UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
__X__ Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the quarterly period ended March 31, 2007
or
_____ Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period
from ________ to_________.
Commission File No. 0-21527
VERTRUE INCORPORATED
--------------------
(Exact name of registrant as specified in its charter)
DELAWARE 06-1276882
--------------------------------- --------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
20 Glover Avenue
Norwalk, Connecticut 06850
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(Address of principal executive offices) (Zip Code)
(203) 324-7635
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(Registrant's telephone number,
including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [ X ] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer [ ] Accelerated filer [ X ] Non-accelerated filer [ ]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes [ ] No [ X ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 9,724,735 shares of Common
Stock, $0.01 par value as of May 4, 2007.
VERTRUE INCORPORATED
INDEX TO FORM 10-Q
PART I. FINANCIAL INFORMATION PAGE
Item 1. Financial Statements (unaudited)
Condensed Consolidated Balance Sheets as of March 31, 2007
and June 30, 2006 1
Condensed Consolidated Statements of Operations for the Three
and Nine Months Ended March 31, 2007 and 2006 2
Condensed Consolidated Statements of Cash Flows for the Nine
Months Ended March 31, 2007 and 2006 3
Notes to Condensed Consolidated Financial Statements 4
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 19
Item 3. Quantitative and Qualitative Disclosures about Market Risk 31
Item 4. Controls and Procedures 31
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 32
Item 1A. Risk Factors 32
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 33
Item 6. Exhibits 33
Signatures 34
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
VERTRUE INCORPORATED
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited)
(in thousands, except per share amounts)
March 31, June 30,
2007 2006
----------- -----------
Assets
Current assets:
Cash and cash equivalents $ 62,276 $ 36,290
Restricted cash - 2,699
Short-term investments 16,618 31,798
Accounts and notes receivable, net 35,455 21,014
Prepaid expenses 5,516 9,053
Deferred marketing costs 22,362 26,463
Other current assets 4,523 4,706
----------- -----------
Total current assets 146,750 132,023
Fixed assets, net 35,981 37,658
Goodwill 260,336 212,187
Intangible assets, net 39,625 37,798
Other long-term assets 32,000 23,362
----------- -----------
Total assets $ 514,692 $ 443,028
=========== ===========
Liabilities and Shareholders' Equity (Deficit)
Current liabilities:
Current maturities of long-term obligations $ 615 $ 762
Accounts payable 43,143 42,281
Accrued liabilities 123,362 64,602
Deferred revenues 74,652 84,972
Deferred income taxes 13,486 11,687
----------- -----------
Total current liabilities 255,258 204,304
Deferred income taxes 4,224 6,920
Long-term debt 238,121 237,984
Other long-term liabilities 9,757 9,989
----------- -----------
Total liabilities 507,360 459,197
----------- -----------
Commitments and contingencies (Note 7)
Shareholders' equity (deficit):
Preferred stock, $0.01 par value -- 1,000 shares authorized; no shares issued - -
Common stock, $0.01 par value -- 80,000 shares authorized;
20,298 shares issued (20,168 shares at June 30, 2006) 203 202
Capital in excess of par value 194,897 187,991
Retained earnings 88,178 68,382
Accumulated other comprehensive (loss) income (226) 214
Treasury stock, 10,584 shares at cost (10,518 shares at June 30, 2006) (275,720) (272,958)
----------- -----------
Total shareholders' equity (deficit) 7,332 (16,169)
----------- -----------
Total liabilities and shareholders' equity (deficit) $ 514,692 $ 443,028
=========== ===========
The accompanying notes are an integral part of these condensed consolidated financial statements.
1
VERTRUE INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
(in thousands, except per share amounts)
Three months ended Nine months ended
March 31, March 31,
----------------------- -----------------------
2007 2006 2007 2006
---------- ---------- ---------- ----------
Revenues $ 194,405 $ 163,841 $ 550,310 $ 481,499
Expenses:
Marketing 99,983 81,626 273,304 231,795
Operating 42,730 38,038 125,558 108,379
General and administrative 36,248 31,337 99,926 89,318
Amortization of intangible assets 2,316 1,878 6,476 6,511
---------- ---------- ---------- ----------
Operating income 13,128 10,962 45,046 45,496
Interest income 1,837 926 4,765 2,260
Interest expense (5,109) (5,070) (15,350) (15,245)
Other income (expense), net 175 17 670 (147)
---------- ---------- ---------- ----------
Income before income taxes 10,031 6,835 35,131 32,364
Provision for income taxes 5,606 2,694 15,335 11,918
---------- ---------- ---------- ----------
Net income $ 4,425 $ 4,141 $ 19,796 $ 20,446
========== ========== ========== ==========
Earnings per share:
Basic $ 0.46 $ 0.43 $ 2.04 $ 2.11
========== ========== ========== ==========
Diluted $ 0.39 $ 0.38 $ 1.72 $ 1.78
========== ========== ========== ==========
Weighted average common shares used in earnings per share
calculations:
Basic 9,704 9,728 9,683 9,713
========== ========== ========== ==========
Diluted 12,705 12,848 12,715 12,820
========== ========== ========== ==========
The accompanying notes are an integral part of these condensed consolidated financial statements.
2
VERTRUE INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands)
Nine months ended
March 31,
-----------------------
2007 2006
---------- ----------
Operating activities
Net income $ 19,796 $ 20,446
Adjustments to reconcile net income to net cash provided
by operating activities:
Change in deferred revenues (10,859) (12,641)
Change in deferred marketing costs 3,991 9,008
Depreciation and amortization 19,368 19,781
Stock-based compensation 3,461 3,362
Deferred and other income taxes (853) (206)
Excess tax benefit from stock-based compensation (744) (1,457)
Other 762 (639)
Changes in assets and liabilities:
Restricted cash 2,699 (95)
Accounts and notes receivable (17,327) (10,132)
Prepaid expenses 3,958 (1,397)
Other assets 793 (3,052)
Accounts payable (802) (798)
Accrued and other liabilities 9,262 15,383
---------- ----------
Net cash provided by operating activities 33,505 37,563
---------- ----------
Investing activities
Acquisition of fixed assets (8,243) (14,712)
Purchases of short-term investments (52,333) (121,875)
Proceeds from maturities of short-term investments 67,536 106,383
Acquisitions of businesses, net of cash acquired, and other (14,178) (15,092)
---------- ----------
Net cash used in investing activities (7,218) (45,296)
---------- ----------
Financing activities
Net proceeds from issuance of stock 2,702 7,400
Excess tax benefit from stock-based compensation 744 1,457
Treasury stock purchases (2,762) (10,663)
Debt issuance costs (64) (125)
Payments of long-term obligations (423) (519)
---------- ----------
Net cash provided by (used in) financing activities 197 (2,450)
---------- ----------
Effect of exchange rate changes on cash and cash equivalents (498) 531
---------- ----------
Net increase (decrease) in cash and cash equivalents 25,986 (9,652)
Cash and cash equivalents at beginning of period 36,290 64,356
---------- ----------
Cash and cash equivalents at end of period $ 62,276 $ 54,704
========== ==========
The accompanying notes are an integral part of these condensed consolidated financial statements.
3
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - NATURE OF BUSINESS
Vertrue Incorporated is a premier internet direct marketing services company. We
operate a diverse group of marketing businesses that share a unified mission: to
provide every consumer with access to savings and services that improve their
daily lives. Our members and customers have access to direct-to-consumer savings
across our five vertical markets of healthcare, personal property,
security/insurance, discounts, and personals, which are all offered online
through a set of diverse marketing channels. Throughout this report, we refer to
Vertrue Incorporated and its subsidiaries as the "Company", "we", "us", or
"our".
NOTE 2 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America ("GAAP") for interim financial information and include
the accounts of the Company, its wholly owned subsidiaries, and variable
interest entities as required by Financial Accounting Standards Board ("FASB")
Interpretation No. 46R, "Consolidation of Variable Interest Entities - an
Interpretation of ARB No. 51." All significant intercompany accounts and
transactions have been eliminated. Such statements do not include all of the
information and footnotes required by GAAP for complete financial statements. In
the opinion of management, all adjustments (consisting of normal recurring
adjustments) considered necessary for a fair statement have been included. The
year-end condensed consolidated balance sheet data was derived from audited
financial statements, but does not include all disclosures required by GAAP. The
preparation of these condensed consolidated financial statements in conformity
with GAAP requires us to make estimates, judgments, and assumptions that affect
the amounts reported in the financial statements and accompanying notes. Actual
results could differ from those estimates. Operating results for the three and
nine months ended March 31, 2007 are not necessarily indicative of the results
that may be expected for the fiscal year ending June 30, 2007. For further
information, refer to the financial statements and footnotes thereto included in
our Annual Report on Form 10-K for the fiscal year ended June 30, 2006.
Certain prior year amounts have been reclassified to conform to the current
year's presentation. Commencing in the second quarter of fiscal 2007, we began
classifying our acquired website costs, which were previously included in fixed
assets, net, in other long-term assets. Other long-term assets included $5.7
million and $2.9 million of acquired website costs, net at March 31, 2007 and
June 30, 2006, respectively. This reclassification had no impact on results of
operations or previously reported cash flows from operations or financing
activities.
NOTE 3 - MERGER
On March 22, 2007, we entered into a definitive agreement and plan of merger
(the "Merger Agreement") with Velo Holdings Inc., a Delaware corporation, and
Velo Acquisition Inc., a Delaware corporation and a wholly owned subsidiary of
Velo Holdings ("Merger Sub"). Under the terms of the Merger Agreement, Merger
Sub will be merged with and into the Company with the Company continuing as the
surviving corporation and becoming a wholly owned subsidiary of Velo Holdings
(the "Merger"). Velo Holdings is owned and/or backed by the equity commitment of
an investor group consisting of One Equity Partners II, L.P., Oak Investment
Partners XII, L.P., Rho Ventures V, L.P. and Rho Ventures V, Affiliates, L.L.C.
Under the terms of the Merger Agreement, at the effective time of the Merger,
each outstanding share of Vertrue common stock, other than certain specified
shares, will be cancelled and converted into the right to receive $48.50 in cash
without interest. The transaction, including the assumption of debt, is valued
at approximately $800 million. The transaction is expected to be completed in
the first quarter of fiscal 2008, which ends on September 30, 2007, and is
subject to receipt of stockholder and customary regulatory approvals as well as
satisfaction of additional customary closing conditions. Upon completion of the
transaction, Vertrue's executive management team will continue to lead the
Company. Assuming this transaction closes as planned, our stock will no longer
be publicly traded upon the completion of the transaction. More detailed
information regarding the Merger is disclosed in the preliminary proxy statement
for a special meeting of stockholders to vote on the Merger Agreement, which was
filed with the Securities and Exchange Commission on May 1, 2007.
During the first nine months of fiscal 2007, we recorded in general and
administrative expenses $5.3 million related to this proposed merger. If our
stockholders approve the proposed Merger, we expect to incur additional
transaction costs. If we terminate the Merger Agreement or the Merger Agreement
is terminated by Velo Holdings under certain conditions, we may be obligated to
pay Velo Holdings a termination fee of $22.5 million. If the Merger Agreement is
terminated due to the failure to obtain stockholder approval, we may be
obligated to reimburse up to $4.0 million of Velo Holdings' documented
reasonable and actual out-of-pocket expenses.
4
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 4 - ACCOUNTS AND NOTES RECEIVABLE
Accounts and notes receivable, net were composed of the following:
March 31, June 30,
2007 2006
--------- ---------
Accounts receivable 22.8 14.0
Notes receivable 17.2 8.6
--------- ---------
40.0 22.6
Allowance for uncollectible notes receivable (4.5) (1.6)
--------- ---------
Accounts and notes receivable, net 35.5 21.0
========= =========
Other long-term assets included notes receivable, net as follows:
March 31, June 30,
2007 2006
--------- ---------
Notes receivable 23.9 12.1
Allowance for uncollectible notes receivable (6.7) (2.2)
--------- ---------
Notes receivable, net 17.2 9.9
========= =========
5
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 5 - GOODWILL AND OTHER INTANGIBLE ASSETS
The gross carrying value and accumulated amortization of goodwill and other
intangible assets are as follows:
March 31, 2007 June 30, 2006
---------------------- -----------------------
Gross Gross
Carrying Accumulated Carrying Accumulated
(Dollar amounts in thousands) Amount Amortization Amount Amortization
---------- ------------ ---------- ------------
Membership and client relationships $ 44,559 $ 27,094 $ 40,215 $ 21,881
Trade names 24,884 4,253 21,859 3,114
Other 2,438 1,572 1,504 1,448
---------- ------------ ---------- ------------
Total amortizable intangible assets $ 71,881 $ 32,919 $ 63,578 $ 26,443
---------- ------------ ---------- ------------
Amortizable intangible assets, net 38,962 $ 37,135
========== ==========
March 31, June 30,
(Dollar amounts in thousands) 2007 2006
---------- ----------
Goodwill $ 260,336 $ 212,187
Intangible asset related to minimum pension liability 663 663
Future intangible amortization expense for the next five years is estimated to
be as follows:
(Dollar amounts in thousands)
Fiscal Year
Remainder of 2007 $ 1,761
2008 6,007
2009 5,499
2010 4,272
2011 4,066
Changes in the carrying amount of goodwill by segment during the nine months
ended March 31, 2007 were as follows:
Marketing Management
(Dollar amounts in thousands) Services Personals Services Total
---------- ---------- ---------- -----------
Balance at beginning of period $ 96,432 $ 81,508 $ 34,247 $ 212,187
Acquisition - 2,874 - 2,874
Accrual of contingent purchase price payments - - 45,275 45,275
---------- ---------- ---------- -----------
Balance at end of period $ 96,432 $ 84,382 $ 79,522 $ 260,336
========== ========== ========== ===========
We acquired Mobile Lifestyles, Inc., an online provider of a variety of text
alerts (i.e. daily horoscopes, jokes and relationship advice) and unlimited
ringtones during the first quarter of fiscal 2007. In connection with this
acquisition, we recorded goodwill of $2.9 million and intangible assets of $1.3
million. The net assets and results of operations of Mobile Lifestyles have been
included in our Personals segment as of the date of the acquisition.
Additionally, we acquired Neverblue Media Inc., a private Canadian online
affiliate marketing company during the third quarter of fiscal 2007. In
connection with the acquisition, we recorded intangible assets of $7.0 million.
The estimated fair value of the assets acquired and liabilities assumed exceeded
the initial payments by $3.9 million resulting in negative goodwill. Because
this acquisition involved contingent consideration, we recorded a liability up
to the amount of negative goodwill. If contingent payments are earned and come
due, we will apply the payments against this contingent liability. Any
contingent payments in excess of $3.9 million will be recorded as goodwill. To
the extent contingent payments are not made, we will reduce the basis of certain
acquired assets and any remaining negative goodwill will be charged to our
results of operations as an extraordinary gain.
6
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
As of March 31, 2007, we recorded $45.3 million in accrued liabilities related
to contingent payments, which were disclosed in previous quarterly filings, in
connection with our acquisition of My Choice Medical, Inc., which we acquired in
fiscal 2005. In April 2007, we paid $39.8 million in contingent payments related
to this acquisition. The remaining accrued contingent payment of $5.5 million is
expected to be paid in the fourth quarter of fiscal 2008.
NOTE 6 - ALLOWANCE FOR MEMBERSHIP CANCELLATIONS
Accrued liabilities reported in the accompanying unaudited condensed
consolidated balance sheets as of March 31, 2007 and June 30, 2006 included an
allowance for membership cancellations of $7.8 million and $9.3 million,
respectively.
NOTE 7 - COMMITMENTS AND CONTINGENCIES
We have an amended and restated senior secured credit facility dated as of March
17, 2006, which allows borrowings of up to $50.0 million. Borrowings under this
senior secured credit facility accrue interest at the Eurodollar rate or Prime
rate, plus an applicable margin. There were no borrowings outstanding under this
senior secured credit facility as of March 31, 2007. This credit facility
matures on March 31, 2009.
In April 2007, we paid $39.8 million in contingent payment related to the
acquisition of My Choice Medical. Payments under the contingency arrangements
will be considered additional purchase price. Remaining payments related to
acquisitions of up to $41.7 million may be paid if certain performance targets,
including increasing levels of revenues and earnings, are achieved. These
contingent payments may be paid over the next two fiscal years.
As of March 31, 2007, we had outstanding purchase obligations of $4.2 million
primarily related to marketing agreements and contracts for our software,
equipment, and services. In addition, we had commitments of $54.0 million
related to existing operating leases.
Legal proceedings
In our opinion, there are no significant legal proceedings to which we or any of
our subsidiaries are a party or to, which any of our properties is subject. We
are involved in lawsuits and claims generally incidental to our business,
including, but not limited to, various suits, including previously disclosed
suits, brought against us by individual consumers seeking monetary and/or
injunctive relief relating to the marketing of our programs. In addition, from
time to time in the regular course of our business, we receive inquiries from
various federal and/or state regulatory authorities.
NOTE 8 - INCOME TAX EXPENSE
Income tax expense as a percentage of pre-tax income was 55.9% and 39.4% for the
three months ended March 31, 2007 and 2006, respectively, and 43.7% and 36.8%
for the nine months ended March 31, 2007 and 2006, respectively. The effective
tax rate was higher than the U.S. statutory rate for the three and nine months
ended March 31, 2007, primarily due to non-deductible transaction costs related
to the proposed merger and state income tax expense partially offset by the
favorable impact of foreign operations. The effective tax rate was higher than
the U.S. statutory rate for the three and nine months ended March 31, 2006,
primarily due to non-deductible items and state income tax expense partially
offset by the favorable impact of foreign operations.
We are currently under examination by the Internal Revenue Service for the
fiscal year ended June 30, 2005. The examination is currently in the process of
being finalized. As a result of preliminary discussions, we believe the final
assessment of the 2005 Internal Revenue Service examination will not have a
material effect on our results of operations, financial position, or cash flow.
We are also currently in the initial stages of examination by Canadian and
certain U.S. State jurisdictions. In addition, there are tax years that are not
currently under examination by the applicable tax authorities but are subject to
examination. The results of audits are inherently uncertain. We periodically
evaluate the adequacy of our tax reserves, taking into account open tax return
positions and tax law changes. We believe that out tax reserves are appropriate.
However, the final determination of tax audits could have a material effect on
our results of operations, financial position, and cash flow.
7
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 9 - EARNINGS PER SHARE
The table below reconciles the numerators and denominators used in the
computations of basic and diluted earnings per share:
Three months ended Nine months ended
March 31, March 31,
-------------------- --------------------
(Amounts in thousands, except per share data) 2007 2006 2007 2006
--------- --------- --------- ---------
Numerator:
Income available to common shareholders used in basic earnings per share $ 4,425 $ 4,141 $ 19,796 $ 20,446
Add back interest expense on convertible securities, net of tax 546 750 2,090 2,346
--------- --------- --------- ---------
Income available to common shareholders after assumed conversion
of dilutive securities $ 4,971 $ 4,891 $ 21,886 $ 22,792
========= ========= ========= =========
Denominator:
Weighted average number of common shares outstanding - basic 9,704 9,728 9,683 9,713
Effect of dilutive securities:
Convertible securities 2,230 2,230 2,230 2,230
Stock options and restricted stock awards 771 890 802 877
--------- --------- --------- ---------
Weighted average number of common shares outstanding - diluted 12,705 12,848 12,715 12,820
========= ========= ========= =========
Basic earnings per share $ 0.46 $ 0.43 $ 2.04 $ 2.11
========= ========= ========= =========
Diluted earnings per share $ 0.39 $ 0.38 $ 1.72 $ 1.78
========= ========= ========= =========
The diluted earnings per common share calculations exclude the effect of
potentially dilutive shares when their effect is antidilutive. The following
weighted average stock options were excluded from the diluted share calculation
above:
Three months ended Nine months ended
March 31, March 31,
-------------------- --------------------
(Shares in thousands) 2007 2006 2007 2006
--------- --------- --------- ---------
Antidilutive stock options 281 342 482 377
NOTE 10 - COMPREHENSIVE INCOME
The components of comprehensive income are as follows:
Three months ended Nine months ended
March 31, March 31,
-------------------- --------------------
(Dollar amounts in thousands) 2007 2006 2007 2006
--------- --------- --------- ---------
Net income $ 4,425 $ 4,141 $ 19,796 $ 20,446
Unrealized hedging gain (loss) 109 (250) 78 (136)
Currency translation adjustment 7 75 (518) 486
--------- --------- --------- ---------
Comprehensive income $ 4,541 $ 3,966 $ 19,356 $ 20,796
========= ========= ========= =========
8
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 11- RELATED PARTY
In fiscal 2007, we engaged Jefferies Broadview, a division of Jefferies & Co, as
our financial advisor related to our proposed merger with Velo Holdings Inc. and
Velo Acquisition Inc. Jefferies Broadview provided a fairness opinion related to
this transaction to the Special Committee of our board of directors. Mr.
Ellison, one of our board members, is the President and a Managing Director of
Broadview International LLC, a division of Jefferies & Co. As of March 31, 2007,
we incurred fees of $2.0 million with Jefferies Broadview, which were paid in
April 2007.
NOTE 12- BUSINESS SEGMENTS
The operating business segments reported below are our reportable business
segments for which separate financial information is available and for which
operating results are evaluated regularly by our executive management in
assessing performance and deciding how to allocate capital and other resources.
We have three reportable business segments: Marketing Services, Personals, and
Management Services. The Marketing Services business segment primarily provides
discounted products and services to consumers and generates recurring,
membership-based revenue. The Personals business segment provides web, phone,
and mobile-based personals services and primarily generates transaction-based
revenue. The Management Services business segment provides advertising and
practice management services to healthcare professionals throughout the United
States. The Corporate business unit includes unallocated general corporate
expenses.
Management evaluates the operating results of each reportable business segment
based on revenue and Adjusted EBITDA. The following is a summary of revenues,
Adjusted EBITDA, capital expenditures, depreciation and amortization, and assets
by business segment:
Three months ended March 31, 2007 Three months ended March 31, 2006
------------------------------------------- -----------------------------------------
Revenues from Revenues from
External Intersegment External Intersegment
(Dollar amounts in thousands) Customers Revenues Total Revenues Customers Revenues Total Revenues
------------- ------------ -------------- ------------- ------------ --------------
Marketing Services $ 154,678 $ 1,026 $ 155,704 $ 132,453 $ - $ 132,453
Personals 23,433 22 23,455 18,339 45 18,384
Management Services 16,294 - 16,294 13,049 - 13,049
Eliminations - (1,048) (1,048) - (45) (45)
------------- ------------ -------------- ------------- ------------ --------------
Total Revenues $ 194,405 $ - $ 194,405 $ 163,841 $ - $ 163,841
============= ============ ============== ============= ============ ==============
Nine months ended March 31, 2007 Nine months ended March 31, 2006
------------------------------------------- -----------------------------------------
Revenues from Revenues from
External Intersegment External Intersegment
Customers Revenues Total Revenues Customers Revenues Total Revenues
------------- ------------ -------------- ------------- ------------ --------------
Marketing Services 438,134 1,692 $ 439,826 398,780 - 398,780
Personals 69,912 81 69,993 55,432 185 55,617
Management Services 42,264 - 42,264 27,287 - 27,287
Eliminations - (1,773) (1,773) - (185) (185)
------------- ------------ -------------- ------------- ------------ --------------
Total Revenues $ 550,310 $ - $ 550,310 $ 481,499 $ - $ 481,499
============= ============ ============== ============= ============ ==============
9
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
Three months ended Nine months ended
March 31, March 31,
---------------------- ---------------------
(Dollar amounts in thousands) 2007 2006 2007 2006
---------- ---------- ---------- ----------
Adjusted EBITDA (1)
Marketing Services $ 26,583 $ 19,502 $ 70,928 $ 69,329
Personals 4,480 3,766 9,443 7,828
Management Services 1,339 2,948 3,989 3,869
Corporate (11,957) (7,777) (27,707) (20,233)
---------- ---------- ---------- ----------
Total $ 20,445 $ 18,439 $ 56,653 $ 60,793
========== ========== ========== ==========
Capital Expenditures (2)
Marketing Services $ 2,415 $ 7,883 $ 6,983 $ 13,863
Personals 298 247 966 729
Management Services 34 64 294 120
---------- ---------- ---------- ----------
Total $ 2,747 $ 8,194 $ 8,243 $ 14,712
========== ========== ========== ==========
Depreciation and Amortization
Marketing Services $ 3,011 $ 2,929 $ 8,614 $ 9,277
Personals 2,468 2,860 7,370 7,611
Management Services 667 409 1,971 1,214
Corporate 178 272 520 828
---------- ---------- ---------- ----------
Total $ 6,324 $ 6,470 $ 18,475 $ 18,930
========== ========== ========== ==========
March 31, June 30,
Assets 2007 2006
---------- ----------
Marketing Services $ 235,115 $ 214,083
Personals 127,827 124,571
Management Services 123,947 62,730
Corporate (3) 27,803 41,644
---------- ----------
Total $ 514,692 $ 443,028
========== ==========
(1) Defined as net income excluding interest and other expense, net, provision
for income taxes, depreciation and amortization and the changes in deferred
revenue and deferred marketing costs. See reconciliations below.
(2) Management does not allocate capital expenditures to the Corporate business
unit. Capital expenditures related to the Corporate business unit are
included within the Marketing Services segment. However, the associated
depreciation expense has been allocated for purposes of evaluating
performance.
(3) Includes unallocated non-operating assets including short-term investments,
debt issuance costs, and other.
10
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
The following tables reconcile Adjusted EBITDA to income before income taxes:
Three months ended March 31, 2007
--------------------------------------------------------
Marketing Management
(Dollar amounts in thousands) Total Services Personals Services Corporate
---------- ---------- ----------- ---------- -----------
Income before income taxes $ 10,031
Interest and other expense, net (1) 3,097
----------
Operating income (expense) $ 13,128 $ 24,533 $ 1,880 $ (1,150) $ (12,135)
Depreciation and amortization 6,324 3,011 2,468 667 178
Change in deferred revenues (1,958) (3,701) (79) 1,822 -
Change in deferred marketing costs 2,951 2,740 211 - -
---------- ---------- ----------- ---------- -----------
Adjusted EBITDA $ 20,445 $ 26,583 $ 4,480 $ 1,339 $ (11,957)
========== ========== =========== ========== ===========
Three months ended March 31, 2006
--------------------------------------------------------
Marketing Management
Total Services Personals Services Corporate
---------- ---------- ----------- ---------- -----------
Income before income taxes $ 6,835
Interest and other expense, net (1) 4,127
----------
Operating income (expense) $ 10,962 $ 16,418 $ 866 $ 1,727 $ (8,049)
Depreciation and amortization 6,470 2,929 2,860 409 272
Change in deferred revenues (2,030) (2,882) 40 812 -
Change in deferred marketing costs 3,037 3,037 - - -
---------- ---------- ----------- ---------- -----------
Adjusted EBITDA $ 18,439 $ 19,502 $ 3,766 $ 2,948 $ (7,777)
========== ========== =========== ========== ===========
Nine months ended March 31, 2007
--------------------------------------------------------
Marketing Management
Total Services Personals Services Corporate
---------- ---------- ----------- ---------- -----------
Income before income taxes $ 35,131
Interest and other expense, net (1) 9,915
----------
Operating income (expense) $ 45,046 $ 69,791 $ 2,720 $ 762 $ (28,227)
Depreciation and amortization 18,475 8,614 7,370 1,971 520
Change in deferred revenues (10,859) (11,696) (419) 1,256 -
Change in deferred marketing costs 3,991 4,219 (228) - -
---------- ---------- ----------- ---------- -----------
Adjusted EBITDA $ 56,653 $ 70,928 $ 9,443 $ 3,989 $ (27,707)
========== ========== =========== ========== ===========
Nine months ended March 31, 2006
--------------------------------------------------------
Marketing Management
Total Services Personals Services Corporate
---------- ---------- ----------- ---------- -----------
Income before income taxes $ 32,364
Interest and other expense, net (1) 13,132
----------
Operating income (expense) $ 45,496 $ 64,110 $ 262 $ 2,185 $ (21,061)
Depreciation and amortization 18,930 9,277 7,611 1,214 828
Change in deferred revenues (12,641) (13,066) (45) 470 -
Change in deferred marketing costs 9,008 9,008 - - -
---------- ---------- ----------- ---------- -----------
Adjusted EBITDA $ 60,793 $ 69,329 $ 7,828 $ 3,869 $ (20,233)
========== ========== =========== ========== ===========
(1) Management does not allocate interest and other expense, net to the
individual segments.
11
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 13- GUARANTOR FINANCIAL INFORMATION
In April 2004, we issued $150.0 million aggregate principal amount of 9.25%
Senior Notes due 2014. The Senior Notes are unsecured obligations and rank pari
passu in right of payment to all our existing and future senior unsecured
indebtedness and senior in right of payment to all of our existing and future
subordinated indebtedness that expressly provide for their subordination to the
Senior Notes. Effective April 28, 2006, the Senior Notes are fully and
unconditionally guaranteed by substantially all of our subsidiaries that
guarantee our Credit Facility (as defined in the Indenture governing the Senior
Notes). All prior periods have been restated to conform to this presentation.
The following condensed consolidating financial information presents the balance
sheets as of March 31, 2007 and June 30, 2006, statements of operations for the
three and nine months ended March 31, 2007 and 2006, and statements of cash
flows for the nine months ended March 31, 2007 and 2006. The information
includes the elimination entries necessary to consolidate the Company ("Parent")
with the guarantor entities.
Investments in subsidiaries are accounted for by the Parent using the equity
method of accounting. The principal elimination entries eliminate investments in
subsidiaries and intercompany balances and transactions.
Condensed Consolidating Balance Sheets at March 31, 2007
Guarantor
(Dollar amounts in thousands) Parent Subsidiaries Eliminations Total
----------- ------------ ------------ -----------
Assets
Current assets $ 64,328 $ 134,415 $ (51,993) $ 146,750
Fixed assets, net 21,006 14,975 - 35,981
Goodwill - 260,336 - 260,336
Intangible assets, net 663 38,962 - 39,625
Other long-term assets 9,002 22,998 - 32,000
Investment in subsidiaries 374,803 - (374,803) -
----------- ------------ ------------ -----------
Total assets $ 469,802 $ 471,686 $ (426,796) $ 514,692
=========== ============ ============ ===========
Liabilities and Shareholders' Equity (Deficit)
Current liabilities $ 217,868 $ 89,383 $ (51,993) $ 255,258
Deferred income taxes (2,243) 6,467 - 4,224
Long-term debt 238,121 - - 238,121
Other long-term liabilities 8,724 1,033 - 9,757
----------- ------------ ------------ -----------
Total liabilities 462,470 96,883 (51,993) 507,360
----------- ------------ ------------ -----------
Shareholders' equity (deficit):
Preferred stock - - - -
Common stock 203 3 (3) 203
Capital in excess of par value 194,897 327,821 (327,821) 194,897
Retained earnings 88,178 47,156 (47,156) 88,178
Accumulated other comprehensive (loss) income (226) (177) 177 (226)
Treasury stock (275,720) - - (275,720)
----------- ------------ ------------ -----------
Total shareholders' equity (deficit) 7,332 374,803 (374,803) 7,332
----------- ------------ ------------ -----------
Total liabilities and shareholders' equity (deficit) $ 469,802 $ 471,686 $ (426,796) $ 514,692
=========== ============ ============ ===========
12
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
Condensed Consolidating Balance Sheets at June 30, 2006
Guarantor
(Dollar amounts in thousands) Parent Subsidiaries Eliminations Total
----------- ------------ ------------ -----------
Assets
Current assets $ 37,724 115,844 $ (21,545) $ 132,023
Fixed assets, net 22,403 15,255 - 37,658
Goodwill - 212,187 - 212,187
Intangible assets, net 675 37,123 - 37,798
Other long-term assets 10,334 13,028 - 23,362
Investment in subsidiaries 308,919 - (308,919) -
----------- ------------ ------------ -----------
Total assets $ 380,055 $ 393,437 $ (330,464) $ 443,028
=========== ============ ============ ===========
Liabilities and Shareholders' (Deficit) Equity
Current liabilities $ 149,958 $ 75,891 $ (21,545) $ 204,304
Deferred income taxes (318) 7,238 - 6,920
Long-term debt 237,984 - - 237,984
Other long-term liabilities 8,600 1,389 - 9,989
----------- ------------ ------------ -----------
Total liabilities 396,224 84,518 (21,545) 459,197
----------- ------------ ------------ -----------
Shareholders' (deficit) equity:
Common stock 202 9 (9) 202
Capital in excess of par value 187,991 278,751 (278,751) 187,991
Retained earnings 68,382 29,890 (29,890) 68,382
Accumulated other comprehensive income 214 269 (269) 214
Treasury stock (272,958) - - (272,958)
----------- ------------ ------------ -----------
Total shareholders' (deficit) equity (16,169) 308,919 (308,919) (16,169)
----------- ------------ ------------ -----------
Total liabilities and shareholders' (deficit) equity $ 380,055 $ 393,437 $ (330,464) $ 443,028
=========== ============ ============ ===========
13
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
Condensed Consolidating Statements of Operations for the Three Months Ended March 31, 2007
Guarantor
(Dollar amounts in thousands) Parent Subsidiaries Eliminations Total
----------- ------------ ------------ -----------
Revenues $ 107,461 $ 93,731 $ (6,787) $ 194,405
Expenses:
Marketing 62,013 44,753 (6,783) 99,983
Operating 17,086 25,648 (4) 42,730
General and administrative 23,932 12,316 - 36,248
Amortization of intangible assets - 2,316 - 2,316
----------- ------------ ------------ -----------
Operating income 4,430 8,698 - 13,128
Equity in income of subsidiaries 5,977 - (5,977) -
Interest (expense) income, net (4,864) 1,592 - (3,272)
Other income, net 29 146 - 175
----------- ------------ ------------ -----------
Income before income taxes 5,572 10,436 (5,977) 10,031
Provision for income taxes 1,147 4,459 - 5,606
----------- ------------ ------------ -----------
Net income $ 4,425 $ 5,977 $ (5,977) $ 4,425
=========== ============ ============ ===========
Condensed Consolidating Statements of Operations For the Three Months Ended March 31, 2006
Guarantor
(Dollar amounts in thousands) Parent Subsidiaries Eliminations Total
----------- ------------ ------------ -----------
Revenues $ 96,123 $ 73,814 $ (6,096) $ 163,841
Expenses:
Marketing 56,496 31,155 (6,025) 81,626
Operating 16,658 21,451 (71) 38,038
General and administrative 20,320 11,017 - 31,337
Amortization of intangible assets 9 1,869 - 1,878
----------- ------------ ------------ -----------
Operating income 2,640 8,322 - 10,962
Equity in income of subsidiaries 5,152 - (5,152) -
Interest (expense) income, net (4,618) 474 - (4,144)
Other (expense) income, net (17) 34 - 17
----------- ------------ ------------ -----------
Income before income taxes 3,157 8,830 (5,152) 6,835
Provision for income taxes (984) 3,678 - 2,694
----------- ------------ ------------ -----------
Net income $ 4,141 $ 5,152 $ (5,152) 4,141
=========== ============ ============ ===========
14
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
Condensed Consolidating Statements of Operations for the Nine Months Ended March 31, 2007
Guarantor
(Dollar amounts in thousands) Parent Subsidiaries Eliminations Total
----------- ------------ ------------ -----------
Revenues $ 308,125 $ 258,307 $ (16,122) $ 550,310
Expenses:
Marketing 170,810 118,604 (16,110) 273,304
Operating 53,120 72,450 (12) 125,558
General and administrative 62,567 37,359 - 99,926
Amortization of intangible assets 13 6,463 - 6,476
----------- ------------ ------------ -----------
Operating income 21,615 23,431 - 45,046
Equity in income of subsidiaries 17,266 - (17,266) -
Interest expense, net (14,920) 4,335 - (10,585)
Other (expense) income, net (5) 675 - 670
----------- ------------ ------------ -----------
Income before income taxes 23,956 28,441 (17,266) 35,131
Provision for income taxes 4,160 11,175 - 15,335
----------- ------------ ------------ -----------
Net income $ 19,796 $ 17,266 $ (17,266) $ 19,796
=========== ============ ============ ===========
Condensed Consolidating Statements of Operations for the Nine Months Ended March 31, 2006
Guarantor
(Dollar amounts in thousands) Parent Subsidiaries Eliminations Total
----------- ------------ ------------ -----------
Revenues $ 289,896 $ 207,413 $ (15,810) $ 481,499
Expenses:
Marketing 160,277 86,621 (15,103) 231,795
Operating 50,713 58,373 (707) 108,379
General and administrative 54,603 34,715 - 89,318
Amortization of intangible assets 94 6,417 - 6,511
----------- ------------ ------------ -----------
Operating income 24,209 21,287 - 45,496
Equity in income of subsidiaries 13,699 - (13,699) -
Interest (expense) income, net (14,121) 1,136 - (12,985)
Other expense, net (7) (140) - (147)
----------- ------------ ------------ -----------
Income before income taxes 23,780 22,283 (13,699) 32,364
Provision for income taxes 3,334 8,584 - 11,918
----------- ------------ ------------ -----------
Net income $ 20,446 $ 13,699 $ (13,699) $ 20,446
=========== ============ ============ ===========
15
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
Condensed Consolidating Statements of Cash Flows for the Nine Months Ended March 31, 2007
Guarantor
(Dollar amounts in thousands) Parent Subsidiaries Eliminations Total
---------- ------------ ------------- ----------
Net cash provided by (used in) operating activities $ 27,114 $ 23,658 $ (17,266) $ 33,505
Investing activities
Acquisition of fixed assets (4,732) (3,511) - (8,243)
Purchases of short-term investments (52,315) (18) - (52,333)
Proceeds from maturities of short-term investments 67,536 - - 67,536
Acquisitions of businesses, net of cash acquired, and other (4,106) (10,072) - (14,178)
Investment in subsidiaries (17,266) - 17,266 -
---------- ------------ ------------- ----------
Net cash (used in) provided by investing activities (10,883) (13,601) 17,266 (7,218)
---------- ------------ ------------- ----------
Financing activities
Net proceeds from issuance of stock 2,702 - - 2,702
Excess tax benefit from stock-based compensation 744 - - 744
Treasury stock purchases (2,762) - - (2,762)
Debt issuance costs (64) - - (64)
Payments of long-term obligations (276) (147) - (423)
---------- ------------ ------------- ----------
Net cash provided by (used) in financing activities 344 (147) - 197
---------- ------------ ------------- ----------
Effect of exchange rate changes on cash and cash equivalents - (498) - (498)
---------- ------------ ------------- ----------
Net increase in cash and cash equivalents 16,574 9,412 - 25,986
Cash and cash equivalents at beginning of period 6,908 29,382 - 36,290
---------- ------------ ------------- ----------
Cash and cash equivalents at end of period $ 23,482 $ 38,794 $ - $ 62,276
========== ============ ============= ==========
16
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
Condensed Consolidating Statements of Cash Flows for the Nine Months Ended March 31, 2006
Guarantor
(Dollar amounts in thousands) Parent Subsidiaries Eliminations Total
----------- ------------ ------------ ------------
Net cash provided by (used in) operating activities $ 58,302 $ (7,040) $ (13,699) $ 37,563
Investing activities
Acquisition of fixed assets (10,046) (4,666) - (14,712)
Purchases of short-term investments (121,875) - - (121,875)
Proceeds from maturities of short-term investments 105,764 619 - 106,383
Acquisitions of businesses, net of cash acquired, and other (14,867) (225) - (15,092)
Investment in subsidiaries (13,699) - 13,699 -
----------- ------------ ------------ ------------
Net cash used in investing activities (54,723) (4,272) 13,699 (45,296)
----------- ------------ ------------ ------------
Financing activities
Net proceeds from issuance of stock 7,400 - - 7,400
Excess tax benefit from stock-based compensation 1,457 - - 1,457
Treasury stock purchases (10,663) - - (10,663)
Debt issuance costs (125) - - (125)
Payments of long-term obligations (293) (226) - (519)
----------- ------------ ------------ ------------
Net cash used in financing activities (2,224) (226) - (2,450)
----------- ------------ ------------ ------------
Effect of exchange rate changes on cash and cash equivalents - 531 - 531
----------- ------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents 1,355 (11,007) - (9,652)
Cash and cash equivalents at beginning of period 24,366 39,990 - 64,356
----------- ------------ ------------ ------------
Cash and cash equivalents at end of period $ 25,721 28,983 $ - $ 54,704
=========== ============ ============ ============
17
VERTRUE INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 14- NEW ACCOUNTING PRONOUNCEMENTS
In February 2007, the FASB issued Statement of Financial Accounting Standards
("SFAS") No. 159, "The Fair Value Option for Financial Assets and Financial
Liabilities - Including an Amendment of FASB Statement No. 115" ("SFAS 159").
SFAS 159 permits entities to choose to measure certain financial instruments at
fair value. The fair value option permits entities to choose to measure eligible
items at fair value at specified election dates. Unrealized gains and losses on
items for which the fair value option has been elected would be recognized in
earnings at each subsequent reporting date. Generally, the fair value option may
be applied instrument by instrument and is irrevocable unless a new election
date occurs. SFAS 159 will become effective for us beginning in fiscal 2009,
with earlier adoption permitted as of the beginning of fiscal 2008, provided
that we elect to apply the provisions of SFAS 157. We are currently evaluating
the impact that SFAS 159 will have on our consolidated financial statements.
In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans--an amendment of FASB
Statements No. 87, 88, 106, and 132(R)" ("SFAS 158"). SFAS 158 requires an
employer to recognize the over-funded or under-funded status of a defined
benefit postretirement plan (other than a multiemployer plan) as an asset or
liability in its statement of financial position and to recognize changes in
that funded status in the year in which the changes occur through comprehensive
income. SFAS 158 also requires the measurement of defined benefit plan assets
and obligations as of the date of the employer's fiscal year-end (with limited
exceptions). Under SFAS 158, we are required to recognize the funded status of
our defined benefit postretirement plan and to provide the required disclosures
as of the end of fiscal 2007. We do not expect the adoption of SFAS 158 to have
a material effect on our consolidated financial statements.
In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements"
("SFAS 157"). SFAS 157 defines fair value, establishes a framework for measuring
fair value under GAAP, and expands disclosures about fair value measurements.
SFAS 157 emphasizes that fair value is a market-based measurement, not an
entity-specific measurement, and states that a fair value measurement should be
determined based on the assumptions that market participants would use in
pricing the asset or liability. SFAS 157 will become effective for us beginning
in fiscal 2009. We are currently evaluating the impact that SFAS 157 will have
on our consolidated financial statements.
In September 2006, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 108, "Considering the Effects of Prior Year
Misstatements when Quantifying Misstatements in Current Year Financial
Statements" ("SAB 108"). SAB 108 requires entities to quantify misstatements
using both balance sheet and income statement approaches in evaluating whether
or not a misstatement is material. We are required to apply the provisions of
SAB 108 in connection with the preparation of our annual financial statements
for our fiscal year ended June 30, 2007. We do not expect the adoption of SAB
108 to have a material effect on our consolidated financial statements.
In July 2006, the FASB issued Financial Interpretation No. 48, "Accounting for
Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109" ("FIN
48"). This interpretation clarifies the accounting for uncertainty in tax
positions and requires an entity to recognize in its financial statements the
impact of a tax position, if that position is more likely than not of being
sustained on audit, based on the technical merits of the position. The
provisions of FIN 48 are effective beginning in our first quarter of fiscal year
2008. We are currently evaluating the impact of FIN 48 on our consolidated
financial statements.
18
VERTRUE INCORPORATED
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
Vertrue Incorporated is a premier internet direct marketing services company. We
operate a diverse group of marketing businesses that share a unified mission: to
provide every consumer with access to savings and services that improve their
daily lives. Our members and customers have access to direct-to-consumer savings
across our five vertical markets of healthcare, personal property,
security/insurance, discounts, and personals, which are all offered online
through a set of diverse marketing channels. Throughout this report, we refer to
Vertrue Incorporated and its subsidiaries as the "Company", "we", "us", or
"our". We have three reportable business segments: Marketing Services,
Personals, and Management Services.
The Marketing Services business segment primarily provides discounted products
and services to consumers and generates recurring, membership-based revenue. The
Marketing Services segment offers consumers a variety of products and services
from selected vendors and service providers on a monthly or annual subscription
basis or on a fee for service basis. Revenues are derived principally from
recurring fees which are billed to the member on either a monthly or annual
basis. In the case of annually billed membership fees, we receive full payment
at or near the beginning of the membership period, but recognize the revenues as
the member's refund privilege expires. Membership fees that are billed monthly
are recognized when earned. Revenues derived from one-time fees are recognized
when the service is performed. During the third quarter of fiscal 2007, we
acquired Neverblue Media Inc., ("Neverblue") a private Canadian online affiliate
marketing company. The net assets and results of operations of Neverblue have
been included in our Marketing Services segment as of the date of the
acquisition.
The Personals business segment provides web, phone, and mobile-based personals
services and primarily generates transaction-based revenue. The Personals
segment primarily employs a transactional business model in which users buy
non-refundable credits up front and spend those credits only when they want to
interact with other customers. Personals revenues are recognized when the
services are used. During the first quarter of fiscal 2007, we acquired Mobile
Lifestyles, Inc., an online provider of a variety of text alerts (i.e. daily
horoscopes, jokes and relationship advice) and unlimited ringtones. The net
assets and results of operations of Mobile Lifestyles have been included in our
Personals segment as of the date of the acquisition.
The Management Services business segment provides advertising and practice
management services to healthcare professionals throughout the United States.
Our consultants assist consumers with locating nearby board certified
physicians, schedule initial consultations, offer discounted fee schedules, and
provide financing, if needed. Management Services revenues are recognized when
the medical procedures performed by the healthcare professionals are complete.
The following discussion should be read in conjunction with Item 7,
"Management's Discussion & Analysis of Financial Condition and Results of
Operations" in our Annual Report on Form 10-K for the year ended June 30, 2006,
which describes, among other things, our critical accounting policies.
Adjusted EBITDA and EBITDA are used by our management to evaluate the
performance of our business. Management evaluates the operating results of each
reportable business segment based on Adjusted EBITDA. A discussion of Adjusted
EBITDA can be found in "Liquidity and Capital Resources" in this report. A
description and reconciliation of net income to EBITDA and Adjusted EBITDA are
disclosed in "Reconciliation of Non-GAAP Measures" in this report.
19
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
DISCUSSION OF RESULTS OF OPERATIONS
Three months ended Nine months ended
March 31, March 31,
------------------ Increase/ ------------------ Increase/
(Dollar amounts in millions) 2007 2006 (Decrease) 2007 2006 (Decrease)
-------- -------- ---------- -------- -------- ----------
Revenues $ 194.4 $ 163.8 19% $ 550.3 $ 481.5 14%
Marketing expenses 100.0 81.6 23% 273.3 231.8 18%
Operating expenses 42.8 38.0 13% 125.6 108.4 16%
General and administrative expenses 36.2 31.3 16% 99.9 89.3 12%
Amortization of intangible assets 2.3 1.9 21% 6.5 6.5 0%
-------- -------- ---------- -------- -------- ----------
Operating income 13.1 11.0 19% 45.0 45.5 (1%)
Interest income 1.8 0.9 100% 4.8 2.3 109%
Interest expense (5.1) (5.1) 0% (15.4) (15.3) (1%)
Other income (expense), net 0.2 - 0% 0.7 (0.2) 450%
-------- -------- ---------- -------- -------- ----------
Income before income taxes 10.0 6.8 47% 35.1 32.3 9%
Provision for income taxes 5.6 2.7 107% 15.3 11.9 29%
-------- -------- ---------- -------- -------- ----------
Net income $ 4.4 $ 4.1 7% $ 19.8 $ 20.4 (3%)
======== ======== ========== ======== ======== ==========
EBITDA $ 19.4 $ 17.4 11% $ 63.5 $ 64.4 (1%)
======== ======== ========== ======== ======== ==========
Three months ended Nine months ended
March 31, March 31,
------------------ ------------------
Percentage of revenues: 2007 2006 2007 2006
-------- -------- -------- --------
Marketing expenses 51% 50% 50% 48%
Operating expenses 22% 23% 23% 23%
General and administrative expenses 19% 19% 18% 19%
Operating income 7% 7% 8% 9%
EBITDA 10% 11% 12% 13%
Effective tax rate 55.9% 39.4% 43.7% 36.8%
20
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Revenues
The table below shows revenue by payment plan and by reportable segment:
Three months ended Nine months ended
March 31, March 31,
------------------ Increase/ ------------------ Increase/
(Dollar amounts in millions) 2007 2006 (Decrease) 2007 2006 (Decrease)
-------- -------- ---------- -------- -------- ----------
Monthly payment plans $ 118.4 $ 89.0 33% $ 328.9 $ 258.7 27%
Annual payment plans 22.4 34.4 (35%) 77.5 113.1 (31%)
Other 14.9 9.1 64% 33.4 27.0 24%
-------- -------- ---------- -------- -------- ----------
Total Marketing Services 155.7 132.5 18% 439.8 398.8 10%
Personals 23.5 18.3 28% 70.0 55.6 26%
Management Services 16.3 13.0 25% 42.3 27.3 55%
Intersegment revenues (1.1) - NM (1.8) (0.2) 800%
-------- -------- ---------- -------- -------- ----------
Total $ 194.4 $ 163.8 19% $ 550.3 $ 481.5 14%
======== ======== ========== ======== ======== ==========
NM = Not Meaningful
For the Three Months Ended March 31, 2007 and 2006
Revenues increased $30.6 million in the third quarter of fiscal 2007 compared
with the third quarter of fiscal 2006. The organic growth in consolidated
revenues from the third quarter of fiscal 2006 to the third quarter of fiscal
2007 was 13%. Net active retail members and customers increased 6% to 6.9
million at March 31, 2007 from 6.5 million at March 31, 2006.
Marketing Services revenues increased $23.2 million primarily due to a $29.4
million increase in revenues from members enrolled in monthly payment plans and
a $5.8 million increase in other revenue primarily due to the acquisition of
Neverblue during the third quarter of fiscal 2007, partially offset by a $12.0
million decrease in revenue from members enrolled in annual payment plans.
Revenues from monthly payment plans increased primarily due to higher average
monthly members billed, which grew 16% to 3.2 million and higher average monthly
member price point, which grew 15% to $12.63 for the third quarter of fiscal
2007 compared with the prior year quarter.(1) Revenues from members enrolled in
annual payment plans continue to decrease due to the attrition of the annual
renewal base and the continued shift to enrolling new members in monthly payment
programs.
Personals revenues increased $5.2 million, or 28%, primarily due to the
acquisition of Mobile Lifestyles during the first quarter of fiscal 2007. Of the
28% increase in Personals revenues, 24% was due to this acquisition and the
remaining 4% was due to the growing mobile dating business, which was partially
offset by a decrease in revenues from our web-based business.
Management Services revenues increased $3.3 million and resulted from an
increase in the number of procedures completed, as well as an increase in the
mix of higher priced procedures. These increases were due to the increase in
financed transactions.
For the Nine Months Ended March 31, 2007 and 2006
Revenues increased $68.8 million in the first nine months of fiscal 2007
compared with the prior year period. The organic growth in consolidated revenues
from the first nine months of fiscal 2006 to the first nine months of fiscal
2007 was 11%.
Marketing Services revenues increased $41.0 million primarily due to a $70.2
million increase in revenues from members enrolled in monthly payment plans and
a $6.4 million increase in other revenues primarily due to the acquisition of
Neverblue during the third quarter of fiscal 2007, partially offset by $35.6
million decrease in revenue from members enrolled in annual payment plans.
Revenues from monthly payment plans increased primarily due to higher average
monthly members billed, which grew 14% to 9.2 million and higher average monthly
member price point, which grew 11% to $12.10 for the first nine months of fiscal
2007. Revenues from members enrolled in annual payment plans continue to
decrease due to the attrition of the annual renewal base and the continued shift
to enrolling new members in monthly payment programs.
________________________
* During the first quarter of fiscal 2007, we changed the methodologies for
calculating average monthly member price point and average monthly members
billed. Prior periods have been restated to conform to this presentation.
21
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Personals revenues increased $14.4 million, or 26%, primarily due to the
acquisition of Mobile Lifestyles during the first quarter of fiscal 2007. Of the
26% increase in Personals revenues, 23% was due to this acquisition and the
remaining 3% was due to the growing mobile dating business, which was partially
offset by a decrease in revenues from our web-based and interactive voice
response, or IVR, businesses.
Management Services revenues increased $15.0 million and resulted from an
increase in the number of procedures completed and an increase in the mix of
higher priced procedures. These increases were due to the increase in financed
transactions.
Operating Income and EBITDA
The table below shows operating income and EBITDA by reportable segment and our
corporate unit that includes unallocated general corporate expenses for the
third quarter of fiscal 2007 and 2006:
Operating Income EBITDA
----------------------------- -----------------------------
Three months ended Three months ended
March 31, March 31,
Increase/ Increase/
(Dollar amounts in millions) 2007 2006 (Decrease) 2007 2006 (Decrease)
-------- -------- ---------- -------- -------- ----------
Marketing Services $ 24.5 $ 16.5 48% $ 27.5 $ 19.4 42%
Personals 1.9 0.8 138% 4.4 3.7 19%
Management Services (1.2) 1.7 (171%) (0.5) 2.1 (124%)
Corporate (12.1) (8.0) (51%) (12.0) (7.8) (54%)
-------- -------- ---------- -------- -------- ----------
Total Operating Income $ 13.1 $ 11.0 19% $ 19.4 17.4 11%
======== ======== ========== ========= ======= ==========
For the Three Months Ended March 31, 2007 and 2006
Operating income increased $2.1 million and, as a percentage of revenues,
remained unchanged at 7% during the third quarter of fiscal 2007. EBITDA
increased $2.0 million in the third quarter of fiscal 2007 from the prior year
quarter and, as a percentage of revenues, EBITDA was 10% this year versus 11% in
the prior year quarter. Operating income and EBITDA for the third quarter of
fiscal 2007 included $5.0 million of expenses incurred related to the proposed
merger, offset by a $1.3 million benefit related to a commercial litigation
settlement.
Marketing Services operating income increased $8.0 million and, as a percentage
of Marketing Services revenues, increased to 16% from 12% in the prior year
quarter. Marketing Services EBITDA increased $8.1 million and, as a percentage
of Marketing Services revenues, increased to 18% from 15% in the prior year
quarter. These increases were primarily due to a decrease in operating and
general and administrative expenses as a percentage of revenues. Operating
expenses increased 2% to $26.7 million and as a percentage of Marketing Services
revenues were 17% in the current year compared to 20% in the prior year quarter.
Operating expenses decreased as a percentage of revenues due to effective cost
control measures over our member benefits and member call center expenses.
General and administrative expenses decreased 2% to $18.6 million and as a
percentage of Marketing Services revenues were 12% in the current year and 14%
in the prior year quarter. General and administrative expenses for the third
quarter of fiscal 2007 decreased as a percentage of revenues due to the
leveraging of the increased revenue in the third quarter of fiscal 2007. These
improvements were offset by higher marketing expenses, which grew $14.8 million
and as a percentage of revenues were 55% for the third quarter of fiscal 2007
compared to 53% in the prior year quarter. Marketing expenses as a percentage of
Marketing Services revenues increased due to an increase in the level of
marketing and an increase in the monthly acquisition costs per new billed
member. The monthly acquisition cost per new billed member increased 10% to
$45.51 from $41.39 in the prior year quarter. Monthly member acquisition costs
represent the cost to acquire a new monthly member who has successfully billed
and is not expected to cancel during the reported period. We expect the increase
in the monthly acquisition cost per new billed member to be more than recovered
by the monthly new member price point which increased $4.03, or 26%, to $19.63
per month during the third quarter of fiscal 2007. In addition, we continue to
expect the increase in marketing expenses this period to translate into expected
revenue growth during the remainder of fiscal 2007.
Personals operating income increased $1.1 million and, as a percentage of
Personals revenues, increased to 8% from 4% in the prior year quarter. Personals
EBITDA increased $0.7 million and, as a percentage of Personals revenues,
decreased to 19% from 20% in the prior year quarter. The increases in operating
income and EBITDA were primarily due to the marketing margin contributed by the
Mobile Lifestyle acquisition and lower operating expenses, which as a percentage
of Personals revenues, decreased to 17% this quarter from 25% last year. The
decrease in operating expenses as a percentage of revenues was primarily due to
tight expense control. Operating margin increased from the prior year quarter
while EBITDA margin decreased due to a significant decrease in depreciation
expense as a result of the disposal of IVR platforms which benefited the
operating margin. Additionally, during the third quarter of fiscal 2006, general
and administrative expenses reflected a one time $1.6 million benefit realized
on the recovery of certain expenses related to litigation settled during that
quarter.
22
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Management Services operating income decreased $2.9 million, and as a percentage
of Management Services revenue, decreased to (7%) from 13% in the prior year
quarter. Management Services EBITDA decreased $2.6 million and as a percentage
of Management Services revenue, decreased to (3%) from 16% in the prior year
quarter. These decreases are primarily due to higher operating expenses, which
increased $4.9 million and as a percentage of Management Services revenues,
increased to 74% from 55% in the prior year quarter. Operating expenses
increased due to an increase in loan and doctor costs associated with the
increased number of financed procedures completed. Financed transactions have
higher operating expenses due to an allowance for uncollectible notes
receivable. However, the increase in financed procedures completed also resulted
in an increase in interest income discussed below.
Corporate operating loss increased $4.1 million and EBITDA decreased $4.2
million primarily due to $5.0 million of expenses incurred related to the
proposed merger (see Note 3).
For the Nine Months Ended March 31, 2007 and 2006
The table below shows operating income and EBITDA by reportable segment and our
corporate unit that includes unallocated general corporate expenses for the
first nine months of fiscal 2007 and 2006:
Operating Income EBITDA
----------------------------- -----------------------------
Nine months ended Nine months ended
March 31, March 31,
------------------ Increase/ ----------------- Increase/
(Dollar amounts in millions) 2007 2006 (Decrease) 2007 2006 (Decrease)
-------- -------- ---------- --------- -------- ----------
Marketing Services $ 69.8 $ 64.1 9% $ 78.4 $ 73.3 7%
Personals 2.7 0.3 800% 10.1 7.9 28%
Management Services 0.7 2.2 (68%) 2.7 3.4 (21%)
Corporate (28.2) (21.1) (34%) (27.7) (20.2) (37%)
-------- -------- ---------- --------- -------- ----------
Total Operating Income $ 45.0 $ 45.5 (1%) $ 63.5 $ 64.4 (1%)
======== ======== ========== ========= ======== ==========
Operating income decreased $0.5 million and as a percentage of revenues, was 8%
during the first nine months of fiscal 2007 compared to 9% in the prior year
period. EBITDA decreased $0.9 million in the first nine months of fiscal 2007
from the prior year period and, as a percentage of revenues, EBITDA was 12% this
year versus 13% last year. Operating income and EBITDA for the first nine months
of fiscal 2007 included $5.3 million of expenses incurred related to the
proposed merger, offset by a $1.3 million benefit related to the commercial
litigation settlement.
Marketing Services operating income increased $5.7 million and, as a percentage
of Marketing Services revenues, remained at 16% when compared to the prior year
period. Marketing Services EBITDA increased $5.1 million and, as a percentage of
Marketing Services revenues, remained at 18% when compared to the prior year
period. The increases in operating income and EBITDA were primarily due to the
increased revenues discussed above, partially offset by higher marketing
expenses, which grew $28.7 million and as a percentage of Marketing Services
revenues were 52% this year compared to 51% last year, and were in line with our
expected revenue growth. Marketing expenses as a percentage of revenues
increased due to an increase in the level of marketing and an increase in the
monthly acquisition costs per new billed member. The monthly acquisition cost
per new billed member increased 18% to $44.77 from $38.09 in the prior year
period. We expect the increase in the monthly acquisition cost per new billed
member to be more than recovered by the monthly new member price point which
increased $2.81 to $18.09 per month during the first nine months of fiscal 2007.
In addition, we expect the increase in marketing expenses this period to
translate into expected revenue growth during the remainder of fiscal 2007.
Offsetting the increase in marketing expenses as a percentage of revenues were
operating and general and administrative expenses, which decreased as a
percentage of revenues.
Personals operating income increased $2.4 million and, as a percentage of
Personals revenues, increased to 4% from 1% in the prior year period. Personals
EBITDA increased $2.2 million and as percentage of revenues remained unchanged
at 14% when compared to the prior year period. The increases in operating income
and EBITDA were primarily due to the marketing margin contributed by the Mobile
Lifestyle acquisition, as well as lower operating expenses and general and
administrative expenses as a percentage of revenues. Operating expenses, as a
percentage of Personals revenues, decreased to 18% for the first nine months of
fiscal 2007 from 26% last prior year period and general and administrative
expenses, as a percentage of revenues, decreased to 21% for the first nine
months of fiscal 2007 from 25% last prior year period. The decreases in
operating and general and administrative expenses were primarily due to tight
expense control and cost savings realized from our transition to voice over
internet protocol platform, or VoIP. During the first nine months of fiscal
2006, general and administrative expenses reflected a one time $1.6 million
benefit realized on the recovery of certain expenses related to litigation
settled during that period.
23
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Management Services operating income decreased $1.5 million, and as a percentage
of Management Services revenue, decreased to 2% from 8% in the prior year
period. Management Services EBITDA decreased $0.7 million and as a percentage of
Management Services revenue, decreased to 6% from 12% in the prior year period.
These decreases were primarily due to increases in operating expenses, which
increased $13.9 million and, as a percentage of revenues, increased to 68% from
55% in the prior year period. The increase in operating expenses as a percentage
of revenues was due to an increase in loan and doctor costs associated with the
increased number of financed procedures completed. Financed transactions have
higher operating expenses due to an allowance for uncollectible notes
receivable. However, the increase in financed procedures completed also resulted
in an increase in interest income, as discussed below.
Corporate operating loss increased $7.1 million and EBITDA decreased $7.5
million primarily due to $5.3 million of expenses incurred related to the
proposed merger (see Note 3) and higher legal and employee related expenses.
Interest Income
Interest income increased $0.9 million and $2.5 million for the third quarter
and first nine months of fiscal 2007, respectively, as compared to the prior
year periods primarily due to the increase in financed transactions for the
Management Services segment.
Provision for Income Taxes
The provision for income taxes increased $2.9 million, or 107%, in the third
quarter of fiscal 2007 compared to the third quarter of fiscal 2006 because of
non-deductible transaction costs related to the proposed merger, also higher
income before income taxes which resulted in an effective tax rate of 55.9%
versus 39.4% in the third quarter of fiscal 2006. The increase in the effective
tax rate for the quarter is primarily due to non-deductible transaction costs
related to the proposed merger, also a decrease in non-taxable municipal
interest income, an increase in state taxes and a decrease in the favorable
impact of foreign operations. The provision for income taxes increased $3.4
million, or 28.7%, in the first nine months of fiscal 2007 compared to the first
nine months of fiscal 2006 because of non-deductible transaction costs related
to the proposed merger, also a decrease in non-taxable municipal interest
income, an increase in state taxes and a decrease in the favorable impact of
foreign operations, which gave rise to an effective tax rate of 43.7% in the
first nine months of fiscal 2007 versus 36.8% in the first nine months of fiscal
2006.
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 2007, we had cash, cash equivalents, and short-term investments
of $78.9 million in addition to our unused $50.0 million line of credit under
our senior secured credit facility. We believe that existing cash, short-term
investment balances, and funds available under our senior secured credit
facility together with cash generated from operations will be sufficient to meet
our funding requirements for the foreseeable future.
We believe it is useful to analyze the components of net cash provided by
operating activities as follows: revenue before deferral, marketing costs before
deferral, Adjusted EBITDA, and changes in assets and liabilities. A discussion
of these components follows below. For definitions and reconciliations of
revenue before deferral, marketing costs before deferral, and Adjusted EBITDA,
refer to the discussion in "Reconciliation of Non-GAAP Measures" in this report.
Net cash flow provided by operating activities is an important measure used to
understand our liquidity. Net cash provided by operating activities decreased to
$33.5 million in the nine months ended March 31, 2007 from $37.6 million in the
nine months ended March 31, 2006. The $4.1 million decrease in operating cash
flow was primarily due to a $4.1 million decrease in Adjusted EBITDA.
24
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Nine months ended
March 31,
------------------ Increase/
(Dollar amounts in millions) 2007 2006 (Decrease)
-------- -------- ----------
Marketing Services $ 70.9 $ 69.2 2%
Personals 9.5 7.9 20%
Management Services 4.0 3.9 3%
Corporate (27.7) (20.2) (37%)
-------- -------- ----------
Total Adjusted EBITDA $ 56.7 $ 60.8 (7%)
======== ======== ==========
Marketing Services Adjusted EBITDA increased $1.7 million and as a percentage of
revenue before deferral, decreased to 17% from 18% in the prior year period. The
decrease as a percentage of revenue before deferral is primarily due to an
increase in the level of marketing and an increase in the monthly acquisition
costs per new billed member, as discussed above.
Personals Adjusted EBITDA increased $1.6 million and as a percentage of revenue
before deferral, remained unchanged at 14% compared with the prior year period.
The increase was primarily due to the marketing margin contributed by the
acquisition of Mobile Lifestyles, as well as lower operating expenses.
Management Services Adjusted EBITDA increased $0.1 million and as a percentage
of revenue before deferral, decreased to 9% from 14% in the prior year period
primarily due to increases in operating expenses. The increase in operating
expenses was due to an increase in loan and doctor costs associated with the
increased number of financed procedures completed. Financed transactions have
higher operating expenses due to an allowance for uncollectible notes
receivable.
Corporate Adjusted EBITDA decreased $7.5 million primarily due to $5.3 million
of expenses incurred related to the proposed merger (see Note 3) and higher
legal and employee related expenses.
In the first nine months of fiscal 2007, cash used from changes in assets and
liabilities was $1.4 million compared to $0.1 million in the prior year period.
The increase in the cash used from changes in assets and liabilities was
primarily due to the increased notes receivable and timing of accrued
liabilities partially offset by the timing of prepaid expenses and the release
of restricted cash. The increase in notes receivable is related to the increase
in procedures completed that are being financed in the Management Services
segment.
In the first nine months of fiscal 2007, capital expenditures decreased to $8.2
million from $14.7 million in the prior year period. Free cash flow, defined as
operating cash flow less capital expenditures, increased to $25.3 million in the
first nine months of fiscal 2007 compared with $22.9 million in the prior year
period. The increase in free cash flow was primarily due to the $6.5 million
decrease in capital expenditures in the first nine months of fiscal 2007
partially offset by an increase in cash used from changes in assets and
liabilities, as discussed above.
In the first nine months of fiscal 2007, net cash used in investing activities
decreased $38.1 million from the prior year period. Net cash provided by
investing activities in the first nine months of fiscal 2007 reflected $15.2
million of net proceeds from maturities of short-term investments partially
offset by $14.2 million used in connection with our recent acquisitions and
other investing activities. Net cash used in investing activities in the first
nine months of fiscal 2006 reflected $15.5 million net purchases of short-term
investments and $15.1 million used in connection with business acquisitions and
other investing activities.
In the first nine months of fiscal 2007, net cash provided by financing
activities increased $2.6 million from the prior year period. Net cash provided
by financing activities in the first nine months fiscal 2007 reflected $2.7
million of proceeds from the exercise of stock options and $0.7 million of
excess tax benefit from stock-based compensation, which was partially offset by
the use of $2.8 million to repurchase our common stock. Net cash used in
financing activities in the first nine months of fiscal 2006 reflected the use
of $10.7 million to repurchase our common stock, which was partially offset by
proceeds from the exercise of stock options of $7.4 million and $1.5 million of
excess tax benefits from stock-based compensation.
25
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Credit Facility
We have an amended and restated senior secured credit facility dated as of March
17, 2006, which allows borrowings of up to $50.0 million. Borrowings under this
senior secured credit facility accrue interest at the Eurodollar rate or the
Prime rate, plus an applicable margin. As of March 31, 2007, the base interest
rate for borrowings under this credit facility was 8.5%. There were no
borrowings outstanding under this credit facility as of March 31, 2007. The
senior secured credit facility has certain financial covenants, including a
maximum debt coverage ratio, potential restrictions on borrowings, and potential
restrictions on additional stock repurchases. As of March 31, 2007, we were in
compliance with all such debt covenants. The senior secured credit facility
matures on March 31, 2009.
Stock Repurchase Program
In the first nine months of fiscal 2007, we purchased 66,000 shares of our
common stock for $2.8 million at an average price of $41.82 per share, compared
to 275,500 shares for $10.7 million at an average price of $38.70 per share in
the prior year period. We used existing cash and cash equivalents from
operations and stock issuances to repurchase these shares. In July 2006, our
Board of Directors authorized the additional repurchase of up to a 1.0 million
shares of our common stock. As of March 31, 2007, we had approximately 1.3
million shares available for repurchase under our stock repurchase program.
Other
We expect to incur capital expenditures of $10.8 million in fiscal 2007.
Contingent payments related to acquisitions of up to $81.5 million may be paid
over the next two fiscal years if certain performance targets, including
increasing levels of revenues and earnings, are achieved. In April 2007, we paid
$39.8 million in contingent payments related to our My Choice Medical, Inc.
acquisition. We utilized existing cash, short-term investment balances, and
funds available under our senior secured credit facility to fund this contingent
payment.
RECONCILIATION OF NON-GAAP MEASURES
We believe that revenues before deferral and marketing costs before deferral are
important measures of liquidity and are significant factors in understanding our
operating cash flow trends. These measures are not a substitute for or superior
to revenues and marketing expenses determined in accordance with generally
accepted accounting principles ("GAAP"). These non-GAAP measures are used by
management and our investors to understand the liquidity trends of our marketing
margins related to current period operations which are reflected within the
operating cash flow section of the cash flow statement. GAAP revenues and
marketing expenses are important measures used to understand the marketing
margins earned during the period in the income statement. However, in order to
understand our operating cash flow, it is important to understand the primary
current period drivers of that cash flow. Two of the primary indicators of
operating liquidity for the period are revenues before deferral and marketing
costs before deferral. Revenues before deferral are revenues before the
application of the Staff Accounting Bulletin 104, "Revenue Recognition" ("SAB
104") and represent the revenues billed during the current reporting period less
an allowance for membership cancellations. That is, revenues before deferral for
a reporting period include membership fees received in the current reporting
period that will be recorded as GAAP revenues in future reporting periods and
exclude membership fees received in prior reporting periods that are recorded as
GAAP revenues in the current reporting period. Marketing costs before deferral
are marketing costs before the application of SAB 104 and the American Institute
of Certified Public Accountants Statement of Position 93-7, "Reporting on
Advertising Costs," and represent marketing costs paid or accrued during the
current reporting period. Marketing costs before deferral for a reporting period
include costs paid or accrued in the current reporting period that will be
recorded as GAAP marketing expenses in future reporting periods and exclude
marketing expenses paid or accrued in prior reporting periods that are recorded
as GAAP marketing expenses in the current reporting period. Neither revenues
before deferral nor marketing costs before deferral exclude charges or
liabilities that will require future cash settlement.
Revenues before deferral are calculated as follows:
Nine months ended
March 31,
------------------
(Dollar amounts in millions) 2007 2006
-------- --------
Revenues $ 550.3 $ 481.5
Change in deferred revenues (10.8) (12.6)
-------- --------
Revenues before deferral $ 539.5 $ 468.9
======== ========
26
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Marketing costs before deferral are calculated as follows:
Nine months ended
March 31,
------------------
(Dollar amounts in millions) 2007 2006
-------- --------
Marketing expenses $ 273.3 $ 231.8
Change in deferred marketing costs (4.0) (9.0)
-------- --------
Marketing costs before deferral $ 269.3 $ 222.8
======== ========
EBITDA is calculated as net income excluding interest and other expense, taxes,
depreciation, and amortization. Adjusted EBITDA is calculated as EBITDA before
the deferral of revenues and the deferral of marketing costs.
We use EBITDA and Adjusted EBITDA to evaluate the overall performance of our
business and to measure that performance compared with internal budgets.
Additionally, we use Adjusted EBITDA as our primary measure to allocate capital
and other resources to our operating segments and assess the operating
performance of those segments (See Note 12 to the condensed consolidated
financial statements in Item 1 of this report). Adjusted EBITDA is also one of
the measures used to determine compensation under our management incentive
plans.
Adjusted EBITDA is useful to our investors and us because it provides insight
into the current period cash operating results. Adjusted EBITDA is reconciled to
net cash provided by operating activities because we believe that it is the most
directly comparable GAAP liquidity measure. We also use Adjusted EBITDA as the
primary performance measure of the business both on an overall company basis as
well as for our operating segments. Adjusted EBITDA is reconciled to net income
because we believe it is the most directly comparable GAAP performance measure.
EBITDA is useful to our investors and us because it eliminates the effects of
interest and other expense, income taxes, non-cash depreciation of tangible
assets, and non-cash amortization of intangible assets. EBITDA is calculated
using as reported revenues and marketing expenses. EBITDA is reconciled to net
income because we believe that it is the most directly comparable GAAP measure.
The usefulness of Adjusted EBITDA and EBITDA is limited as compared to net cash
provided by operating activities or net income since Adjusted EBITDA and EBITDA
do not reflect the periodic amortization of certain capitalized tangible and
intangible assets used in generating revenues in our businesses, since they do
not reflect net income earned for GAAP reporting purposes, and since they
exclude the effects of interest and taxes. Additionally, Adjusted EBITDA and
EBITDA exclude the impact of working capital changes.
Adjusted EBITDA and EBITDA should not be considered a substitute for or superior
to, operating income, net income, net cash from operating activities, or other
measures of financial performance and liquidity determined in accordance with
GAAP.
The following table reconciles net cash provided by operating activities to
Adjusted EBITDA:
Nine months ended
March 31,
-----------------
(Dollar amounts in millions) 2007 2006
------- -------
Net cash provided by operating activities $ 33.5 $ 37.6
Changes in assets and liabilities (use of cash) 1.4 0.1
Interest and other expense, net (to be paid in cash) 9.0 12.3
Taxes 17.0 13.6
Stock compensation expense (3.5) (3.4)
Other (0.7) 0.6
------- -------
Adjusted EBITDA $ 56.7 $ 60.8
======= =======
27
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
The following tables reconcile net income to EBITDA and Adjusted EBITDA:
Three months ended March 31, 2007
---------------------------------------------------------
Marketing Management
(Dollar amounts in millions) Total Services Personals Services Corporate
-------- ----------- --------- ------------ ---------
Net income $ 4.4
Interest and other expense, net (1) 3.1
Provision for income taxes (1) 5.6
--------
Operating income (expense) $ 13.1 $ 24.5 $ 1.9 $ (1.2) $ (12.1)
Depreciation and amortization 6.3 3.0 2.5 0.7 0.1
-------- ----------- --------- ------------ ---------
EBITDA $ 19.4 $ 27.5 $ 4.4 $ (0.5) $ (12.0)
======== =========== ========= ============ ==========
Three months ended March 31, 2006
---------------------------------------------------------
Marketing Management
Total Services Personals Services Corporate
-------- ----------- --------- ------------ ---------
Net income $ 4.1
Interest and other expense, net (1) 4.2
Provision for income taxes (1) 2.7
--------
Operating income (expense) $ 11.0 $ 16.5 $ 0.8 $ 1.7 $ (8.0)
Depreciation and amortization 6.4 2.9 2.9 0.4 0.2
-------- ----------- --------- ------------ ---------
EBITDA $ 17.4 $ 19.4 $ 3.7 $ 2.1 $ (7.8)
======== =========== ========= ============ ==========
Nine months ended March 31, 2007
---------------------------------------------------------
Marketing Management
(Dollar amounts in millions) Total Services Personals Services Corporate
-------- ----------- --------- ------------ ---------
Net income $ 19.8
Interest and other expense, net (1) 9.9
Provision for income taxes (1) 15.3
--------
Operating income (expense) $ 45.0 $ 69.8 $ 2.7 $ 0.7 $ (28.2)
Depreciation and amortization 18.5 8.6 7.4 2.0 0.5
-------- ----------- --------- ------------ ---------
EBITDA 63.5 78.4 10.1 2.7 (27.7)
Change in deferred revenues (10.8) (11.7) (0.4) 1.3 -
Change in deferred marketing costs 4.0 4.2 (0.2) - -
-------- ----------- --------- ------------ ---------
Adjusted EBITDA $ 56.7 $ 70.9 $ 9.5 $ 4.0 $ (27.7)
======== =========== ========= ============ =========
Nine months ended March 31, 2006
---------------------------------------------------------
Marketing Management
Total Services Personals Services Corporate
-------- ----------- --------- ------------ ---------
Net income $ 20.4
Interest and other expense, net (1) 13.2
Provision for income taxes (1) 11.9
--------
Operating income (expense) $ 45.5 $ 64.1 $ 0.3 $ 2.2 $ (21.1)
Depreciation and amortization 18.9 9.2 7.6 1.2 0.9
-------- ----------- --------- ------------ ---------
EBITDA 64.4 73.3 7.9 3.4 (20.2)
Change in deferred revenues (12.6) (13.1) - 0.5 -
Change in deferred marketing costs 9.0 9.0 - - -
-------- ----------- --------- ------------ ---------
Adjusted EBITDA $ 60.8 $ 69.2 $ 7.9 $ 3.9 $ (20.2)
======== =========== ========= ============ =========
(1) Management does not allocate interest and other expense, net nor does it
allocate provision for income taxes to the individual segments.
28
VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Free cash flow represents net cash provided by operating activities less capital
expenditures. Free cash flow is important because it represents the cash that is
available to us to pursue opportunities that enhance shareholder value, such as
make acquisitions, reduce debt, repurchase stock, and develop new products. The
following table reconciles operating cash flow to free cash flow:
Nine months ended
March 31,
------------------------
(Dollar amounts in millions) 2007 2006
------- -------
Net cash provided by operating activities $ 33.5 $ 37.6
Capital expenditures (8.2) (14.7)
------- -------
Free cash flow $ 25.3 $ 22.9
======= =======
COMMITMENTS
Future minimum payments of contractual obligations as of March 31, 2007 are as
follows:
Payments Due by Period
--------------------------------------------------------------
Less than 1
(Dollar amounts in millions) Total year 1 - 3 years 3 - 5 years After 5 years
-------- ----------- ----------- ----------- -------------
Operating leases $ 54.0 $ 10.0 $ 18.5 $ 11.1 $ 14.4
Capital leases 0.7 0.6 0.1 - -
Long-term debt 240.0 - - 90.0 150.0
Purchase obligations 4.2 4.2 - - -
Other:
Contingent payments 81.5 51.8 29.7 - -
Interest payments on long-term debt 123.9 18.8 37.7 32.7 34.7
Other (1) 6.3 0.5 0.1 0.4 5.3
-------- ----------- ----------- ----------- -------------
Total payments due $ 510.6 $ 85.9 $ 86.1 $ 134.2 $ 204.4
======== =========== =========== =========== =============
(1) Includes pension obligations and other current obligations.
On March 22, 2007, we entered into a definitive agreement and plan of merger
(the "Merger Agreement") with Velo Holdings Inc., a Delaware corporation
("Parent"), and Velo Acquisition Inc., a Delaware corporation and a wholly owned
subsidiary of Parent ("Merger Sub"). Under the terms of the Merger Agreement,
Merger Sub will be merged with and into Vertrue with Vertrue continuing as the
surviving corporation and becoming a wholly owned subsidiary of Parent (the
"Merger"). Parent is owned and /or backed by the equity commitment of an
investor group consisting of One Equity Partners II, L.P., Oak Investment
Partners XII, L.P., Rho Ventures V, L.P. and Rho Ventures V, Affiliates, L.L.C.
In connection with this proposed Merger, we expect to incur additional
transaction costs if our stockholders approve the proposed Merger. If we
terminate the Merger Agreement or the Merger Agreement is terminated by Parent
under certain conditions, we may be obligated to pay Parent a termination fee of
$22.5 million. If the Merger Agreement is terminated due to the failure to
obtain stockholder approval, we may be obligated to reimburse up to $4.0 million
of Parent's documented reasonable and actual out-of-pocket expenses.
CRITICAL ACCOUNTING POLICIES
There were no material changes in our critical accounting policies during the
first nine months of fiscal 2007. For further information on our critical
accounting policies, please refer to the discussion contained in the
management's discussion and analysis section of our Annual Report on Form 10-K
for the fiscal year ended June 30, 2006.
NEW ACCOUNTING PRONOUNCEMENTS
See Note 14 to the condensed consolidated financial statements in Item 1 of this
report for a description of the effect of recently issued accounting
pronouncements.
FORWARD LOOKING STATEMENTS
This report on Form 10-Q contains forward looking statements that are based on
current expectations, estimates, forecasts, and projections about the industry
in which we operate and our management's beliefs and assumptions. These forward
looking statements include statements that do not relate solely to historical or
current facts and can be identified by the use of words such as "believe,"
"expect," "estimate," "project," "continue," or "anticipate." These forward
looking statements within the meaning of Section 27A of the Securities Act of
1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as
amended, are intended to qualify for the safe harbor provisions from liability
provided by the Private Securities Litigation Reform Act of 1995.
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VERTRUE INCORPORATED
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
(continued)
Forward looking statements are not guarantees of future performance and are
based on many assumptions and estimates that are inherently subject to
significant risks and uncertainties, many of which are beyond our control,
cannot be foreseen and reflect future business decisions that may change.
Therefore, actual outcomes and results may differ materially from what is
expressed or forecasted in such forward looking statements. Factors that could
cause these differences include, but are not limited to, those set forth under
Item 1A of this report and our Annual Report on Form 10-K for the fiscal year
ended June 30, 2006.
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VERTRUE INCORPORATED
Item 3. Quantitative and Qualitative Disclosures about Market Risk
----------------------------------------------------------
We are exposed to potential loss from exposure to market risks represented
principally by changes in interest rates and foreign exchange rates. There were
no material changes in our market risk during the first nine months ended of
fiscal 2007. For additional information, please refer to Item 7A of our Annual
Report on Form 10-K for the fiscal year ended June 30, 2006.
Item 4. Controls and Procedures
-----------------------
Evaluation of disclosure controls and procedures
Our Chief Executive Officer and Chief Financial Officer evaluated the
effectiveness of the design and operation of the Company's disclosure controls
and procedures (as defined under Rules 13a-15(e) and 15d-15(e) of the Securities
and Exchange Act of 1934) as of the end of the period covered by this report and
have concluded that the Company's disclosure controls and procedures were
effective at the reasonable assurance level. The Company's disclosure controls
and procedures are designed to ensure that material information relating to the
Company and its consolidated subsidiaries that is required to be disclosed in
its reports under the Exchange Act is accumulated, communicated to the Chief
Executive Officer and Chief Financial Officer and disclosed appropriately and
timely in its reports under the Exchange Act.
Because a cost-effective control system, no matter how well conceived and
operated, can provide only reasonable, not absolute, assurance that the
objectives of the control system are met, misstatements due to error or fraud
may occur and not be detected. In addition, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions or that the degree of compliance
with the policies or procedures may deteriorate.
Changes in internal control over financial reporting
During the third quarter of fiscal 2007, there were no changes in the Company's
internal control over financial reporting that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
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VERTRUE INCORPORATED
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
----------------
In our opinion, there are no significant legal proceedings to which we or any of
our subsidiaries are a party or to, which any of our properties is subject. We
are involved in lawsuits and claims generally incidental to our business,
including, but not limited to, various suits, including previously disclosed
suits, brought against us by individual consumers seeking monetary and/or
injunctive relief relating to the marketing of our programs. In addition, from
time to time in the regular course of our business, we receive inquiries from
various federal and/or state regulatory authorities.
Item 1A. Risk Factors
------------
Except as noted below, there have been no material changes to the risk factors
included in our Annual Report on Form 10-K for the fiscal year ended June 30,
2006.
Failure to complete the proposed merger could negatively affect the stock price
and the future business and financial results of our Company.
On March 22, 2007, we entered into a definitive agreement and plan of merger
(the "Merger Agreement") with Velo Holdings Inc., a Delaware corporation
("Parent"), and Velo Acquisition Inc., a Delaware corporation and a wholly owned
subsidiary of Parent ("Merger Sub"). Under the terms of the Merger Agreement,
Merger Sub will be merged with and into Vertrue with Vertrue continuing as the
surviving corporation and becoming a wholly owned subsidiary of Parent (the
"Merger"). Parent is owned and/or backed by the equity commitment of an investor
group consisting of One Equity Partners II, L.P., Oak Investment Partners XII,
L.P., Rho Ventures V, L.P. and Rho Ventures V, Affiliates, L.L.C.
In the event that the Merger Agreement is not adopted by Vertrue's stockholders
or if the Merger is not completed for any other reason, Vertrue stockholders
will not receive any payment for their shares of Vertrue common stock. Instead,
Vertrue will remain a public company, its common stock will continue to be
listed and traded on the Nasdaq Global Market and Vertrue stockholders will
continue to be subject to the same risks and opportunities as they currently are
with respect to their ownership of Vertrue common stock. If the Merger is not
completed, there can be no assurance as to the effect of these risks and
opportunities on the future value of Vertrue common stock, including the risk
that the market price of Vertrue common stock may decline to the extent that the
current market price of our stock reflects a market assumption that the merger
will be completed. From time to time, our board of directors will evaluate and
review the business operations, properties, dividend policy and capitalization
of Vertrue and, among other things, make such changes as are deemed appropriate
and continue to seek to identify strategic alternatives to maximize stockholder
value. If the Merger Agreement is not adopted by Vertrue's stockholders or if
the Merger is not consummated for any other reason, there can be no assurance
that any other transaction acceptable to Vertrue will be offered or that the
business, prospects or results of operations of Vertrue will not be adversely
impacted.
If we terminate the Merger Agreement or the Merger Agreement is terminated by
Parent under certain conditions, we may be obligated to pay Parent a termination
fee of $22.5 million. If the Merger Agreement is terminated due to the failure
to obtain stockholder approval, we may be obligated to reimburse up to $4.0
million of Parent's documented reasonable and actual out-of-pocket expenses.
In addition to the factors described above, other risks associated with this
proposed merger include:
o the outcome of any legal proceedings that have been or may be instituted
against us and others relating to the Merger;
o the inability to complete the Merger due to regulatory approval or the
failure to satisfy other conditions to consummate the Merger;
o the failure to obtain the necessary debt financing arrangements set forth
in commitment letters received by Parent in connection with the Merger;
o the failure of the Merger to close for any other reason;
o risks that the proposed Merger disrupts our current plans and operations
and the potential difficulties in employee retention as a result of the
Merger;
o the effect of the announcement of the Merger on our customer relationships,
operating results and business generally;
o the ability to realize the benefits of the Merger;
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VERTRUE INCORPORATED
PART II. OTHER INFORMATION
o the amount of the costs, fees, expenses and charges related to the Merger
and the actual terms of certain financings that will be obtained for the
Merger;
o the impact of the substantial indebtedness incurred to finance the
consummation of the Merger;
o the risk of unforeseen material adverse changes to our business or
operations, and
o management's attention from Vertrue's day-to-day business may be diverted.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
-----------------------------------------------------------
No share repurchases were made during the third quarter of fiscal 2007 by us or
on behalf of the Company. In July 2006, our Board of Directors authorized an
additional 1,000,000 shares, no expiration date, to be purchased under our stock
repurchase program originally authorized during fiscal 1997. There are 261,000
shares remaining authorized under the Board of Directors approval from October
2004.
Item 6. Exhibits
--------
2.1 Agreement and Plan of Merger, dated as of March 22, 2007, by and among
Vertrue Incorporated, Velo Holdings Inc. and Velo Acquisition Inc
(incorporated by reference to Exhibit 2.1 to the Registrant's Current
Report on Form 8-K, filed on March 22, 20007).
31.1 Rule 13a-14(a) CEO Certification.
31.2 Rule 13a-14(a) CFO Certification.
32.1 CEO Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 CFO Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
33
VERTRUE INCORPORATED
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
VERTRUE INCORPORATED
(Registrant)
Date: May 10, 2007
By: /s/ Gary A. Johnson
-------------------------------------
Gary A. Johnson, President, Chief
Executive Officer and Director
Date: May 10, 2007 By: /s/ James B. Duffy
-------------------------------------
James B. Duffy, Executive Vice President,
Chief Operating Officer, and Chief
Financial Officer (Principal Financial
and Accounting Officer)
34