FRONTDOOR, INC. The following information should be read in conjunction with the unaudited condensed consolidated financial statements and related notes included in Part I, Item 1 of this Quarterly Report on Form 10-Q, the audited consolidated and combined financial statements and related notes thereto included in our 2020 Form 10-K and with the information under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our 2020 Form 10-K. The cautionary statements discussed in "Cautionary Statement Concerning Forward-Looking Statements" and elsewhere in this report should be read as applying to all forward-looking statements wherever they appear in this report. Our actual results could differ materially from those discussed in these forward-looking statements. Factors that could cause or contribute to these differences include those factors discussed below and elsewhere in this report, particularly in "Cautionary Statement Concerning Forward-Looking Statements" as well as those factors discussed in "Risk Factors" included in Part I, Item 1A. "Risk Factors" in our 2020 Form 10-K.
Overview
Frontdoor is the leading provider of home service plans inthe United States , as measured by revenue, and operates under theAmerican Home Shield , HSA,OneGuard and Landmark brands. Our customizable home service plans help customers protect and maintain their homes, typically their most valuable asset, from costly and unplanned breakdowns of essential home systems and appliances. Our home service plan customers subscribe to an annual service plan agreement that covers the repair or replacement of major components of more than 20 home systems and appliances, including electrical, plumbing, central HVAC systems, water heaters, refrigerators, dishwashers and ranges/ovens/cooktops, as well as optional coverages for electronics, pools, spas and pumps. Our operations also include our ProConnect on-demand home services business and Streem, a technology platform that uses augmented reality, computer vision and machine learning to, among other things, help home service professionals more quickly and accurately diagnose breakdowns and complete repairs. AtSeptember 30, 2021 , we had over two million active home service plans across all 50 states and theDistrict of Columbia . For the three months endedSeptember 30, 2021 and 2020, we generated revenue, net income and Adjusted EBITDA of$471 million ,$76 million and$122 million , respectively, and$440 million ,$49 million and$91 million , respectively. For the nine months endedSeptember 30, 2021 and 2020, we generated revenue, net income and Adjusted EBITDA of$1,263 million ,$122 million and$272 million , respectively, and$1,151 million ,$111 million and$238 million , respectively. For the nine months endedSeptember 30, 2021 , our total operating revenue included 69 percent of revenue derived from existing customer renewals, while 16 percent and 12 percent were derived from new home service plan sales made in conjunction with existing home real estate transactions and direct-to-consumer sales, respectively, and three percent was derived from other revenue channels. For the nine months endedSeptember 30, 2020 , our total operating revenue included 69 percent of revenue derived from existing customer renewals, while 18 percent and 12 percent were derived from new home service plan sales made in conjunction with existing home real estate transactions and direct-to-consumer sales, respectively, and one percent was derived from other revenue channels.
Key Factors and Trends Affecting Our Results of Operations
Impact of the COVID-19 Pandemic
OnMarch 11, 2020 , the WHO characterized COVID-19 as a pandemic, and onMarch 13, 2020 ,the United States declared a national emergency concerning the outbreak. The broader implications of the COVID-19 pandemic on our results of operations and overall financial performance remain uncertain. Included under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our 2020 Form 10-K are the steps we took in 2020 and have continued to take in response to the COVID-19 pandemic to protect the well-being of our employees, customers and contractors. We continue to respond to the real-time needs of our business. 21
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During the first nine months of 2021, our financial condition and results of operations were adversely impacted by the COVID-19 pandemic as follows:
?The tight existing home sales market continued to constrain demand for home service plans in the first-year real estate channel. Additionally, due to the annual nature of our home service plan agreements and the corresponding recognition of revenue over this annual period, real estate revenue for the first quarter of 2021 was adversely impacted by the decline inU.S. existing home sales that occurred in the second quarter of 2020. ?We continued to experience an increase in appliance claims compared to pre-pandemic levels primarily due to increased usage of home systems and appliances driven by customers spending greater time at home in response to COVID-19. In addition, industry-wide parts availability challenges have caused increased cost pressure, and, more specifically, additional appliance replacements due to lack of parts availability, further contributing to the increased costs. These industry-wide supply chain challenges also impacted the customer experience, which was reflected in our customer retention rate. ?We incurred incremental customer service wages due to a higher number of service requests in the appliance trade compared to pre-pandemic levels, which was primarily a result of customers spending greater time at home in response to COVID-19. Additionally, due to labor availability challenges, we continued to experience difficulties in hiring and retaining customer service personnel. Although the economy has improved since the initial outbreak of the pandemic, we are unable to predict the time required for a widespread sustainable economic recovery to take hold. We expect that a significant number of people will continue to spend greater time at home, which may result in a continued increase in usage of home systems and appliances and demand for our services and a resulting increase in service-related costs. We also expect that industry-wide supply chain challenges will continue to contribute to increased costs and impact the customer experience, which may affect customer retention. Accordingly, the COVID-19 situation remains very fluid, and we continue to adjust our response in real time. It remains difficult to predict the overall impact the COVID-19 pandemic will have on our business.
Macroeconomic Conditions
Macroeconomic conditions that may affect customer spending patterns, and thereby our results of operations, include home sales, consumer confidence and employment rates. The COVID-19 pandemic has increased economic uncertainty in these areas. We believe our ability to acquire customers through the direct-to-consumer channel helps to mitigate the effects of challenges in the real estate channel, while our nationwide presence limits the risk of poor economic conditions in any particular geography. Additionally, global supply chain challenges, ranging from raw material inflation to transportation delays and labor shortages, impact our costs and customer experience, and we continue to take actions to mitigate these impacts.
Seasonality
Our business is subject to seasonal fluctuations, which drives variations in our revenue, net income and Adjusted EBITDA for interim periods. Seasonal fluctuations are primarily driven by a higher number of central HVAC work orders in the summer months. In the first nine months of 2021 and throughout 2020, additional variations were experienced as the COVID-19 pandemic resulted in an elevated level of service requests in the appliance trade compared to pre-pandemic levels as our customers spent more time at home. In 2020, approximately 20 percent, 28 percent, 30 percent and 22 percent of our revenue, approximately 12 percent, 43 percent, 43 percent and 2 percent of our net income, and approximately 17 percent, 37 percent, 34 percent and 12 percent of our Adjusted EBITDA was recognized in the first, second, third and fourth quarters, respectively.
Effect of Weather Conditions
The demand for our services, and our results of operations, are affected by
weather conditions. Extreme temperatures can lead to an increase in service
requests related to home systems, particularly central HVAC systems, resulting
in higher claim frequency and costs and lower profitability. Weather conditions
that have a potentially favorable impact to our business include mild winters or
summers, which can lead to lower home systems claim frequency. For example,
unfavorable weather trends, as compared to 2020, negatively impacted contract
claims costs in the first quarter of 2021.
While weather variations as described above may affect our business, major
weather events and other similar Acts of God, such as hurricanes, flooding and
tornadoes, typically do not increase our obligations to provide service.
Generally, repairs associated with such isolated events are addressed by
homeowners' and other forms of insurance as opposed to the home service plans
that we offer.
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Tariff and Import/Export Regulations
Changes inU.S. tariff and import/export regulations may impact the costs of parts, appliances and home systems. Import duties or restrictions on components and raw materials that are imposed, or the perception that they could occur, may materially and adversely affect our business by increasing our costs. For example, rising costs due to blanket tariffs on imported steel and aluminum could increase the costs of our parts, appliances and home systems.
Competition
We compete in theU.S. home service plan category and the broaderU.S. home services industry. The home service plan category is highly competitive. The principal methods of competition, and by which we differentiate ourselves from our competitors, are quality and speed of service, contract offerings, brand awareness and reputation, customer satisfaction, pricing and promotions, contractor network and referrals.
Acquisition Activity
We anticipate that the highly fragmented nature of the home service plan category will continue to create strategic opportunities for acquisitions. Historically, we have used acquisitions to cost-effectively grow our customer base in high-growth geographies, and we intend to continue to do so. We may also explore opportunities to make strategic acquisitions that will expand our service offering in the broader home services industry. We have also used acquisitions to enhance our technological capabilities. In 2019, we acquired Streem to support the service experience for our customers, reduce costs and create potential new revenue opportunities across a variety of channels. We expect to use Streem's services in our core home service plan business and in ProConnect's on-demand business to deliver a superior service experience and reduce our costs. In 2020, we acquired a business to expand our ProConnect on-demand offering via their intellectual capital and know-how, technology platform capabilities and geographic presence.
Non-GAAP Financial Measures
To supplement our results presented in accordance withU.S. GAAP, we have disclosed non-GAAP financial measures that exclude or adjust certain items. We present within this "Management's Discussion and Analysis of Financial Condition and Results of Operations" section the non-GAAP financial measure of Adjusted EBITDA. See "Results of Operations - Adjusted EBITDA" for a reconciliation of net income to Adjusted EBITDA, as well as "Key Business Metrics - Adjusted EBITDA" for further discussion of Adjusted EBITDA. Management uses Adjusted EBITDA to facilitate operating performance comparisons from period to period. We believe this non-GAAP financial measure provides investors, analysts and other interested parties useful information to evaluate our business performance as it facilitates company-to-company operating performance comparisons. While we believe this non-GAAP financial measure is useful in evaluating our business, it should be considered as supplemental in nature and is not meant to be considered in isolation or as a substitute for the related financial information prepared in accordance withU.S. GAAP. In addition, this non-GAAP financial measure may not be the same as similarly entitled measures reported by other companies, limiting its usefulness as a comparative measure.
Key Business Metrics
We focus on a variety of indicators and key operating and financial metrics to monitor the financial condition and performance of the continuing operations of our business. These metrics include: ?revenue, ?operating expenses, ?net income, ?earnings per share, ?Adjusted EBITDA, ?Adjusted EBITDA margin,
?net cash provided from operating activities,
?Free Cash Flow,
?growth in number of home service plans, and
?customer retention rate.
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-------------------------------------------------------------------------------- Revenue. The majority of our revenue is generated from annual home service plan agreements entered into with our customers. Home service plan contracts are typically one year in duration. We recognize revenue at the agreed upon contractual amount over time using the input method in proportion to the costs expected to be incurred in performing services under the contracts. Our revenue is primarily a function of the volume and pricing of the services provided to our customers, as well as the mix of services provided. Our revenue volume is impacted by new home service plan sales, customer retention and acquisitions. We derive substantially all of our revenue from customers inthe United States . Operating Expenses. In addition to changes in our revenue, our operating results are affected by, among other things, the level of our operating expenses. Our operating expenses primarily include contract claims costs and expenses associated with sales and marketing, customer service and general corporate overhead. A number of our operating expenses are subject to inflationary pressures, such as salaries and wages, employee benefits and health care; contractor costs; home systems, appliances and repair costs; tariffs; insurance premiums; and various regulatory compliance costs. Net Income and Earnings Per Share. The presentation of net income and basic and diluted earnings per share provides measures of performance which are useful for investors, analysts and other interested parties in company-to-company operating performance comparisons. Basic earnings per share is computed by dividing net income by the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of shares of common stock outstanding during the period, increased to include the number of shares of common stock that would have been outstanding had potentially dilutive shares of common stock been issued. The dilutive effect of stock options, RSUs, performance shares (which are contractual rights to receive a share of our common stock (or the cash equivalent thereof) upon the achievement, in whole or in part, of the applicable performance goals, pursuant to the terms of the Omnibus Plan and the award agreement) and RSAs are reflected in diluted earnings per share by applying the treasury stock method. Adjusted EBITDA and Adjusted EBITDA margin. We evaluate performance based primarily on Adjusted EBITDA, which is a financial measure not calculated in accordance withU.S. GAAP. We define Adjusted EBITDA as net income before: depreciation and amortization expense; restructuring charges; provision for income taxes; non-cash stock-based compensation expense; interest expense; loss on extinguishment of debt; and other non-operating expenses. We define "Adjusted EBITDA margin" as Adjusted EBITDA divided by revenue. We believe Adjusted EBITDA and Adjusted EBITDA margin are useful for investors, analysts and other interested parties as they facilitate company-to-company operating performance comparisons by excluding potential differences caused by variations in capital structures, taxation, the age and book depreciation of facilities and equipment, restructuring initiatives and equity-based, long-term incentive plans.
Net Cash Provided from Operating Activities and Free Cash Flow. We focus on
measures designed to monitor cash flow, including net cash provided from
operating activities and Free Cash Flow, which is a financial measure not
calculated in accordance with
Growth in Number of Home Service Plans and Customer Retention Rate. We report our growth in number of home service plans and customer retention rate in order to track the performance of our business. Home service plans represent our recurring customer base, which includes customers with active contracts for recurring services. Our customer retention rate is calculated as the ratio of ending home service plans to the sum of beginning home service plans, new home service plan sales and acquired accounts for the applicable period. These measures are presented on a rolling, 12-month basis in order to avoid seasonal anomalies.
Critical Accounting Policies and Estimates
Our critical accounting policies and estimates are described under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our 2020 Form 10-K. There have been no material changes to our critical accounting policies for the nine months endedSeptember 30, 2021 , certain of which are described below.
In accordance with applicable accounting standards, goodwill and indefinite-lived intangible assets are not amortized and are subject to assessment for impairment on an annual basis, or more frequently, if circumstances indicate a potential impairment. As ofSeptember 30, 2021 , we do not believe there are any circumstances, including those related to COVID-19, that would indicate a potential impairment of our goodwill or indefinite-lived intangible assets. We will continue to monitor the macroeconomic impacts on our business in our ongoing evaluation of potential impairments. ? 24
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Results of Operations
Three Months EndedSeptember 30, 2021 Compared to the Three Months EndedSeptember 30, 2020 Three Months Ended Increase September 30, (Decrease) % of Revenue (In millions) 2021 2020 2021 vs. 2020 2021 2020 Revenue$ 471 $ 440 7 % 100 % 100 % Cost of services rendered 217 225 (4) 46 51 Gross Profit 254 215 18 54 49 Selling and administrative expenses 138 129 7 29 29 Depreciation and amortization expense 8 7 19 2 2 Interest expense 7 14 (51) 1 3 Income before Income Taxes 101 65 55 21 15 Provision for income taxes 25 16 52 5 4 Net Income$ 76 $ 49 56 % 16 % 11 % Nine Months EndedSeptember 30, 2021 Compared to the Nine Months EndedSeptember 30, 2020 Nine Months Ended Increase September 30, (Decrease) % of Revenue (In millions) 2021 2020 2021 vs. 2020 2021 2020 Revenue$ 1,263 $ 1,151 10 % 100 % 100 % Cost of services rendered 619 572 8 49 50 Gross Profit 644 579 11 51 50 Selling and administrative expenses 392 358 9 31 31 Depreciation and amortization expense 27 25 9 2 2 Restructuring charges 2 4 * - - Interest expense 32 43 (25) 3 4 Interest and net investment (income) loss (1) 1 * - - Loss on extinguishment of debt 31 - * 2 - Income before Income Taxes 161 148 9 13 13 Provision for income taxes 39 37 6 3 3 Net Income$ 122 $ 111 10 % 10 % 10 %
________________________________
* not meaningful
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Revenue
We reported revenue of$471 million and$440 million for the three months endedSeptember 30, 2021 and 2020, respectively, and$1,263 million and$1,151 million for the nine months endedSeptember 30, 2021 and 2020, respectively. Revenue by major customer acquisition channel is as follows: Three Months EndedSeptember 30, 2021 Compared to the Three Months EndedSeptember 30, 2020 Three Months Ended September 30, (In millions) 2021 2020 Increase (Decrease) Renewals$ 328 $ 303 $ 25 8 % Real estate(1) 73 76 (3) (5) Direct-to-consumer(1) 59 56 4 7 Other 11 4 6 * Total revenue$ 471 $ 440 $ 31 7 %
________________________________
* not meaningful
(1)First-year revenue only.
Revenue increased seven percent for the three months endedSeptember 30, 2021 compared to the three months endedSeptember 30, 2020 , primarily driven by higher renewal revenue due to improved price realization and growth in the number of renewed home service plans. The decrease in real estate revenue primarily reflects a decline in the number of first-year real estate home service plans driven by the tight existing home sales market, offset, in part, by improved price realization. Additionally, due to the annual nature of our home service plan agreements, real estate revenue for the prior year was adversely impacted by the decline inU.S. existing home sales that occurred in the second quarter of 2020. The increase in direct-to-consumer revenue primarily reflects improved price realization. The increase in other revenue was driven by growth in ProConnect and Streem. Nine Months EndedSeptember 30, 2021 Compared to the Nine Months EndedSeptember 30, 2020 Nine Months Ended September 30, (In millions) 2021 2020 Increase (Decrease) Renewals$ 867 $ 792 $ 74 9 % Real estate(1) 207 206 1 - Direct-to-consumer(1) 157 143 16 11 Other 31 10 21 * Total revenue$ 1,263 $ 1,151 $ 111 10 %
________________________________
* not meaningful
(1)First-year revenue only.
Revenue increased 10 percent for the nine months endedSeptember 30, 2021 compared to the nine months endedSeptember 30, 2020 , primarily driven by higher renewal revenue due to improved price realization and growth in the number of renewed home service plans. The increase in real estate revenue primarily reflects improved price realization, offset, in part, by a decline in the number of first-year real estate home service plans driven by the tight existing home sales market. Additionally, due to the annual nature of our home service plan agreements, real estate revenue for both the first quarter of 2021 and the second and third quarters of 2020 was adversely impacted by the decline inU.S. existing home sales that occurred in the second quarter of 2020. The increase in direct-to-consumer revenue primarily reflects improved price realization and growth in the number of first-year direct-to-consumer home service plans, mostly driven by increased investments in marketing. The increase in other revenue was driven by growth in ProConnect and Streem. 26
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Number of home service plans, growth in number of home service plans and customer retention rate are presented below.
As of
September 30,
(In millions) 2021 2020
Number of home service plans 2.23 2.24
Growth in number of home service plans - % 4 % Customer retention rate
74 % 76 %
The number of home service plans and customer retention rate as of September 30,
2021 were negatively impacted by a decline in the number of first-year real
estate home service plans, which was driven by the tight existing home sales
market, as well as the impact on customer experience of industry-wide supply
chain challenges.
Cost of Services Rendered
We reported cost of services rendered of $217 million and $225 million for the
three months ended September 30, 2021 and 2020, respectively, and $619 million
and $572 million for the nine months ended September 30, 2021 and 2020,
respectively. The following tables provide a summary of changes in cost of
services rendered:
Three Months Ended
(In millions) Three Months EndedSeptember 30, 2020 $ 225 Impact of change in revenue 7 Contract claims costs (16) Other 1
Three Months Ended
The decrease in contract claims costs reflects lower service request incidence across all trades and process improvement benefits, offset, in part, by increased cost pressures across all trades due to industry-wide availability challenges and inflation. Contract claims costs also reflect a favorable weather impact of approximately$4 million . Appliance parts availability challenges continued to drive additional replacements, contributing to the increased cost pressures.
Nine Months Ended
(In millions) Nine Months EndedSeptember 30, 2020 $ 572 Impact of change in revenue 29 Contract claims costs 16 Other 1
Nine Months Ended
The increase in contract claims costs reflects increased cost pressures across
all trades due to industry-wide availability challenges and inflation, offset,
in part, by lower service request incidence across all trades and process
improvement benefits. Appliance parts availability challenges continued to drive
additional replacements, contributing to the increased cost pressures.
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Selling and Administrative Expenses
We reported selling and administrative expenses of$138 million and$129 million for the three months endedSeptember 30, 2021 and 2020, respectively,$392 million and$358 million for the nine months endedSeptember 30, 2021 and 2020, respectively. For the three months endedSeptember 30, 2021 and 2020, selling and administrative expenses comprised sales, marketing and customer service costs of$103 million and$97 million , respectively, and general and administrative expenses of$36 million and$32 million , respectively. For the nine months endedSeptember 30, 2021 and 2020, selling and administrative expenses comprised sales, marketing and customer service costs of$280 million and$261 million , respectively, and general and administrative expenses of$111 million and$97 million , respectively. The following tables provide a summary of changes in selling and administrative expenses:
Three Months Ended
(In millions) Three Months EndedSeptember 30, 2020 $ 129 Sales and marketing costs 7 Customer service costs (1) Stock-based compensation expense 1 General and administrative costs 2
Three Months Ended
The increase in sales and marketing costs was primarily driven by increased investments to drive sales growth in the home service plan direct-to-consumer channel. General and administrative costs increased compared to prior year primarily due to increased personnel costs and investments in technology.
Nine Months Ended
(In millions) Nine Months EndedSeptember 30, 2020 $ 358 Sales and marketing costs 16 Customer service costs 4 Stock-based compensation expense 6 General and administrative costs 8 Nine Months EndedSeptember 30, 2021 $ 392 The increase in sales and marketing costs was primarily driven by increased investments to drive sales growth in the home service plan direct-to-consumer channel, ProConnect and Streem. The increase in customer service costs was primarily related to investments in customer retention initiatives. General and administrative costs increased compared to prior year primarily due to increased personnel costs and investments in technology. Prior year general and administrative costs include incremental direct costs related to COVID-19 of$1 million . Depreciation Expense Depreciation expense was$6 million and$5 million for the three months endedSeptember 30, 2021 and 2020, respectively, and$18 million and$16 million for the nine months endedSeptember 30, 2021 and 2020, respectively.
Amortization Expense
Amortization expense was
Restructuring Charges
Restructuring charges were less than$1 million for each of the three months endedSeptember 30, 2021 and 2020 and$2 million and$4 million for the nine months endedSeptember 30, 2021 and 2020, respectively. For the three months endedSeptember 30, 2021 , restructuring charges primarily comprised severance costs. For the three months endedSeptember 30, 2020 restructuring charges primarily comprised accelerated depreciation of certain technology systems driven by efforts to enhance our technological capabilities. 28
-------------------------------------------------------------------------------- For the nine months endedSeptember 30, 2021 , restructuring charges comprised$1 million of accelerated depreciation of certain technology systems driven by efforts to enhance our technological capabilities and$1 million of severance and other costs. For the nine months endedSeptember 30, 2020 , restructuring charges comprised$2 million of lease termination costs and$1 million of severance and other costs related to the decision to consolidate the operations of Landmark with those ofOneGuard , which was completed during the first quarter of 2020, as well as$1 million of accelerated depreciation of certain technology systems. Interest Expense Interest expense was$7 million and$14 million for the three months endedSeptember 30, 2021 and 2020, respectively, and$32 million and$43 million for the nine months endedSeptember 30, 2021 and 2020, respectively. For the three and nine months endedSeptember 30, 2021 , the decrease was due to a decline in interest rates on the unhedged portion of our variable rate debt primarily driven by theJune 17, 2021 refinancing of the Prior Credit Agreement, theFebruary 17, 2021 partial repayment of the Prior Term Loan Facility and theJune 17, 2021 redemption of the 2026 Notes.
Interest and Net Investment (Income) Loss
Interest and net investment (income) loss reflects income of less than$1 million for each of the three months endedSeptember 30, 2021 and 2020, and income of$1 million for the nine months endedSeptember 30, 2021 compared to a loss of$1 million for the nine months endedSeptember 30, 2020 . For the three and nine months endedSeptember 30, 2021 and the three months endedSeptember 30, 2020 , amounts primarily comprised interest on our cash and cash equivalents balances. For the nine months endedSeptember 30, 2020 , amounts primarily comprised a$3 million loss on investment, offset, in part, by interest on our cash and cash equivalents balances.
Loss on Extinguishment of Debt
Loss on extinguishment of debt was$31 million for the nine months endedSeptember 30, 2021 . Amounts primarily relate to theJune 17, 2021 redemption of the remaining outstanding principal amounts of$534 million of the Prior Term Loan Facility and$350 million of the 2026 Notes and include a "make-whole" redemption premium of$21 million on the 2026 Notes and the write-off of$9 million of debt issuance costs and original issue discount. Additionally,$1 million relates to theFebruary 17, 2021 partial repayment of the Prior Term Loan Facility and includes the write-off of debt issuance costs and original issue discount. There were no such charges for the three months endedSeptember 30, 2021 and the three and nine months endedSeptember 30, 2020 .
Provision for Income Taxes
The effective tax rate on income was 24.3 percent and 24.8 percent for the three months endedSeptember 30, 2021 and 2020, respectively, and 24.4 percent and 25.1 percent for the nine months endedSeptember 30, 2021 and 2020, respectively. The decrease in the effective tax rate for the nine months endedSeptember 30, 2021 compared to 2020 is primarily due to excess tax benefits for share-based awards and income tax credits, offset, in part, by an increase in state income taxes. Net Income Net income was$76 million and$49 million for the three months endedSeptember 30, 2021 and 2020, respectively, and$122 million and$111 million for the nine months endedSeptember 30, 2021 and 2020, respectively. For the three months endedSeptember 30, 2021 compared to 2020, the increase was driven by the aforementioned operating results, offset, in part, by an increase in the provision for income taxes. For the nine months endedSeptember 30, 2021 compared to 2020, the increase was driven by the aforementioned operating results, offset in part, by a loss on extinguishment of debt and an increase in the provision for income taxes. 29
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Adjusted EBITDA
Adjusted EBITDA was$122 million and$91 million for the three months endedSeptember 30, 2021 and 2020, respectively, and$272 million and$238 million for the nine months endedSeptember 30, 2021 and 2020, respectively. The following tables provide a summary of changes in our Adjusted EBITDA:
Three Months Ended
(In millions) Three Months EndedSeptember 30, 2020 $ 91 Impact of change in revenue 24 Contract claims costs 16 Sales and marketing costs (7) Customer service costs 1 General and administrative costs (3) Other (1)
Three Months Ended
The decrease in contract claims costs reflects lower service request incidence across all trades and process improvement benefits, offset, in part, by increased cost pressures across all trades due to industry-wide availability challenges and inflation. Contract claims costs also reflect a favorable weather impact of approximately$4 million . Appliance parts availability challenges continued to drive additional replacements, contributing to the increased cost pressures.
The increase in sales and marketing costs was primarily driven by increased investments to drive sales growth in the home service plan direct-to-consumer channel. General and administrative costs increased compared to prior year primarily due to increased personnel costs and investments in technology.
Nine Months Ended
(In millions) Nine Months EndedSeptember 30, 2020 $ 238 Impact of change in revenue 82 Contract claims costs (16) Sales and marketing costs (16) Customer service costs (4) General and administrative costs (10) Other (3)
Nine Months Ended
The increase in contract claims costs reflects increased cost pressures across all trades due to industry-wide availability challenges and inflation, offset, in part, by lower service request incidence across all trades and process improvement benefits. Appliance parts availability challenges continued to drive additional replacements, contributing to the increased cost pressures. The increase in sales and marketing costs was primarily driven by increased investments to drive sales growth in the home service plan direct-to-consumer channel, ProConnect and Streem. The increase in customer service costs was primarily related to investments in customer retention initiatives. General and administrative costs increased compared to prior year primarily due to increased personnel costs and investments in technology. Prior year general and administrative costs include incremental direct costs related to COVID-19 of$1 million . 30
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A reconciliation of Net Income to Adjusted EBITDA is presented below.
Three Months Ended Nine Months Ended
September 30, September 30,
(In millions) 2021 2020 2021 2020
Net Income $ 76 $ 49 $ 122 $ 111
Depreciation and amortization expense 8 7 27 25
Restructuring charges - - 2 4
Provision for income taxes 25 16 39 37
Non-cash stock-based compensation expense 5 4 19 13
Interest expense 7 14 32 43
Loss on extinguishment of debt - - 31 -
Other non-operating expenses(1) - - - 5
Adjusted EBITDA $ 122 $ 91 $ 272 $ 238 ________________________________
(1)Other non-operating expenses for the nine months endedSeptember 30, 2020 includes (a) a loss on investment of$3 million , (b) incremental direct costs related to COVID-19 of$1 million , which were temporary in nature and primarily related to incremental health and childcare benefits for our employees and hoteling costs related to our offshore business process outsourcers and (c) acquisition-related transaction costs of$1 million . There were no such charges for the three and nine months endedSeptember 30, 2021 and the three months endedSeptember 30, 2020 .
Liquidity and Capital Resources
Liquidity
A substantial portion of our liquidity needs are due to debt service requirements on our indebtedness. The Amended Credit Agreement contains covenants that limit or restrict our ability, including the ability of certain of our subsidiaries, to incur additional indebtedness, repurchase debt, incur liens, sell assets, make certain payments (including dividends) and enter into transactions with affiliates. As ofSeptember 30, 2021 , we were in compliance with the covenants under the agreements that were in effect on such date. Based on current conditions, we do not believe the COVID-19 pandemic will affect our ongoing ability to meet the covenants in our debt instruments, including our Amended Credit Agreement. Cash and cash equivalents totaled$309 million and$597 million as ofSeptember 30, 2021 andDecember 31, 2020 , respectively. Our cash and cash equivalents include balances associated with regulatory requirements in our business. See "-Limitations on Distributions and Dividends by Subsidiaries." As ofSeptember 30, 2021 , andDecember 31, 2020 , the total net assets subject to these third-party restrictions was$178 million and$180 million , respectively. As ofSeptember 30, 2021 , there were$2 million of letters of credit outstanding and$248 million of available borrowing capacity under the Amended Revolving Credit Facility. The letters of credit are posted in lieu of cash to satisfy regulatory requirements in certain states in which we operate. Available liquidity was$379 million atSeptember 30, 2021 , consisting of$131 million of cash not subject to third-party restrictions and$248 million of available borrowing capacity under the Amended Revolving Credit Facility. We currently believe that cash generated from operations, our cash on hand and available borrowing capacity under the Amended Revolving Credit Facility atSeptember 30, 2021 will provide us with sufficient liquidity to meet our obligations for the foreseeable future. We closely monitor the performance of our investment portfolio. From time to time, we review the statutory reserve requirements to which our regulated entities are subject and any changes to such requirements. These reviews may result in identifying current reserve levels above or below minimum statutory reserve requirements, in which case we may adjust our reserves. The reviews may also identify opportunities to satisfy certain regulatory reserve requirements through alternate financial vehicles. We may, from time to time, repurchase or otherwise retire or extend our debt and/or take other steps to reduce our debt or otherwise improve our financial position, gross leverage, results of operations or cash flows. These actions may include open market debt repurchases, negotiated repurchases, other retirements of outstanding debt and/or opportunistic refinancing of debt. The amount of debt that may be repurchased or otherwise retired or refinanced, if any, and the price of such repurchases, retirements or refinancings will depend on market conditions, trading levels of our debt, our cash position, compliance with debt covenants and other considerations. 31 -------------------------------------------------------------------------------- OnFebruary 17, 2021 , we repaid$100 million of outstanding principal amount of the Term Loan Facility. In connection with the repayment, we recorded a loss on extinguishment of debt of$1 million , which included the write-off of debt issuance costs and original issue discount. OnJune 17, 2021 , we entered into the Amended Credit Agreement, providing for the Term Loan A maturingJune 17, 2026 , the Term Loan B maturingJune 17, 2028 and the Amended Revolving Credit Facility, which terminatesJune 17, 2026 . The net proceeds of the transaction, together with cash on hand, were used to redeem the remaining outstanding principal amounts of$534 million of the Prior Term Loan Facility and$350 million of the 2026 Notes at a price of 106.1%. In addition, the Amended Revolving Credit Facility replaced the Prior Revolving Credit Facility. In connection with the repayments, we recorded a loss on extinguishment of debt of$30 million in the second quarter of 2021, which included a "make-whole" redemption premium of$21 million on the 2026 Notes and the write-off of$9 million of debt issuance costs and original issue discount. See Note 10 to the condensed consolidated financial statements included in Part 1, Item 1 of this report for more information related to our indebtedness. OnSeptember 7, 2021 , we announced a three-year repurchase authorization of up to$400 million of outstanding shares of our common stock. We expect to fund the share repurchases from net cash provided from operating activities. As ofSeptember 30, 2021 , we have purchased 542,227 outstanding shares at an aggregate cost of$25 million under this program, which is included in treasury stock on the condensed consolidated statements of financial position. Purchases under the repurchase program may be made from time to time by the company in the open market at prevailing market prices (including through a Rule 10b5-1 Plan), in privately negotiated transactions, or through any combination of these methods, throughSeptember 3, 2024 . The actual timing, number, manner and value of any shares repurchased will depend on several factors, including the market price of the company's stock, general market and economic conditions, the company's liquidity requirements, applicable legal requirements and other business considerations. The repurchase program does not obligate us to acquire any number of shares in any specific period or at all and may be suspended or discontinued at any time at our discretion.
Limitations on Distributions and Dividends by Subsidiaries
We depend on our subsidiaries to distribute funds to us so that we may pay obligations and expenses, including satisfying obligations with respect to indebtedness. The ability of our subsidiaries to make distributions and dividends to us depends on their operating results, cash requirements, financial condition and general business conditions, as well as restrictions under the laws of our subsidiaries' jurisdictions. Our subsidiaries are permitted under the terms of the Amended Credit Agreement and other indebtedness to incur additional indebtedness that may restrict or prohibit the making of distributions, the payment of dividends or the making of loans by such subsidiaries to us. Furthermore, there are third-party restrictions on the ability of certain of our subsidiaries to transfer funds to us. These restrictions are related to regulatory requirements. The payments of ordinary and extraordinary dividends by certain of our subsidiaries (through which we conduct our business) are subject to significant regulatory restrictions under the laws and regulations of the states in which they operate. Among other things, such laws and regulations require certain subsidiaries to maintain minimum capital and net worth requirements and may limit the amount of ordinary and extraordinary dividends and other payments that these subsidiaries can pay to us. We expect that such limitations will be in effect for the foreseeable future. InTexas , we are relieved of the obligation to post 75 percent of our otherwise required reserves because we operate a captive insurer approved byTexas regulators in order to satisfy such obligations. None of our subsidiaries are obligated to make funds available to us through the payment of dividends.
Cash Flows
Cash flows from operating, investing and financing activities, as reflected in
the condensed consolidated statements of cash flows included in Part I, Item 1
of this report, are summarized in the following table.
Nine Months Ended
September 30,
(In millions) 2021 2020
Net cash provided from (used for):
Operating activities $ 142 $ 154
Investing activities (23) (25)
Financing activities (407) (6)
Cash (decrease) increase during the period
Operating Activities
Net cash provided from operating activities was
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Net cash provided from operating activities in 2021 comprised $207 million in
earnings adjusted for non-cash charges, offset, in part, by $65 million in cash
used for working capital. Cash used for working capital was driven by
seasonality and the impacts on deferred revenue of a decline in the number of
first-year real estate home service plans and a shift in the mix of annual-pay
customers to monthly-pay customers.
Net cash provided from operating activities in 2020 comprised $155 million in
earnings adjusted for non-cash charges, offset, in part, by $1 million in cash
used for working capital.
Investing Activities
Net cash used for investing activities was
Capital expenditures were$23 million and$26 million for the nine months endedSeptember 30, 2021 and 2020, respectively, and included recurring capital needs and technology projects. We expect capital expenditures for the full year 2021 relating to recurring capital needs and the continuation of investments in information systems and productivity enhancing technology to be approximately$30 million to$35 million . We have no additional material capital commitments at this time. Cash payments for business acquisitions, net of cash acquired, were$5 million for the nine months endedSeptember 30, 2020 . During the second quarter of 2020, we acquired a business to expand our ProConnect on-demand offering for$5 million in cash. There were no acquisitions for the nine months endedSeptember 30, 2021 . Cash flows provided from purchases, sales and maturities of securities, net, for the nine months endedSeptember 30, 2020 were$7 million and were driven by the maturities of marketable securities. There were no cash flows provided from purchases, sales and maturities of securities, net, for the nine months endedSeptember 30, 2021 . Financing Activities
Net cash used for financing activities was
During the nine months endedSeptember 30, 2021 , we borrowed$638 million , net of discount, under the Amended Term Loan Facilities, made scheduled principal payments of debt and finance lease obligations of$5 million and redeemed the remaining outstanding principal amounts of$634 million of the Prior Term Loan Facility and$350 million of the 2026 Notes. In connection with the repayments, we paid a "make-whole" redemption premium of$21 million on the 2026 Notes and debt issuance costs of$8 million . In addition, we repurchased$25 million of common stock.
During the nine months ended
Contractual Obligations
Our 2020 Form 10-K includes disclosures of our contractual obligations and
commitments as of
OnJune 17, 2021 , we entered into the Amended Credit Agreement. The net proceeds of the transaction, together with cash on hand, were used to redeem the remaining outstanding principal amounts of$534 million of the Prior Term Loan Facility and$350 million of the 2026 Notes. As ofSeptember 30, 2021 , future scheduled long-term debt payments total$636 million , and estimated long-term debt payments for the remainder of 2021 and for each fiscal year from 2022 through 2026 are$4 million ,$17 million ,$17 million ,$17 million ,$17 million and$205 million , respectively. Additionally, as ofSeptember 30, 2021 , future estimated interest payments, which are based on the applicable rates atSeptember 30, 2021 plus the specified margin in the Amended Credit Agreement, total$118 million ; estimated interest payments for the remainder of 2021 and for each fiscal year from 2022 through 2026 are$6 million ,$24 million ,$24 million ,$23 million ,$19 million and$10 million , respectively; the estimated debt balance as of each fiscal year end from 2021 through 2026 is$632 million ,$615 million ,$598 million ,$581 million ,$564 million and$359 million , respectively; and the weighted-average interest rate (including the impact of the effective interest rate swap) on the estimated debt balances at each fiscal year end from 2021 through 2026 is expected to be 3.8 percent, 3.8 percent, 3.9 percent, 4.0 percent, 2.2 percent and 2.3 percent, respectively. See Note 10 to the condensed consolidated financial statements included in Part 1, Item 1 of this report for the terms and maturities of the Amended Credit Facilities. 33
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Financial Position
The following discussion describes changes in our financial position from
?Cash and cash equivalents decreased during the nine months endedSeptember 30, 2021 , primarily due to payments of debt, net of borrowings, and repurchases of common stock, offset, in part, by cash provided from operating activities.
?The contract asset is due to the recognition of monthly pay customer revenue on an other-than-straight-line basis to match the timing of cost recognition.
?Accounts payable increased during the nine months ended
?Deferred revenue decreased during the nine months endedSeptember 30, 2021 , reflecting a decline in the number of first-year real estate home service plans, a shift in the mix of annual-pay customers to monthly-pay customers and the recognition of previously deferred amounts on an other-than-straight-line basis to match the timing of cost recognition.
?Current portion of long-term debt increased during the nine months ended
? Long-term debt decreased during the nine months ended
?Other long-term liabilities decreased during the nine months ended
?Total shareholders' equity was a surplus of$62 million as ofSeptember 30, 2021 compared to a deficit of$61 million as ofDecember 31, 2020 . The increase was primarily driven by the$122 million of net income generated during the nine months endedSeptember 30, 2021 . See the condensed consolidated statements of changes in equity (deficit) included in Part I, Item 1 of this report for further information.
Off-Balance Sheet Arrangements
As of
We do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. Accordingly, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.
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