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Harte-Hanks (NYSE:HHS)

Q1 2013 Earnings Call

April 25, 2013 10:00 am ET

Executives

Larry D. Franklin - Chairman, Chief Executive Officer and President

Robert L. R. Munden - Senior Vice President, General Counsel and Secretary

Douglas C. Shepard - Chief Financial Officer and Executive Vice President

Analysts

Daniel Salmon - BMO Capital Markets U.S.

Michael A. Kupinski - Noble Financial Group, Inc., Research Division

Adam J. Peck - Heartland Advisors, Inc.

Operator

Good day, ladies and gentlemen, and welcome to the First Quarter 2013 Earnings Conference Call hosted by Larry Franklin. As a reminder, today's call is being recorded. At this time, it is my pleasure to turn the call over to Mr. Larry Franklin. Please go ahead, sir.

Larry D. Franklin

Good morning. On the call with me today is Doug Shepard, our Executive Vice President, Chief Financial Officer; Robert Munden, Senior Vice President, General Counsel; and Jessica Huff, Controller.

And before I begin my remarks, Robert will make a few comments.

Robert L. R. Munden

Thanks, Larry. Our call may include forward-looking statements, such as statements about our strategies, adjustments to our cost structure, financial outlook and capital resources, competitive factors, business facts and industry expectations, litigation developments and regulatory changes, the economies of the United States and other markets we serve, and other statements that are not historical facts. Actual results may differ materially from those projected or implied in these statements because of various risks and uncertainties, including those described in our most recent Form 10-K and other filings with the SEC and in the cautionary statement in today's earnings [indiscernible]. Our call may also reference non-GAAP financial measures. Please refer to today's earnings release for the required reconciliations and other related disclosures. Our earnings release is available on the Investor Relations section of our website at harte-hanks.com.

I'll now turn the call back over to Larry.

Larry D. Franklin

Thanks, Robert. Before I talk about the individual businesses, just a couple of comments about company results. And then following my comments then Doug will add some color and detail.

Revenues for the quarter decreased 4.1%. Operating income was down 27.2% and income from continuing operations was down 10.3%, with earnings per share from continuing operations of $0.11, and that compared to $0.12 from continuing operations in the first quarter of 2012.

Shoppers -- Shopper revenue of $46 million for the quarter, was down 1.3%, which is a much smaller decline than we had experienced in the past years. OI for the quarter was $800,000 compared to $1.2 million in the same quarter of last year.

Some very brief comments about the industry codes, SIC Codes that we serve. Real estate continues to decline high single digits. There's been reported an actual home prices increasing and these are trending up but the for sale inventory is declining and there are low rental vacancy rates. The broad services category declined low double digits, though a smaller decline than from the previous years. It's still a decline. The majority of that as we've commented on for the last several quarters is from schools. And in the fourth quarter or sequentially, Quarter 4 to Quarter 1, schools were flat, so we think that might be an improving trend.

Consumer spending, which includes building and hardware and furniture and home furnishing stores, that's the second consecutive quarter that we've done that. This growth comes from increased spending from existing clients, as well as new clients this quarter versus the same quarter last year. Automotive dealers continue to have good results and continue to grow. Eating and drinking places declined slightly. Communications grew mid-single digits. And if you look at revenue-by-revenue category, our in-book advertising or ROV -- ROP was down and that was mostly offset by increase in distribution products, which led to the 1.2% overall decline.

Major accounts or our large accounts continue to grow very nicely, with high single-digit growth in the quarter. Territory sales, overall results declined slightly and our PowerSites, which is an important component of our services, were down slightly. We sold through our territory sales force and inside sales force an average of about 5,200 sites per week. In addition to those that we sold in Quarter 1, we hosted about 500 PowerSites a week for the Florida operation, previously owned by Harte-Hanks. And we continue to look for ways to make these PowerSites products even more integrated into the client's business through additional enhancements and training.

Turning to cost, expenses were down very slightly. Labor costs were down due to the expense reductions in all phases of our business over the -- since the first quarter last year. The USPS raised post U.S. rates 2.8% in late January. Newsprint prices are down about 1.8% and our outsourced printing or the distribution products that we do not print [indiscernible] obviously, and that's the results of the increased revenue.

This week we began producing a portion of our Northern California circulation in one of our Southern California plants. We announced in the fourth quarter last year that we were closing the Northern California facility. The plans are in place to move the Northern California press lines to the Southern California facilities and we expect this production transfer or move to be completed by the mid-third quarter.

Concluding. On Shoppers, as we said in the press release, we're excited about our Shoppers first quarter results and while early, recent revenue trends are encouraging as well. We continue to expect Shopper revenue and operating income for 2013 compared to 2012 to be down slightly, which again, is a significant improvement in trends compared to the experience that we've had during the past few years. Our people continue to look for ways to make our products and services more effective for advertisers and to deliver those services more efficiently, and I cannot be more proud of our people.

Looking at Direct Marketing. The reorganization as we said -- or first the results, as we said in the press release, revenues were down 5.1%. OI declined 18.1%. That was below our expectations even though we expect it to be down in the quarter in the first half. In Doug's remarks he'll provide some color on this performance as he discusses the revenue to new performance in each vertical and the overall profit performance. But before he does that, I'll comment first on the reorganization. Our Direct Marketing restructuring is going well with people beginning to settle in to their roles around the new organization of Customer Engagement strategy, Customer Solutions and Customer Delivery. I'm pleased with the way Jeannine, Tony, Brian and Andrew, are approaching the transformation and the way that our people have embraced these changes which are being woven throughout the organization.

As this quarter indicates, and as we expected, it will take time for the changes to be reflected in the results but we're beginning to see signs which increases our confidence that these changes will positively influence performance in the second half of '13 and into '14. Some of the signs that I'm referring to are mentioned in the highlights section of the release and some were mentioned actually on this -- on the last call that we had. For example, in the highlights section, the National Vision win, which was led by the Agency Inside. In that win, we will provide an integrated set of solutions around the strategy to provide more effective Customer Engagement, focused on retention and repeat business. This relationship includes a wide range of our services and as I believe a good example of the value of our simplified structure that around roles, responsibilities and resources being more closely aligned to the way we interact with our clients and the way they buy our services and grow their businesses.

Also in the highlights, there was a comment about the high-speed digital print technology. This technology gives our customers the ability to create highly variable customized content offers that allows them to quickly and easily -- and economically give customers personalized offers which will increase direct mail ROI. This service will also be a part of the National Vision relationship that we mentioned above. There are a number of initiatives being developed in our recently formed product development or R&D group. One is TrilliumLynx, also in the highlights. This is a new offering that takes advantage of a new relationship with outside data sources allowing Harte-Hanks to link the individuals and members of households together and use it to provide in-depth analytic and reporting capability. This all creates tremendous value through significant marketing efficiencies for our clients.

We also mentioned last quarter the development of a new reporting platform that's for our database build processes. This is under development and will be finished this year. We also had another good quarter of new digital assignments. Again, as in the past, the vast majority of these are to existing clients reflecting the breadth of value that we provide to those clients. Although there are some new client assignments as well that reflect going forward opportunity.

In third of last year, we've talked about JCPenney and their changes to their advertising and marketing programs. We have maintained, and I believe, actually strengthened our relationship with JCPenney during this period of time with continued excellent execution of the programs and projects that we were executing for them. And while very early with the recent announcement, there will be additional changes but we do not know the magnitude of those changes on our business. We do however expect them to be positive and we will strive and will deliver continued excellent service.

In the quarter, we also announced the appointment of 2 new directors, Steve Carley, CEO of Red Robin Restaurant; and Scott Key, COO and recently named CEO of IHS. Both bring excellent experiences and skills to our company and will provide a lot of additional value. Doug?

Douglas C. Shepard

Thank you, Larry, and good morning. Here's a company-wide overview of the first quarter. Consolidated revenues decreased 4.1% for the quarter. Consolidated operating income decreased 27.2% for the quarter. Consolidated operating income on margin was 5.7%, below last year's first quarter of 7.5%. Cash flow was $7.7 million versus $9.9 million in 2012. We spent $4.6 million on capital expenditures compared to $3.1 million in the first quarter of 2012.

Turning to our 2 businesses. In the quarter, Direct Marketing revenue decreased 5.1% and operating income decreased 18.1%. As you have probably noticed in our earnings release report, we have created another vertical because our select vertical or other was a large part of our total revenues. Therefore, we have created a new vertical called auto and consumer brands. All of the revenue we are reporting in this vertical has been directly moved from our select vertical and did not come from any of the other verticals. In the quarter, our retail vertical market represented 28% of total Direct Marketing revenues, high-tech was 24%, financial services were 16%, auto and consumer brands were 16%, Healthcare/Pharma was 8% and select markets were 8%.

Direct Marketing revenues reflects the impact of a 32% decline in revenues from the pharmaceutical vertical, including the effect of volume reductions from a long standing fulfillment customer in a previously discussed loss of an agency-related pharmaceutical customer in the third quarter of 2012. The passage of Patient Protection and Affordable Care Act has accelerated the migration of B2B to B2C marketing across the entire healthcare landscape. It has also made visible the strategic marketing vulnerabilities to healthcare issuers and providers of cares that vie for their share of the soon-to-be insured population, beginning in October, and at the same time, continue to compete vigorously for the Medicare population for less reimbursement. The challenges before health plans provides opportunity for Harte-Hanks. Health plans need to differentiate themselves in the market with key target populations and clearly communicate the benefits of complex solutions effectively while differentiating themselves against competitive plans.

Our financial vertical increased 19% and is benefiting from marketers trying to deliver tailored messaging, product offers and solutions that best meets specific consumer needs and interests. In the first quarter, we experienced increased bank credit card solicitation and assisted a retail bank with getting customers to adopt a new checking account product. Our largest vertical, retail, increased 1% during the quarter. We benefited from a new client we signed during the quarter that is referenced in the highlights section of the earnings release, National Vision. We'll be delivering integrated strategy, analytics, direct mail, digital mail, data services and database development to help National Vision develop a more effective, customer engagement strategy focused on customer retention and repeat business. We have also annualized the marketing changes made at JCPenney in late 2011 and early 2012.

Our high-tech vertical decreased 7% during the quarter compared to the 2012 first quarter. The impact of cloud computing is affecting our clients in their decision processes. We believe cloud computing will continue to be an increasing factor across various segments of tech, including storage and hardware. Europe continues to be very weak for our clients. All of our technology clients are still cautious with the rollout of marketing automation platforms and increased focus on lead nurturing gives us future opportunities.

The news vertical, auto and consumer brands, decreased 12% due to reductions in supply chain activity for 2 of our clients. As a reminder, we performed marketing services for Ford auto brands and currently do not have any domestic auto clients. Our consumer brand clients included names such as Anheuser-Busch, the cosmetic company, L'Oreal, and FedEx. We're seeing an increase in demand for things like customer journey mapping and customer experience design. Consumer brands are trying to keep up with changes in consumer behaviors. We see this as a good sign. Additionally, the art and science of digital analytics and insights are moving quickly. In today's omnichannel world consumers are not static. They're mobile and engaged around the clock and they receive an open e-mail often the same one across computers, tablets, smartphones and other devices.

Operating income margins decreased to 9.7% compared to a margin of 11.7% in 2012 first quarter. Labor as a percent of Direct Marketing revenues, increased to 80 basis points as a result of a high fixed cost nature of the expenses associated with the revenue decline in our high-tech lead generation business. Our top 25 Direct Marketing customers represented 43% of direct order.

Turning to Shoppers. Shoppers first quarter revenue decreased 1.3% and operating income decreased $0.5 million. ROP revenues decreased and were offset by an increase in distribution revenues. Our ROP revenue per account was basically flat compared to 2012 first quarter and we experienced a decrease in the number of accounts we publish for. As stated in the earnings release, the Shoppers' relatively flat first quarter revenue performance extends the revenue trend started in the fourth quarter last year. Below the operating income line, we had other income of approximately $1.2 million for a line item that isn't normally expensed. During the quarter, we closed on the sale of our Belgium facility, which was one of our 2 owned facilities. The gain from that sale, along with the gain from exchange rates, resulting from a strengthening dollar created income this quarter for us.

Our first quarter effective tax rate was 37.2%, which was below the 2012 tax rate of 39.7%. For 2013, we still expect our effective tax rate to be approximately 40%.

On the balance sheet, net accounts receivable were $126.6 million versus $141.3 million at year-end. Days sales outstanding at the end of the March were 66 days compared to 64 days at December 2012. Our net debt balance was $46.2 million versus $60.6 million at year-end, a reduction of $14.4 million. We currently have $70 million available under our revolver, excluding outstanding letters of credit, in addition to a cash balance of approximately $60 million at the end of the quarter. We continue to have a strong balance sheet with low leverage and plenty of liquidity. Finally, we have purchased approximately $1 million of stock in 2013 through today. We have about $4.6 million remaining under our 2012 stock repurchase plan authorization. We will update you on our activities during our next earnings call at the end of July.

With that, operator, we'll turn the call over for questions.

Question-and-Answer Session

Operator

[Operator Instructions] And we'll hear first from Dan Salmon with BMO Capital Markets.

Daniel Salmon - BMO Capital Markets U.S.

I just wanted to follow up a little bit on 1 of the verticals, financial services, which was pretty strong there. And just to understand a little bit better, I know you rolled out some products to help a lot of large financial institutions with greater compliance, regulations. How much of that is driving that segment versus maybe longer-term relationships that are coming on board there?

Douglas C. Shepard

As of now through the first quarter, because you're right, we've recently rolled out the pricing stuff compliance modules, things of that nature, through Trillium. A lot of discussions with the clients, a lot of RFPs being answered and being dealt with, but that was not a large driver, really didn't contribute much to the financial vertical performance in the first quarter. It's still, as we said, it's primarily retail banks driving credit card solicitation and doing things such as one of our customers that was converting existing customers with new checking account products.

Daniel Salmon - BMO Capital Markets U.S.

Okay, great. So it does sound like that's a bit more of a traditional work. And then just, Larry, one quick follow-up on -- you mentioned you have the leadership team that Direct Marketing continues to work through and evolve business. I just want to make sure, are you still formerly -- the head of the organization, do you expect that to stay in place, if so?

Larry D. Franklin

Yes, I am, formally and informally, the head of the organization and I expect to continue to be until it's announced otherwise.

Operator

[Operator Instructions] We'll move next to Michael Kupinski with Noble Financial Group.

Michael A. Kupinski - Noble Financial Group, Inc., Research Division

Just a couple of things. In terms of the retail vertical, as you mentioned it increased as a percent of the total. I may have missed this but did you say that JCPenney's spending was up year-over-year in that quarter or no?

Douglas C. Shepard

We didn't, but it is just slightly, no, not much. We're still -- with their changes still very early in the process. They are very early in the process and great relationships, a lot of communications, a lot of things going on but I think they're way too early in their process to know what the future looks like. Real concrete basis right now.

Michael A. Kupinski - Noble Financial Group, Inc., Research Division

Okay, I see. And in terms of the Shoppers business on a pro forma revenue basis, what was the second quarter revenue that you're working off of for 2012?

Douglas C. Shepard

You're talking about, basically -- 2 seconds here, Mike. It is about $47.5 million.

Michael A. Kupinski - Noble Financial Group, Inc., Research Division

Okay. And you're saying that in terms of trends right now, you're -- it's probably going to be down but it seems like it's stabilizing more in this range right now where we're at in terms of the first quarter?

Douglas C. Shepard

Yes.

Michael A. Kupinski - Noble Financial Group, Inc., Research Division

Okay. And then in terms of kind of looking forward in Shoppers, as it relates to our California given the fact that the state has allocated like $30 million towards marketing for these insurance exchanges and things like that. Are you -- do you anticipate that there's going to be any benefit from maybe the mandates in the healthcare area that green in 2014? I mean, are you seeing any indications that you might benefit from that?

Larry D. Franklin

You're talking about from Direct Marketing, right?

Michael A. Kupinski - Noble Financial Group, Inc., Research Division

Well, I'm just thinking that if it would be a Direct Marketing or in the Shoppers business, I'm just -- any indication that Trillium has been trying to get into the healthcare area, if you just give us some color on whether or not we might see an increase from that category?

Larry D. Franklin

The -- on the Shopper part, we don't have high expectations but every time there's a need for an insurance company or healthcare provider to reach targeted customers, then the PennySaver is obviously an excellent way to do that and then the Direct Marketing sector, Doug was commenting on some of the changes that are taking place that should or will, we believe, benefit the Direct Marketing, in particular, and we're-- we have a number of prospects that are in that space in the healthcare area and we have good -- good expectations in Direct Marketing for the latter part of the year and certainly into next year.

Michael A. Kupinski - Noble Financial Group, Inc., Research Division

Larry, in the past you indicated that the success of Harte-Hanks and its growth will be dependent upon the company's [indiscernible] transition and ability to compete for business in that space. I was just wondering if you can just kind of selectively maybe talk about your thoughts on that transition and if you're meeting the company's targets and how you feel your positioning going forward?

Larry D. Franklin

The -- I feel good about the positioning, and I mentioned very briefly in the past, and the product development group and also the innovation council that we have that's looking at a number of different ways that we increase our ease of delivery regardless of the source of the data that we're delivering or that we're bringing together to develop the marketing campaign. That's working well. That, plus the integration of Trillium into a number of our organizations with its technology strength and advantage of being able to real-time handle structured and unstructured data, we've got a -- I think, a really good opportunity to play and win in that particular area. And you see there's a lot of publicity about the -- particularly in the data analytics space, these days the business intelligence space and the more of the big data that are being used in the analysis process, the more important it is to be able to know the quality of the data that's being analyzed and I think we've got a terrific competitive advantage there, again, with our Trillium Software. And one thing that is really refreshing is that the -- and we mentioned this during the restructuring was the simplification of the structure is bringing together in a meaningful way, the people in our company and there are many of them that have good new product development skills but we're combining them in a way that we're looking for a solution that fits a number of the parts of our business. So early in the game, important part of the restructuring, the whole product development and product review groups that are involved today, it's very encouraging.

Operator

[Operator Instructions] We'll move next to Adam Peck with Heartland Funds.

Adam J. Peck - Heartland Advisors, Inc.

Is there any way you could walk us through the -- what the growth rate of Trillium has been over the last few years? [indiscernible] If not quantitatively, just qualitatively.

Douglas C. Shepard

We don't comment. We haven't disclosed the individual financials of the pieces of the Direct Marketing business.

Larry D. Franklin

The -- and with that said, as you know, the Trillium product has been a software product. Obviously, highly recognized in all of the analyst literature, sold primarily into the IT departments until, oh I guess, a couple of years ago when there was some start of some solutions being developed and getting outside of just the technology part and more into the solutions. And as we've been in this process now for actually, I guess, a little over 2 years with some very specific areas where we're going to develop and are developing and have developed some specific solutions for to get outside of just the technology piece, we think we can accelerate the growth rate. We have some signs that it's working. It's taking awhile but we should have some good growth in Trillium going forward. More importantly, we think it can drive some growth into the rest of our company as well.

Adam J. Peck - Heartland Advisors, Inc.

Well, it's great to hear you guys use the term growth in Direct Marketing and it's fantastic to see the stabilization in Shoppers. And you combine that with the continued free cash flow that you guys generate, it looks like the balance sheet is probably in the best shape it's been in. And looking at my numbers, probably at least 9 or 10 years. So my question is if, hopefully the business is inflecting, I mean the latter half of this year, maybe next year, with the balance sheet where it is, why wouldn't it be in shareholders' best interest to significantly step up the buy back?

Larry D. Franklin

It's a good question, obviously. And it's a question that is discussed and it's a question that will continue to be discussed as we put together our overall plans for the continuing to roll out the transformation. And that's all I can really say at this point.

Adam J. Peck - Heartland Advisors, Inc.

Well, seems like a great price to do it.

Operator

[Operator Instructions] There are no questions at this time.

Larry D. Franklin

Okay. Thank you very much for your time and we appreciate your support of our company. And to all of our employees, we appreciate what you do. Thanks. Have a great day.

Operator

Thank you, ladies and gentlemen. That will conclude today's presentation.

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