NIC (NASDAQ:EGOV), a software company focused on providing government services, reported its third-quarter results on Thursday.

This marks the first quarter in which the company felt the impact of losing its long-standing contract with the state of Texas. In spite of that challenge, the business still managed to post year-over-year revenue growth, albeit at a modest rate. Thankfully, a sizable reduction in its tax burden bailed the company out yet again and enabled it to post double-digit net income growth.

NIC Q3 results: The raw numbers

Metric

Q3 2018

Q3 2017

Year-Over-Year Change

Revenue

$87.0 million

$84.5 million

3%

Net income

$15.9 million

$14.0 million

14%

Earnings per share

$0.24

$0.21

14%

Data source: NIC.

What happened with NIC this quarter?

  • Portal revenue grew 6% to $80.9 million. Management said that the increase was caused by higher volumes of license renewals and tax filings.
  • The company's lucrative contract with the state of Texas expired during the quarter. Total revenue from that contract during the period was $13.3 million. Moving forward, only revenue from the new payment processing contract with the state will be counted. That figure totaled $2 million during the quarter.
  • Software and services revenue -- which are lumpy from period to period -- declined by 24% during the quarter to $6.1 million. 
  • Operating income fell 3% during the period to $19.4 million. Higher costs related to the recent acquisition of RxGov prescription-drug monitoring software assets last quarter drove the increased spending hike.
  • The effective tax rate declined by 1,100 basis points to 19%. This was a major reason why net income and earnings per share still rose during the period. 
  • NIC announced that it was awarded a new contract with the U.S. General Services Administration. The state of Maine also granted the company an 18-month contract extension.
Woman smiling while working on a laptop

Image source: Getty Images.

What management had to say

CEO Harry Herington heaped praised on his company's performance:

Our core teams continued to perform well this quarter. They consistently generate strong same-state revenue growth from Interactive Government Services, demonstrating that citizens and businesses continue to prefer the efficient, innovative digital government services we provide in collaboration with our government partners.

On the call with investors, Herington said the company's final protest against the state of Texas' bidding process was denied. He did his best to brush it off and said, "It's our responsibility to demonstrate to Texas that they made the wrong decision and for our teams to work to secure new business in the Lone Star state."

Herington also said that the reception by the government to RxGov has been "exceptional" and that the future of the product looks quite promising.

Looking forward

As usual, management didn't offer Wall Street any guidance about future results. Instead, Herington reiterated that the company is taking steps today to ensure that the business is heading in the right direction:

Strong organic revenue growth in core services, the launch of new services and our strategic vertical focus areas, a new federal contract and continued adoption of Gov2Go, all add up to a solid third quarter for NIC. I am confident we are taking the right steps now to grow our business long into the future.

Herington might be right about the long-term potential of the business -- especially if RxGov proves to be a hit with governments looking to combat the opioid epidemic -- but my view is that the next year is going to be very challenging for the company. The state of Texas was one of the company's largest customers, so it is going to be a huge challenge to replace that lost revenue. That's especially true when considering this has been a low-growth business in recent years.

Another factor that will be hard for the company to overcome is the lapping of the favorable tax rates. The company's bottom-line growth has been propelled this year by a falling tax rate, but the comps should prove to be more challenging in 2019.

Finally, the company's expense will also probably remain elevated as they start to roll out RxGov. That's a trade-off that bulls should support, but it's yet another factor that is going to pressure profits moving forward.

In total, there's ample reason to believe that 2019 is going to be a challenging year for NIC. Even with shares trading near a five-year low, growth-focused investors are probably better served by looking elsewhere for opportunities

Brian Feroldi has no position in any of the stocks mentioned. The Motley Fool owns shares of NIC. The Motley Fool has a disclosure policy.