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INSPERITY, INC. - Quarter Report: 2012 September (Form 10-Q)

form10q.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.  20549

FORM 10-Q
(Mark One)
x
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934

For the quarterly period ended September 30, 2012.
or
o
Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934

For the transition period from __________to __________

Commission File No. 1-13998

Insperity, Inc.
(Exact name of registrant as specified in its charter)

Delaware
 
76-0479645
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)

19001 Crescent Springs Drive
   
Kingwood, Texas
 
77339
(Address of principal executive offices)
 
(Zip Code)

(Registrant’s Telephone Number, Including Area Code):  (281) 358-8986

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes þ No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer  þ 
Accelerated filer  o
Non-accelerated filer  o
Smaller reporting company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).   Yes o No þ
 
As of October 25, 2012, 25,654,217 shares of the registrant’s common stock, par value $0.01 per share, were outstanding.
 
 
 

 
 
TABLE OF CONTENTS
 
Part I

Item 1.
3
     
Item 2.
20
     
Item 3.
31
     
Item 4.
31
     
Part II
     
Item 1.
32
     
Item 1a.
32
     
Item 2.
34
     
Item 6.
35
 
 
 

 
PART I

ITEM 1.

INSPERITY, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands)

ASSETS
 
   
September 30,
2012
   
December 31,
2011
 
   
(Unaudited)
       
             
Current assets:
           
Cash and cash equivalents
  $ 202,218     $ 211,208  
Restricted cash
    46,069       44,737  
Marketable securities
    51,702       56,987  
Accounts receivable, net:
               
Trade
    2,255       7,893  
Unbilled
    198,197       158,508  
Other
    2,656       4,532  
Prepaid insurance
    23,739       21,300  
Other current assets
    8,133       11,488  
Income taxes receivable
          2,902  
Deferred income taxes
    940       3,233  
Total current assets
    535,909       522,788  
                 
Property and equipment:
               
Land
    3,653       3,653  
Buildings and improvements
    69,868       67,496  
Computer hardware and software
    78,836       76,105  
Software development costs
    35,431       32,699  
Furniture and fixtures
    36,595       36,133  
Aircraft
    35,879       35,866  
      260,262       251,952  
Accumulated depreciation and amortization
    (167,335 )     (159,008 )
Total property and equipment, net
    92,927       92,944  
                 
Other assets:
               
Prepaid health insurance
    9,000       9,000  
Deposits – health insurance
    3,000       2,640  
Deposits – workers’ compensation
    57,588       52,320  
Goodwill and other intangible assets, net
    27,131       28,433  
Other assets
    4,879       4,134  
Total other assets
    101,598       96,527  
Total assets
  $ 730,434     $ 712,259  
 
 
INSPERITY, INC.
CONSOLIDATED BALANCE SHEETS (Continued)
(in thousands)

LIABILITIES AND STOCKHOLDERS’ EQUITY

   
September 30,
2012
   
December 31,
2011
 
   
(Unaudited)
       
             
Current liabilities:
           
Accounts payable
  $ 3,088     $ 5,085  
Payroll taxes and other payroll deductions payable
    107,932       168,652  
Accrued worksite employee payroll cost
    174,264       130,317  
Accrued health insurance costs
    22,522       9,427  
Accrued workers’ compensation costs
    48,369       46,548  
Accrued corporate payroll and commissions
    21,819       22,383  
Other accrued liabilities
    13,975       13,814  
Income taxes payable
    3,987        
Total current liabilities
    395,956       396,226  
                 
Noncurrent liabilities:
               
Accrued workers’ compensation costs
    63,463       60,054  
Deferred income taxes
    10,768       10,772  
Total noncurrent liabilities
    74,231       70,826  
                 
Commitments and contingencies
               
                 
Stockholders’ equity:
               
Common stock
    309       309  
Additional paid-in capital
    136,688       135,871  
Treasury stock, at cost
    (138,784 )     (134,647 )
Accumulated other comprehensive income, net of tax
    70       24  
Retained earnings
    261,964       243,650  
Total stockholders’ equity
    260,247       245,207  
Total liabilities and stockholders’ equity
  $ 730,434     $ 712,259  

See accompanying notes.
 
 
INSPERITY, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(Unaudited)

   
Three Months Ended
September 30,
   
Nine Months Ended
September 30,
 
   
2012
   
2011
   
2012
   
2011
 
Revenues (gross billings of $3.068 billion, $2.835 billion, $9.339 billion and $8.454 billion, less worksite employee payroll cost of $2.556 billion, $2.363 billion, $7.712 billion and $6.973 billion, respectively)
  $      511,953     $      471,821     $      1,626,386     $      1,481,105  
Direct costs:
                               
Payroll taxes, benefits and workers’ compensation costs
    413,533       384,792       1,337,668       1,219,276  
Gross profit
    98,420       87,029       288,718       261,829  
Operating expenses:
                               
Salaries, wages and payroll taxes
    44,032       39,494       127,402       117,558  
Stock-based compensation
    2,429       2,109       7,385       6,455  
Commissions
    3,358       3,399       10,299       9,750  
Advertising
    3,680       5,235       17,001       18,280  
General and administrative expenses
    21,122       18,912       61,694       57,828  
Depreciation and amortization
    4,659       3,786       13,336       11,335  
      79,280       72,935       237,117       221,206  
Operating income
    19,140       14,094       51,601       40,623  
Other income (expense):
                               
Interest, net
    142       245       462       829  
Other, net
    (3 )     (7,501 )     141       (7,497 )
      139       (7,256 )     603       (6,668 )
                                 
Income before income tax expense
    19,279       6,838       52,204       33,955  
Income tax expense
    7,827       2,739       21,247       14,329  
Net income
  $ 11,452     $ 4,099     $ 30,957     $ 19,626  
Less net income allocated to participating securities
    (334 )     (120 )     (898 )     (582 )
                                 
Net income allocated to common shares
  $ 11,118     $ 3,979     $ 30,059     $ 19,044  
                                 
Basic net income per share of common stock
  $ 0.45     $ 0.16     $ 1.20     $ 0.75  
                                 
Diluted net income per share of common stock
  $ 0.45     $ 0.16     $ 1.20     $ 0.74  

See accompanying notes.
 
 
INSPERITY, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in thousands)
 (Unaudited)

   
Three Months Ended
September 30,
   
Nine Months Ended
September 30,
 
   
2012
   
2011
   
2012
   
2011
 
                         
Net income
  $ 11,452     $ 4,099     $ 30,957     $ 19,626  
                                 
Other comprehensive income:
                               
                                 
Unrealized gain (loss) on available-for-sale securities, net of tax
    12       (7 )     46       31  
                                 
Comprehensive income
  $ 11,464     $ 4,092     $ 31,003     $ 19,657  

See accompanying notes.
 
 
INSPERITY, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
NINE MONTHS ENDED SEPTEMBER 30, 2012
(in thousands)
(Unaudited)

   
Common Stock
Issued
   
Additional
Paid-In
   
 
Treasury
   
Accumulated
Other
Comprehensive
   
 
Retained
   
 
 
 
    Shares    
Amount
    Capital     Stock     Income (Loss)     Earnings     Total  
                                           
Balance at December 31, 2011
    30,839     $ 309     $ 135,871     $ (134,647 )   $ 24     $ 243,650     $ 245,207  
Purchase of treasury stock, at cost
                      (13,770 )                 (13,770 )
Exercise of stock options
                (558 )     1,620                   1,062  
Income tax benefit from stock-based compensation, net
                      1,097                                 1,097  
Stock-based compensation expense
                199       7,186                   7,385  
Other
                79       827                   906  
Dividends paid
                                  (12,643 )     (12,643 )
Unrealized gain on marketable securities, net of tax
                            46             46  
Net income
                                  30,957       30,957  
Balance at September 30, 2012
    30,839     $ 309     $ 136,688     $ (138,784 )   $ 70     $ 261,964     $ 260,247  

See accompanying notes.
 
 
INSPERITY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)

   
Nine Months Ended
September 30,
 
   
2012
   
2011
 
             
Cash flows from operating activities:
           
Net income
  $ 30,957     $ 19,626  
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
               
Depreciation and amortization
    13,336       11,335  
Loss on exchange of assets
    (21 )     4,396  
Amortization of marketable securities
    1,827       1,535  
Stock-based compensation
    7,385       6,455  
Deferred income taxes
    2,259       (96 )
Changes in operating assets and liabilities, net of effects from acquisitions:
               
Restricted cash
    (1,332 )     (1,608 )
Accounts receivable
    (32,175 )     (20,231 )
Prepaid insurance
    (2,439 )     9,796  
Other current assets
    3,355       (2,339 )
Other assets
    (6,373 )     4,876  
Accounts payable
    (1,997 )     (650 )
Payroll taxes and other payroll deductions payable
    (60,704 )     (40,892 )
Accrued worksite employee payroll expense
    43,947       21,091  
Accrued health insurance costs
    13,095       (10,210 )
Accrued workers’ compensation costs
    5,231       6,013  
Accrued corporate payroll, commissions and other accrued liabilities
    2,155       3,656  
Income taxes payable/receivable
    6,529       479  
Total adjustments
    (5,922 )     (6,394 )
Net cash provided by operating activities
    25,035       13,232  
                 
Cash flows from investing activities:
               
Marketable securities purchases
    (23,585 )     (43,607 )
Marketable securities proceeds from dispositions
          3,907  
Marketable securities proceeds from maturities
    27,119       26,194  
Cash exchanged for acquisitions
    (1,200 )     (13,125 )
Property and equipment
    (11,996 )     (23,404 )
Net cash used in investing activities
    (9,662 )     (50,035 )
 
 
INSPERITY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
(in thousands)
(Unaudited)

   
Nine Months Ended
September 30,
 
   
2012
   
2011
 
             
Cash flows from financing activities:
           
Purchase of treasury stock
  $ (13,770 )   $ (22,459 )
Dividends paid
    (12,643 )     (11,871 )
Proceeds from the exercise of stock options
    1,062       3,881  
Income tax benefit from stock-based compensation
    1,457       2,049  
Other
    (469 )     284  
Net cash used in financing activities
    (24,363 )     (28,116 )
                 
Net decrease in cash and cash equivalents
    (8,990 )     (64,919 )
Cash and cash equivalents at beginning of period
    211,208       234,829  
Cash and cash equivalents at end of period
  $ 202,218     $ 169,910  

Supplemental Cash Flow Information:

In September 2011, the Company exchanged an existing aircraft with a fair value of $4.0 million and paid an additional $10.0 million to acquire a replacement aircraft, resulting in a non-cash loss of $4.4 million, which is included in other income (expense).

See accompanying notes.
 
 
INSPERITY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2012
(Unaudited)

1.
Basis of Presentation

Insperity, Inc., a Delaware corporation (“Insperity,” “we,” “our,” and “us”), provides an array of human resources (“HR”) and business solutions designed to help improve business performance. Our most comprehensive HR business offering is provided through our professional employer organization (“PEO”) services, known as Workforce OptimizationTM , which encompasses a broad range of HR functions, including payroll and employment administration, employee benefits, workers’ compensation, government compliance, performance management, and training and development services.

In addition to Workforce Optimization, we offer Human Capital Management, Payroll Services, Time and Attendance, Performance Management, Organizational Planning, Recruiting Services, Employment Screening, Financial Services, Expense Management, Retirement Services and Insurance Services (collectively “Adjacent Businesses”), many of which are offered via desktop applications and software as a service (“SaaS”) delivery models.  These other products or services are offered separately, as a bundle, or along with Workforce Optimization (“Bundle Plus”).

We provide our Workforce Optimization solution to small and medium-sized businesses in strategically selected markets throughout the United States.  For the nine months ended September 30, 2012 and 2011, Workforce Optimization revenues from Insperity’s Texas markets represented 26% and 27%, while Workforce Optimization revenues from Insperity’s California markets represented 17% and 16%, of Insperity’s total Workforce Optimization revenues, respectively.

The Consolidated Financial Statements include the accounts of Insperity and its subsidiaries, all of which are wholly owned.  Intercompany accounts and transactions have been eliminated in consolidation.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States (“GAAP”) requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes.  Actual results could differ from those estimates.

The accompanying Consolidated Financial Statements should be read in conjunction with our audited Consolidated Financial Statements as of and for the year ended December 31, 2011. Our Consolidated Balance Sheet at December 31, 2011 has been derived from the audited financial statements at that date, but does not include all of the information or footnotes required by GAAP for complete financial statements.  Our Consolidated Balance Sheet at September 30, 2012 and the Consolidated Statements of Operations and Comprehensive Income for the three and nine month periods ended September 30, 2012 and 2011, the Consolidated Statements of Cash Flows for the nine month periods ended September 30, 2012 and 2011, and Consolidated Statement of Stockholders’ Equity for the nine month period ended September 30, 2012, have been prepared by us without audit.  In the opinion of management, all adjustments, consisting only of normal recurring adjustments necessary to present fairly the consolidated financial position, results of operations and cash flows, have been made.
 
 
- 10 -

 
The results of operations for the interim periods are not necessarily indicative of the operating results for a full year or of future operations.

2.
Accounting Policies

Health Insurance Costs

We provide group health insurance coverage to our worksite employees through a national network of carriers, including UnitedHealthcare (“United”), Kaiser Permanente, Blue Shield of California, HMS BlueCross BlueShield, Unity Health Plan and Tufts, all of which provide fully insured policies or service contracts.

The policy with United provides the majority of our health insurance coverage.  As a result of certain contractual terms, Insperity has accounted for this plan since its inception using a partially self-funded insurance accounting model.  Accordingly, Insperity records the costs of the United plan, including an estimate of the incurred claims, taxes and administrative fees (collectively the “Plan Costs”) as benefits expense in the Consolidated Statements of Operations.  The estimated incurred claims are based upon: (i) the level of claims processed during the quarter; (ii) estimated completion rates based upon recent claim development patterns under the plan; and (iii) the number of participants in the plan, including both active and COBRA enrollees.  Each reporting period, changes in the estimated ultimate costs resulting from claim trends, plan design and migration, participant demographics and other factors are incorporated into the benefits costs.

Additionally, since the plan’s inception, under the terms of the contract, United establishes cash funding rates 90 days in advance of the beginning of a reporting quarter.  If the Plan Costs for a reporting quarter are greater than the premiums paid and owed to United, a deficit in the plan would be incurred and a liability for the excess costs would be accrued in our Consolidated Balance Sheets.  On the other hand, if the Plan Costs for the reporting quarter are less than the premiums paid and owed to United, a surplus in the plan would be incurred and we would record an asset for the excess premiums in our Consolidated Balance Sheets.  The terms of the arrangement require Insperity to maintain an accumulated cash surplus in the plan of $9.0 million, which is reported as long-term prepaid insurance.  In addition, United requires a deposit equal to approximately one day of claims funding activity, which was $2.8 million as of September 30, 2012, and is reported as a long-term asset.  As of September 30, 2012, Plan Costs were less than the net premiums paid and owed to United by $30.2 million.  As this amount is in excess of the agreed-upon $9.0 million surplus maintenance level, the $21.2 million balance is included in prepaid insurance, a current asset, in our Consolidated Balance Sheets.  The premiums owed to United at September 30, 2012 were $19.2 million, which is included in accrued health insurance costs, a current liability in our Consolidated Balance Sheets.
 
 
- 11 -

 
Workers’ Compensation Costs

Insperity’s workers’ compensation coverage has been provided through an arrangement with the ACE Group of Companies (“the ACE Program”) since 2007.  The ACE Program is fully insured in that ACE has the responsibility to pay all claims incurred regardless of whether Insperity satisfies its responsibilities.  Through September 30, 2010, Insperity bore the economic burden for the first $1 million layer of claims per occurrence and the insurance carrier was and remains responsible for the economic burden for all claims in excess of such first $1 million layer.

Effective October 1, 2010, in addition to our bearing the economic burden for the first $1 million layer of claims per occurrence, we also bear the economic burden for those claims exceeding $1 million, up to a maximum aggregate amount of $5 million per policy year.

Because we bear the economic burden for claims up to the levels noted above, such claims, which are the primary component of our workers’ compensation costs, are recorded in the period incurred.  Workers’ compensation insurance includes ongoing health care and indemnity coverage whereby claims are paid over numerous years following the date of injury.  Accordingly, the accrual of related incurred costs in each reporting period includes estimates, which take into account the ongoing development of claims and therefore requires a significant level of judgment.

Insperity employs a third party actuary to estimate its loss development rate, which is primarily based upon the nature of worksite employees’ job responsibilities, the location of worksite employees, the historical frequency and severity of workers’ compensation claims, and an estimate of future cost trends.  Each reporting period, changes in the actuarial assumptions resulting from changes in actual claims experience and other trends are incorporated into our workers’ compensation claims cost estimates.  During the nine months ended September 30, 2012 and 2011, Insperity reduced accrued workers’ compensation costs by $10.4 million and $8.6 million, respectively, for changes in estimated losses related to prior reporting periods.  Workers’ compensation cost estimates are discounted to present value at a rate based upon the U.S. Treasury rates that correspond with the weighted average estimated claim payout period (the average discount rates utilized in 2012 and 2011 were 0.7% and 1.2%, respectively) and are accreted over the estimated claim payment period and included as a component of direct costs in our Consolidated Statements of Operations.
 
 
- 12 -

 
The following table provides the activity and balances related to incurred but not paid workers’ compensation claims:

   
Nine Months Ended September 30,
 
   
2012
   
2011
 
   
(in thousands)
 
             
Beginning balance, January 1,
  $ 104,791     $ 96,934  
Accrued claims
    28,586       26,668  
Present value discount
    (712 )     (1,159 )
Paid claims
    (23,133 )     (21,123 )
Ending balance
  $ 109,532     $ 101,320  
                 
Current portion of accrued claims
  $ 46,069     $ 42,812  
Long-term portion of accrued claims
    63,463       58,508  
    $ 109,532     $ 101,320  

The current portion of accrued workers’ compensation costs on the Consolidated Balance Sheets at September 30, 2012 includes $2.3 million of workers’ compensation administrative fees.

As of September 30, 2012 and 2011, the undiscounted accrued workers’ compensation costs were $121.7 million and $115.1 million, respectively.

At the beginning of each policy period, the insurance carrier establishes monthly funding requirements comprised of premium costs and funds to be set aside for payment of future claims (“claim funds”).  The level of claim funds is primarily based upon anticipated worksite employee payroll levels and expected workers’ compensation loss rates, as determined by the insurance carrier.  Monies funded into the program for incurred claims expected to be paid within one year are recorded as restricted cash, a short-term asset, while the remainder of claim funds are included in deposits, a long-term asset in our Consolidated Balance Sheets.  In the first nine months of 2012 and 2011, we received $2.5 million and $10.0 million, respectively, for the return of excess claim funds related to the ACE Program, which reduced deposits.  As of September 30, 2012, we had restricted cash of $46.1 million and deposits of $57.6 million.

Insperity’s estimate of incurred claim costs expected to be paid within one year are recorded as accrued workers’ compensation costs and included in short-term liabilities, while its estimate of incurred claim costs expected to be paid beyond one year are included in long-term liabilities on our Consolidated Balance Sheets.
 
 
- 13 -

 
3. 
Cash, Cash Equivalents and Marketable Securities

The following table summarizes our cash and investments in cash equivalents and marketable securities held by investment managers and overnight investments:

   
September 30,
   
December 31,
 
   
2012
   
2011
 
   
(in thousands)
 
Overnight Holdings
           
Money market funds (cash equivalents)
  $ 46,079     $ 71,350  
Investment Holdings
               
Money market funds (cash equivalents)
    67,395       59,587  
Marketable securities
    51,702       56,987  
      165,176       187,924  
Cash held in demand accounts
    102,761       113,968  
Outstanding checks
    (14,017 )     (33,697 )
Total cash, cash equivalents and marketable securities
  $ 253,920     $ 268,195  
                 
Cash and cash equivalents
  $ 202,218     $ 211,208  
Marketable securities
    51,702       56,987  
    $ 253,920     $ 268,195  

Our cash and overnight holdings fluctuate based on the timing of the client’s payroll processing cycle.  Included in the cash balance as of September 30, 2012 and December 31, 2011, are $96.5 million and $150.8 million, respectively, in funds associated with federal and state income tax withholdings, employment taxes and other payroll deductions, as well as $12.4 million and $10.4 million in client prepayments, respectively.

Insperity accounts for its financial assets in accordance with Accounting Standard Codification (“ASC”) 820, Fair Value Measurement.  This standard defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements.  The fair value measurement disclosures are grouped into three levels based on valuation factors:

 
·
Level 1 - quoted prices in active markets using identical assets
 
·
Level 2 - significant other observable inputs, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other observable inputs
 
·
Level 3 - significant unobservable inputs
 
 
- 14 -

 
The following table summarizes the levels of fair value measurements of our financial assets:

   
Fair Value Measurements
 
   
(in thousands)
 
   
September 30,
                   
   
2012
   
Level 1
   
Level 2
   
Level 3
 
                         
Money market funds
  $ 113,474     $ 113,474     $     $  
Municipal bonds
    51,702             51,702        
Total
  $ 165,176     $ 113,474     $ 51,702     $  

   
Fair Value Measurements
 
   
(in thousands)
 
   
December 31,
                   
   
2011
   
Level 1
   
Level 2
   
Level 3
 
                         
Money market funds
  $ 130,937     $ 130,937     $     $  
Municipal bonds
    56,987             56,987        
Total
  $ 187,924     $ 130,937     $ 56,987     $  

The municipal bond securities valued as Level 2 investments are primarily pre-refunded municipal bonds that are secured by escrow funds containing U.S. Government securities. Valuation techniques used by Insperity to measure fair value for these securities during the period consisted primarily of third party pricing services that utilized actual market data such as trades of comparable bond issues, broker/dealer quotations for the same or similar investments in active markets and other observable inputs.

The following is a summary of our available-for-sale marketable securities:

         
Gross
   
Gross
       
   
Amortized
   
Unrealized
   
Unrealized
   
Estimated
 
   
Cost
   
Gains
   
Losses
   
Fair Value
 
         
(in thousands)
       
September 30, 2012:
                       
Municipal bonds
  $ 51,584     $ 133     $ (15 )   $ 51,702  
                                 
December 31, 2011:
                               
Municipal bonds
  $ 56,945     $ 90     $ (48 )   $ 56,987  

During the periods ended September 30, 2012 and 2011, we had no realized gains or losses recognized on sales of marketable securities.
 
 
- 15 -

 
As of September 30, 2012, the contractual maturities of our marketable securities were as follows:

   
Amortized
Cost
   
Estimated
Fair Value
 
   
(in thousands)
 
             
Less than one year
  $ 23,513     $ 23,552  
One to five years
    28,071       28,150  
Total
  $ 51,584     $ 51,702  

4. 
Revolving Credit Facility

On September 15, 2011, we entered into a four-year, $100 million revolving credit facility (the “Facility”), which may be increased to $150 million based on the terms and subject to the conditions set forth in the agreement relating to the Facility (the “Credit Agreement”). The Facility is available for working capital and general corporate purposes, including acquisitions, and issuances of letters of credit. Insperity’s obligations under the Facility are secured by 65% of the stock of our captive insurance subsidiary and are guaranteed by all of our domestic subsidiaries.  In January 2012, we issued an irrevocable standby letter of credit for $285,000 under the Facility to a state workers’ compensation agency.  At September 30, 2012, we had not drawn on the Facility.

The Facility matures on September 15, 2015.  Borrowings under the Facility bear interest at an alternate base rate or LIBOR, at our option, plus an applicable margin.  Depending on our leverage ratio, the applicable margin varies (i) in the case of LIBOR loans, from 2.00% to 2.75%; and (ii) in the case of alternate base rate loans, from 0.00% to 0.75%.  The alternate base rate is the highest of (i) the prime rate most recently published in The Wall Street Journal; (ii) the federal funds rate plus 0.50%; and (iii) the 30-day LIBOR rate plus 2.00%.  We also pay an unused commitment fee on the average daily unused portion of the Facility at a rate of 0.25%. Interest expense and unused commitment fees are recorded in other income (expense).

The Facility contains both affirmative and negative covenants, which we believe are customary for arrangements of this nature.  Covenants include, but are not limited to, limitations on our ability to incur additional indebtedness, sell material assets, retire, redeem or otherwise reacquire our capital stock, acquire the capital stock or assets of another business, make investments and pay dividends.  In addition, the Credit Agreement requires us to comply with financial covenants limiting our total funded debt, minimum interest coverage ratio and maximum leverage ratio. We were in compliance with all financial covenants under the Credit Agreement at September 30, 2012.
 
5.
Stockholders’ Equity

Our Board of Directors (the “Board”) has authorized a program to repurchase shares of our outstanding common stock (“Repurchase Program”).  The purchases are to be made from time to time in the open market or directly from stockholders at prevailing market prices based on market conditions and other factors.  During the nine months ended September 30, 2012, 407,400 shares were repurchased under the Repurchase Program and 107,228 shares not subject to the Repurchase Program were withheld to satisfy tax withholding obligations for the vesting of restricted stock awards.  As of September 30, 2012, we were authorized to repurchase an additional 829,472 shares under the program.
 
 
- 16 -


The Board declared quarterly dividends of $0.17 per share of common stock in the second and third quarter of 2012 and $0.15 per share of common stock in the first quarter of 2012 and each quarter of 2011, resulting in a total of $12.6 million and $11.9 million, respectively, in dividend payments made by Insperity during the first nine months of each year.

6.
Net Income per Share

We utilize the two-class method to compute net income per share.  The two-class method allocates a portion of net income to participating securities, which include unvested awards of share-based payments with non-forfeitable rights to receive dividends.  Net income allocated to unvested share-based payments is excluded from net income allocated to common shares.  Basic net income per share is computed by dividing net income allocated to common shares by the weighted average number of common shares outstanding during the period.  Diluted net income per share is computed by dividing net income allocated to common shares by the weighted average number of common shares outstanding during the period, plus the dilutive effect of outstanding stock options.

The following table summarizes the net income allocated to common shares and the basic and diluted shares used in the net income per share computations:

   
Three Months Ended
September 30,
   
Nine Months Ended
September 30,
 
   
2012
   
2011
   
2012
   
2011
 
   
(in thousands)
 
                         
Net income
  $ 11,452     $ 4,099     $ 30,957     $ 19,626  
Less income allocated to participating securities
    (334 )     (120 )     (898 )     (582 )
Net income allocated to common shares
  $ 11,118     $ 3,979     $ 30,059     $ 19,044  
                                 
Weighted average common shares outstanding
    24,923       25,425       25,034       25,546  
Incremental shares from assumed conversions of common stock options
    57       74       63       98  
Adjusted weighted average common shares outstanding
    24,980       25,499       25,097       25,644  
                                 
Potentially dilutive securities not included in weightedaverage share calculation due to anti-dilutive effect
    41       54       33       21  
 
 
- 17 -

 
7.
Commitments and Contingencies

Insperity is a defendant in various lawsuits and claims arising in the normal course of business.  Management believes it has valid defenses in these cases and is defending them vigorously.  While the results of litigation cannot be predicted with certainty, management believes the final outcome of such litigation will not have a material adverse effect on our financial position or results of operations.

Pennsylvania Sales Taxes

Pennsylvania imposes a sales tax on “help supply services.”  The Pennsylvania Department of Revenue (“Department”) had maintained that PEO services constitute help supply services and are subject to the tax.  On February 21, 2012, the Pennsylvania Supreme Court affirmed the Appeals Court decision in the matter titled All Staffing vs. Commonwealth of Pennsylvania, which ruled that PEO services are not subject to the Pennsylvania sales tax.

In 2010, we filed refund claims totaling $2.9 million with the Department for the sales taxes paid in error for the period April 1, 2007 through December 31, 2009.  In the second quarter of 2012, the Pennsylvania Board of Finance and Revenue approved our refund claims, and we recognized a $2.9 million receivable and a corresponding reduction to payroll tax expense, a component of direct costs.  During the third quarter of 2012, we received the $2.9 million refund.

Kemper Insurance Companies

In 2003, facing continued capital constraints and a series of downgrades from various rating agencies, our former workers’ compensation insurance carrier for the two-year period ended September 2003, Lumbermens Mutual Casualty Company, formerly known as Kemper, (“Lumbermens Mutual”) made the decision to substantially cease underwriting operations and voluntarily entered into “run-off.”   In July 2012, Lumbermens Mutual announced that an agreed order of rehabilitation had been entered against it in Cook County, Illinois.  Under the order, the Director of the Illinois Department of Insurance was vested with control over Lumbermens Mutual property and decision-making.  The Director has publicly announced that while claims will continue to be paid during the rehabilitation process, he intends to use the rehabilitation period to work with state guaranty associations to prepare for the orderly transition of claim handling responsibilities to such funds once an Order of Liquidation is entered.  After this transition process has been completed, the Director has stated that he intends to file a verified complaint for liquidation.
 
Guaranty associations are non-profit organizations created by statute for the purpose of protecting policyholders from severe financial losses and preventing delays in claim payment due to the insolvency of an insurer. They do this by assuming responsibility for the payment of claims that would otherwise have been paid by the insurer had it not become insolvent. Each state has one or more guaranty association(s), with each association handling certain types of insurance. Insurance companies are required to be members of the state guaranty association as a condition of being licensed to do business in the state.
 
 
- 18 -

 
The guaranty associations in some states, including Texas, may assert that state law allows them to recover the amount of benefits paid by the guaranty association along with associated administration and defense costs from an insured with a net worth exceeding certain specified levels.  If an Order of Liquidation is entered and if one or more guaranty associations were to seek recovery from us for open claims with Lumbermens Mutual, we may be required to repay those amounts.  While we are not certain when or if Lumbermens Mutual will be placed into liquidation or whether any state guaranty association will ultimately assert a claim against us, we intend to vigorously assert any and all available defenses to any such claim.  We estimate the outstanding claims that may be subject to such contentions from state guaranty associations to range from $2.9 million to $5.0 million as of September 30, 2012.  In the event state guaranty associations attempt to seek recovery from the Company and are successful, the Company would be required to pay such claims, which would reduce net income and could have a material adverse effect on net income in the reported period.
 
 
- 19 -

 
ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

You should read the following discussion in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2011, as well as our Consolidated Financial Statements and notes thereto included in this quarterly report on Form 10-Q.

New Accounting Pronouncements

We believe we have implemented the accounting pronouncements with a material impact on our financial statements.

Results of Operations

Three Months Ended September 30, 2012 Compared to Three Months Ended September 30, 2011.

The following table presents certain information related to our results of operations:

   
Three Months Ended September 30,
 
   
2012
   
2011
   
% Change
 
   
(in thousands, except per share and statistical data)
 
Revenues (gross billings of $3.068 billion and $2.835 billion, less worksite employee payroll cost of $2.556 billion and $2.363 billion, respectively)
  $ 511,953     $ 471,821       8.5 %
Gross profit
    98,420       87,029       13.1 %
Operating expenses
    79,280       72,935       8.7 %
Operating income
    19,140       14,094       35.8 %
Other income (expense)
    139       (7,256 )     (101.9 )%
Net income
    11,452       4,099       179.4 %
Diluted net income per share of common stock
    0.45       0.16       181.3 %
                         
Statistical Data:
                       
Average number of worksite employees paid per month
    127,096       118,226       7.5 %
Revenues per worksite employee per month(1)
  $ 1,343     $ 1,330       1.0 %
Gross profit per worksite employee per month
    258       245       5.3 %
Operating expenses per worksite employee per month
    208       206       1.0 %
Operating income per worksite employee per month
    50       40       25.0 %
Net income per worksite employee per month
    30       12       150.0 %
 


(1)
Gross billings of $8,047 and $7,992 per worksite employee per month, less payroll cost of $6,704 and $6,662 per worksite employee per month, respectively.

Revenues

Our revenues for the third quarter of 2012 increased 8.5% over the 2011 period, primarily due to a 7.5% increase in the average number of worksite employees paid per month and a 1.0%, or $13 increase in revenues per worksite employee per month.
 
 
- 20 -

 
By region, our Workforce Optimization revenue change from the third quarter of 2011 and distribution for the quarters ended September 30, 2012 and 2011 were as follows:

   
Three Months Ended September 30,
   
Three Months Ended September 30,
 
   
2012
   
2011
   
% Change
   
2012
   
2011
 
   
(in thousands)
   
(% of total revenues)
 
                               
Northeast
  $ 131,759     $ 120,994       8.9 %     26.1 %     26.1 %
Southeast
    47,670       46,271       3.0 %     9.5 %     10.0 %
Central
    73,875       66,314       11.4 %     14.7 %     14.3 %
Southwest
    140,843       134,295       4.9 %     27.9 %     28.9 %
West
    110,110       96,122       14.6 %     21.8 %      20.7 % 
      504,257       463,996       8.7 %     100.0 %     100.0 %
Other revenue
    7,696       7,825       (1.6 )%                
Total revenue
  $ 511,953     $ 471,821       8.5 %                

Other revenue is comprised primarily of revenues generated by our Adjacent Businesses.

Our Workforce Optimization growth rate is affected by three primary sources – worksite employees paid from new client sales, client retention and the net change in existing clients through worksite employee new hires and layoffs.  During the third quarter of 2012, the net change in existing clients declined, while worksite employees paid from new client sales and client retention remained consistent with the third quarter of 2011.

Gross Profit

Gross profit for the third quarter of 2012 increased 13.1% over the third quarter of 2011 to $98.4 million.  The average gross profit per worksite employee increased 5.3% to $258 per month in the 2012 period from $245 per month in the 2011 period.

Our pricing objectives attempt to maintain or improve the gross profit per worksite employee by increasing revenue per worksite employee to match or exceed changes in primary direct costs and operating expenses.  While our revenues increased 1.0% per worksite employee per month, our direct costs, which primarily include payroll taxes, benefits and workers’ compensation expenses, remained flat on a per worksite employee per month basis compared to the third quarter of 2011.

 
·
Benefits costs – The cost of group health insurance and related employee benefits decreased $13 per worksite employee per month, or 0.5% on a cost per covered employee basis compared to the third quarter of 2011.  The percentage of worksite employees covered under our health insurance plans was 71.9% in the 2012 period compared to 73.0% in the 2011 period.  Please read Note 2 to the Consolidated Financial Statements, “Accounting Policies – Health Insurance Costs,” for a discussion of our accounting for health insurance costs.
 
 
·
Workers’ compensation costs – Workers’ compensation costs increased 46.9%, or $10 per worksite employee per month compared to the third quarter of 2011.  As a percentage of non-bonus payroll cost, workers’ compensation costs were 0.57% in the 2012 period compared to 0.43% in the 2011 period.  During the 2012 period, we recorded reductions in workers’ compensation costs of $3.9 million, or 0.16% of non-bonus payroll costs, for changes in estimated losses related to prior reporting periods, compared to $4.9 million, or 0.22% of non-bonus payroll costs, in the 2011 period.  Please read Note 2 to the Consolidated Financial Statements, “Accounting Policies – Workers’ Compensation Costs,” for a discussion of our accounting for workers’ compensation costs.
 
 
- 21 -

 
 
·
Payroll tax costs – Payroll taxes increased 8.5%, or $4 per worksite employee per month compared to the third quarter of 2011, primarily due to the 8.2% increase in payroll costs.  Payroll taxes as a percentage of payroll cost were 6.4% in both the 2012 period and the 2011 period.

Operating Expenses

The following table presents certain information related to our operating expenses:
 
   
Three Months Ended September 30,
   
Three Months Ended September 30,
 
   
2012
   
2011
   
% Change
   
2012
   
2011
   
% Change
 
   
(in thousands)
   
(per worksite employee per month)
 
                                     
Salaries, wages and payroll taxes
  $ 44,032     $ 39,494       11.5 %   $ 115     $ 111       3.6 %
Stock–based compensation
    2,429       2,109       15.2 %     6       6        
Commissions
    3,358       3,399       (1.2 )%     9       10       (10.0 )%
Advertising
    3,680       5,235       (29.7 )%     10       15       (33.3 )%
General and administrative expenses
    21,122       18,912       11.7 %     56       53       5.7 %
Depreciation and amortization
    4,659       3,786       23.1 %     12       11       9.1 %
Total operating expenses
  $ 79,280     $ 72,935       8.7 %   $ 208     $ 206       1.0 %

Operating expenses increased 8.7% to $79.3 million compared to $72.9 million in the third quarter of 2011.  Operating expenses in the third quarter of 2011 included $1.8 million in costs associated with the launch of our new brand.  Operating expenses per worksite employee per month increased to $208 in the 2012 period from $206 in the 2011 period.  The components of operating expenses changed as follows:

·
Salaries, wages and payroll taxes of corporate and sales staff increased 11.5%, or $4 per worksite employee per month compared to the 2011 period.  This increase was primarily due to a 4.6% rise in headcount and higher incentive compensation accruals resulting from improved operating results.

·
Stock-based compensation increased 15.2%, but remained flat on a per worksite employee per month basis compared to the 2011 period, due primarily to an increase in the weighted average market value on the date of grant associated with restricted stock awards.  The stock-based compensation expense represents amortization of restricted stock awards granted to employees.
 
 
- 22 -

 
·
Commissions expense decreased 1.2%, or $1 per worksite employee per month compared to the 2011 period.

·
Advertising costs decreased 29.7%, or $5 per worksite employee per month compared to the 2011 period, primarily due to the non-recurrence of expenses related to our 2011 rebranding initiative.  Advertising costs in the 2011 period included $1.7 million associated with the launch of our new brand.

·
General and administrative expenses increased 11.7%, or $3 per worksite employee per month compared to the 2011 period, primarily due to higher travel and training expenses.

·
Depreciation and amortization expense increased 23.1%, or $1 per worksite employee per month compared to the 2011 period, primarily due to investments in our technology infrastructure made in the second half of 2011.

Other Income (Expense)

Other income was $139,000 for the third quarter of 2012 compared to other expense of $7.3 million in the third quarter of 2011, primarily due to a $4.4 million loss in the 2011 period related to the exchange of an aircraft and a $3.1 million loss in the 2011 period related to a settlement with the State of California.

Income Tax Expense

Our effective income tax rate was 40.6% in the 2012 period compared to 40.1% in the 2011 period.  Our provision for income taxes differed from the U.S. statutory rate of 35% primarily due to state income taxes and non-deductible expenses.

Operating and Net Income

Operating and net income per worksite employee per month was $50 and $30 in the 2012 period, versus $40 and $12 in the 2011 period.
 
 
- 23 -

 
Nine Months Ended September 30, 2012 Compared to Nine Months Ended September 30, 2011.

The following table presents certain information related to our results of operations:
 
     
Nine Months Ended September 30,
 
     
2012
     
2011
     
% Change
 
     
(in thousands, except per share and statistical data)
 
Revenues (gross billings of $9.339 billion and $8.454 billion, less worksite employee payroll cost of $7.712 billion and $6.973 billion, respectively)
  $ 1,626,386     $ 1,481,105       9.8 %
Gross profit
    288,718       261,829       10.3 %
Operating expenses
    237,117       221,206       7.2 %
Operating income
    51,601       40,623       27.0 %
Other income (expense)
    603       (6,668 )     (109.0 )%
Net income
    30,957       19,626       57.7 %
Diluted net income per share of common stock
    1.20       0.74       62.2 %
                         
Statistical Data:
                       
Average number of worksite employees paid per month
    124,418       115,097       8.1 %
Revenues per worksite employee per month(1)
  $ 1,452     $ 1,430       1.5 %
Gross profit per worksite employee per month
    258       253       2.0 %
Operating expenses per worksite employee per month
    212       214       (0.9 )%
Operating income per worksite employee per month
    46       39       17.9 %
Net income per worksite employee per month
    28       19       47.4 %
 


(1)
Gross billings of $8,340 and $8,161 per worksite employee per month, less payroll cost of $6,888 and $6,731 per worksite employee per month, respectively.

Revenues

Our revenues for the nine months ended September 30, 2012, increased 9.8% over the 2011 period, primarily due to an 8.1% increase in the average number of worksite employees paid per month and a 1.5%, or $22 increase in revenues per worksite employee per month.
 
 
- 24 -

 
By region, our Workforce Optimization revenue change from the first nine months of 2011 and distribution for the nine months ended September 30, 2012 and 2011 were as follows:

   
Nine Months Ended September 30,
   
Nine Months Ended September 30,
 
   
2012
   
2011
   
% Change
   
2012
   
2011
 
   
(in thousands)
   
(% of total revenues)
 
                               
Northeast
  $ 425,295     $ 383,938       10.8 %     26.5 %     26.3 %
Southeast
    148,552       144,120       3.1 %     9.3 %     9.8 %
Central
    235,464       212,910       10.6 %     14.7 %     14.6 %
Southwest
    447,617       423,139       5.8 %     27.9 %     29.0 %
West
    346,387       295,678       17.2 %     21.6 %      20.3 % 
      1,603,315       1,459,785       9.8 %     100.0 %     100.0 %
Other revenue
    23,071       21,320       8.2 %                
Total revenue
  $ 1,626,386     $ 1,481,105       9.8 %                

Other revenue is comprised primarily of revenues generated by our Adjacent Businesses.

Our Workforce Optimization growth rate is affected by three primary sources – worksite employees paid from new client sales, client retention and the net change in existing clients through worksite employee new hires and layoffs.  During the first nine months of 2012, the net change in existing clients and client retention remained consistent with the first nine months of 2011, while worksite employees paid from new client sales declined.

Gross Profit

Gross profit for the first nine months of 2012 increased 10.3% over the 2011 period to $288.7 million.  The average gross profit per worksite employee increased 2.0% to $258 per month in the 2012 period from $253 per month in the 2011 period.

Our pricing objectives attempt to maintain or improve the gross profit per worksite employee by increasing revenue per worksite employee to match or exceed changes in primary direct costs and operating expenses. While our revenues increased 1.5% per worksite employee per month, our direct costs, which primarily include payroll taxes, benefits and workers’ compensation expenses, increased 1.4% to $1,194 per worksite employee per month in the first nine months of 2012 versus $1,177 in the 2011 period.

 
·
Benefits costs – The cost of group health insurance and related employee benefits increased $7 per worksite employee per month, or 3.1% on a cost per covered employee basis compared to the 2011 period.  The percentage of worksite employees covered under our health insurance plans was 72.3% in the 2012 period compared to 73.7% in the 2011 period.  Please read Note 2 to the Consolidated Financial Statements, “Accounting Policies – Health Insurance Costs,” for a discussion of our accounting for health insurance costs.
 
 
·
Workers’ compensation costs – Workers’ compensation costs increased 13.5%, or $2 per worksite employee per month compared to the first nine months of 2011.  As a percentage of non-bonus payroll cost, workers’ compensation costs were 0.56% in the 2012 period compared to 0.54% in the 2011 period.  During the 2012 period, we recorded reductions in workers’ compensation costs of $10.4 million, or 0.15% of non-bonus payroll costs, for changes in estimated losses related to prior reporting periods, compared to $8.6 million, or 0.14% of non-bonus payroll costs, in the 2011 period.  Please read Note 2 to the Consolidated Financial Statements, “Accounting Policies – Workers’ Compensation Costs,” for a discussion of our accounting for workers’ compensation costs.
 
 
- 25 -

 
 
·
Payroll tax costs – Payroll taxes increased 9.9%, or $9 per worksite employee per month compared to the first nine months of 2011, primarily due to the 10.6% increase in payroll costs, partially offset by a $2.9 million (or $3 per worksite employee per month) credit related to the Pennsylvania sales tax matter.  Please read Note 7 to the Consolidated Financial Statements, “Commitments and Contingencies” for further information.  Payroll taxes as a percentage of payroll cost were 7.7% in both the 2012 and the 2011 periods.

Operating Expenses

The following table presents certain information related to our operating expenses:
 
   
Nine Months Ended September 30,
   
Nine Months Ended September 30,
 
   
2012
   
2011
   
% Change
   
2012
   
2011
   
% Change
 
   
(in thousands)
   
(per worksite employee per month)
 
                                     
Salaries, wages and payroll taxes
  $ 127,402     $ 117,558       8.4 %   $ 114     $ 113       0.9 %
Stock–based compensation
    7,385       6,455       14.4 %     7       6       16.7 %
Commissions
    10,299       9,750       5.6 %     9       10       (10.0 )%
Advertising
    17,001       18,280       (7.0 )%     15       18       (16.7 )%
General and administrative expenses
    61,694       57,828       6.7 %     55       56       (1.8 )%
Depreciation and amortization
    13,336       11,335       17.7 %     12       11       9.1 %
Total operating expenses
  $ 237,117     $ 221,206       7.2 %   $ 212     $ 214       (0.9 )%

Operating expenses increased 7.2% to $237.1 million compared to $221.2 million in the first nine months of 2011.  Operating expenses in the 2011 period included $9.7 million in costs associated with the launch of our new brand.  Operating expenses per worksite employee per month decreased to $212 in the 2012 period from $214 in the 2011 period.  The components of operating expenses changed as follows:

·
Salaries, wages and payroll taxes of corporate and sales staff increased 8.4%, or $1 per worksite employee per month compared to the 2011 period.  This increase was primarily due to a 6.8% rise in headcount.

·
Stock-based compensation increased 14.4%, or $1 per worksite employee per month compared to the 2011 period, due primarily to an increase in the weighted average market value on the date of grant associated with restricted stock awards. The stock-based compensation expense represents amortization of restricted stock awards granted to employees.
 
 
- 26 -


 
·
Commissions expense increased 5.6% in the 2012 period, but decreased $1 per worksite employee per month compared to the 2011 period.

·
Advertising costs decreased 7.0%, or $3 per worksite employee per month compared to the 2011 period, primarily due to the non-recurrence of $6.1 million in expenses related to our 2011 rebranding initiative, partially offset by the timing of business promotion expenses related to our Insperity ChampionshipTM professional golf tournament, which moved into the first nine months of the year during 2012.

·
General and administrative expenses increased 6.7%, but decreased $1 per worksite employee per month compared to the first nine months of 2011, primarily due to increased travel, training, repairs and maintenance, partially offset by the non-recurrence of expenses related to our 2011 rebranding initiative.  General and administrative expenses in the 2011 period included $3.6 million associated with the launch of our new brand.

·
Depreciation and amortization expense increased 17.7%, or $1 per worksite employee per month compared to the 2011 period, primarily due to investments in our technology infrastructure made in the second half of 2011.

Other Income (Expense)

Other income was $603,000 in the 2012 period compared to other expense of $6.7 million in the 2011 period, primarily due to a $4.4 million loss in the 2011 period related to the exchange of an aircraft and a $3.1 million loss in the 2011 period related to a settlement with the State of California.

Income Tax Expense

Our effective income tax rate was 40.7% in the 2012 period compared to 42.2% in the 2011 period.  Our provision for income taxes differed from the U.S. statutory rate of 35% primarily due to state income taxes and non-deductible expenses.

Operating and Net Income

Operating and net income per worksite employee per month was $46 and $28 in the 2012 period, versus $39 and $19 in the 2011 period.
 
Non-GAAP Financial Measures

Non-bonus payroll cost is a non-GAAP financial measure that excludes the impact of bonus payrolls paid to our worksite employees.  Bonus payroll cost varies from period to period, but has no direct impact to our ultimate workers’ compensation costs under the current program.  As a result, our management refers to non-bonus payroll cost in analyzing, reporting and forecasting our workers’ compensation costs.  Non-GAAP financial measures are not prepared in accordance with GAAP and may be different from non-GAAP financial measures used by other companies.  Non-GAAP financial measures should not be considered as a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP.  We include these non-GAAP financial measures because we believe they are useful to investors in allowing for greater transparency related to the costs incurred under our current workers’ compensation program.  Investors are encouraged to review the reconciliation of the non-GAAP financial measures used to their most directly comparable GAAP financial measures as provided in the table below.
 
 
- 27 -

 
   
Three Months Ended
         
Nine Months Ended
       
   
September 30,
   
%
   
September 30,
   
%
 
   
2012
   
2011
   
Change
   
2012
   
2011
   
Change
 
   
(in thousands, except per worksite employee data)
 
                                     
Payroll cost (GAAP)
  $ 2,556,114     $ 2,362,941       8.2 %   $ 7,712,302     $ 6,972,806       10.6 %
Less: Bonus payroll cost
    156,723       174,668       (10.3 )%     728,589       644,129       13.1 %
Non-bonus payroll cost
  $ 2,399,391     $ 2,188,273       9.6 %   $ 6,983,713     $ 6,328,677       10.4 %
                                                 
Payroll cost per worksite employee per month (GAAP)
  $ 6,704     $ 6,662       0.6 %   $ 6,888     $ 6,731       2.3 %
Less: Bonus payroll cost per worksite employee per month
    411       492       (16.5 )%     651       621       4.8 %
Non-bonus payroll cost per
worksite employee per month
  $ 6,293     $ 6,170       2.0 %   $ 6,237     $ 6,110       2.1 %

Liquidity and Capital Resources

We periodically evaluate our liquidity requirements, capital needs and availability of resources in view of, among other things, our expansion plans, acquisition plans and other operating cash needs.  To meet short- and long-term liquidity requirements, including payment of direct and operating expenses and repaying debt, we rely primarily on cash from operations.  However, we have in the past sought, and may in the future seek, to raise additional capital or take other steps to increase or manage our liquidity and capital resources.  We had $253.9 million in cash, cash equivalents and marketable securities at September 30, 2012, of which approximately $96.5 million was payable in early October 2012 for withheld federal and state income taxes, employment taxes and other payroll deductions, and approximately $12.4 million of client prepayments that were payable in October 2012.  At September 30, 2012, we had working capital of $140.0 million compared to $126.6 million at December 31, 2011.  We currently believe that our cash on hand and cash flows from operations will be adequate to meet our liquidity requirements for the remainder of 2012.  We will rely on these same sources, as well as public and private debt or equity financing, to meet our longer-term liquidity and capital needs.
 
 
- 28 -

 
In September 2011, we completed the financing for a new four-year, $100 million revolving credit facility (“Facility”), with a syndicate of financial institutions.  The Facility is available for working capital and general corporate purposes, including acquisitions, and was undrawn at September 30, 2012.  Please read Note 4 to our Consolidated Financial Statements, “Revolving Credit Facility,” for additional information.

Cash Flows from Operating Activities

Net cash provided by operating activities in 2012 was $25.0 million.  Our primary source of cash from operations is the comprehensive service fee and payroll funding we collect from our clients.  Our cash and cash equivalents, and thus our reported cash flows from operating activities are significantly impacted by various external and internal factors, which are reflected in part by the changes in our balance sheet accounts.  These include the following:

 
·
Timing of client payments / payrolls – We typically collect our comprehensive service fee, along with the client’s payroll funding, from clients at least one day prior to the payment of worksite employee payrolls and associated payroll taxes.  Therefore, the last business day of a reporting period has a substantial impact on our reporting of operating cash flows.  For example, many worksite employees are paid on Fridays; therefore, operating cash flows decrease in the reporting periods that end on a Friday.  In the period ended September 30, 2012, the last business day of the reporting period was a Friday and client prepayments were $12.4 million and accrued worksite employee payroll was $174.3 million.  In the period ended September 30, 2011, the last business day of the reporting period was also a Friday and client prepayments were $3.9 million and accrued worksite employee payroll was $130.8 million.

 
·
Workers’ compensation plan funding – Under our workers’ compensation insurance arrangements, we make monthly payments to the carriers comprised of premium costs and funds to be set aside for payment of future claims (“claim funds”).  These pre-determined amounts are stipulated in our agreements with the carriers, and are based primarily on anticipated worksite employee payroll levels and workers’ compensation loss rates during the policy year.  Changes in payroll levels from those that were anticipated in the arrangements can result in changes in the amount of cash payments, which will impact our reporting of operating cash flows.  Our claim funds paid, based upon anticipated worksite employee payroll levels and workers’ compensation loss rates, were $32.1 million in the first nine months of 2012 and $27.3 million in the first nine months of 2011.  However, our estimate of workers’ compensation loss costs was $27.9 million in 2012 and $25.5 million in 2011, respectively.  During 2012 and 2011, we received $2.5 million and $10.0 million, respectively, for the return of excess claim funds related to the workers’ compensation program, which resulted in an increase to working capital.
 
 
·
Medical plan funding – Our health care contract with United establishes participant cash funding rates 90 days in advance of the beginning of a reporting quarter.  Therefore, changes in the participation level of the United plan have a direct impact on our operating cash flows.  In addition, changes to the funding rates, which are solely determined by United based primarily upon recent claim history and anticipated cost trends, also have a significant impact on our operating cash flows.  At September 30, 2012, premiums owed and cash funded to United have exceeded Plan Costs, resulting in a $30.2 million surplus, $21.2 million of which is reflected as a current asset, and $9.0 million of which is reflected as a long-term asset on our Consolidated Balance Sheets.  The premiums owed to United at September 30, 2012, were $19.2 million, which is included in accrued health insurance costs, a current liability, on our Consolidated Balance Sheets.
 
 
- 29 -

 
 
·
Operating results – Our net income has a significant impact on our operating cash flows.  Our net income increased 57.7% to $31.0 million in the nine months ended September 30, 2012, compared to $19.6 million in the nine months ended September 30, 2011.  Please read “Results of Operations – Nine Months Ended September 30, 2012 Compared to Nine Months Ended September 30, 2011.”

Cash Flows from Investing Activities

Net cash flows used in investing activities were $9.7 million for the nine months ended September 30, 2012, primarily due to $12.0 million in capital expenditures primarily related to our technology infrastructure.

Cash Flows from Financing Activities

Net cash flows used in financing activities were $24.4 million for the nine months ended September 30, 2012, including $13.8 million in stock repurchases and $12.6 million in dividends paid.
 
 
- 30 -

 
ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

We are primarily exposed to market risks from fluctuations in interest rates and the effects of those fluctuations on the market values of our cash equivalent short-term investments.   In addition, borrowings under our Facility bear interest at a variable market rate.  As of September 30, 2012, we had not drawn on the Facility.  Please read Note 4 to the Consolidated Financial Statements, “Revolving Credit Facility,” for additional information.  Our cash equivalent short-term investments consist primarily of overnight investments and money market funds, which are not significantly exposed to interest rate risk, except to the extent that changes in interest rates will ultimately affect the amount of interest income earned on these investments.  The available-for-sale marketable securities are subject to interest rate risk because these securities generally include a fixed interest rate.  As a result, the market values of these securities are affected by changes in prevailing interest rates.

We attempt to limit our exposure to interest rate risk primarily through diversification and low investment turnover.  Our investment policy is designed to maximize after-tax interest income while preserving our principal investment.  As a result, our marketable securities consist of tax-exempt short and intermediate-term debt securities, which are primarily prefunded municipal bonds that are secured by escrow funds containing U.S. Government Securities.

ITEM 4.

In accordance with the Securities Exchange Act of 1934 Rules 13a-15 and 15d-15, we carried out an evaluation, under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report.  Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of September 30, 2012.
 
There has been no change in our internal controls over financial reporting that occurred during the three months ended September 30, 2012, that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.
 
 
- 31 -

 
PART II
 
ITEM 1. 

Please read Note 7 to our Consolidated Financial Statements, “Commitments and Contingencies,” which is incorporated herein by reference.

ITEM 1A.

Forward-Looking Statements

The statements contained herein that are not historical facts are forward-looking statements within the meaning of the federal securities laws (Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934).  You can identify such forward-looking statements by the words “expects,” “intends,” “plans,” “projects,” “believes,” “estimates,” “likely,” “possibly,” “probably,” “goal,” “opportunity,” “objective,” “target,” “assume,” “outlook,” “guidance,” “predicts,” “appears,” “indicator” and similar expressions.  Forward-looking statements involve a number of risks and uncertainties.  In the normal course of business, Insperity, Inc., in an effort to help keep our stockholders and the public informed about our operations, may from time to time issue such forward-looking statements, either orally or in writing.  Generally, these statements relate to business plans or strategies, projected or anticipated benefits or other consequences of such plans or strategies, or projections involving anticipated revenues, earnings, unit growth, profit per worksite employee, pricing, operating expenses or other aspects of operating results.  We base the forward-looking statements on our expectations, estimates and projections at the time such statements are made.  These statements are not guarantees of future performance and involve risks and uncertainties that we cannot predict.  In addition, we have based many of these forward-looking statements on assumptions about future events that may prove to be inaccurate.  Therefore, the actual results of the future events described in such forward-looking statements could differ materially from those stated in such forward-looking statements.  Among the factors that could cause actual results to differ materially are: (i) continued effects of the economic recession and general economic conditions; (ii) regulatory and tax developments and possible adverse application of various federal, state and local regulations; (iii) the ability to secure competitive replacement contracts for health insurance and workers’ compensation contracts at expiration of current contracts; (iv) increases in health insurance costs and workers’ compensation rates and underlying claims trends, health care reform, financial solvency of workers’ compensation carriers and other insurers, state unemployment tax rates, liabilities for employee and client actions or payroll-related claims; (v) failure to manage growth of our operations and the effectiveness of our sales and marketing efforts; (vi) changes in the competitive environment in the PEO industry, including the entrance of new competitors and our ability to renew or replace client companies; (vii) our liability for worksite employee payroll, payroll taxes and benefits costs; (viii) our liability for disclosure of sensitive or private information; (ix) our ability to integrate or realize expected return on our adjacent business strategy, including acquisitions; and (x) an adverse final judgment or settlement of claims against Insperity.  These factors are discussed in further detail in our 2011 Annual Report on Form 10-K under “Factors That May Affect Future Results and the Market Price of Common Stock” on page 19, and elsewhere in this report.  Any of these factors, or a combination of such factors, could materially affect the results of our operations and whether forward-looking statements we make ultimately prove to be accurate.
 
 
- 32 -

 
There have been no material changes in the risk factors disclosed pursuant to Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2011, except for the item noted below.

In 2003, facing continued capital constraints and a series of downgrades from various rating agencies, our former workers’ compensation insurance carrier for the two-year period ended September 2003, Lumbermens Mutual Casualty Company, formerly known as Kemper, (“Lumbermens Mutual”) made the decision to substantially cease underwriting operations and voluntarily entered into “run-off.”   In July 2012, Lumbermens Mutual announced that an agreed order of rehabilitation had been entered against it in Cook County, Illinois.  Under the order, the Director of the Illinois Department of Insurance was vested with control over Lumbermens Mutual property and decision-making.  The Director has publicly announced that while claims will continue to be paid during the rehabilitation process, he intends to use the rehabilitation period to work with state guaranty associations to prepare for the orderly transition of claim handling responsibilities to such funds once an Order of Liquidation is entered.  After this transition process has been completed, the Director has stated that he intends to file a verified complaint for liquidation.
 
Guaranty associations are non-profit organizations created by statute for the purpose of protecting policyholders from severe financial losses and preventing delays in claim payment due to the insolvency of an insurer. They do this by assuming responsibility for the payment of claims that would otherwise have been paid by the insurer had it not become insolvent. Each state has one or more guaranty association(s), with each association handling certain types of insurance. Insurance companies are required to be members of the state guaranty association as a condition of being licensed to do business in the state.

The guaranty associations in some states, including Texas, may assert that state law allows them to recover the amount of benefits paid by the guaranty association along with associated administration and defense costs from an insured with a net worth exceeding certain specified levels.  If an Order of Liquidation is entered and if one or more guaranty associations were to seek recovery from us for open claims with Lumbermens Mutual, we may be required to repay those amounts.  While we are not certain when or if Lumbermens Mutual will be placed into liquidation or whether any state guaranty association will ultimately assert a claim against us, we intend to vigorously assert any and all available defenses to any such claim.  We estimate the outstanding claims that may be subject to such contentions from state guaranty associations to range from $2.9 million to $5.0 million as of September 30, 2012.  In the event state guaranty associations attempt to seek recovery from the Company and are successful, the Company would be required to pay such claims, which would reduce net income and could have a material adverse effect on net income in the reported period.
 
 
- 33 -

 
ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

The following table provides information about purchases by Insperity during the three months ended September 30, 2012, of equity securities that are registered by Insperity pursuant to Section 12 of the Exchange Act:

 
 
 
 
Period
 
 
Total Number
of Shares
Purchased(1)(2)
   
 
 
Average Price
Paid per Share
   
Total Number of
Shares Purchased
as Part of Publicly
Announced
Program(1)
   
Maximum
Number of Shares
that may yet be
Purchased under
the Program(1)
 
07/01/2012 07/31/2012
    187 (2)   $ 27.44       -       910,902  
08/01/2012 08/31/2012
    80,000       24.88       80,000       830,902  
09/01/2012 – 09/30/2012
    1,430       24.02       1,430       829,472  
Total
    81,617     $ 24.87       81,430       829,472  
 
___________________

(1)
The Board has approved a repurchase program of Insperity common stock. During the three months ended September 30, 2012, 81,430 shares were repurchased under the program and 187 shares were withheld to satisfy tax withholding obligations for the vesting of restricted stock awards.  As of September 30, 2012, we were authorized to repurchase an additional 829,472 shares under the program. Unless terminated earlier by resolution of the Board, the repurchase program will expire when we have repurchased all shares authorized for repurchase under the repurchase program.

(2)
These shares include shares of restricted stock that were withheld to satisfy tax-withholding obligations arising in conjunction with the vesting of restricted stock.  The required withholding is calculated using the closing sales price reported by the New York Stock Exchange on the date prior to the applicable vesting date.  These shares are not subject to the repurchase program described above.
 
 
- 34 -

 
ITEM 6.

 
(a)
List of exhibits.

*
Form of Restricted Stock Agreement.
*
Form of Director Stock Option Agreement.
*
Form of Director Restricted Stock Award Agreement.
*
Directors Compensation Plan.
*
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
*
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
**
Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
**
Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS
*
XBRL Instance Document.(1)
101.SCH
*
XBRL Taxonomy Extension Schema Document.
101.CAL
* XBRL Taxonomy Extension Calculation Linkbase Document.
101.DEF
*
XBRL Extension Definition Linkbase Document.
101.LAB * XBRL Taxonomy Extension Label Linkbase Document.
101.PRE * XBRL Taxonomy Extension Presentation Linkbase Document.
______________
 
 
Filed with this report.
 
 
**
Furnished with this report.
 
 
Management contract or compensatory plan or arrangement required to be filed as an exhibit to this Form 10-Q.

 
(1)
Attached as exhibit 101 to this report are the following documents formatted in XBRL (Extensible Business Reporting Language): (i) the Consolidated Statements of Operations for the three and nine month periods ended September 30, 2012 and 2011; (ii) the Consolidated Statements of Comprehensive Income for the three and nine month periods ended September 30, 2012 and 2011; (iii) the Consolidated Balance Sheets at September 30, 2012 and December 31, 2011; (iv) the Consolidated Statement of Stockholders’ Equity for the nine month period ended September 30, 2012; (v) the Consolidated Statements of Cash Flows for the nine month periods ended September 30, 2012 and 2011; and (vi) Notes to the Consolidated Financial Statements.
 
 
- 35 -

 
SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
  Insperity, Inc.  
       
Date:  November 1, 2012
By: /s/ Douglas S. Sharp  
   
Douglas S. Sharp
 
   
Senior Vice President of Finance,
 
   
Chief Financial Officer and Treasurer
 
   
(Principal Financial and Duly Authorized Officer)
 
 
 
 - 36 -