H&R Block's Giant Loss Not a Problem, but Future Remains Foggy

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For most, tax season is a particularly frustrating part of the year. But for H&R Block (NYSE: HRB  ) , it's the four-month period where the company recoups eight months of losses. This current season is more important than most, as the company has posted five consecutive misses on analyst estimates and racked up a net loss of nearly $340 million. The weak top line stemmed from many people preparing their tax returns but not yet filing, as most wait to do so during the Jan.-April 15 period. Still, there are trends in the tax-prep industry that should concern H&R Block investors.

Delayed filings
With sales of just $200 million, 58% below the year-ago quarter's sales and a far cry from the average analyst estimate of $531 million, H&R Block's roughly $540 million in expenses brought the company deep into the red.

Tax preparers are used to seeing net losses in the eight months they aren't processing filings and returns, but this year was much worse than anticipated.

H&R Block posted a net loss of $338.2 million, or $0.77 per share. The year-ago quarterly loss was $0.21 per share, and analysts had been looking for a loss of only $0.09 per share.

Nothing in the just-ended quarter was good for investors, though the substantially lower sales figures are not indicative of any organic drop in demand. This was purely a matter of timing and people delaying their filings until this quarter. The deferred revenue will show up in the next earnings report and (hopefully) reverse the huge losses of the fiscal third quarter. Investors shouldn't worry much about the quarter, regardless of analyst estimates. There are other concerns, though, to keep in mind.

Tides of change
H&R Block does have considerable opportunities in the small- and medium-sized business categories. Companies with limited budgets that need basic accounting services will likely continue to recognize the value that H&R Block provides. Its consumer-level products, though, are a different story.

As technology has enabled online tax prep and filing, the ability for the average person to do their own taxes has increased substantially. Intuit's TurboTax is the consumer online tax-prep leader and offers a very refined, easy, and thorough user experience. On the low-end of the spectrum is Blucora's TaxAct software. With a focus on delivering a value-priced tax-prep service, TaxAct appeals to those who want the plain and simple file-and-return service.

Now, H&R Block does have its own Web-based tax-prep service, but it's in a very competitive environment. The higher-end market-share leader has a better product, and H&R Block's own product is priced very similarly.

At 15 times forward expected earnings, H&R Block is not priced as a company with significant competitive headwinds. Intuit at 20 times earnings is not a direct comparison as it is a software company first and foremost. Blucora, which owns TaxAct and a search business, trades at 7.2 times earnings though has had mixed results in the search game.

All in all, the tax-prep business seems to be OK in the foreseeable future, but there is not a compelling reason to buy.

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Michael Lewis

Michael is a value-oriented investment analyst with a specific interest in retail and media businesses. Before coming to the Fool, Michael worked with private investment funds focusing on deep value and special situations. Currently living in the media capital of the world--Los Angeles, California.

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