H&R Block (HRB) William Cobb on Q4 2016 Results - Earnings Call Transcript

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H&R Block Inc. (NYSE:HRB) Q4 2016 Earnings Conference Call June 9, 2016 4:30 PM ET


Colby Brown - Vice President, Investor Relations

William C. Cobb - President, Chief Executive Officer

Tony Bowen - Chief Financial Officer

Gregory Macfarlane - Senior Vice President, U.S. Retail Products and Operations


Scott Schneeberger - Oppenheimer

Thomas Allen - Morgan Stanley

Gil Luria - Wedbush Securities

George Tong - Piper Jaffray

Anjeneya Singh - Credit Suisse

Michael Millman - Millman Research Associates

Jeff Silber - BMO Capital Markets


Good afternoon. My name is Laura, and I will be your conference operator today. At this time, I would like to welcome everyone to the H&R Block Fiscal 2016 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you.

I'll now turn the call over to Mr. Colby Brown, Vice President, Investor Relations. Please go ahead sir.

Colby Brown

Thank you, Laura. Good afternoon, everyone, and thank you for joining us to discuss our fourth quarter fiscal 2016 results. On the call today are Bill Cobb, our President and CEO; and Tony Bowen, our CFO. Greg Macfarlane, Senior Vice President, U.S. Retail Products and Operations will also be available during our question-and-answer session.

In connection with this call, we have posted today's press release on the Investor Relations website at hrblock.com. Some of the figures that we'll discuss today are presented on a non-GAAP basis. We've reconciled the comparable GAAP and non-GAAP figures in the schedules attached to our press release.

Before we begin our prepared remarks, I'd like to remind everyone that this call will include forward-looking statements as defined under the Securities laws. Such statements are based on current information and management's expectations as of this date and are not guarantees of future performance. Forward-looking statements involve certain risks, uncertainties and assumptions that are difficult to predict. As a result, our actual outcomes and results could differ materially. You can learn more about these risks in our Form 10-K for fiscal 2015 and our other SEC filings. H&R Block undertakes no obligation to publicly update these risk factors or forward-looking statements.

At the conclusion of our prepared remarks, we will have a Q&A session. During Q&A, we ask that participants limit themselves to one question with a follow-up, after which they may choose to jump back in the queue.

With that, I'll now turn the call over to Bill.

William C. Cobb

Thank you, Colby, and good afternoon. Earlier today, we announced our results for the fiscal year 2016. Clearly, this was a disappointing season on many fronts. Our assisted tax preparation business continued to lose returns, and for the first time in several years, our digital do it yourself business did as well. Let me be clear, we will change the client loss trajectory and are hard at work to make this happen. Next season will not be all the same.

So with that as a backdrop, here is what we will cover today. First, I'll spend a few minutes looking back at tax season 2016. We did not deliver the results we wanted, and for that I take full responsibility. We have learnt some hard lessons and we'll change how we do business going forward. Next, I'll share our expectations for tax season 2017 and beyond.

We are fully committed to doing what it takes to turn our results around. Arresting the client decline and ultimately growing clients is our number one objective. We cannot continue the client trajectory we've seen.

Finally, I'll review the steps we are taking to achieve these objectives. Some have already been completed, many are in process, and others are yet to start. I am excited about the plans for fiscal year 2017 and beyond, and I am confident we will execute on those plans to deliver better results.

Let me, however, set some expectations upfront. I will not be able to provide full details regarding these plans given how far out from the tax season we are and the competitive environment. But I can tell you that we are taking a broad look at our options and we will be making meaningful changes in both the short and long term.

First, let's start by looking back at tax season 2016. From an industry perspective, the season started very slowly and consistent with the past few years did not reach its expected growth level until the last week of the season. And the results seen this season were disappointing for most of the branded players including H&R Block. One branded competitor, however, had an exceptional season.

Turbo Tax's Absolute Zero promotion won the tax season and likely took share from all major branded competitors. Despite their success; however, the industry shift from assisted and DIY was relatively consistent with the last few years at approximately 90 basis points.

Although the assisted category grew slightly, we believe H&R Block and our assisted branded competitors lost share to independents. Based on our analysis, the independent share of the market appears to have grown by approximately 80 basis points in tax season 2016 continuing the trend we have seen for the past several years. Finally, this season we saw increased fraud prevention measures at both the federal and state levels.

Stronger information security protocols in the DIY space were introduced at the public private security summit. Refund processing slowed at the federal level and states implemented measures designed to prevent and detect fraudulent activity. We will have a better idea of the impact these changes have on the industry when the IRS releases more information.

In the meantime, our government relations team will continue to focus on fighting fraud in all its forms, including tax identity theft and in proper earned income tax credit payments while my management team will be fully focused on running the business. Fraud is not the only issue we face, and as such, the solution of fraud is not the only answer to client growth.

Now let me discuss what happened in the industry, and let's talk about H&R Block's results. We lost 6% of our clients in the assisted channel or one point of share. The majority of the client loss again came from the early season filers obtaining the earned income tax credit and those filing the 1040EZ form. Those losses have come, while our retention levels have held steady over the last several years. What this means is that we are not driving new clients into our offices at an acceptable rate.

So why are we declining in clients? While there isn’t a single simple answer for this question, there are a few things we can point to. This includes aggressive and compelling consumer promotions and product incentive offerings for both independents and DIY competitors including the recently reintroduced refund-anticipation loan or RAL-like product in the assisted channel.

While we cannot just look externally in our assessment, the truth is we did not perform well as a company. We saw core execution in all areas of our business; sales, marketing, and field operations. I intend for this to be the last time you will hear me say this. We do not intend to be outplayed again.

In order to move forward, we need to understand what didn’t work which I've just described, but we also need to capitalize on what has worked. In the past, we talked to you about the four components of revenue; price, mix, volume, and product to cash. Although volume was down, the other three components positively impacted results. We achieved the 3% average price increase we had planned. Overall core mix continued to improve contributing an additional 1% in revenue growth.

Overall product to cash also increased driven by our Piece of Mind and Tax Identity Shield products, and despite the fact that we declined the most in early season clients, which impacts Emerald card and Refund Transfer Unit sales, our tax rates for these two products in our retail offices were strong at 15% and 33% respectively. We also had a strong first season with our new bank partner. The transition of our products was efficient resulting in a seamless experience for our tax professionals and clients.

Finally, in the assisted space, we are pleased with the launch of our new brand Block Advisors and we look forward to growing that business to over 350 locations in fiscal 2017. As we mentioned before the season, this is a long term investment for us, although I am pleased with the progress to date.

In our DIY business, returns declined 2.6% resulting in a 1 point loss of share. Yet, Turbo had a great season, while we also know that we did not market our product appropriately demonstrated by the fact that our DIY awareness continues to linger in the mid 60s range. This actually represents a great opportunity for us.

We have seen in the past that with the right marketing we can drive client and revenue growth. Our average revenue per client in DIY increased due to pricing, enhancements to the product, improved monetization, and an increase in product attach. Conversion rates also increased 1 point and our mobile usage increased significantly.

Moving to the Affordable Care Act, we did not see the impact we expected as early season client losses disproportionately affected ACA related volume. In addition, IRS compliance efforts around ACA penalties were not yet visible to tax payers which we believe were the continued and potentially increased tax filer noncompliance. As such, the percent of ACA impact to clients decreased slightly from 16% to 15%.

In the ACA impacted client base, we did see an increase in the number of clients completing the premium tax credit reconciliation as expected, which is the most complex of the three ACA forms or worksheets. The ACA impacts an important segment of our client base and we believe will result in growth over time. However, that growth is dependent on three things. First, our ability to grow clients who were impacted by the ACA particularly early season filers; second, overall growth in marketplace enrollment; and third, increased IRS compliance enforcements which we believe will start to happen later this calendar year.

Now with that overview of the business, let me provide a couple of additional thoughts on our financial performance. Coming into the year with the divesture of H&R Block Bank, we have anticipated a 1% drop in revenue and a 1 point decline in adjusted EBITDA margin. Actually results were in line with expectations resulting in a $35 million reduction in EBITDA.

We also encountered additional headwinds due to foreign exchange rate fluctuations that negatively impacted revenues by another point. Excluding the two points of decrease due to these impacts, overall revenues for the year increased compared with the prior year.

Turning to the balance sheet, we made great progress in aligning our capital structure with our business model this year. We divested our bank to provide capital flexibility and this enabled to return a significant amount of capital to shareholders. In FY 2015 we repurchased 56.4 million shares representing over 28% of outstanding shares since the beginning of the fiscal year.

I am also pleased with the announcement today that the Board of Directors has approved a 10% increase in our quarterly dividend. Tony will speak to our dividend approach later in the call. With fiscal 2016 behind us it is now time to look to the future.

Going forward our number one goal is to arrest the client decline and ultimately achieve client growth. To do this, we must improve the value we provide to our clients and do a better job of communicating this value. We will fix this, both in the short term and the long term. In the short term we will make significant aggressive changes aimed at driving client volumes.

As we approach next season, we are reviewing our marketing efforts, product offerings, promotions and service delivery models, understanding however that we will not sacrifice the long term good of our company for short term gain. In the long terms we must consider the tax preparation needs of the market overall.

We are the only company that can serve clients however they want to be served and have the opportunity to expand our offerings to appear to their very needs in the market today. You will see innovative solutions designed to leverage our ability to serve our clients anyway they want to be serve. To deliver on these goals we are investing in research and development. These investments will be funded through our cost reductions efforts which I'll talk about in a moment.

So now that we know what we need to do, how will we do it? There are three main pieces to our fiscal year 2017 strategy. First, we will implement programs specifically designed to drive new client growth and I am excited about what we will bring to the market next season.

Next, we have evaluated all aspects of aspects of the business and identified cost savings throughout. This includes realigning our field management and identifying efficiencies at our corporate headquarters allowing us to reduce headcount and sharpen our focus on delivering client growth. Additionally, we will spend less on marketing and have taken out IT infrastructure and support costs.

Collectively, these actions will enable us to ensure strong free cash flow going forward while funding our client acquisition initiatives and the R&D efforts mentioned earlier. Given how far we are from the next tax season and the competitive environment, it is too early to share specifics regarding both our fiscal 2017 initiatives and our margin expectation. That said, we are not moving away from our long term EBITDA margin guidance of 28% to 32%. We will provide more details on the operational changes and financial expectations at our investor conference in December.

Finally, I have reorganized my leadership team. I have flattened [ph] the organization, divided it into more discrete areas of responsibility, taken on more direct reports, increased individual leader accountability and ultimately assumed a more optional role. Overall, I am very pleased with what this team has achieved in the first 50 days since the changes were implemented. They are focused on the right objectives and are working diligently to achieve them.

Karen Orosco, a nearly 17-year veteran of H&R Block will lead the sales side of the company owned assisted business and Kip Knight will lead the franchise side. Heather Watts, an experienced DIY professional will lead our DIY business.

In line with our research and development efforts, I am pleased to announce that Jason Houseworth is now our Chief Innovation Officer charged with bringing solutions to tax payers in new and creative ways. In this role, Jason will lead our cross functional organizations and is focused on innovations in the tax industry specifically around the client's tax filing experience.

And I have moved Greg Macfarlane into role where he will be responsible for all products and operations that support our retail business. Greg's operational mindset and business acumen will enable us to leverage his talents in an even more meaningful way going forward.

Which leaves me with Tony Bowen, who has taken on the role of CFO. Tony has held a variety of financial roles throughout his 12 plus years at H&R Block. Most recently he led the U.S. Tax Finance Organization working very closely with Greg and me. His institutional knowledge makes him a great addition to my leadership team and his strong financial acumen makes him an excellent choice for the CFO. I am excited about what Tony brings to our organization and I am confident that you will appreciate working with him in the months and years ahead.

With that, I'll turn the call over to Tony.

Tony Bowen

Thanks Bill and good afternoon. First I would like to thank Bill and the Board of Directors for this opportunity. I would also like to thank Greg for his guidance and support. He has been a great mentor to me during my time on his team and has let big shoes to fill. I am excited about being the CFO of H&R Block. Despite having a difficult season, I know from my 12 years here at this great company with great people and what we do for our clients is important helping them with what for many is the largest financial transaction of the year.

This is a great business with a solid financial model that generates strong free cash flow and provides an excellent return on capital. I believe in the future of this company and look forward to serving as CFO.

So today, I'd like to talk about fiscal 2016 results, the financial strength of the company and my thoughts around capital structure.

First, let's talk about our results. In essence, this was a reset year regarding our financials given our divesture of the bank and a subsequent capital structure changes. Revenue decreased 1.3% to just over $3 billion primarily due to lower tax return volumes.

As we stated in our Investor conference we expected the bank divesture to have a 1 point annual impact on revenues and a 1 point impact on EBITDA margins. The actual impact was consistent with this guidance. In addition to the impact related to the bank divesture, total revenues were negatively impacted 1% due to foreign exchange rate fluctuations in our Canadian and Australian operations.

Excluding the impact of the bank divesture and foreign exchange, revenues would have increased by approximately 1.5% over the prior year. Turning to assisted, return volume declines of 6% were partially offset by price increases of about 3%.

In addition, we had a 1% increase due to improved mix as most of our volume losses were in less complex returns in the early part of the tax season. Lower tax return volume also resulted in lower overall product revenue. Despite the volume loss however, we were able to increase product attach per client. This was driven by increases in attach rates for our Piece of Mind and Tax Identity Shield products.

We also issued $1.8 million in more card in tax season 2016 and revenue per card increased 2% from the prior year to $52 per card. DIY tax preparation revenues increased 1.1% to $234 million despite a reduction in return volume.

Improved pricing and monetization efforts to n enhance product flow contributed to the revenue increase. Additionally, we improved our refund transfer product attach in our DIY online offering. Internationally, local currency revenues increased slightly compared to the prior year while U.S. dollar revenues were negatively impacted $26 million by foreign currency translation adjustments.

Turning to expenses, operating expenses increased 5.3% from the prior year, mainly due to expenses resulted from independent and franchise acquisitions and increased marketing expenses related to the early season sweepstake promotion. This was partially offset by the decline in compensation and benefit expenses driven by the decrease in tax return volume.

We completed the year with an adjusted EBITDA margin of 28% which is in line with the guidance provided in the mid season volume update with the issuance of an additional $1 billion of long term debt in September 2015 and the increased borrowings under our lines of credit, total interest expense for FY16 were $69 million. This represented an increase of $24 million from the prior year.

We were pleased that our effective tax rate decreased approximately 2 points to 32.6% mainly due to favorable discreet items. Notwithstanding that, we expect our long term base rate to be in the 35% to 36% range. Finally, the company’s overall free cash flow for the year declined 14% to $432 million and adjusted earnings per share were $1.59.

Turning to discontinued operations, Sand Canyon's accrual for contingent losses related to representation of warranty claims were $65 million as of April 30. As a reminder, Sand Canyon is and always has been operated as a separate legal entity from H&R Block. We continue to believe our legal position is strong on any potential veil piercing arguments.

Next, I’d like to discuss capital allocation. After divesting the bank last September, we’ve returned to our historical practice of repurchasing shares and increasing our dividend. We repurchased 3.9 million shares during the fourth quarter bringing our fiscal year total repurchases to 56.4 million shares or more than 20% of outstanding shares. We remain committed to returning capital through share repurchases and though we're not going to discuss specific plans for this year, we will give more guidance later on the call.

Turning to leverage, we've previously shared that we intend to maintain investment grade metrics. We believe that to do this, we need to maintain an adjusted gross debt to adjusted EBITDA ratio of 2.5 to 3 times. Based on this year's fiscal results we are now in that range. As such, we don’t plan to issue any incremental debt in the near term to finance share repurchases.

We will continue to evaluate the appropriate debt level as part of our overall capital structure plans going forward. Regarding dividends, the Board of Directors approved 10% increase in the quarterly dividend. This increase represents a bit of a catch up given our inability to increase the dividend during the past few years while we are regulated as savings loan holding company.

Going forward, we are committed to an annual review of our dividend after each fiscal year. Any decisions regarding future dividends will depend on our operating results, market conditions and capital needs among other factors.

Turning to fiscal 2017, while we are focus on arresting the client decline, we have also completed a comprehensive review of our cost structure and implemented many of the cost reduction efforts Bill mentioned earlier. Because we are still in the planning process, we will provide more specifics for fiscal year 2017 at our Investor Conference in December.

With that, I will now turn the call over to Bill for final comments.

William C. Cobb

Thanks Tony. We’ve covered quite a bit of information today. I want to emphasize that although we had a disappointing tax season, H&R Block continues to be a strong company with an experienced focused management team that will deliver better results going forward. We are taking full responsibility and are addressing the issues of last season.

You heard me say before, but I am repeating here. I own what happened and to that end, I will not receive a performance bonus this year. Looking forward, my senior leaders and I are very competitive group. We do not like to lose. We are smarter than we were at the beginning of the season and the lessons learned from tax season 2016 will benefit us in the long range.

We are aggressively focused on arresting the client decline going forward and we will deliver strong results in tax season 2017. I look forward to sharing more about our specific plans as we get closer to the start of the tax season.

We are now ready to open the call for questions. Operator?

Question-and-Answer Session


Thank you. [Operator Instructions] Your first question comes from the line of Scott Schneeberger with Oppenheimer. Your line is open.

Scott Schneeberger

Good afternoon, thanks. The – not much color on what’s going to happen next year at this juncture, with the, Bill you had said at the beginning growing clients is the number one objective and clearly in the early season, you also said that marketing will be an area of expense reduction and you had specified initially.

I am curious what is the spend thought on marketing next year, and I would imagine you are probably going to have to consider some pricing reductions perhaps around 1040ez or a loan product being offered new, so a lot in there, but if you could just address all of the above? Thanks so much.

William C. Cobb

Scott, you always have a lot in there. So let me address a couple of the comments you made. One is, overall you’re right. I’m not going to get into specifics. Everything is on the table. I wanted to be very clear with all of you what our objective is and we’re starting that right now and are putting plans together. I do think we can be more efficient in marketing. I think we’re going to be more impactful and so that’s why we will spend less next year, but I’m not going to quantify the exact number.

So that’s kind of the overview program wise et cetera, but let me address pricing because I do think that if you think about where the pricing piece goes, this gets to be kind of a complicated issue. I think that it is very strategic in the response we have to take, but let me try to lay out where I think we are.

One is, I do think that we are in line with our competitors. I think with some independents, we are higher priced with our branded competitors in the assisted channels, we’re beneath them, but I do think that we do have pockets of clients where it’s clear that we’re going to have to take a different approach to our pricing, because I think that there are some value initiatives that we’re going to have to look closely at on a surgical or strategic basis.

I think having said all that, I do believe we still have the ability to take price increases, but I do think that they are going to be modest as we go forward.

Scott Schneeberger

And then Bill just following up, any consideration and I am sure what you provide, but the next year for EITC clients, there is a mandate that refunds will be delayed until February 15, and that will likely cause probably a bit of a change in behavior and also potentially an opportunity, you did address some of the products out there in the early season. Just what are your high level thoughts on that dynamic and not that you’re going to share too much about consideration for such a product but anything that you’re thinking on that level? Thanks.

William C. Cobb

Again, no specifics, but I do think you’re on what I think is going to be a big change in the market next year. I think this is going to be well known in the market, I think this will be in the mainstream press that refunds are delayed due to the tax act, past February 15 I do think that is going to have an impact on the market and we plan to take advantage of that.

Scott Schneeberger

Okay, thanks I'll go back.

William C. Cobb

Thanks Scott.


Your next question comes from the line of Thomas Allen with Morgan Stanley. Please go ahead.

Thomas Allen

Hi, good afternoon. So when you talked about your initiatives to improve, you noted that they will be funded through the cost reduction plan. So should we take this as the cost reduction plan will be ex-dollars and all that will be put into kind of incremental ways to drive to drive an improvement then in top line?

William C. Cobb

Yes, I think what I'm trying to convey, Thomas, and again I'm not going to – we’re not going to quantify this, when we get to the investor conference we're usually much more specific on our plans and the puts and takes, but I did want to make it clear that we did take an aggressive posture on cost reductions, because we knew as the season started to unfold that this was not turning out the way we wanted it to.

So I moved quickly in March and April to be aggressive on cost reductions. But I also wanted to convey to everybody that we are not at the -- as you go aggressively, a client growth or arresting the client decline, that’s going to cost us something. So I wanted to be able to balance the savings that we get from cost reductions with what we believe will help to offset the cost of trying to drive our client growth up again.

Thomas Allen

Okay then my follow-up question, I mean I understand your reasoning for now want to give more detail on the plan given competitive rationale and – but in reality I mean your assisted volumes have been down 3% to 6% for each year for the past four years. So I’d like just for the benefit of investors, I mean can you give us anymore anecdotes on how you think you can turn that around given the fact that this has been a four-year decline not just a one-year decline?

William C. Cobb

Yes, I think we've even noted this in one of your recent reports. We were very focused on profitable growth. That obviously needs to continue to be part of our arsenal, but the decline in the early season has been tough for us. So I think we have to address that most specifically the decline in the 1040EZ client and the TC client, so that is where a lot of our efforts will be spent.

Thomas Allen

Thanks Bill, it’s helpful.


Your next question comes from the line of Gil Luria with Wedbush Securities. Your line is open.

Gil Luria

Yes, thank you. So in terms of the product obviously you're not going to talk about what your product decisions are going to be for next year, but how much of a factor do you think the refund advances were in terms of what your competition did vis-à-vis the volume declines? And is there a path forward that doesn't include matching that offering and just the same on the DIY side, is there a path forward that doesn't include matching fully free given the impact that that’s had last couple of years?

William C. Cobb

So with regard to the first question, we believe our estimates our goal is little hazy, but we think about a million routes we're done between the independents and JH and Liberty. So we think the number was in the range of about a million routes. So I think it did have an impact on us, and I think we have to bring that into consideration.

With regard to Absolute Zero, this past, if you go back to this time last year, we were reporting results in line with Turbo in terms of the number of returns and our revenue on a percentage basis was actually higher. We chose to stay with the same strategy for this upcoming year and it didn't work they outplayed us as I said.

So again I'm not going to comment specifically, but we are quite mindful that Absolute Zero is here to stay and we'll have to figure out how we're going to react to that and obviously we're in the process of doing that right now.

Gil Luria

It sounded like you may have wanted to provide more guidance on the buybacks. Should we assume that if you're not raising new deck that means that the plan for the buyback going forward is for to be at the level of free cash flow less dividends or something less than that?

William C. Cobb

Why don’t I let Tony handle that?

Tony Bowen

Yes, so as we said in the comments we're still committed to share repurchases. We don't feel it's appropriate right now to issue additional debt to do it. We're not going to talk about specific timing or amounts being our share repurchases in this upcoming year though.

William C. Cobb

But I do think with regard to buybacks Gil, I think we had indicated in our conversations previously that we will, we would be tempering that going forward really having nothing to do with the debt load. We did have a, we think we are substantially complete this opportunity sharing their on the franchise side and but I think overall we’ll be looking at doing less acquisition and buybacks in the fiscal 2017?

Gil Luria

Then just a quick modeling question, how much did the franchisee acquisitions contribute to revenue growth this year?

Gregory Macfarlane

Yes, so we haven’t disclosed the specific amount, but it was a material amount to our revenue this year consistent with FY16.

William C. Cobb


Gregory Macfarlane

15, excuse me.

Gil Luria

Thank you.

William C. Cobb

Thanks Gil.


Your next question comes from the line of George Tong with Piper Jaffray. Your line is open.

George Tong

Hi, thanks. Good morning or good afternoon. Can you elaborate on what's changed this year in the independent market that’s allows them to capture more market share from HRB compared to earlier year and are there new structural trends that perhaps you haven’t talked about that are emerging, does that concern you?

William C. Cobb

Yes, George it is harder to get information about the independent market. We generally have to wait for further information from the IRS so, I don’t have a great insight for you on that but we are anxious to dive deeper into that.

George Tong

Okay, you’ve indicated that Absolute Zero is likely here to stay. Can you discuss your interest in capturing volumes that they are not connected with material revenues, this is a pivot from your early decision to move away from the 1040EZ offering pre-filing?

William C. Cobb

I’m not sure I fully understood your question, can you either repeat it or revise it?

George Tong

Yes, so are you interested in capturing volumes that really have low monetization value?

William C. Cobb

Here is how we see it. We cannot, the volume decline we saw on both sides of our business last tax season, we cannot sustain that. We do not want to be in that direction. So we have got to be aggressive on recapturing clients and we are calling and arresting the client decline. We do believe the early season decline has been a particular problem for us and we are committed to try and reverse our trends in that area specifically, but overall.

So, again I'm not going to say specifically what we are going to do, but I think and what I’m trying to do is provide what our objectives are, what our priority is, where our focus is and then will talk to specifics as we get to the tax season.

George Tong

Got it, thanks.


Your next question comes from the line of Anj Singh with Credit Suisse. Please go ahead.

Anjeneya Singh

Hi, thanks for taking my questions. Bill, on the commentary that you made on the execution issues, you referenced that you guys have a recently moved to resolve them or have results on them, can you give some more specific examples of the execution or things that went wrong?

And when do you think you guys can get to market like growth and assisted? Is 2017 the year that we perhaps you guys maintain share and grow in line with the market and perhaps this is further out but the UBIs think that these initiatives or settings that they are perhaps even above market growth?

William C. Cobb

Yes, and again let me I’ll get to your execution point, but let me address the I’m going to at this point give any specific numbers on what we think it we’ll do in terms of client growth. We have to stop the bleeding. We have to turn north. We have to and ultimately as I've said in the script, we have to grow clients and so that, whether that’s in 17 we’re still modeling everything out, but the direction of my team has been to be very aggressive.

On the executional front and as I've said I own this, I drove all these initiatives. We missed on this sweepstakes. It underperformed. I don’t think this is our best year in marketing. I think that from a sales perspective I think our field team, everybody worked hard and everybody did that but we do not capture new clients at the rate that we have in the past. So, I don’t think our efforts at the local level we’re very strong. I think there were some executional hiccups also. And on the DIY side, well I think we’re very pleased with our product performance and our reviews continue to show what a strong product we have that matches up very well with TurboTax. We just did the combination of marketing and really attracting new clients work.

So I was talking to somebody recently and I said, normally in business a few things hit and a few things miss and you hope you move ahead and every once a while you hit on everything. Well this was a perfect storm that wrong way. Virtually everything, whether it be foreign currency, the reset year with both, I mean everything went the wrong way here. That is why I think ultimately this was a bad tax season. This is way I’m approaching it.

We are going to turn this around. We’re going to fix this, but it was one bad season is the way I really look at it. I think in other seasons, we have had some plus and minus stuff and we’ve been able to move forward with the credible results, this year they were unacceptable and we’re committed to turn that around.

Anjeneya Singh

Okay, got it. And as we think about the timing of the initiatives that you guys are putting in place, is it right to think that all of them will be done in place for fiscal 2017 tax season? And I’m also trying to understand why were they not previously done? Were they deemed too insignificant to be done and now you've found more opportunity or is it something else?

William C. Cobb

Yes, frankly I’m not going to look back. I mean I can kick myself all day for I should have done this and I should have done that and we didn’t, we missed. We are going forward aggressively. My plan is to have everything in place. Now as I said there are also some tests we’re going to put in place because I want to make sure that we are set up for fiscal 2018. I’m not putting all the, because I think that we have to look at this on a multiyear basis, in a highly seasonal business like this and you've heard us talk about that with a seasonal business in the S&P 500 when you miss, it hurts and it hurts a lot.

So we will not only be looking to, I think that anything we want to do in 2017 on a national basis, we will be able to do, I don’t see any impediments to that and in addition to that, we’re going to be testing some things that I think will have some great impact in 2018.

Anjeneya Singh

Okay. Got it and one final quick one from me, you mentioned the portion of your client base that you may have to take a different approach on, can you sort of help us understand what portion of that client base, what portion that comprises of your client base and do you think that may compromise your ability to get pricing of 3% that you’ve been able to get in the past few years? Thanks.

William C. Cobb

So, I do think as I said earlier, I think the early season client is one that we are addressing will be addressing aggressively. I also stated earlier when I think I was talking to Scott that we do believe and we've got to be strategic that we will have an ability to still have pricing as a positive aspect of our revenue, but I think it’s going to be more modest as we go forward and much more surgical in terms of the way we apply that.

Anjeneya Singh

Okay. Thanks a lot for your time.

William C. Cobb

Thanks Anj.


Your next question comes from the line of Michael Millman with Millman Research Associates. Your line is open.

Michael Millman

Thank you. So following up on some other things, other questions, talking about the independents obviously, correct their share assisted was up, to what extent do you think it’s pricing that is doing this much more than FFO or take much more than say routes for example?

And also you've talked about how clients actually for the last several years, and you talked about something on the other side of the coin, retention, particularly retention in different categories EZ and 40A and the 1240? And then finally ACA, should we lower our sights very significantly on the impact that ACA is going to have on you and the industry? Thank you.

William C. Cobb

Okay. Thanks Mike, let me try to take that one at a time. On the independents, I think a couple of things will apply there you mentioned pricing I think that has an impact. I think we - as I said earlier, I think we need more information on exactly what has happened there. It is tougher to get in the independents space.

I think a lack of minimum standards, which I continue to talk about as one of our top two government relations initiative continues to hurt us, because I think part of independents is fraudulent providers. But I again, I don't want to spend a lot of time on fraud. We continue to work on our government relations initiatives that is – but we have to focus on executing better. So we need more analysis on the independent space, but obviously we don't like to see them growing while we're not.

With regard to retention, our retention continues to be very strong. There was no change and our issue this year with the lack of attraction of new clients. So we were not able to get the new client push that we've seen in the past, but our retention continues to be quite strong. And then finally from an ACA perspective, I do think frankly, we were surprised by this year's results. The number of enrollees had gone up almost 50% to $11.7 million, and frankly we had very little change in the amount of clients that are impacted. Last year we had 16% client impacted, this year we have 15%.

We did have more clients, who were completing their premium tax credit. But to say that this was expected was is not true, we were surprised ourselves. I do want to say though a few things. One, the exchange continued to grow. There's nine million people enrolled in these exchanges this year, it's almost 13 million people enrolled in 2016. I think the – I think there has been some non compliance in checking other boxes, because IRS auditing efforts haven't begun. They're going to begin this summer. IRS is going to be able to match with all the 1095s to people who did not file correctly. So I think you will see more stepped up awareness that the IRS is coming after this.

I also think that with our focus on early season volumes, I think that is going to help us also. I think with our miss in the early season, it has hurt us on the ACAPs. So I believe that in the long term this is still a tailwind for us. I think this is going to continue to grow. I think it's still going to be a positive for us. Frankly, I think we had a bump this year that there we're a little surprised at, but I think in the long run this is still a benefit to H&R Block.

Michael Millman

As a benefit to you and volume, do you think there also as much a price benefit they have thought particularly TurboTax looks about how basically that you fold in the questions and their software?

William C. Cobb

Yes, as stated we’re making, I think that we have not seen a shift between DIY and assisted in terms of people seeing more complexity. And we'll just have to keep evaluating that as we go forward.

Michael Millman

Thank you.

William C. Cobb

Thanks Michael.


Your next question comes from the line of Jeff Silber with BMO Capital Markets. Your line is open.

Jeff Silber

Thanks so much. Bill, earlier you said it was I guess a perfect storm in terms of things going the wrong way, but yet at the beginning you’ve talked about H&R Bank divestiture going well. Were there are any issues there that my approach to this tax season and you’re going to improve next year?

William C. Cobb

No, and again, nothing ever completely goes, now that was actually, that was actually good. I think the results were within our expectation. We had said, we thought it would be in the $35 million to $40 million impact on EBITDA. It turned out to be $35 million.

So from a financial perspective it worked fine. I think our partner [indiscernible] executed very well. I think it was seamless for our clients. So no, there is, no there was no impact from the bumpy [ph] relationship with regard to our results. We just with the client decline had less Emerald cards, less refund transfers and that was not an impact because of our relationship with Bumpy [ph].

Jeff Silber

Okay that’s good to hear. And on the increasing dividend, I’m just curious why 10% is our specific target in terms of dividend yield or other metrics that you're looking at that we should use going forward to see what potential dividend increases you might have? Thanks.

William C. Cobb

Excuse me, let me just step back on this, because I think it's an important aspect, and I think many of you have been asking for us to comment on our dividend policy. For years, we have not been able to issue dividends as we or issue any change in dividend because of our, being tied up with the bank and Dodd-Frank. So we have not commented on any kind of dividend policy or the like.

When we left the bank in September and came out with our capital plan, we said we would talk about dividends at the time when we think it’s appropriate which is every June. And what we committed to is, we will have an annual review of the dividend in June because that’s the time of year, three quarters of our revenue or more are in the fourth quarter that’s the appropriate time for us we discussing any change in the dividend. So we are committing to investors that we will have that annual review.

Specific to this year we felt that early on in my tenure we did increase the dividend 33%. We hadn’t done it for almost four years. So we thought it appropriate for us to do a 10% increase at this movement that will be effective with the dividend payable July 1. So, that’s what we announced today was a 10% increase and that we will have an annual review of the dividend every June.

Jeff Silber

And I'm sorry, is there a certain payout ratio that you are targeting that you came up with the 10% number?

William C. Cobb

Yes, we have not Jeff just come up with, I mean let me put it this way. We’ve committed to an annual review. We’re not going to get into payout ratio or anything else. We’ll take an assessment of how the tax season went, what our situation is, what are market conditions and then be transparent in terms of what our position is going forward.

Jeff Silber

Okay, fair enough. Thanks so much.

William C. Cobb

Okay, thanks.


Your next question comes from the line of Scott Schneeberger with Oppenheimer. Your line is open.

Scott Schneeberger

Thanks for taking the follow up. I’m curious, certainly there were some execution pause this year and it has been well highlighted on the call. But I think there is more speak of that and less own discussion of may be some structural industry pressures possibly tied to fraud prevention that might have disproportionally impacted the large branded store front and assisted providers relative to those mom and pops. And Bill, you mentioned you don’t have great data, but could you just address that as far as those two dynamics vis-à-vis each other and magnitude? Thank you.

William C. Cobb

Yes, I can Scott, this issue of fraud I think is having an impact, a big impact on the assisted business, if you start with EITC and the disproportionate documentation requirements and all the improper payments tied to the EITC. It is very clear that people are using digital DIY method because they don’t have to answer same questions. It makes no sense to me and you've heard me talk about this. So that’s one piece that I think has impacted the assisted business and also the lack of minimum standards. So I think that is the other piece we talk about.

Now, I do think there are some things that are going to happen, not wishful thinking that is going to help the assisted business and ultimately I believe help us. With the IRS moving to matching W2 matching income, matching W2s to tax returns that is going to come into place this year that will have a positive impact on the assisted business.

Also as we talked about earlier, with the [indiscernible] Act, with refunds being delayed through the middle of February that could have a benefit for the assisted business if done in the right way. So I think there is some things that are going to start to happen that may lessen the impact of fraud on the assisted business, but at this point, I think it’s still until those documentation requirements are equalized, I think it’s tough for the assisted business.

Scott Schneeberger

Thanks for that. And then one more if I could, the - still maintaining the long-term margin guidance, you didn’t touch on fiscal 2017, I’m guessing we will get some magnitude at Investor Day in December, but not I think – I think and it was only your tenure year the last time there was a large OpEx reduction, you quantified it as year-over-year. I believe it was $85 million to $100 million which you achieved and it was in the context of, hey we’re going to reduce the operating expenses year-over-year it didn’t touch on revenue and or anything else.

So it was say to provide without sharing too much information, I’m just curious why you – why you chose not to share any magnitude on this call and provide it in that nature like last time?

William C. Cobb

Yes, you have a great memory Scott and a great database, but no that’s fair. We chose not to because I think we’re in a different situation. I think we're in a situation where as we amend our strategy, just say we are going to get much more aggressive on the client side.

We need to figure out the balancing act between the cost reductions flowing through and those that are going to help us fund the client acquisition efforts. Obviously you answered your own question. In December, I think we'll certainly be very forthcoming in terms of how we think the whole thing adds up, but at this point we chose not to give that specific number as we work through the balancing act here.

Scott Schneeberger

All right, thanks.


Ladies and gentlemen, that brings us to the end of today's question-and-answer session. I'll now turn the call back to the presenters for closing remarks.

William C. Cobb

Thank you everyone for joining us on today's call and this will conclude the call.

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