NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2013
(Unaudited)
Insperity, Inc., a Delaware corporation (“Insperity,” “we,” “our,” and “us”), provides an array of human resources (“HR”) and business solutions designed to help improve business performance. Our most comprehensive HR business offering is provided through our professional employer organization (“PEO”) services, known as Workforce Optimization
™
, which encompasses a broad range of HR functions, including payroll and employment administration, employee benefits, workers’ compensation, government compliance, performance management, and training and development services.
In addition to Workforce Optimization, we offer Human Capital Management, Payroll Services, Time and Attendance, Performance Management, Organizational Planning, Recruiting Services, Employment Screening, Financial Services, Expense Management, Retirement Services and Insurance Services (collectively “Adjacent Businesses”), many of which are offered via desktop applications and software as a service (“SaaS”) delivery models. These other products or services are offered separately, as a bundle, or along with Workforce Optimization.
We provide our Workforce Optimization solution to small and medium-sized businesses in strategically selected markets throughout the United States. For the
nine months ended September 30, 2013
and
2012
, Workforce Optimization revenues from our Texas markets represented
26%
in both periods, while Workforce Optimization revenues from our California markets represented
18%
and
17%
, respectively, of our total Workforce Optimization revenues.
The Consolidated Financial Statements include the accounts of Insperity and its subsidiaries, all of which are wholly owned. Intercompany accounts and transactions have been eliminated in consolidation.
The preparation of financial statements in conformity with accounting principles generally accepted in the United States (“GAAP”) requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
The accompanying Consolidated Financial Statements should be read in conjunction with our audited Consolidated Financial Statements as of and for the year ended
December 31, 2012
. Our Consolidated Balance Sheet at
December 31, 2012
has been derived from the audited financial statements at that date, but does not include all of the information or footnotes required by GAAP for complete financial statements. Our Consolidated Balance Sheet at
September 30, 2013
and our Consolidated Statements of Operations and Comprehensive Income for the
three and nine
month periods ended
September 30, 2013
and
2012
, our Consolidated Statements of Cash Flows for the
nine
month periods ended
September 30, 2013
and
2012
, and our Consolidated Statement of Stockholders’ Equity for the
nine months ended September 30, 2013
, have been prepared by us without audit. In the opinion of management, all adjustments, consisting only of normal recurring adjustments necessary to present fairly the consolidated financial position, results of operations and cash flows, have been made.
The results of operations for the interim periods are not necessarily indicative of the operating results for a full year or of future operations.
Health Insurance Costs
We provide group health insurance coverage to our worksite employees through a national network of carriers, including UnitedHealthcare (“United”), UnitedHealthcare of California, Kaiser Permanente, Blue Shield of California, HMSA BlueCross BlueShield, Unity Health Plan and Tufts, all of which provide fully insured policies or service contracts.
The policy with United provides the majority of our health insurance coverage. As a result of certain contractual terms, we have accounted for this plan since its inception using a partially self-funded insurance accounting model. Accordingly, we record the costs of the United plan, including an estimate of the incurred claims, taxes and administrative fees (collectively the “Plan Costs”) as benefits expense in the Consolidated Statements of Operations. The estimated incurred claims are based upon: (i) the level of claims processed during the quarter; (ii) estimated completion rates
based upon recent claim development patterns under the plan; and (iii) the number of participants in the plan, including both active and COBRA enrollees. Each reporting period, changes in the estimated ultimate costs resulting from claim trends, plan design and migration, participant demographics and other factors are incorporated into the benefits costs.
Additionally, since the plan’s inception, under the terms of the contract, United establishes cash funding rates
90
days in advance of the beginning of a reporting quarter. If the Plan Costs for a reporting quarter are greater than the premiums paid and owed to United, a deficit in the plan would be incurred and a liability for the excess costs would be accrued in our Consolidated Balance Sheets. On the other hand, if the Plan Costs for the reporting quarter are less than the premiums paid and owed to United, a surplus in the plan would be incurred and we would record an asset for the excess premiums in our Consolidated Balance Sheets. The terms of the arrangement require us to maintain an accumulated cash surplus in the plan of
$9.0 million
, which is reported as long-term prepaid insurance. In addition, United requires a deposit equal to approximately one day of claims funding activity, which was
$3.5 million
as of
September 30, 2013
, and is reported as a long-term asset. As of
September 30, 2013
, Plan Costs were less than the net premiums paid and owed to United by
$16.4 million
. As this amount is in excess of the agreed-upon
$9.0 million
surplus maintenance level, the
$7.4 million
balance is included in prepaid insurance, a current asset, in our Consolidated Balance Sheets. The premiums owed to United at
September 30, 2013
were
$3.5 million
, which is included in accrued health insurance costs, a current liability in our Consolidated Balance Sheets.
Workers’ Compensation Costs
Our workers’ compensation coverage has been provided through an arrangement with the ACE Group of Companies (“the ACE Program”) since 2007. The ACE Program is fully insured in that ACE has the responsibility to pay all claims incurred regardless of whether we satisfy our responsibilities. Through September 30, 2010, we bore the economic burden for the first
$1 million
layer of claims per occurrence and the insurance carrier was and remains responsible for the economic burden for all claims in excess of such first
$1 million
layer.
Effective October 1, 2010, in addition to our bearing the economic burden for the first
$1 million
layer of claims per occurrence, we also bear the economic burden for those claims exceeding
$1 million
, up to a maximum aggregate amount of
$5 million
per policy year.
Because we bear the economic burden for claims up to the levels noted above, such claims, which are the primary component of our workers’ compensation costs, are recorded in the period incurred. Workers’ compensation insurance includes ongoing health care and indemnity coverage whereby claims are paid over numerous years following the date of injury. Accordingly, the accrual of related incurred costs in each reporting period includes estimates, which take into account the ongoing development of claims and therefore requires a significant level of judgment.
We employ a third party actuary to estimate our loss development rate, which is primarily based upon the nature of worksite employees’ job responsibilities, the location of worksite employees, the historical frequency and severity of workers’ compensation claims, and an estimate of future cost trends. Each reporting period, changes in the actuarial assumptions resulting from changes in actual claims experience and other trends are incorporated into our workers’ compensation claims cost estimates. During the
nine months ended September 30, 2013
and
2012
, we reduced our workers’ compensation costs by
$8.3 million
and
$10.4 million
, respectively, for changes in estimated losses related to prior reporting periods. Workers’ compensation cost estimates are discounted to present value at a rate based upon the U.S. Treasury rates that correspond with the weighted average estimated claim payout period (the average discount rate utilized in both the
2013
and
2012
periods was
0.7%
) and are accreted over the estimated claim payment period and included as a component of direct costs in our Consolidated Statements of Operations.
The following table provides the activity and balances related to incurred but not paid workers’ compensation claims:
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
September 30,
|
|
|
2013
|
|
2012
|
|
|
(in thousands)
|
|
|
|
|
|
Beginning balance, January 1,
|
|
$
|
111,685
|
|
|
$
|
104,791
|
|
Accrued claims
|
|
30,496
|
|
|
28,586
|
|
Present value discount
|
|
(748
|
)
|
|
(712
|
)
|
Paid claims
|
|
(24,462
|
)
|
|
(23,133
|
)
|
Ending balance
|
|
$
|
116,971
|
|
|
$
|
109,532
|
|
|
|
|
|
|
Current portion of accrued claims
|
|
$
|
50,317
|
|
|
$
|
46,069
|
|
Long-term portion of accrued claims
|
|
66,654
|
|
|
63,463
|
|
|
|
$
|
116,971
|
|
|
$
|
109,532
|
|
The current portion of accrued workers’ compensation costs on the Consolidated Balance Sheets at
September 30, 2013
includes
$2.0 million
of workers’ compensation administrative fees.
As of
September 30, 2013
and
2012
, the undiscounted accrued workers’ compensation costs were
$127.5 million
and
$121.7 million
, respectively.
At the beginning of each policy period, the insurance carrier establishes monthly funding requirements comprised of premium costs and funds to be set aside for payment of future claims (“claim funds”). The level of claim funds is primarily based upon anticipated worksite employee payroll levels and expected workers’ compensation loss rates, as determined by the insurance carrier. Monies funded into the program for incurred claims expected to be paid within
one year
are recorded as restricted cash, a short-term asset, while the remainder of claim funds are included in deposits, a long-term asset in our Consolidated Balance Sheets. During the first
nine
months of
2013
, we paid the insurance carrier an additional
$5.0 million
in claim funds for policy years prior to 2013, which increased deposits. In the first
nine
months of
2012
, we received
$2.5 million
for the return of excess claim funds related to the ACE Program, which reduced deposits. As of
September 30, 2013
, we had restricted cash of
$50.3 million
and deposits of
$75.1 million
.
Our estimate of incurred claim costs expected to be paid within
one year
are recorded as accrued workers’ compensation costs and included in short-term liabilities, while our estimate of incurred claim costs expected to be paid beyond one year are included in long-term liabilities on our Consolidated Balance Sheets.
|
|
|
3.
|
Cash, Cash Equivalents and Marketable Securities
|
The following table summarizes our cash and investments in cash equivalents and marketable securities held by investment managers and overnight investments:
|
|
|
|
|
|
|
|
|
|
|
|
September 30,
2013
|
|
December 31,
2012
|
|
|
(in thousands)
|
Overnight Holdings
|
|
|
|
|
Money market funds (cash equivalents)
|
|
$
|
116,580
|
|
|
$
|
255,000
|
|
Investment Holdings
|
|
|
|
|
|
|
Money market funds (cash equivalents)
|
|
37,877
|
|
|
26,087
|
|
Marketable securities
|
|
47,400
|
|
|
16,904
|
|
|
|
201,857
|
|
|
297,991
|
|
Cash held in demand accounts
|
|
18,717
|
|
|
21,732
|
|
Outstanding checks
|
|
(11,332
|
)
|
|
(38,275
|
)
|
Total cash, cash equivalents and marketable securities
|
|
$
|
209,242
|
|
|
$
|
281,448
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
161,842
|
|
|
$
|
264,544
|
|
Marketable securities
|
|
47,400
|
|
|
16,904
|
|
|
|
$
|
209,242
|
|
|
$
|
281,448
|
|
Our cash and overnight holdings fluctuate based on the timing of clients' payroll processing cycles. Included in the cash balance as of
September 30, 2013
and
December 31, 2012
, are
$90.1 million
and
$158.2 million
, respectively, in funds associated with federal and state income tax withholdings, employment taxes and other payroll deductions, as well as
$9.0 million
and
$13.5 million
in client prepayments, respectively.
We account for our financial assets in accordance with Accounting Standard Codification (“ASC”) 820,
Fair Value Measurement
. This standard defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. The fair value measurement disclosures are grouped into three levels based on valuation factors:
|
|
•
|
Level 1 - quoted prices in active markets using identical assets
|
|
|
•
|
Level 2 - significant other observable inputs, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other observable inputs
|
|
|
•
|
Level 3 - significant unobservable inputs
|
The following table summarizes the levels of fair value measurements of our financial assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements
|
|
|
(in thousands)
|
|
|
September 30,
2013
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
|
|
|
|
|
|
|
|
Money market funds
|
|
$
|
154,457
|
|
|
$
|
154,457
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Municipal bonds
|
|
47,400
|
|
|
—
|
|
|
47,400
|
|
|
—
|
|
Total
|
|
$
|
201,857
|
|
|
$
|
154,457
|
|
|
$
|
47,400
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements
|
|
|
(in thousands)
|
|
|
December 31,
2012
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
|
|
|
|
|
|
|
|
Money market funds
|
|
$
|
281,087
|
|
|
$
|
281,087
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Municipal bonds
|
|
16,904
|
|
|
—
|
|
|
16,904
|
|
|
—
|
|
Total
|
|
$
|
297,991
|
|
|
$
|
281,087
|
|
|
$
|
16,904
|
|
|
$
|
—
|
|
The municipal bond securities valued as Level 2 investments are primarily pre-refunded municipal bonds that are secured by escrow funds containing U.S. Government securities. Our valuation techniques used to measure fair value for these securities during the period consisted primarily of third party pricing services that utilized actual market data such as trades of comparable bond issues, broker/dealer quotations for the same or similar investments in active markets and other observable inputs.
The following is a summary of our available-for-sale marketable securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortized
Cost
|
|
Gross
Unrealized
Gains
|
|
Gross
Unrealized
Losses
|
|
Estimated
Fair Value
|
|
|
|
|
(in thousands)
|
|
|
September 30, 2013
|
|
|
|
|
|
|
|
|
Municipal bonds
|
|
$
|
47,361
|
|
|
$
|
41
|
|
|
$
|
(2
|
)
|
|
$
|
47,400
|
|
|
|
|
|
|
|
|
|
|
December 31, 2012
|
|
|
|
|
|
|
|
|
|
|
|
|
Municipal bonds
|
|
$
|
16,878
|
|
|
$
|
29
|
|
|
$
|
(3
|
)
|
|
$
|
16,904
|
|
As of
September 30, 2013
, the contractual maturities of our marketable securities were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
Amortized
Cost
|
|
Estimated
Fair Value
|
|
|
(in thousands)
|
|
|
|
|
|
Less than one year
|
|
$
|
30,885
|
|
|
$
|
30,905
|
|
One to five years
|
|
16,476
|
|
|
16,495
|
|
Total
|
|
$
|
47,361
|
|
|
$
|
47,400
|
|
In 2011, we acquired a minority interest in The Receivables Exchange ("TRE"), an online marketplace for the sale of accounts receivable, for
$2.8 million
. In the second quarter of 2013, TRE issued similar securities at per share amounts substantially below the per share book value of our investment. Accordingly, we valued the investment based on a similar security market transaction, which is a Level 2 valuation technique. This resulted in a non-cash impairment charge of
$2.7 million
, which was included in other income (expense) in our Consolidated Statements of Operations, during the second quarter of 2013. Due to federal income tax limitations on capital losses, no tax benefit associated with the impairment was recognized.
|
|
|
5.
|
Revolving Credit Facility
|
We have a
$100 million
revolving credit facility (the “Facility”), which may be increased to
$150 million
based on the terms and subject to the conditions set forth in the agreement relating to the Facility (the “Credit Agreement”). The Facility matures on September 15, 2015. The Facility contains both affirmative and negative covenants, which we believe are customary for arrangements of this nature. At
September 30, 2013
, we were in compliance with all financial covenants under the Credit Agreement and had not drawn on the Facility.
Our Board of Directors (the “Board”) has authorized a program to repurchase shares of our outstanding common stock (“Repurchase Program”). The purchases are to be made from time to time in the open market or directly from stockholders at prevailing market prices based on market conditions and other factors. In May 2013, the Board increased the authorized number of shares to be repurchased under the program by
one million
. During the
nine months ended September 30, 2013
,
476,903
shares were repurchased under the Repurchase Program and
116,931
shares not subject to the Repurchase Program were withheld to satisfy tax withholding obligations for the vesting of restricted stock awards. As of
September 30, 2013
, we were authorized to repurchase an additional
1,352,569
shares under the program.
The Board declared quarterly dividends in the first
three
quarters of
2013
and
2012
as follows:
|
|
|
|
|
|
|
|
|
|
|
|
2013
|
|
2012
|
|
|
(amounts per share)
|
First quarter
|
|
$
|
0.17
|
|
|
$
|
0.15
|
|
Second quarter
|
|
0.17
|
|
|
0.17
|
|
Third quarter
|
|
0.17
|
|
|
0.17
|
|
During the
nine months ended September 30, 2013
and
2012
, we paid dividends totaling
$13.0 million
and
$12.6 million
, respectively.
We utilize the two-class method to compute net income per share. The two-class method allocates a portion of net income to participating securities, which include unvested awards of share-based payments with non-forfeitable rights to receive dividends. Net income allocated to unvested share-based payments is excluded from net income allocated to common shares. Any undistributed losses resulting from dividends exceeding net income are not allocated to participating securities. Basic net income per share is computed by dividing net income allocated to common shares by the weighted average number of common shares outstanding during the period. Diluted net income per share is computed by dividing net income allocated to common shares by the weighted average number of common shares outstanding during the period, plus the dilutive effect of outstanding stock options.
The following table summarizes the net income allocated to common shares and the basic and diluted shares used in the net income per share computations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
2013
|
|
2012
|
|
2013
|
|
2012
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
10,082
|
|
|
$
|
11,452
|
|
|
$
|
26,743
|
|
|
$
|
30,957
|
|
Less distributed and undistributed earnings allocated to participating securities
|
|
(289
|
)
|
|
(334
|
)
|
|
(769
|
)
|
|
(898
|
)
|
Net income allocated to common shares
|
|
$
|
9,793
|
|
|
$
|
11,118
|
|
|
$
|
25,974
|
|
|
$
|
30,059
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares outstanding
|
|
24,849
|
|
|
24,923
|
|
|
24,855
|
|
|
25,034
|
|
Incremental shares from assumed conversions of common stock options
|
|
18
|
|
|
57
|
|
|
24
|
|
|
63
|
|
Adjusted weighted average common shares outstanding
|
|
24,867
|
|
|
24,980
|
|
|
24,879
|
|
|
25,097
|
|
|
|
|
|
|
|
|
|
|
Potentially dilutive securities not included in weighted average share calculation due to anti-dilutive effect
|
|
—
|
|
|
41
|
|
|
10
|
|
|
33
|
|
|
|
|
8.
|
Commitments and Contingencies
|
We are a defendant in various lawsuits and claims arising in the normal course of business. Management believes it has valid defenses in these cases and is defending them vigorously. While the results of litigation cannot be predicted with certainty, management believes the final outcome of such litigation will not have a material adverse effect on our financial position or results of operations.
Lumbermens Mutual Casualty Company
In 2003, facing continued capital constraints and a series of downgrades from various rating agencies, our former workers’ compensation insurance carrier for the two-year period ended September 2003, Lumbermens Mutual Casualty Company, formerly known as Kemper (“Lumbermens Mutual”), made the decision to substantially cease underwriting operations and voluntarily entered into “run-off." In July 2012, Lumbermens Mutual announced that an agreed order of rehabilitation had been entered against it in Cook County, Illinois. Under the order, the Director of the Illinois Department of Insurance was vested with control over Lumbermens Mutual property and decision-making. In an order effective May 10, 2013, the Circuit Court of Cook County, Illinois, found that Lumbermens Mutual was insolvent and ordered its liquidation.
The entry of a liquidation order has triggered the transition of claim handling responsibilities for Lumbermens Mutual's open claims to state guaranty associations around the country. Guaranty associations are non-profit organizations created by statute for the purpose of protecting policyholders from severe financial losses and preventing delays in claim payments due to the insolvency of an insurer. They do this by assuming responsibility for the payment of claims that would otherwise have been paid by the insurer had it not become insolvent. Each state has one or more guaranty association(s), with each association handling certain types of insurance. Insurance companies are required to be members of the state guaranty association as a condition of being licensed to do business in the state.
The guaranty associations in some states, including Texas, may assert that state law allows them to recover the amount of benefits paid by the guaranty association along with associated administration and defense costs from an insured with a net worth exceeding certain specified levels or based upon certain other theories of recovery. We intend to vigorously assert our available defenses to any claims made by any guaranty association. We estimate the outstanding amounts that may be subject to claims from state guaranty associations to range from
$1.1 million
to
$5.0 million
as of
September 30, 2013
. In the event state guaranty associations are successful in seeking recovery from us, we would be required to pay such claims and record liabilities for anticipated future claims, which could have a material adverse effect on net income in the reported period.