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Rating Action:

Moody's affirms Block Financial LLC's Baa3 long term, Prime-3 short term ratings; outlook remains negative

14 Jun 2019

$1.5 billion of rated debt

New York, June 14, 2019 -- Moody's Investors Service ("Moody's") affirmed Block Financial LLC's (together with its indirect parent, publicly-traded H&R Block, Inc., "H&R Block" or "Block") senior unsecured rating at Baa3 and short term rating at Prime-3. The outlook remains negative.

On Tuesday, H&R Block announced it had agreed to acquire Wave Financial Inc. ("Wave") for $405 million. Cash from Block's balance sheet will be used to complete the purchase during fiscal 2020 and pay related fees and expenses.

Block also announced its fiscal 2019 (ended April 30) revenue and EBITDA margin declined approximately 2% and by 400 basis points, respectively, versus the prior fiscal year; these declines were consistent with the guidance it provided in June 2018 when the company announced a series of changes to its strategy.

RATINGS RATIONALE

"The negative outlook reflects uncertainty surrounding whether H&R Block can return to sustainable revenue and profit growth in 2020 and beyond," said Edmond DeForest, Moody's Vice President and Senior Credit Officer. DeForest continued: "The all-cash acquisition of Wave is a negative credit development as it will reduce Block's cash reserves without adding material profits over the next two to three years. That said, we consider the purchase strategically sound as it gives Block a small business software suite it can bundle with its tax filing services to its sole proprietor and small business customers."

Block's Baa3 senior unsecured rating reflects Moody's expectations for some customer and tax return growth, debt to EBITDA around 2.5 times and about $300 million of free cash flow in fiscal 2020. Block has a leading 16% share, around 75% client retention rates and a widely recognized brand in the assisted tax preparation business. The preponderance of Block's profits come from the assisted tax filing business and related financial services, including tax refund-related payment processing. H&R Block's do-it-yourself (DIY) products remain a distant second in terms of market share to the digital do-it-yourself tax market leader, TurboTax (owned by Intuit Inc., A3 stable).

Block's market position and scale leads Moody's to anticipate predictable revenues and solid high 20s percent EBITA margins. However, the strategy changes H&R Block announced in June 2018 could prompt an unexpected competitive response or lead to other unanticipated adverse consequences that result in diminished business stability from greater or longer-lasting than-anticipated revenue and profit declines. The credit profile is constrained by the competitive nature of the industry, the extremely seasonal nature of the company's revenues and cash flows and a slow shift by consumers toward DIY tax filing solutions and away from store-based paid providers. The ratings also consider reputational risk associated with data security and customer privacy, as well as the company's conservative financial strategy as demonstrated by moderate financial leverage and good free cash flow generation. Moody's expects Block to maintain conservative financial strategies including sourcing cash for shareholder returns from internal sources.

All financial metrics reflect Moody's standard adjustments and certain other adjustments. Debt includes about $985 million of lease adjustments as of April 2019. Cash and debt at fiscal year-end are calculated as five quarter averages to adjust for the seasonality of the tax business and Block's short term debt.

The negative outlook reflects Moody's concerns that an inability to reverse the revenue and profit margin declines experienced in 2019 could result in elevated financial leverage, diminished free cash flow and a weakened competitive position. The negative outlook also considers the 2020 bond maturities that become current in October 2019. The outlook could be stabilized if Moody's anticipates sustainable customer and revenue growth in fiscal 2020 along with improving profitability and conservative financial strategies. A stable outlook would also require permanent debt refinancing or repayment of the 2020 bond maturities.

Given the negative outlook, a ratings upgrade is not expected in the next 12 to 18 months. Over the medium term, the ratings could be upgraded if Moody's expects Block will maintain 3% to 5% revenue growth, better balance in profitability between assisted and DIY product lines and debt to EBITDA around 2.0 times.

The ratings could be downgraded if lower tax return volumes, reduced average pricing, diminished income from financial products or increased regulatory costs cause Moody's to anticipate revenue or EBITDA to decline, debt to EBITDA approaching 3.0 times on a sustained basis or more aggressive financial strategies, including a temporary or short-term financing of 2020 debt maturities.

Moody's took the following rating actions and outlook statement for Block Financial LLC:

.... Commercial Paper, Affirmed at Prime-3

....Senior Unsecured Regular Bond/Debenture, Affirmed at Baa3

....Senior Unsecured Shelf, Affirmed at (P)Baa3

....Outlook, remains Negative

The principal methodology used in these ratings was Business and Consumer Service Industry published in October 2016. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

H&R Block Inc. and its subsidiaries provides tax filing and related payment services. The majority of profits are generated by the preparation of tax returns in the company's retail network and through financial settlement products to primarily lower and middle income customers.

In June 2018, H&R Block announced plans to change its pricing strategy, close approximately 400 of its U.S. offices and begin a large, multi-year investment in updating its information technology. Block noted at that time that it anticipated revenue and profitability rate declines in fiscal 2019, but for revenue and profit rates to grow in 2020.

Moody's expects revenues for the fiscal year ending April 30, 2020 of over $3 billion.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Edmond DeForest
VP - Senior Credit Officer
Corporate Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Karen Nickerson
Associate Managing Director
Corporate Finance Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

No Related Data.
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