-driven; Fulfillment & Logistics focused on B2B product and literature fulfillment, B2C e-commerce and sampling and end-to-end supply chain and logistics services. And third, our Marketing Services, which is focused on strategic planning, data-driven insights, performance analytics, creative design, technology enablement and program execution to drive business outcomes and optimize customers' ROI.

Our segment reporting is designed to provide transparency into the company's financials and visibility into the value and dynamics of each business. As a whole, revenues declined 1.4% in the quarter to $48.6 million, but operating income increased $2.6 million or nearly 180% compared to the second quarter last year.

Our EBITDA more than doubled to $4.6 million from $2.1 million in the second quarter last year. Net income for the quarter was $4.5 million and Harte Hanks is now solidly profitable on a GAAP basis. We expect continued profitability, both in terms of EBITDA and GAAP net income for each quarter of 2022.

Each of our operating segments continued to perform well in the second quarter. Customer Care revenue decreased 19.8% from the prior year and year-over-year EBITDA decreased 25% to $2.5 million from $3.4 million in the prior year quarter. The decrease was due to a rolling off of COVID-related projects as anticipated.

That said, we expect Customer Care to deliver strong sequential results in the third quarter as the business onboards agents to support the House of the Dragon's premier and as the business grows new and existing clients. The Customer Care pipeline remains healthy with current new and former customers.

Additionally, we are in discussions with customers to expand our offering beyond Customer Care and the marketing services fulfillment and technology development. Customer Care continues to invest in sales and marketing campaigns, conferences, talent, and partnerships with the goal to enhance growth in 2023.

New business wins for the quarter included one an existing client that leverage Harte Hanks for its back-office ticket processing and ticket sharing capabilities awarded Harte Hanks all of its customer-facing functions including phone, e-mail, and chat. The growth with this client has been driven by consistent delivery, execution efficiency, and high customer satisfaction scores.

Second, Harte Hanks was awarded new business by a leading employee screening services company to provide a wide scope of B2B sales and marketing support services. Harte Hanks was selected based on its strong track record of providing seamless support and integration with B2B sales operations seeking to accelerate their growth.

As part of this program, Harte Hanks will provide our clients' sales team with a range of services to enhance their B2B sales efforts including new lead generation appointment setting, education and nurturing, and sales performance tracking.

On to Fulfillment & Logistics, its revenue increased approximately $3.9 million or 24.3% compared to the second quarter last year and EBITDA increased 91.7% to $3.2 million. We are realizing the benefits of consolidating our operations into the Kansas City and Boston facilities. The 16%-plus EBITDA margin for fulfillment logistics was even better than anticipated.

We are experiencing healthy demand for our Fulfillment & Logistics services even as large logistics players and e-commerce giants have announced slowing of logistics spend. We continue to win new contracts in both Fulfillment & Logistics and our revenue operation -- opportunities remain strong.

While we see opportunities for margin improvement including investment in light automation in both the fulfillment facilities Boston and Kansas City, we anticipate EBITDA margins will be tempered due to the resultant revenue mix driven by higher growth lower-margin logistics contracts.

Early in the third quarter, we entered into an agreement to manage the Middle Mile logistics, for a platform provider of low-cost delivery services to retailers and brands. We anticipate significant growth in the total freight under management, for Harte Hanks Logistics in the second half of 2022 and into 2023 and we expect continued year-over-year growth in our Fulfillment & Logistics business.

New wins for the quarter included a leading branding company selected Harte Hank's fulfillment to manage the mass production, kitting and distribution of 600,000-plus holiday sample kits for a Fortune 50 retail partner. This new relationship already led to multiple follow-on production runs, across their kitting and fulfillment network, directly supporting additional retailers and national brands looking for innovative ways to get products, into the hands of their customers.

Second, an existing Customer Care client, leverage fulfillment expertise to build and deliver thousands of promotional kits to high-value customers, time to coincide with and promote their monthly televised events. Finally, on to our Marketing Services business. Its revenues decreased just slightly to $13.5 million, but EBITDA improved to $1.8 million from $1.7 million in the quarter a year ago.

We continue to drive improved profitability from the Marketing Services segment, as we realign our resources, reduce our expenses and invest in technology and infrastructure to better serve our customers. Continued focus on delivery model and operational improvements, are driving the enhanced profitability.

We made significant progress in enhancing our product offerings and marketing campaigns that highlight targeted solutions, for demanding customers. We remain aggressively focused on attracting new clients, within prioritized market categories, including health care, financials, B2B tech and consumer products.

And our Marketing Services revenue pipeline remains strong. To further drive growth, we have increased our marketing spend and we are hiring sales and marketing talent, for the Marketing Services business in the third quarter. A new business win for Marketing Services, in the quarter included a regional bank that selected Harte Hanks, to provide digital media planning and buying, creative, strategy and content development, leveraging our strong category expertise, our effective creative product and our ability to provide the full array of services the bank needed.

In conclusion, Harte Hanks has clearly established a new profitable baseline and a platform for consistent growth. Our long-established relationships with blue chip customers, and our talented employees, our key assets to our business. Our optimism for top line growth has increased, and our confidence in sustainable profitability has grown even as the macro environment has tempered. We expect continued positive net income, a significant year-over-year improvement in full year EBITDA, driving higher free cash flows during 2022.

With that, I turn it over to Lauri.

[Lauri Kearnes, Chief Financial Officer]

Thank you, Brian. As Brian said, this quarter unfolded as we anticipated, with a modest decrease in revenue, but a significant improvement in operating income and EBITDA. The June quarter was our fifth quarter in a row of positive EBITDA at $4.6 million. And perhaps more importantly, we are delivering solid GAAP profitability, with fully diluted earnings per share of $0.52 compared to $1.27 in the second quarter last year which included a $10 million or $1.39 per share onetime gain related to the extinguishment of our PPP loan. This year's GAAP result does not include any nonrecurring adjustments or benefits.

Our performance included new business wins, growth within our customer base and the benefits of our asset-light model. Our focus for 2022 is to expand revenue and margins. Longer term we have a solid platform with differentiated offerings that should enable sustainable growth and solid profitability. The large nonoperational restructuring charges are behind us.

I'd now like to walk through the results in more detail. Second quarter revenue was $48.6 million down 1.4% or $0.7 million from $49.3 million in the same period last year. Revenue growth was led by our Fulfillment & Logistics segment which was up $3.9 million or 24.3% year-over-year. Customer Care was down $3.8 million or 19.8% year-over-year and Marketing Services was down 5.3% or $758000 from the prior year quarter.

From a contribution margin perspective our Customer Care segment delivered $2.5 million in EBITDA, down $857,000 or 25.6%. Our Fulfillment & Logistics segment delivered $3.2 million in EBITDA, up approximately $1.5 million or nearly double from the year ago quarter. Marketing Services EBITDA grew by $100,000 or 5.1%. We believe each of our three operating segments are operating efficiently and should generate positive EBITDA levels for the foreseeable future.

Our operating expenses for the second quarter were $44.5 million, down 6.9% from $47.8 million in the year ago quarter due to labor, advertising and SG&A expenses as well as the absence of $1.7 million in restructuring expense in the second quarter last year. This was partially offset by modestly higher production and distribution expenses due to the increased revenue in our Fulfillment & Logistics segment.

Operating income was $4 million, up $2.6 million compared to operating income of $1.4 million in the year ago quarter. This improvement is attributed primarily to margin expansion and sustained expense management efforts. We posted net income of $4.5 million or $0.54 per basic and $0.52 per diluted share in the second quarter, compared to net income of $10.6 million or $1.36 per basic and $1.27 per diluted share in the second quarter last year.

We recognize that onetime gain of $10 million or approximately $1.39 per diluted share related to the extinguishment of our PPP loan in the second quarter last year. EBITDA for the second quarter was $4.6 million compared to EBITDA of $2.1 million in the year ago quarter.

Now turning to our balance sheet. As of June 30, 2022 we had cash and cash equivalents of $10.6 million compared to $11.9 million at December 31, 2021. As of June 30, we have $6.8 million in net income tax receivable. This is due to our net operating loss carrybacks for 2020 of $7.6 million, which are partially offset with state tax payables. Our combined long-term pension liability on the balance sheet as of June 30th was $50.7 million. As a reminder, we have both qualified and nonqualified pension plans. We continue to monitor the impacts of rising interest rates and changes in asset values that are impacting our pension liability. While the pension liability is formally revalued on the balance sheet only at year-end, we have evaluated our net pension obligation as of the end of July and our net pension liability has declined approximately $10 million since year-end 2021.

Additionally as Brian mentioned, we reached an agreement with Wipro at the end of the quarter, in which we will acquire all of the outstanding preferred shares for a onetime cash payment of $9.9 million and 100,000 common stock shares. Please note that under GAAP at closing, this transaction will result in adjustments to our earnings per share but not our net income. This is likely to close during the third quarter.

The elimination of the preferred stock dividend accrual and the earnings attributable to preferred shareholders will be offset by a onetime accounting charge based on the fair value of the common shares. We funded the cash portion of the repurchase consideration with a combination of cash and cash equivalents on hand and an additional $5 million borrowing under our credit facility.

As of June 30, 2022, we had a total of $10 million drawn against our $25 million credit facility. As of today, the full $10 million has been repaid and we have no amounts drawn on the credit facility.

With that, I will turn it back over to the operator to take your questions. Thank you.

[Operator]

[Operator Instructions] We'll take our first question from Julio Romero with Sidoti & Company.

[Julio Romero, Sidoti & Company]

Hey, good afternoon. Thanks so much for taking my question. So to start, I guess in your prepared remarks, Lauri I think you mentioned -- you sounded more confident for year-over-year revenue growth than your comments on the first quarter call. If you could just talk about what's making you guys more confident over the last three months with respect to the sales outlook for the year?

[Lauri Kearnes, Chief Financial Officer]

Sure. I think as we've said there's certainly been a focus on some cross-segment selling and we're definitely seeing some results from that. Brian mentioned the ramp-up to support the Game of Thrones release is providing some additional revenue for us in Q3. And overall I think we're just seeing strength in the business and some of these new contracts coming to fruition.

Brian did you have anything else to add?

[Brian Linscott, Chief Executive Officer]

Yeah. No I think the only other real significant increase in the second half that is worth highlighting I mentioned it in my comments, but the platform that we have under our logistics business should generate some material increases in revenues as well.

[Julio Romero, Sidoti & Company]

Got you. And that, kind of, dovetails into my next question on that Fulfillment & Logistics segment. You had really strong sales margins. The incrementals margins were really strong. If you could just talk about what went right for the segment in the quarter, maybe what the mix was of fulfillment versus logistics and how you see margins for that segment trending for the remainder of the year?

[Brian Linscott, Chief Executive Officer]

Yeah. So sequentially, I will say that we posted a pretty strong second quarter that makes it a little bit more challenging sequentially for us. But -- and I think the revenue mix concept is important to note. That said our logistics business in the second quarter produced double-digit EBITDA margins. And that nice strong performance there along with the revenue mix of both print and kitting fulfillment that we had both in both Boston and Kansas City really helped the business drive forward, including some ongoing project work that we got as a result of a recall that I think we talked about on our first quarter call that continued into the second quarter.

So I still think we're improving operationally, because we're fully into the new facility, but we're still racking out the additional 100,000 square feet that might actually be done in the next week or two. But with that I think it's going to allow us to hopefully gain some additional incremental opportunities from operational efficiencies. That said, I think it should be noted that the revenue mix because I think we're going to have a stronger increased performance out of logistics is going to -- it's probably going to push the margins down just a little bit sequentially.

[Julio Romero, Sidoti & Company]

Okay. That makes sense. And then just staying on that segment, you mentioned you're seeing healthy demand for Fulfillment & Logistics even as some of the larger players logistics players e-commerce giants maybe slowing some spend there. Just would love to hear you expand on that? And what are you seeing in the demand pipeline that's maybe giving you some confidence there?

[Brian Linscott, Chief Executive Officer]

So I think there's three areas. We obviously have a nice opportunity within logistics as I mentioned. There's a lot of really positive momentum with some of our existing clients. And one good example there is us leveraging technology and electronic data exchange with some of our real large employee -- I'm sorry with a real large customer contracts that when we sat in front of them and met with them, it really identified opportunities to not only make their life easier, but find -- it allows us to actually expand some of what we do for these large clients. So I think that organic growth as an example with leveraging tech is going to be a continued catalyst for us just within the old existing customer base.

And then I do think that the branding company that I talked about in the new business section is a great example of just a completely new opportunity, no relationship that we ever had in the past. But some of our marketing efforts came to fruition and now we're ramping up as we speak. And I'm heading out to Boston next week to meet with the customer to talk about additional opportunities as we've invested in some light automation to increase the speed of our pick pack and hopefully in improve some of the performance and the margins within Bridgewater.

[Julio Romero, Sidoti & Company]

That’s helpful. Thanks very much for taking the questions and I’ll pass it on.

[Brian Linscott, Chief Executive Officer]

Thanks, Julio.

[Lauri Kearnes, Chief Financial Officer]

Thanks, Julio.

[Operator]

[Operator Instructions] Our next question comes from the line of Michael Kupinski with Noble Capital Markets.

[Michael Kupinski, Noble Capital Markets]

Thank you. Congratulations on your solid quarter. I was just wondering now that you've paid off your debt are you planning to find traditional financing options at this point, or is that still into the future?

[Lauri Kearnes, Chief Financial Officer]

So Michael, we did actually do a new traditional financing arrangement that we closed on last December. So this is truly just an asset base based on our accounts receivable so standard $25 million line.

[Michael Kupinski, Noble Capital Markets]

Okay. Got you. I didn't know if you were looking at further financing options beyond what you've done then. Okay. In terms of the quarter, obviously you touched on it on the question earlier the margins in fulfillment were a little better than expected. Did you have duplicative costs in the quarter related to the consolidation of your Kansas City facility? Would margins would have been better, or how much impact did you have in terms of those costs?

[Brian Linscott, Chief Executive Officer]

So I wouldn't say we have duplicative costs and Lauri can chime in if she can think of any at this point. But what I would say is until we have the building fully racked out, I don't think we're hitting on all cylinders, right? I think the Kansas City management team has done a phenomenal job improving operations and obviously the results are shown there but I still think that there's some room to grow as we finish out the racking of the additional 100,000 square feet we took on five, six, seven months ago.

[Lauri Kearnes, Chief Financial Officer]

I would agree. There's no duplicative costs but there were in Q2 some last year as we were moving into that facility and that's certainly part of what's driving that margin improvement.

[Michael Kupinski, Noble Capital Markets]

Got you. And does the repurchase agreement with Wipro dissolved the vendor agreement that you had with them? Does it change the relationship in any way going forward? I was just wondering if you could just shed a little color on your relationship with them.

[Lauri Kearnes, Chief Financial Officer]

Sure. So we actually did dissolve the vendor agreements previously. This is the last transaction that we had with Wipro.

[Michael Kupinski, Noble Capital Markets]

Got you. And then just in terms of the general environment you touched on this with your individual businesses talking about the segments and so forth. Are there any particular businesses? I know you're close to your clients and they – and you tend to have a business that is a little bit farther into the future and they are more project-related in many cases. I was just wondering if you can give us a sense of what you're hearing from advertisers. Any concerns that they have at this point in terms of the general economic conditions and things going on with them and how they're being influenced by the inflation and so forth?

[Brian Linscott, Chief Executive Officer]

Yes. So that Mike is a question that I asked my sales team on a weekly basis at the very least. And to date I've got – we've got no specific examples where spend has been reduced as a result of them pulling back spend, right? Now we've had some clients delay for other idiosyncratic issues within their company but nothing has kind of stopped as a result of the macroeconomic or inflationary pressures and advertising spend that they have. So I don't know if we're just lucky right now but I asked that question just yesterday. And to date we still haven't – we haven't had anything that has stopped our opportunities as a result of contraction in spend.

[Michael Kupinski, Noble Capital Markets]

That's terrific. And then of course now you have -- in terms of the unfunded pension liabilities. So you're saying that the $10 million would be -- it would be lower by $10 million by year end from current levels Lauri, which is by $50 million?

[Lauri Kearnes, Chief Financial Officer]

No.

[Michael Kupinski, Noble Capital Markets]

All right. I'm sorry, if you could just explain that a little bit.

[Lauri Kearnes, Chief Financial Officer]

Yes, let me just explain. So we revalue -- officially revalue the pension liability on the balance sheet at the end of each year based on the changes in asset value and interest rates. So it hasn't -- other than the normal expense runoff for the year there's no additional adjustments.

So we looked at it from December 31 when it was last revalued and then we looked at it as of July 31. And to-date through July 31 we have a $10 million decrease approximately on the pension liability. So we still got five more months to go in the year. So we'll see what happens with asset values and interest rates through the balance of the year. While asset values are certainly going down interest rates have been going off which has more than offset the changes on the assets.

[Michael Kupinski, Noble Capital Markets]

For sure. And then what would be the best use of cash at this point? Are you looking at now that you're generating cash flow, your solid earnings what are your thoughts in terms of looking at acquisitions? What are the options uses of cash at this point?

[Brian Linscott, Chief Executive Officer]

Yes. So Mike, obviously, we have healthy discussions about the use of capital going forward. I will say I want to step back and say we just paid off $10 million of debt, right? And we paid off $10 million worth of preferred shares or we have it in escrow as you can see on the balance sheet. So we're stepping through all what we think are the big items. The next set of potential use is going to be continued investment in the business whether it's technology or assets that are going to improve efficiency.

I think I've mentioned it before if there are acquisition opportunities that help complement our capabilities and expand our revenue, we'll certainly look at that. And then it's a valuation. Is there other things from the balance sheet that we can do whether it's pension and/or deliver money to our shareholders right?

And so we're evaluating all of those options and I will say we haven't built a lot of cash yet because we just spent a whole bunch, but we certainly are planning and looking forward to making sure we do what's right for our shareholders and our business.

[Michael Kupinski, Noble Capital Markets]

All right. Terrific. Thank you so much.

[Brian Linscott, Chief Executive Officer]

Thank you

[Lauri Kearnes, Chief Financial Officer]

Thank you.

[Operator]

And there were no further questions at this time. I'll turn the floor back to our speakers for closing remarks.

[Brian Linscott, Chief Executive Officer]

And this is Brian. Thank you everybody for joining and we'll see you in one quarter from now. Take care.

[Operator]

And thank you for joining the Harte Hanks second quarter earnings call. This does conclude today's program. You may now disconnect. Have a great day.