HealthEquity (HQY 3.66%), a leading provider of health savings accounts (HSAs), reported its fiscal 2020 second-quarter results on Tuesday.

HealthEquity has been in a state of flux over the last couple of months. The company announced its intention to acquire WageWorks in April. The deal officially closed on Aug. 30, but HealthEquity began to make investments in itself ahead of the closing. At the same time, management has purposely shifted its attention away from service and interchange revenue growth in favor of boosting custodial revenue. That change caused its top-line growth rate to slow. When combined with a higher tax rate and increased spending, its bottom line took a step backward.  

HealthEquity fiscal 2020 Q2 results: The raw numbers

Metric Q2 2019 Q2 2018 Change
Revenue $86.6 million $71.1 million 22%
GAAP net income $19.4 million $22.5 million (14%)
GAAP earnings per share $0.30 $0.36 (17%)

Data source: HealthEquity. GAAP = generally accepted accounting principles. 

HSA written on a paper near wad of bills and a stethoscope

Image source: Getty Images.

What happened with HealthEquity this quarter?

  • Custodial revenue, which is earned from assets held under management, continues to be the star of the show and grew 42% to $43.6 million. Service revenue and interchange revenue grew by 5% and 8%, respectively, as management continues to lower its fees in an effort to bring more value to its customers. 
  • Custodial assets under management, which is the total amount of money that is held in members' accounts, grew 21% to $8.5 billion.
  • Total HSA membership increased 16% to 4.2 million.
  • HSA members who held investments grew 31% to 187,000.
  • Gross margin rose 200 basis points to 67.5%.
  • HealthEquity closed its acquisition of WageWorks on Aug. 30. The combined company is now the largest HSA administrator by accounts in the country. 
  • Operating expenses rose to 39% of revenue during the period due to integration costs and strategic investments in the business.
  • Elevated spending levels and a higher tax rate were the primary causes of the decline in net income.
  • Non-GAAP net income was $29.4 million, or $0.45 per share.

Check out the latest earnings call transcript for HealthEquity.

What management had to say

CEO Jon Kessler remained excited about the progress that has been made in 2019 and the opportunity ahead of the newly combined company:

We believe that HealthEquity's results in the second quarter and the speedy close of the WageWorks acquisition position us for a strong second half selling season. HealthEquity's more than 215,000 new HSAs and $400 million in custodial asset growth in the first half provides the team the opportunity to once again outpace HSA market growth this year. HealthEquity's unique combined offering of HSAs and consumer-directed benefits will enable us to continue building our leading HSA market position.

On the conference call with investors, Kessler also talked up a handful of regulatory developments that bode well for continued growth in the HSA market: "The IRS clarified and expanded the scope of HSA qualified plans to include plan designs with more coverage for chronic conditions. And bipartisan legislation introduced in the House would extend the benefits of HSAs to all Medicare recipients."

Looking ahead

The WageWorks acquisition will start to impact the company's financial statements in the upcoming quarter. To avoid confusion, management plans on providing investors with guidance for HealthEquity and WageWorks on a stand-alone basis for the remainder of the year.

With that in mind, here's what management now expects to happen in fiscal 2020:

  • Revenue is now expected to land between $341 million and $347 million. That's up from its prior guidance range of $333 million to $339 million.
  • WageWorks should contribute an additional $170 million to $175 million in revenue.
  • GAAP net income is expected to land between $9 million and $13 million. 
  • Non-GAAP net income should come in between $76 million and $80 million, or $1.10 to $1.16 per share. That's down from its prior range of $83 million to $87 million, or $1.28 to $1.31 per share. The drop is mostly attributable to the inclusion of interest expense related to the new $1.25 billion in debt that was issued to fund the WageWorks acquisition.

Investors sold off HealthEquity's stock in the trading session following the earnings release. The most likely reason for the decline is the reduced guidance range for full-year non-GAAP earnings per share. That's an understandable reaction given that HealthEquity is considered a high-growth business and trades at a premium valuation. 

HealthEquity's management team is purposely sacrificing profit growth now in an effort to build a more robust company over time. Only time will tell if those investments will pay off. Shareholders will need to remain patient.