UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
| ☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended SeptemberJune 30, 20172018
Oror
| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File Number 000-50194
HMS HOLDINGS CORP.
(Exact name of registrant as specified in its charter)
| Delaware | 11-3656261 | |
| (State or Other Jurisdiction of Incorporation or Organization) | (I.R.S. Employer Identification No.) | |
| 5615 High Point Drive, Irving, TX | 75038 | |
| (Address of principal executive offices) | (Zip Code) |
(214) 453-3000
(Registrant’s Telephone Number, Including Area Code)
(214) 453-3000
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 ☒ No ☐
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 (§232.405 of this chapter) during the preceding 12 months (or for shorter period that the registrant was required to submit and post such files).☒ Yes ☐ No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,”filer” “smaller reporting company”company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
| Large accelerated filer☒ | Accelerated filer☐ | |
| Non-accelerated filer☐ | Smaller reporting company☐ | |
| Emerging growth company☐ |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
As of November 6, 2017,August 3, 2018, there were approximately 84,083,56583,463,382 shares of the registrant’s common stock (par value $0.01 per share) outstanding.
HMS HOLDINGS CORP. AND SUBSIDIARIES
QUARTERLY REPORT ON FORM 10-Q
FOR THE THREE AND NINESIX MONTHS ENDED SEPTEMBERJUNE 30, 20172018
INDEX
2
Glossary of Terms and Abbreviations
| Form 10-Q | |||
| 2017 Form 10-K | |||
| ACA | Patient Protections and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act | ||
| ACO | Accountable Care | ||
| ADR | Additional Documentation Request | ||
| ASC | Accounting Standards Codification | ||
| ASO | Administrative Service Only | ||
| ASU | Accounting Standards Update | ||
| CHIP | Children's Health Insurance Program | ||
| CMS | Centers for Medicare & Medicaid Services | ||
| CMS NHE | CMS | ||
| COSO | Committee of Sponsoring Organizations of the Treadway Commission | ||
| Credit Agreement | The | ||
| DRA | Deficit Reduction Act of 2005 | ||
| DSO | Days Sales Outstanding | ||
| ERISA | Employment Retirement Income Security Act of 1974 | ||
| Exchange Act | Securities Exchange Act of 1934, as amended | ||
| FASB | |||
| HIPAA | Health Insurance Portability and Accountability Act of 1996 | ||
| HITECH | Health Information Technology for Economic and Clinical Health Act | ||
| IRC | Internal Revenue Code | ||
| IRS | U.S Internal Revenue Service | ||
| LIBO Rate | Intercontinental Exchange London Interbank Offered Rate | ||
| MCO | Managed care organization | ||
| MMIS | Medicaid Management Information Systems | ||
| PBM | Pharmacy Benefit Manager | ||
| PHI | Protected health information | ||
| PI | Payment Integrity | ||
| PMPM | Per Member Per Month | ||
| PMPY | Per Member Per Year | ||
| R&D Credit | U.S. Research and Experimentation Tax Credit pursuant to IRC Section 41 | ||
| RAC | Recovery Audit Contractor | ||
| RFP | Request for proposal | ||
| SEC | U.S. Securities and Exchange Commission | ||
| Securities Act | Securities Act of 1933, as amended | ||
| Section 199 Deduction | U.S. Production Activities Deduction pursuant to IRC Section 199 | ||
| SG&A | Selling, general and administrative | ||
| TPL | Third-party liability | ||
| U.S. GAAP | United States Generally Accepted Accounting Principles | ||
| VHA | Veterans Health Administration | ||
| 2011 HDI Plan | HDI Holdings, Inc. Amended 2011 Stock Option and Stock Issuance Plan | ||
| 2006 Stock Plan | HMS Holdings Corp. Fourth Amended and Restated 2006 Stock Plan, as amended by Amendment No. 1 to the HMS Holdings Corp. Fourth Amended and Restated 2006 Stock Plan dated as of February 16, 2017 | ||
| 2016 Omnibus Plan | HMS Holdings Corp. 2016 Omnibus Incentive Plan | ||
| 2011 HDI Plan | HDI Holdings, Inc. Amended 2011 Stock Option and Stock Issuance Plan | ||
| 2017 Tax Act | Tax Cuts and Jobs Act of 2017 | ||
| 401(k) Plan | HMS Holdings Corp. 401(k) Plan |
3
Cautionary Note Regarding Forward-Looking Statements
This Quarterly Report onFor purposes of this Form 10-Q, ofthe terms “HMS,” “Company,” “we,” “us,” and “our” refer to HMS Holdings Corp. (together withand its consolidated subsidiaries “HMS,”unless the “Company,” “we,” “our” or “us”) containscontext clearly indicates otherwise. Included in this Form 10-Q are “forward-looking statements” within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. From time to time, we also provide forward-looking statements in other materials we release to the public, as well as oral forward-looking statements. Such statements giverelate to our current expectations, projections and assumptions about our business, the economy and future events or forecasts of future events; theyconditions. They do not relate strictly to historical or current facts.
We have tried wherever possible, to identify suchforward-looking statements by using words such as “aim,” “anticipate,” “believe,” “estimate,” “expect,” “forecast,” “future,” “intend,” “likely,” “may,” “plan,” “project,” “seek,” “strategy,” “target,” “will,” “would,” “could,” “should,” and similar expressions and references to guidance, although some forward-looking statements may be expressed differently. In particular, theseThese statements include, statements relating toamong other things, information concerning our future actions,growth, business plans, objectives and prospects,strategy, strategic or operational initiatives, our future operating andor financial performance, or results of currentour ability to invest in and anticipatedutilize our data and analytics capabilities to expand our solutions and services, the benefits and synergies to be obtained from completed and future acquisitions, the future performance of companies we have acquired, sufficiency of our appeals reserves, the future effect of different accounting determinations or remediation activities, the sufficiency of our refinancing planssources of funding for working capital, capital expenditures, acquisitions, stock repurchases, debt repayments and future share repurchases,other matters, our future expenses, interest rates, effective tax rates and financial results, and the impact of changes to U.S. healthcare legislation or healthcare spending affecting Medicare, Medicaid or other publicly funded or subsidized health programs.programs, and other statements regarding our possible future actions, business plans, objectives and prospects.
Forward-looking statements are not guarantees and involve risks, uncertainties and assumptions that are difficult to predict. Actual results may differ materially from past results and forward-looking statements if known or unknown risks or uncertainties materialize, or if underlying assumptions prove inaccurate. These risks and uncertainties include, among other things:
| our ability to execute our business plans or growth strategy; |
| our ability to innovate, develop or implement new or enhanced solutions or services; |
| the nature of investment and acquisition opportunities we are pursuing, and the successful execution of such investments and acquisitions; |
| our ability to successfully integrate acquired businesses and realize synergies; |
| variations in our results of operations; |
| our ability to accurately forecast the revenue under our contracts and solutions; |
| our ability to protect our systems from damage, interruption or breach, and to maintain effective information and technology systems and networks; |
| our ability to protect our intellectual property rights, proprietary technology, information processes and know-how; |
| significant competition |
| our failure to maintain a high level of customer retention or the unexpected reduction in scope or termination of key contracts with major customers; |
| customer dissatisfaction or our non-compliance with contractual provisions or regulatory requirements; |
| our failure to meet performance standards triggering significant costs or liabilities under our contracts; |
| our inability to manage our relationships with information and data sources and suppliers; |
| our reliance on |
| our ability to continue to secure contracts and favorable contract terms through the competitive bidding |
| pending or threatened litigation; |
| unfavorable outcomes in legal proceedings; |
| our success in attracting and retaining qualified employees and members of our management team; |
4
| our ability to generate sufficient cash to cover our interest and principal payments under our |
| unexpected changes in tax laws, regulations or guidance and unexpected changes in our effective tax |
| unanticipated increases in the number or amount of claims for which we are self-insured; |
| our ability to |
| changes in the U.S. healthcare environment or healthcare financing system, including regulatory, budgetary or political actions that affect |
| our failure to comply with applicable laws and regulations governing individual privacy and information security or to protect such information from theft and misuse; |
4
| our ability to comply with current and future legal and regulatory requirements; |
| ▪ | negative results of government or customer reviews, audits or investigations; |
| state or federal limitations related to outsourcing |
| restrictions on bidding or performing certain work due to perceived conflicts of interests; |
| the market price of our common stock and lack of dividend payments; and |
| anti-takeover provisions in our corporate governance documents. |
These and other risks are discussed under the headings “Part I, Item 1. Business,,” “Part“Part I. Item 1A, Risk Factors,,” “Part“Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations,,”and “Part II, Item 7A. Quantitative and Qualitative Disclosures About Market Risk,” of our 20162017 Form 10-K and in other documents we file with the SEC.
Any forward-looking statements made by us in this Quarterly Report on Form 10-Q speak only as of the date on which they are made. We undertake no obligation to publicly update forward-looking statements, whether as a result of new information, future events or otherwise, except as may be required by law. We caution readers not to place undue reliance upon any of these forward-looking statements. You are advised, however, to consult any further disclosures we make on related subjects in our Form 10-K, Form 10-Q and Form 8-K reports and our other filings with the SEC, including, but not limited to, our Current Reports on Form 8-K.SEC.
Market and Industry Data
This Quarterly Report on Form 10-Q contains market, industry and government data and forecasts that have been obtained from publicly available information, various industry publications and other published industry sources. We have not independently verified the information and cannot make any representation as to the accuracy or completeness of such information. None of the reports and other materials of third party sources referred to in this Quarterly Report on Form 10-Q were prepared for use in, or in connection with, this Quarterly Report.report.
5
Trademarks and Tradenames
We have a number of registered trademarks, including HMS®, as well as the corresponding HMS + logo design mark, HMS IntegritySource®, Eliza® and Essette®. These and other trademarks of ours appearing in this report are our property. Solely for convenience, trademarks and trade names of ours referred to in this Form 10-Q may appear without the ® or ™ symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or the right of the applicable licensor to these trademarks and trade names. This report contains additional trade names and trademarks of other companies. We do not intend our use or display of other companies' trade names or trademarks to imply an endorsement or sponsorship of us by such companies, or any relationship with any of these companies.
PART I — FINANCIAL INFORMATION
HMS HOLDINGS CORP. AND SUBSIDIARIES
(in thousands, except share and per share amounts)
| September 30, 2017 | December 31, 2016 | June 30, 2018 | December 31, 2017 | |||||||||||||
| Assets | (unaudited) | (unaudited) | ||||||||||||||
| Current assets: | ||||||||||||||||
| Cash and cash equivalents | $ | 79,484 | $ | 175,999 | $ | 88,127 | $ | 83,313 | ||||||||
| Accounts receivable, net of allowance of $11,276 and $10,772, at September 30, 2017 and December 31, 2016, respectively | 178,700 | 173,582 | ||||||||||||||
| Accounts receivable, net of allowance of $14,322 and $14,799, at June 30, 2018 and December 31, 2017, respectively | 193,114 | 189,460 | ||||||||||||||
| Prepaid expenses | 14,369 | 13,699 | 16,526 | 16,589 | ||||||||||||
| Income tax receivable | 6,085 | 3,354 | 7,216 | 1,892 | ||||||||||||
| Deferred financing costs, net | 1,227 | — | 564 | 564 | ||||||||||||
| Other current assets | 289 | 1,001 | 266 | 836 | ||||||||||||
| Total current assets | 280,154 | 367,635 | 305,813 | 292,654 | ||||||||||||
| Property and equipment, net | 95,034 | 92,167 | 93,369 | 98,581 | ||||||||||||
| Goodwill | 485,540 | 379,716 | 487,617 | 487,617 | ||||||||||||
| Intangible assets, net | 98,090 | 37,797 | 78,708 | 91,482 | ||||||||||||
| Deferred financing costs, net | — | 2,790 | 1,955 | 2,237 | ||||||||||||
| Other assets | 2,403 | 2,650 | 2,618 | 2,589 | ||||||||||||
| Total assets | $ | 961,221 | $ | 882,755 | $ | 970,080 | $ | 975,160 | ||||||||
| Liabilities and Shareholders' Equity | ||||||||||||||||
| Current liabilities: | ||||||||||||||||
| Revolving credit facility | $ | 240,000 | $ | — | ||||||||||||
| Accounts payable, accrued expenses and other liabilities | 47,484 | 59,402 | $ | 56,687 | $ | 61,900 | ||||||||||
| Estimated liability for appeals | 30,754 | 30,755 | 22,252 | 30,787 | ||||||||||||
| Total current liabilities | 318,238 | 90,157 | 78,939 | 92,687 | ||||||||||||
| Long-term liabilities: | ||||||||||||||||
| Revolving credit facility | — | 197,796 | 240,000 | 240,000 | ||||||||||||
| Net deferred tax liabilities | 41,441 | 22,717 | 18,089 | 21,989 | ||||||||||||
| Deferred rent | 4,883 | 5,427 | 4,539 | 4,852 | ||||||||||||
| Other liabilities | 9,275 | 10,048 | 9,874 | 9,403 | ||||||||||||
| Total long-term liabilities | 55,599 | 235,988 | 272,502 | 276,244 | ||||||||||||
| Total liabilities | 373,837 | 326,145 | 351,441 | 368,931 | ||||||||||||
| Commitments and contingencies (Note 11) | ||||||||||||||||
| Commitments and contingencies | ||||||||||||||||
| Shareholders' equity: | ||||||||||||||||
| Preferred stock -- $0.01 par value; 5,000,000 shares authorized; none issued | — | — | — | — | ||||||||||||
| Common stock -- $0.01 par value; 175,000,000 shares authorized; 96,492,808 shares issued and 84,078,730 shares outstanding at September 30, 2017; 95,966,852 shares issued and 83,552,774 shares outstanding at December 31, 2016 | 965 | 959 | ||||||||||||||
| Common stock -- $0.01 par value; 175,000,000 shares authorized; 97,051,108 shares issued and 83,387,914 shares outstanding at June 30, 2018; 96,536,251 shares issued and 83,256,858 shares outstanding at December 31, 2017 | | | 970 | | | | 965 | | ||||||||
| Capital in excess of par value | 361,462 | 345,025 | 382,630 | 368,721 | ||||||||||||
| Retained earnings | 340,441 | 326,110 | 370,615 | 366,164 | ||||||||||||
| Treasury stock, at cost: 12,414,078 shares at September 30, 2017 and December 31, 2016 | (115,484 | ) | (115,484 | ) | ||||||||||||
| Treasury stock, at cost: 13,663,194 shares at June 30, 2018 and 13,279,393 shares at December 31, 2017 | (135,576 | ) | (129,621 | ) | ||||||||||||
| Total shareholders' equity | 587,384 | 556,610 | 618,639 | 606,229 | ||||||||||||
| Total liabilities and shareholders' equity | $ | 961,221 | $ | 882,755 | $ | 970,080 | $ | 975,160 | ||||||||
See accompanying notes to the unaudited consolidated financial statements.
HMS HOLDINGS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share amounts)
(unaudited)
| Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
| 2018 | 2017 | 2018 | 2017 | |||||||||||||
| Revenue | $ | 146,791 | $ | 133,313 | $ | 288,216 | $ | 247,046 | ||||||||
| Cost of services: | ||||||||||||||||
| Compensation | 55,188 | 51,853 | 111,267 | 100,773 | ||||||||||||
| Information technology | 14,240 | 11,281 | 26,503 | 21,064 | ||||||||||||
| Occupancy | 4,014 | 4,230 | 8,397 | 7,777 | ||||||||||||
| Direct project expenses | 10,908 | 10,101 | 20,991 | 20,544 | ||||||||||||
| Other operating expenses | 7,051 | 6,562 | 13,616 | 13,765 | ||||||||||||
| Amortization of acquisition related software and intangible assets | 9,621 | 7,372 | 17,753 | 13,658 | ||||||||||||
| Total cost of services | 101,022 | 91,399 | 198,527 | 177,581 | ||||||||||||
| Selling, general and administrative expenses | 26,532 | 27,553 | 58,530 | 51,161 | ||||||||||||
| Settlement expense | 20,000 | - | 20,000 | - | ||||||||||||
| Total operating expenses | 147,554 | 118,952 | 277,057 | 228,742 | ||||||||||||
| Operating (loss)/income | (763 | ) | 14,361 | 11,159 | 18,304 | |||||||||||
| Interest expense | (3,034 | ) | (2,339 | ) | (5,682 | ) | (4,625 | ) | ||||||||
| Interest income | 188 | 33 | 308 | 188 | ||||||||||||
| (Loss)/income before income taxes | (3,609 | ) | 12,055 | 5,785 | 13,867 | |||||||||||
| Income taxes | (242 | ) | 5,538 | 2,761 | 5,908 | |||||||||||
| Net (loss)/income | $ | (3,367 | ) | $ | 6,517 | $ | 3,024 | $ | 7,959 | |||||||
| Basic income per common share: | ||||||||||||||||
| Net (loss)/income per common share -- basic | $ | (0.04 | ) | $ | 0.08 | $ | 0.04 | $ | 0.10 | |||||||
| Diluted income per common share: | ||||||||||||||||
| Net (loss)/income per common share -- diluted | $ | (0.04 | ) | $ | 0.08 | $ | 0.04 | $ | 0.09 | |||||||
| Weighted average shares: | ||||||||||||||||
| Basic | 83,231 | 83,921 | 83,222 | 83,708 | ||||||||||||
| Diluted | 83,231 | 85,826 | 84,837 | 85,534 | ||||||||||||
See accompanying notes to the unaudited consolidated financial statements.
6
HMS HOLDINGS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share amounts)
(unaudited)
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||
| 2017 | 2016 | 2017 | 2016 | |||||||||||||
| Revenue | $ | 125,673 | $ | 122,860 | $ | 372,719 | $ | 364,130 | ||||||||
| Cost of services: | ||||||||||||||||
| Compensation | 49,012 | 48,298 | 149,784 | 142,042 | ||||||||||||
| Data processing | 12,067 | 9,541 | 33,131 | 28,269 | ||||||||||||
| Occupancy | 4,332 | 3,388 | 12,109 | 10,647 | ||||||||||||
| Direct project expenses | 9,548 | 10,997 | 30,092 | 36,952 | ||||||||||||
| Other operating expenses | 7,446 | 8,465 | 21,212 | 20,649 | ||||||||||||
| Amortization of acquisition related software and intangible assets | 8,167 | 6,390 | 21,825 | 20,416 | ||||||||||||
| Total cost of services | 90,572 | 87,079 | 268,153 | 258,975 | ||||||||||||
| Selling, general and administrative expenses | 22,240 | 23,131 | 73,400 | 66,245 | ||||||||||||
| Total operating expenses | 112,812 | 110,210 | 341,553 | 325,220 | ||||||||||||
| Operating income | 12,861 | 12,650 | 31,166 | 38,910 | ||||||||||||
| Interest expense | (3,109 | ) | (2,121 | ) | (7,734 | ) | (6,313 | ) | ||||||||
| Interest income | 14 | 105 | 201 | 215 | ||||||||||||
| Income before income taxes | 9,766 | 10,634 | 23,633 | 32,812 | ||||||||||||
| Income taxes | 3,394 | (3,412 | ) | 9,302 | 4,326 | |||||||||||
| Net income | $ | 6,372 | $ | 14,046 | $ | 14,331 | $ | 28,486 | ||||||||
| Basic income per common share: | ||||||||||||||||
| Net income per common share -- basic | $ | 0.08 | $ | 0.17 | $ | 0.17 | $ | 0.34 | ||||||||
| Diluted income per common share: | ||||||||||||||||
| Net income per common share -- diluted | $ | 0.07 | $ | 0.17 | $ | 0.17 | $ | 0.33 | ||||||||
| Weighted average shares: | ||||||||||||||||
| Basic | 83,923 | 84,101 | 83,778 | 84,338 | ||||||||||||
| Diluted | 85,730 | 84,853 | 85,586 | 85,993 | ||||||||||||
See accompanying notes to unaudited consolidated financial statements.
7
HMS HOLDINGS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF
SHAREHOLDERS’ EQUITY
(in thousands, except share amounts)
(unaudited)
| Common Stock | Treasury Stock | Common Stock | Treasury Stock | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| # of Shares Issued | Par Value | Capital in Excess of Par Value | Retained Earnings | # of Shares | Amount | Total Shareholders' Equity | # of Shares Issued | Par Value | Capital in Excess of Par Value | Retained Earnings | # of Shares | Amount | Total Shareholders' Equity | |||||||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2016 | 95,966,852 | $ | 959 | $ | 345,025 | $ | 326,110 | 12,414,078 | $ | (115,484 | ) | $ | 556,610 | |||||||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2017 | 96,536,251 | $ | 965 | $ | 368,721 | $ | 366,164 | 13,279,393 | $ | (129,621 | ) | $ | 606,229 | |||||||||||||||||||||||||||||||||||||||||||
| Adoption of accounting standard (Note 1 and 3) | - | - | - | 1,427 | - | - | 1,427 | |||||||||||||||||||||||||||||||||||||||||||||||||
| Net income | — | — | — | 14,331 | — | — | 14,331 | - | - | - | 3,024 | - | - | 3,024 | ||||||||||||||||||||||||||||||||||||||||||
| Stock-based compensation expense | — | — | 16,761 | — | — | — | 16,761 | - | - | 14,208 | - | - | - | 14,208 | ||||||||||||||||||||||||||||||||||||||||||
| Purchase of treasury stock | - | - | - | - | 383,801 | (5,955 | ) | (5,955 | ) | |||||||||||||||||||||||||||||||||||||||||||||||
| Exercise of stock options | 162,861 | 2 | 2,578 | — | — | — | 2,580 | 151,034 | 2 | 2,388 | - | - | - | 2,390 | ||||||||||||||||||||||||||||||||||||||||||
| Vesting of restricted stock units, net of shares withheld for employee tax | 363,095 | 4 | (2,902 | ) | — | — | — | (2,898 | ) | 363,823 | 3 | (2,687 | ) | - | - | - | (2,684 | ) | ||||||||||||||||||||||||||||||||||||||
| Balance at September 30, 2017 | 96,492,808 | $ | 965 | $ | 361,462 | $ | 340,441 | 12,414,078 | $ | (115,484 | ) | $ | 587,384 | |||||||||||||||||||||||||||||||||||||||||||
| Balance at June 30, 2018 | 97,051,108 | $ | 970 | $ | 382,630 | $ | 370,615 | 13,663,194 | $ | (135,576 | ) | $ | 618,639 | |||||||||||||||||||||||||||||||||||||||||||
See accompanying notes to the unaudited consolidated financial statements.
8
HMS HOLDINGS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
| Six Months Ended June 30, | ||||||||
| 2018 | 2017 | |||||||
| Operating activities: | ||||||||
| Net income | $ | 3,024 | $ | 7,959 | ||||
| Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
| Depreciation and amortization of property, equipment and software | 16,758 | 12,927 | ||||||
| Amortization of intangible assets | 12,774 | 9,740 | ||||||
| Amortization of deferred financing costs | 282 | 1,042 | ||||||
| Stock-based compensation expense | 14,208 | 9,380 | ||||||
| Deferred income taxes | (3,900 | ) | 1,265 | |||||
| Change in fair value of contingent consideration | - | 500 | ||||||
| Release of estimated liability for appeals | (8,436 | ) | - | |||||
| Changes in operating assets and liabilities: | ||||||||
| Accounts receivable | (3,654 | ) | (9,039 | ) | ||||
| Prepaid expenses | 63 | 149 | ||||||
| Other current assets | 570 | 526 | ||||||
| Other assets | (29 | ) | 149 | |||||
| Income taxes receivable / (payable) | (5,324 | ) | (6,180 | ) | ||||
| Accounts payable, accrued expenses and other liabilities | (2,546 | ) | (8,196 | ) | ||||
| Estimated liability for appeals | (99 | ) | 518 | |||||
| Net cash provided by operating activities | 23,691 | 20,740 | ||||||
| Investing activities: | ||||||||
| Acquisition of a business, net of cash acquired | - | (171,174 | ) | |||||
| Purchases of property and equipment | (2,455 | ) | (8,881 | ) | ||||
| Investment in capitalized software | (10,173 | ) | (6,626 | ) | ||||
| Net cash used in investing activities | (12,628 | ) | (186,681 | ) | ||||
| Financing activities: | ||||||||
| Proceeds from exercise of stock options | 2,390 | 1,986 | ||||||
| Payments of tax withholdings on behalf of employees for net-share settlement for stock-based compensation | (2,684 | ) | (2,874 | ) | ||||
| Payments on capital lease obligations | - | (5 | ) | |||||
| Proceeds from credit facility | - | 42,204 | ||||||
| Purchases of treasury stock | (5,955 | ) | - | |||||
| Net cash (used in)/provided by financing activities | (6,249 | ) | 41,311 | |||||
| Net increase (decrease) in cash and cash equivalents | 4,814 | (124,630 | ) | |||||
| Cash and Cash Equivalents | ||||||||
| Cash and cash equivalents at beginning of year | 83,313 | 175,999 | ||||||
| Cash and cash equivalents at end of period | $ | 88,127 | $ | 51,369 | ||||
| Supplemental disclosure of cash flow information: | ||||||||
| Cash paid for income taxes | $ | 11,472 | $ | 10,656 | ||||
| Cash paid for interest | $ | 4,916 | $ | 3,451 | ||||
| Supplemental disclosure of non-cash activities: | ||||||||
| Change in balance of accrued property and equipment purchases | $ | 1,082 | $ | (1,313 | ) | |||
| Nine Months Ended September 30, | ||||||||
| 2017 | 2016 | |||||||
| Operating activities: | ||||||||
| Net income | $ | 14,331 | $ | 28,486 | ||||
| Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
| Depreciation and amortization of property and equipment | 20,599 | 18,875 | ||||||
| Amortization of intangible assets | 15,947 | 15,101 | ||||||
| Amortization of deferred financing costs | 1,563 | 1,563 | ||||||
| Stock-based compensation expense | 16,761 | 10,747 | ||||||
| Deferred income taxes | (726 | ) | (5,902 | ) | ||||
| (Gain) / Loss on disposal of assets | — | (970 | ) | |||||
| Change in fair value of contingent consideration | 2,450 | — | ||||||
| Changes in operating assets and liabilities, net of acquisition: | ||||||||
| Accounts receivable | 5,630 | 8,534 | ||||||
| Prepaid expenses | 757 | (1,905 | ) | |||||
| Other current assets | 712 | 2,579 | ||||||
| Other assets | 163 | (38 | ) | |||||
| Income taxes receivable / (payable) | (2,731 | ) | (15,368 | ) | ||||
| Accounts payable, accrued expenses and other liabilities | (20,357 | ) | (2,584 | ) | ||||
| Estimated liability for appeals | (1 | ) | (2,896 | ) | ||||
| Net cash provided by operating activities | 55,098 | 56,222 | ||||||
| Investing activities: | ||||||||
| Acquisition of a business, net of cash acquired | (171,174 | ) | (20,910 | ) | ||||
| Proceeds from sale of cost basis investment | — | 2,496 | ||||||
| Purchases of property and equipment | (11,656 | ) | (8,796 | ) | ||||
| Investment in capitalized software | (10,664 | ) | (4,910 | ) | ||||
| Net cash used in investing activities | (193,494 | ) | (32,120 | ) | ||||
| Financing activities: | ||||||||
| Proceeds from exercise of stock options | 2,580 | 2,940 | ||||||
| Payments of tax withholdings on behalf of employees for net-share settlement for stock-based compensation | (2,898 | ) | (1,090 | ) | ||||
| Payments on capital lease obligations | (5 | ) | (43 | ) | ||||
| Proceeds from revolving credit facility | 42,204 | — | ||||||
| Net cash provided by financing activities | 41,881 | 1,807 | ||||||
| Net (decrease) / increase in cash and cash equivalents | (96,515 | ) | 25,909 | |||||
| Cash and Cash Equivalents | ||||||||
| Cash and cash equivalents at beginning of year | 175,999 | 145,610 | ||||||
| Cash and cash equivalents at end of period | $ | 79,484 | $ | 171,519 | ||||
| Supplemental disclosure of cash flow information: | ||||||||
| Cash paid for income taxes | $ | 12,317 | $ | 19,478 | ||||
| Cash paid for interest | $ | 5,819 | $ | 4,597 | ||||
| Supplemental disclosure of non-cash activities: | ||||||||
| Change in balance of accrued property and equipment purchases | $ | (414 | ) | $ | (176 | ) | ||
See accompanying notes to the unaudited consolidated financial statements.
9
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
For the Three and NineSix Months Ended SeptemberJune 30, 20172018 and 20162017
(unaudited)
| 1. | Business and Summary of Significant Accounting Policies |
(a) Business
HMS is a leading provider of cost containment solutions in the U.S. healthcare marketplace. UsingWe use innovative technology, as well as extensive data services and powerful analytics the Company deliversto deliver coordination of benefits, payment integrity and healthcare management and memberconsumer engagement solutions through its operating subsidiaries to help at-risk healthcare payers improve financial performance and clinical outcomes. We provide coordination of benefits services to government and commercial healthcare payers and sponsors to ensure that the responsible party pays healthcare claims. Our payment integrity services ensure healthcare claims billed are accurate and appropriate, and our care management and consumer engagement technology helps risk-bearing organizations to better engage with and manage the care delivered to their members. Together these various services help customers recover improper payments;erroneously paid amounts from liable third parties; prevent future improper payments; reduce fraud, waste and abuse; better manage the care their members receive; engage healthcare consumers to improve clinical outcomes while increasing member satisfaction and ensureretention; and achieve regulatory compliance. The Company serves commercial health plans, state government agencies, federal programs, at-risk providers, pharmacy benefit managers and employers.We currently operate as one business segment with a single management team that reports to our Chief Executive Officer.
The accompanying consolidated financial statements and notes are unaudited. Accordingly, they do not include all of the information and notes required by U.S. GAAP for complete financial statements. These statements include all adjustments (consisting of(which include only normal recurring accruals)adjustments, except as disclosed) that management considers necessary to present a fair statement of the Company’s results of operations, financial position and cash flows. The results reported in these unaudited consolidated financial statements should not be regarded as necessarily indicative of results that may be expected for the entire year. It is suggested that these unaudited consolidated financial statements be read in conjunction with the Company’s consolidated financial statements as of and for the year ended December 31, 20162017 which were filed with the SEC as part of the 20162017 Form 10-K. The consolidated balance sheet as of December 31, 20162017 included herein was derived from audited financial statements, but does not include all disclosures required by U.S. GAAP.
The preparation of the Company’s unaudited consolidated financial statements requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities, primarily accounts receivable, intangible assets, fixed assets, accrued expenses, estimated liability for appeals, the disclosure of contingent liabilities at the date of the unaudited consolidated financial statements and the reported amounts of revenue and expenses during the reporting periods. The Company’s actual results could differ from those estimates.
HMS is managed and operates as one business segment, with a single management team reporting to the Chief Executive Officer. TheThese unaudited consolidated financial statements include HMS accounts and transactions and those of the Company’s wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.
(b) Summary of Significant Accounting Policies
There have been no material changes to the Company’s significant accounting policies that are referenced in the 20162017 Form 10-K.10-K other than as described below with respect to revenue recognition.
Recently Adopted Accounting Pronouncements
In March 2016, the FASB issued ASU No. 2016-09,Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting, (“ASU 2016-09”) that changes the accounting for certain aspects of share-based payments to employees. The new guidance requires excess tax benefits and tax deficiencies to be recorded in the income statement when stock awards vest or are settled. In addition, cash flows related to excess tax benefits are no longer separately classified as a financing activity apart from other income tax cash flows. The standard also allows companies to repurchase more of an employee’s vesting shares for tax withholding purposes without triggering liability accounting, clarifies that all cash payments made to tax authorities on an employee’s behalf for withheld shares should be presented as a financing activity on the cash flows statement and provides an accounting policy election to account for forfeitures as they occur. ASU 2016-09 was effective for annual reporting periods beginning after December 15, 2016, including interim periods within such annual reporting periods with early adoption permitted. The Company elected to early adopt the new guidance in the fourth quarter of fiscal year 2016 which required us to reflect any adjustments as of January 1, 2016, the beginning of the annual period that includes the interim period of adoption. The primary impact of adoption was the recognition of excess tax benefits in the provision for income taxes rather than paid-in capital for all periods in fiscal year 2016. Additional amendments to the accounting for income taxes and minimum statutory withholding tax requirements had no impact to retained earnings as of January 1, 2016, where the cumulative effect of these changes were required to be recorded. The Company elected to continue to estimate forfeitures expected to occur to determine the amount of compensation cost to be recognized in each period. The Company elected to apply the presentation requirements for cash flows related to excess tax benefits retrospectively to all periods presented which resulted in an increase to both net cash from operating activities and net cash from financing activities of $1.9 million for the nine months ended September 30, 2016. Adoption of the new standard resulted in the recognition of net excess tax benefits in the provision for income taxes rather than paid-in capital of $1.9 million for the three and nine months ended September 30, 2016. Additionally, for the three and nine months ended September 30, 2016, income tax expense decreased and net income increased $1.9 million and earnings per share increased $0.02 as compared to previously reported amounts. The presentation requirements for cash flows related to employee taxes paid for withheld shares had no impact to any of the periods presented on the consolidated statements of cash flow since such cash flows have historically been presented as a financing activity.
10
Recently Issued Accounting Pronouncements
In May 2014, the FASB issued ASU No. 2014-09,Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”), which is the new comprehensive revenue recognition standard that will supersedesupersedes all existing revenue recognition guidance under U.S. GAAP. The FASB has recently issued several amendmentsCompany adopted ASU 2014-09 on January 1, 2018 as to all contracts using the modified retrospective method and the Company recognized the cumulative effect of initially applying the new revenue standard as an adjustment to the standard.opening balance of retained earnings. The financial information for comparative prior periods has not been restated and continues to be reported under the accounting standards in effect for those periods. The effect of adopting ASU 2014-09 in the current annual reporting period as compared with the guidance that was in effect before the change is immaterial. The Company’s internal control framework did not materially change, but existing internal controls were modified due to certain changes to business processes and systems to support the new revenue recognition standard as necessary. The Company continues to expect the impact of the adoption of the new standard to be immaterial to its net income and its internal control framework on an ongoing basis.
In August 2016, the FASB issued ASU No. 2016-15, Statements of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments (“ASU 2016-15”). ASU 2016-15 clarifies where certain cash receipts and cash payments are presented and classified in the statement of cash flows. The amendments are effective for annual reporting periods beginning after December 15, 2017, and for interim reporting periods within such annual periods. The Company adopted this guidance on January 1, 2018. The adoption of this guidance did not have an effect on the Company’s consolidated financial statements.
In January 2017, the FASB issued ASU No. 2017-01, Business Combinations (Topic 805) – Clarifying the Definition of a Business (“ASU 2017-01”). ASU 2017-01 finalizes previous proposals regarding shareholder concerns that the definition of a business is applied too broadly. The guidance assists entities with evaluating whether transactions should be accounted for as acquisitions of assets or of businesses. The amendments are effective for annual periods beginning after December 15, 2017, including interim periods within those periods. The Company adopted this guidance on January 1, 2018. The adoption of this guidance did not have a material effect on the Company’s consolidated financial statements.
In May 2017, the FASB issued ASU No. 2017-09, Compensation – Stock Compensation (Topic 718) – Scope of Modification Accounting, (“ASU 2017-09”). ASU 2017-09 requires entities to apply modification accounting to changes made to a share-based payment award. The new guidance specifies that entities will apply modification accounting to changes to a share-based payment award only if any of the following are not the same immediately before and after the change: 1) The award’s fair value (or calculated value or intrinsic value, if those measurement methods are used), 2) the award’s vesting conditions, and 3) the award’s classification as an equity or liability instrument. ASU 2017-09 is effective for annual reporting periods beginning after December 15, 2017, including interim periods within such annual reporting periods, with early adoption permitted. The Company does not plan to early adoptadopted this guidance and therefore will adopt on January 1, 2018. The guidance permits two methods of adoption: retrospectively to each prior reporting period presented (full retrospective method), or retrospectively with the cumulative effect of initially applying the guidance recognized at the date of initial application (modified retrospective method). The Company will adopt ASU 2014-09 using the modified retrospective method. The Company, with the assistance of external consultants, has developed and is currently following an implementation plan. In connection with the implementation plan, the Company has performed a review of a significant number of historical contracts and is in process of assessing the overall financial statement impactadoption of this assessment. Dependingguidance did not have a material effect on the results of the Company’s assessment, there could be material changes to the timing and recognition of revenues and certain associated expenses. The Company expects to complete the assessment process, including quantifying the overall impact to the Company’s results of operations by the end of the fourth quarter of 2017.consolidated financial statements.
Recently Issued Accounting Pronouncements
In February 2016, the FASB issued ASU No. 2016-02,Leases (Topic 842) (“ASU 2016-02”). ASU 2016-02 will require most lessees to recognize a majority of the company’s leases on the balance sheet, which will increase reported assets and liabilities. ASU 2016-02 is effective for annual reporting periods beginning after December 15, 2018 including interim periods within such annual reporting periods with early adoption permitted. The Company has not early adopted this guidance and is currently evaluating the impact on the Company’s consolidated financial statements of adopting this guidance. The Company does not expect thisdeveloped a preliminary implementation plan and is reviewing historical lease agreements to have aquantify the impact of adoption. Depending on the results of the Company’s review, there could be material impactchanges to the Company’s financial position and/or results of operations.
In August 2016, The Company expects to complete the FASB issued ASU No. 2016-15,Statementsinitial analysis of Cash Flows (Topic 230): Classificationall historical agreements and the overall assessment process by the end of Certain Cash Receiptsthe third quarter of 2018 in anticipation of performing additional reviews and Cash Payments(“ASU 2016-15”). ASU 2016-15 clarifies where certain cash receipts and cash payments are presented and classifiedother implementation considerations in the statementfourth quarter of cash flows. The amendments are effective for annual reporting periods beginning after December 15, 2017, and for interim reporting periods within such annual periods. The Company is currently evaluating the impact on the Company’s financial statements of adopting this guidance. The Company does not expect this to have a material impact to the Company’s consolidated financial statements.2018.
In January 2017, the FASB issued ASU No. 2017-01,Business Combinations (Topic 805) – Clarifying the Definition of a Business (“ASU 2017-01”). The amendments are effective for annual periods beginning after December 15, 2017, including interim periods within those periods. The Company is currently evaluating the impact on the Company’s financial statements of adopting this guidance. The Company does not expect this to have a material impact to the Company’s consolidated financial statements.
11
In January 2017, the FASB issued ASU No. 2017-04,Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment(“ASU 2017-04”). ASU 2017-04This amendment simplifies the manner in which an entity is required to test for goodwill impairment by eliminating Step 2 from the goodwill impairment test. Step 2 measures goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. The amendment simplifies this approach by having the entity (1) perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount, and (2) recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, with the understanding that the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The amendment is effective for public entities that are SEC filers prospectively for their annual, or any interim, goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for all entities for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company is currently evaluating the impact on the Company’s financial statements of adopting this guidance. The Company doesguidance but this guidance is not expect thisexpected to have a material impact toon the Company’s consolidated financial statements.position, results of operations or internal control framework.
In May 2017,June 2018, the FASB issued ASU No. 2017-09,2018-07,Compensation – Stock Compensation (Topic 718) – Scope of ModificationImprovements to Nonemployee Share-Based Payment Accounting, (“(“ASU 2017-09”2018-07”). ASU 2017-09 finalizes previous proposals regarding the complexity around2018-07 requires entities to apply similar accounting for share-based payment awards for modifications. The amendmenttransactions with non-employees as with share-based payment transactions with employees. ASU 2018-07 is effective for public entities that are SEC filers for annual and interim periodsfiscal year beginning after December 15, 2017.2018, including interim periods within that fiscal year. Early adoption is permitted, including adoption in any interim period, for reporting periods for which financial statements have not yet been issued.permitted. The Company is currently evaluating the impact on the Company’s financial statements of adopting this guidance. The Company doesguidance but this guidance is not expect thisexpected to have a material impact toon the Company’s consolidated financial statements.position, results of operations or internal control framework.
| 2. | Fair Value of Financial Instruments |
Financial instruments (principally cash and cash equivalents, accounts receivable, accounts payable and accrued expenses) are carried at cost, which approximates fair value due to the short-term maturity of these instruments. The Company’s long-term credit facility is carried at cost, which, due to the variable interest rate associated with the revolving credit facility, approximates its fair value. The Company has no Level 1 or Level 2 financial instruments and there were no transfers between Level 1 or Level 2 financial instruments. Included in Other liabilities on the unaudited Consolidated Balance Sheets at June 30, 2018 is a $35,000 contingent consideration liability classified as Level 3 which remains unchanged from December 31, 2017. The liability is valued using a Monte Carlo simulation and includes unobservable inputs such as expected levels of revenues and discount rates. Changes in the unobservable inputs of this instrument could result in a significant change in the fair value measurement.
| 3. |
The Company’s revenue disaggregated by product for the three and six months ended June 30 is as follows (in thousands):
| Three Months Ended June 30 | Six Months Ended June 30 | |||||||||||||||
| 2018 | 2017 | 2018 | 2017 | |||||||||||||
| Coordination of benefits | $ | 100,754 | $ | 98,454 | $ | 192,507 | $ | 186,946 | ||||||||
| Analytical services | 46,037 | 34,859 | 95,709 | 60,100 | ||||||||||||
| Total | $ | 146,791 | $ | 133,313 | $ | 288,216 | $ | 247,046 | ||||||||
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Coordination of benefits
Coordination of benefits revenue is derived from contracts with state governments and Medicaid managed care plans that typically span 3 to 5 years with the option to renew. Types of service contracts could include: (a) the identification of erroneously paid claims; (b) the delivery of verified commercial insurance coverage information; (c) the identification of paid claims where another third party is liable; and (d) the identification and enrollment of Medicaid members who have access to affordable employer insurance. Most of these types of service contracts contain multiple promises, all of which are not distinct within the context of the contract. Therefore, the promises represent a single, distinct performance obligation for the types of services we offer. Revenue derived from these performance obligations is largely based on variable consideration where, based on the number of claims or amount of findings the Company identified, a contingent or fixed transaction price/recovery percentage is allocated to each distinct performance obligation. The Company utilizes the expected value method to estimate the variable consideration related to the transaction price for its service contracts. Key inputs and assumptions in determining variable consideration includes identified pricing and expected recoveries and/or savings. The expected recoveries and/or savings are based on historical experience of information received from our customers. Revenue is recognized at a point in time when our customers realize economic benefits from our services when our services are completed. Generally, coordination of benefit contract payment terms are not standardized within the respective contract; however, payment is typically due on demand and there is a clear and distinct history of customers making consistent payments.
Analytical services
The Company’s analytical services revenue consists mostly of payment integrity services but also care management and consumer engagement services.
Payment integrity services revenue is derived from contracts with federal and state governments, commercial health plans and other at-risk entities that can span several years with the option to renew. Types of service contracts could include: (a) services designed to ensure that healthcare payments are accurate and appropriate; and (b) the identification of over/(under)payments or inaccurate charges based on a review of medical records. Most of these types of service contracts contain multiple promises, all of which are not distinct within the context of the contract. Therefore, the promises represent a single, distinct performance obligation for the types of services we offer. Revenue derived from these performance obligations is largely based on variable consideration where, based on the number of claims or amount of findings the Company identified, a contingent or fixed transaction price/recovery percentage is allocated to each distinct performance obligation. The Company utilizes the expected value method to estimate the variable consideration related to the transaction price for its service contracts. Key inputs and assumptions in determining variable consideration includes identified pricing and expected recoveries and/or savings. The expected recoveries and/or savings are based on historical experience of information received from our customers. Revenue is recognized at a point in time when our customers realize economic benefits from our services when our services are completed. Generally, payment integrity contract payment terms are not standardized within the respective contract; however, payment is typically due on demand and there is a clear and distinct history of customers making consistent payments.
Care management and consumer engagement services revenue is derived from contracts with health plans and other risk-bearing entities that can span several years with the option to renew. Types of service contracts could include: (a) programs designed to improve member engagement; and (b) outreach services designed to improve clinical outcomes. Most of these types of service contracts contain multiple promises, all of which are not distinct within the context of the contract. Therefore, the promises represent a single, distinct performance obligation for the types of services we offer. Revenue derived from these services is largely based on consideration associated with prices per order/transfer and PMPM/PMPY fees. The Company believes the output method is a reasonable measure of progress for the satisfaction of our performance obligations, which are satisfied over time, as it provides a faithful depiction of (1) our performance toward complete satisfaction of the performance obligation under the contract and (2) the value transferred to the customer of the services performed under the contract. The Company has elected the right to the invoice practical expedient for recognition of revenue related to its performance obligations. Additionally, certain care management and consumer engagement services contracts have distinct performance obligations related to software license and implementation fees which have historically been recognized as revenue ratably over the life of the contract. However, upon adoption of ASC 606, revenue for software licenses is recognized at the beginning of the license period when control is transferred as the license is installed and revenue for implementation fees is recognized when control is transferred over time as the implementation is being performed. As the performance obligation is deemed to have been satisfied and control transferred to our customers for software licenses and implementation fees on or before December 31, 2017, the Company recorded a decrease to deferred revenue and an increase to opening retained earnings of $1.4 million as of January 1, 2018 for the cumulative impact of adopting ASC 606. A portion of the Company’s care management and consumer engagement services are deferred and revenue is recognized over time. Deferred revenue of this nature was approximately $5.4 million and $6.4 million as of June 30, 2018 and December 31, 2017, respectively, and is included in Accounts payable, accrued expenses and other liabilities in the Consolidated Balance Sheets. Generally, care management and consumer engagement contract payment terms are stated within the contract and are due within an explicitly stated time period (e.g., 30, 45, 60 days) from the date of invoice.
Contract modifications are routine in nature and often done to account for changes in the contract specifications or requirements. In most instances, contract modifications are for services that are not distinct, and, therefore, modifications are accounted for as part of the existing contract.
| 4. | Accounts Receivable and Accounts Receivable Allowance |
The Company’s accounts receivable, net, consisted of the following (in thousands):
| June 30, 2018 | December 31, 2017 | |||||
| Accounts receivable | $ | 207,436 | $204,259 | |||
| Allowance | (14,322 | ) | (14,799) | |||
| Accounts receivable, net | $ | 193,114 | $189,460 | |||
We record an accounts receivable allowance, based on historical patterns of billing adjustments, length of operating and collection cycle and customer negotiations, behaviors and payment patterns. Changes in these estimates are recorded to revenue in the period of change. A summary of the activity in the accounts receivable allowance was as follows (in thousands):
| June 30, 2018 | December 31, 2017 | |||||||
| Balance--beginning of period | $ | 14,799 | $ | 10,772 | ||||
| Provision | 10,332 | 20,233 | ||||||
| Charge-offs | (10,809 | ) | (16,206 | ) | ||||
| Balance--end of period | $ | 14,322 | $ | 14,799 | ||||
| 5. | Acquisition |
On April 17, 2017, the Company completed the acquisition of 100% of the outstanding capital stock of Eliza Holding Corp. (“Eliza”), for a preliminary purchase price of $171.6 million funded with available liquidity of approximately 75% cash on hand and 25% from the Company’s existing credit line. Eliza is a cloud based technology platform which provides comprehensive and personalized health engagement solutions designed to improve clinical outcomes and reduce costs. Eliza reaches and engages members through a proprietary, scalable technology solution that leverages a multi-channel communications platform incorporating consumer and proprietary data sources, analytics, and behavior-driven program design to help clients achieve desired outcomes.
The purchase price was subject to certain post-closing purchase price adjustments and the initial purchase price allocation as of the date of acquisition was based on a preliminary valuation. Estimates and assumptions for which the Company is still obtaining or evaluating information are subject to change up to one year from the acquisition date as that additional information becomes available and adjustments may require a change in the amounts allocated to goodwill during the periods in which the adjustments are determined. The intangible assets are valued using various methods which requires several judgments, including growth rates, discount rates, customer attrition rates, and expected levels of revenues, earnings, cash flows and tax rates. The intangible assets are amortized over their estimated useful lives on a straight-line basis and are not expected to be deductible for taxable purposes. As such, the Company recorded a net deferred tax liability which is comprised of deferred tax liabilities recognized in connection with the acquired intangible assets partially offset by deferred tax assets associated with acquired net operating loss carryforwards and credits. The goodwill recognized from the acquisition was a result of synergies to be realized from future revenue growth, is not deductible for tax purposes, has an indefinite useful life and will be included in the Company’s annual impairment testing or between annual tests if an indicator of impairment exists.
During the third quarter of fiscal 2017, the Company made adjustments to the preliminary purchase price allocation which resulted in an increase of $8.9 million to the fair value of acquired intangible assets, an increase of $3.4 million to the deferred tax liability associated with the acquired intangible assets and a decrease of $5.5 million to goodwill. The Company also changed the estimated useful life of the acquired customer relationships intangible asset from 36 years to 15 years. The purchase price allocation is still preliminary and subject to change throughout the remainder of the measurement period based on the finalization of the detailed valuations. The updated preliminary allocation of the purchase price to the fair value of the assets acquired and the liabilities assumed as of April 17, 2017, the effective date of the acquisition, is as follows ((in thousands)thousands):
12
| Cash and cash equivalents | $ | 435 | $ | 435 | ||||
| Accounts receivable | 10,748 | 8,902 | ||||||
| Prepaid expenses | 1,427 | 1,427 | ||||||
| Property and equipment | 1,146 | 1,146 | ||||||
| Intangible assets | 76,240 | 76,240 | ||||||
| Goodwill | 105,677 | 107,754 | ||||||
| Other assets | 63 | 63 | ||||||
| Accounts payable | (2,620 | ) | (2,620 | ) | ||||
| Deferred tax liability | (19,450 | ) | (19,681 | ) | ||||
| Other liabilities | (2,057 | ) | (2,057 | ) | ||||
| Total purchase price | $ | 171,609 | $ | 171,609 |
The purchase price allocated to the intangibles acquired was as follows ((in thousands)thousands):
| Useful Life (years) | Useful Life | |||||||||||||
| Customer relationships | $ | 56,200 | 15 | 15 years | $ | 56,200 | ||||||||
| Intellectual property | 19,600 | 6 | 6 years | 19,600 | ||||||||||
| Trade name | 310 | 1.5 | 1.5 years | 310 | ||||||||||
| Restrictive covenants | 130 | 1 | 1 year | 130 | ||||||||||
| Fair value of intangibles acquired | $ | 76,240 | $ | 76,240 | ||||||||||
Acquisition costs recorded in the second quarter 2017 to selling, general and administrative expenses were as follows ((in thousands)::
| Other operating expenses - consulting fees | $ | 3,515 | ||
| Other operating expenses - legal fees | 832 | |||
| Other operating expenses - transaction costs | 185 | |||
| Acquisition-related costs | $ | 4,532 |
Goodwill was determined based on the difference between the purchase price and the fair values of the tangible and intangible assets acquired.
The financial results of Eliza have been included in the Company’s consolidated financial statements since the date of acquisition. Eliza contributed approximately $17.5 million in revenue to HMS results of operations from the date of acquisition through September 30, 2017.
13
The Company’s accounts receivable, net, consisted of the following(in thousands):
| September 30, 2017 | December 31, 2016 | |||||||
| Accounts receivable | $ | 189,976 | $ | 184,354 | ||||
| Allowance | (11,276 | ) | (10,772 | ) | ||||
| Accounts receivable, net | $ | 178,700 | $ | 173,582 | ||||
A summary of the activity in the allowance was as follows(in thousands):
| September 30, 2017 | December 31, 2016 | |||||||
| Balance--beginning of period | $ | 10,772 | $ | 11,464 | ||||
| Provision | 11,509 | 21,583 | ||||||
| Charge-offs | (11,005 | ) | (22,383 | ) | ||||
| Recoveries | — | 108 | ||||||
| Balance--end of period | $ | 11,276 | $ | 10,772 | ||||
Intangible assets consisted of the following (in thousands, except for useful lifeweighted average amortization period):
| Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | Useful Life (years) | Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | Weighted Average Amortization Period | |||||||||||||||||||||||||
| September 30, 2017 | ||||||||||||||||||||||||||||||||
| June 30, 2018 | ||||||||||||||||||||||||||||||||
| Customer relationships | $ | 159,290 | $ | (84,106 | ) | $ | 75,184 | 5 | - | 15 | $ | 156,790 | $ | (96,249 | ) | $ | 60,541 | 11.8 years | ||||||||||||||
| Trade name | 16,246 | (13,263 | ) | 2,983 | 1.5 | - | 5 | |||||||||||||||||||||||||
| Trade names | 16,246 | (15,097 | ) | 1,149 | 0.5 years | |||||||||||||||||||||||||||
| Intellectual property | 21,700 | (1,952 | ) | 19,748 | 3 | - | 7 | 21,700 | (4,733 | ) | 16,967 | 4.5 years | ||||||||||||||||||||
| Restrictive covenants | 263 | (88 | ) | 175 | 1 | - | 5 | 263 | (212 | ) | 51 | 1.1 years | ||||||||||||||||||||
| Total | $ | 197,499 | $ | (99,409 | ) | $ | 98,090 | $ | 194,999 | $ | (116,291 | ) | $ | 78,708 | ||||||||||||||||||
| December 31, 2016 | ||||||||||||||||||||||||||||||||
| Customer relationships | $ | 103,090 | $ | (71,914 | ) | $ | 31,176 | 5 | - | 10 | ||||||||||||||||||||||
| Trade name | 15,936 | (11,393 | ) | 4,543 | 3 | - | 5 | |||||||||||||||||||||||||
| Intellectual property | 2,100 | (140 | ) | 1,960 | 3 | - | 7 | |||||||||||||||||||||||||
| Restrictive covenants | 133 | (15 | ) | 118 | 3 | - | 5 | |||||||||||||||||||||||||
| Total | $ | 121,259 | $ | (83,462 | ) | $ | 37,797 | |||||||||||||||||||||||||
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Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | Weighted Average Amortization Period | |||||||||||
| December 31, 2017 | ||||||||||||||
| Customer relationships | $ | 159,290 | $ | (89,106 | ) | $ | 70,184 | 11.3 years | ||||||
| Trade names | 16,246 | (13,916 | ) | 2,330 | 1 year | |||||||||
| Intellectual property | 21,700 | (2,874 | ) | 18,826 | 5.2 years | |||||||||
| Restrictive covenants | 263 | (121 | ) | 142 | 1.3 years | |||||||||
| Total | $ | 197,499 | $ | (106,017 | ) | $ | 91,482 | |||||||
Amortization expense of intangible assets is expected to approximate the following(in thousands):
| Year ending December 31, | ||||||||
| Remainder of 2017 | $ | 5,944 | ||||||
| 2018 | 22,921 | $ | 11,579 | |||||
| 2019 | 8,322 | 9,183 | ||||||
| 2020 | 6,868 | 7,664 | ||||||
| 2021 | 6,540 | 7,197 | ||||||
| 2022 | 7,197 | |||||||
| Thereafter | 47,495 | 35,888 | ||||||
| Total | $ | 78,708 | ||||||
For the three months ended SeptemberJune 30, 20172018 and 2016,2017, amortization expense related to intangible assets was $6.2$6.7 million and $5.0$4.5 million, respectively. For the ninesix months ended SeptemberJune 30, 20172018 and 2016,2017, amortization expense related to intangible assets was $15.9$12.8 million and $15.1$9.7 million, respectively.
The Company assesses goodwill for impairment on an annual basis as of June 30th of each year or more frequently if an event occurs or changes in circumstances would more likely than not reduce the fair value of a reporting unit below its carrying amount. Assessment of goodwill impairment is at the HMS Holdings Corp. entity level as the Company operates as a single reporting unit. The Company completed the annual impairment test as of June 30, 2018 electing to perform the first step of the goodwill impairment test by comparing the fair value of the reporting unit with its carrying value, including goodwill. In calculating the fair value of the reporting unit, the Company utilized a weighting across three commonly accepted valuation approaches: an income approach, a guideline public company approach and a merger and acquisition approach. The income approach to determining fair value computes projections of the cash flows that the reporting unit is expected to generate converted into a present value equivalent through discounting. Significant assumptions in the income approach include income projections, a discount rate and a terminal growth value which are all level 3 inputs. The income projections include assumptions for revenue and expense growth which are based on internally developed business plans and largely reflect recent historical revenue and expense trends. The discount rate was based on a risk free rate plus a beta adjusted equity risk premium and specific company risk premium. The terminal growth value is Company specific and was determined analyzing inputs such as historical inflation and the GDP growth rate. The guideline public company approach and merger and acquisition approach are based on pricing multiples observed for similar publicly traded companies or similar market companies that were sold. The results of the annual impairment assessment provide that the fair value of the reporting unit was significantly in excess of the Company’s carrying value, including goodwill; therefore, no impairment was indicated and step two was not performed. If actual results are not consistent with our estimates or assumptions, the Company may be exposed to an impairment charge that could materially adversely impact our consolidated financial position and results of operations.
There were no impairment charges related to goodwill during the years ended December 31, 2017, 2016 or 2015. There were no changes in the carrying amount of goodwill were as follows(in thousands):
| Balance at December 31, 2016 | $ | 379,716 | ||
| Eliza acquisition | 105,677 | |||
| Essette adjustment | 147 | |||
| Balance at September 30, 2017 | $ | 485,540 |
for the six-months ended June 30, 2018.
| 7. | Accounts Payable, Accrued Expenses and Other Liabilities |
Accounts payable, accrued expenses and other liabilities consisted of the following(in thousands):
| September 30, 2017 | December 31, 2016 | June 30, 2018 | December 31, 2017 | |||||||||||||
| Accounts payable, trade | $ | 10,686 | $ | 13,847 | $ | 10,741 | $ | 19,330 | ||||||||
| Accrued compensation and other | 17,062 | 28,507 | 26,448 | 24,072 | ||||||||||||
| Accrued operating expenses | 19,736 | 17,048 | 19,498 | 18,498 | ||||||||||||
| Total accounts payable, accrued expenses and other liabilities | $ | 47,484 | $ | 59,402 | $ | 56,687 | $ | 61,900 | ||||||||
| 8. | Income Taxes |
The Company’s effective tax rate increased to 47.7% for the ninesix months ended SeptemberJune 30, 20172018 from 42.6% for the six months ended June 30, 2017. The effective rate for six months ended June 30, 2018 includes the discrete tax impact related to the settlement of the litigation described in Note 13, Commitments and 2016 was 39.4%,Contingencies, interest on uncertain tax benefits and 13.2%, respectively. The increasenet stock compensation in effectiveaddition to a net federal tax reform benefit comprised of a federal tax rate was primarily due todecrease, net of state impact, offset by tax increases for officer compensation deduction limits and loss of the Company’s recognition of tax benefits indomestic manufacturing deduction. For the third quarter of 2016 for the research and development tax credits and the U.S. production activities deduction for all open tax years at that time. Excluding the tax impacts related to equity compensation and acquisition related costs and deferred adjustments, our effective tax rate would approximate 38.6% for the ninesix months ended SeptemberJune 30, 2017. For the nine months ended September 30, 2017,2018, the differences between the federal statutory rate and our effective tax rate are discrete tax expense related to the settlement of the litigation described in Note 13, Commitments and Contingencies, state taxes, acquisition related costs and deferred adjustments, equity compensation impacts, unrecognized tax benefits, and permanent differences including the U.S. production activitiesinterest, officer compensation deduction andlimits, research and development tax credits.credits, and other permanent differences.
The effective tax rate for the six months ended June 30, 2018 represents the Company’s best estimate using information available to the Company as of August 6, 2018. The Company anticipates U.S. regulatory agencies will issue further regulations over the next nine months which may alter this estimate. The Company is still evaluating, among other things, the application of limitations for executive compensation related to contracts existing prior to November 2, 2017. The Company will refine its estimates to incorporate new or better information as it becomes available through the filing date of its 2017 U.S. income tax returns in the fourth quarter of 2018.
Included in Other liabilitiesLiabilities on the consolidated balance sheetsConsolidated Balance Sheets, are the total amount of unrecognized tax benefits of approximately $7.9$8.7 million and $7.4$8.2 million, as of SeptemberJune 30, 20172018 and December 31, 2016,2017, respectively, (net of the federal benefit for state issues) that, if recognized, would favorably affect the Company’s future effective tax rate. Also included in other liabilitiesOther Liabilities on the consolidated balance sheets,Consolidated Balance Sheets, are accrued liabilities for interest expense and penalties related to unrecognized tax benefits of $0.7$0.9 million and $0.6 million as of SeptemberJune 30, 20172018 and December 31, 2016,2017, respectively. HMS includes interest expense and penalties in the provision for income taxes in the unaudited consolidated statementsConsolidated Statements of income.Income. The amount of interest expense (net of federal and state income tax benefits) and penalties in the unaudited consolidated statementsConsolidated Statements of incomeIncome for the ninesix months ended SeptemberJune 30, 2018 and 2017 and 2016 was $0.1$0.3 million and $0.3 million,an immaterial amount, respectively. The Company believes it is reasonably possible that the amount of unrecognized tax benefits may decrease by $0.6$1.9 million over the next twelve months, due to the expiration of the statute of limitations in federal and various state jurisdictions.
15
HMS files income tax returns with the U.S. Federal government and various state and local jurisdictions. HMS is no longer subject to U.S. Federal income tax examinations for years before 2012. The Company is currently under audit by the Internal Revenue Service recently opened an audit of taxfor years 2013 and 2014 related to the refund filings in 2016.and no assessments have been received. HMS operates in a number of state and local jurisdictions. Accordingly, HMS is subject to state and local income tax examinations based uponon the various statutes of limitations in each jurisdiction. Previously recognized Texas refund claims are currently being examined by the state.
| 9. | Estimated Liability For Appeals |
Under the Company’s contracts with certain commercial health plan customers and its Medicare RAC contracts with CMS HMS recognizes revenue when HMS claim findings are sent to(included within the Company’s customers for offset against future claim payments to providers. These contracts permitanalytical services product revenue), providers have the right to appeal HMS claim findings and to pursue additional appeals if the initial appeal is found in favor of HMS’s customer. The appeal process established under the Medicare RAC contract with CMS includes five levels of appeals, and resolution of appeals can take substantial time to resolve. HMS accruesrecords a) a return obligation liability for findings which have been adjudicated in favor of providers and b) an estimated return obligation liability for these appeals based on the amount of revenue that is subject to appeals and which are probable of being adjudicated in favor of providers following their successful appeal. The Company’s estimates areestimate is based on the Company’s historical experience with appeals. Theexperience. To the extent the amount to be returned to providers following a successful appeal exceeds or is less than the amount recorded, revenue in the applicable period would be reduced or increased by such amount. Any future changes to any of the Company’s customer contracts, including modifications to the Medicare RAC contract, may require the Company to apply different assumptions that could materially affect both the Company’s revenue and estimated liability for appeals representsin future periods.
The Company’s original Medicare RAC contract with CMS expired on January 31, 2018. As a result of the contract expiration, the Company’s contractual obligation with respect to any appeals resolved in favor of providers subsequent to the expiration date have ceased and therefore the Company released its estimated liability and increased revenue by $8.4 million during the first quarter of 2018. The Company continues to assess the remaining Medicare RAC liability to determine management’s best estimate of liability for any findings which have been previously adjudicated prior to the potential amountexpiration of repayments related to appeals of HMS claim findings for which revenue was previously recognized by HMS.the contract.
The provision included in the estimated liability for appeals is recorded as an offset to revenue in the Company’s unaudited consolidated statements of income. The total estimated liability for appeals balance of $30.8$22.3 million and $30.8 million as of SeptemberJune 30, 20172018 and December 31, 2016,2017, respectively, includes $18.8$19.4 million and $17.3$19.3 million, respectively, of Medicare RAC claim findings which have been adjudicated in favor of providers, and $9.8$0.0 million and $11.1$8.5 million, respectively, of the Company’s estimate of the potential amount of Medicare RAC repayments that are probable of being adjudicated in favor of providers following a successful appeal. Additionally, the total estimated liability for appeals balance of $30.8includes $2.9 million and $30.8$3.2 million as of September 30, 2017 and December 31, 2016, respectively, includes $2.2 million and $2.4 million ofrelated to commercial customers claim findings which have been adjudicatedappeals. The provision included in favor of providers andthe estimated liability for appeals is an offset to revenue in the Company’s estimateConsolidated Statements of the potential amount of commercial customers repayments that are probable of being adjudicated in favor of providers following a successful appeal.Income.
A summary of the activity in the estimated liability for appeals related to the Company’s original Medicare RAC contract was as follows(in thousands):
| September 30, 2017 | June 30, 2018 | |||||||
| Balance--beginning of period | $ | 11,126 | $ | 8,544 | ||||
| Provision | 83 | - | ||||||
| Appeals found in providers favor | (1,443 | ) | (108 | ) | ||||
| Release of liability | (8,436 | ) | ||||||
| Balance--end of period | $ | 9,766 | $ | - | ||||
| 10. | Credit Agreement |
During the nine months ended September 30, 2017, no principal payments were made against the Company’s revolving credit facility. The $240.0 million principal balance of the revolving credit facility is due in May 2018.
TheIn December 2017, the Company entered into an amendment to its Credit Agreement, provides for an initialwhich, among other things, extended the maturity of its then existing $500 million revolving credit facility by five years to December 2022 (the “Amended Revolving Facility”). The availability of funds under the Amended Revolving Facility includes sublimits for (a) up to $50 million for the issuance of letters of credit and (b) up to $25 million for swingline loans. In addition, the Company may increase the commitments under specified circumstances, the revolving credit facility can be increased Amended Revolving Facility and/or add one or more incremental term loan facilities, can be added, provided that thesuch incremental credit facilities do not exceed in the aggregate the sum of (a) $75(i) the greater of $120 million plus (b)and 100% of Consolidated EBITDA (as defined in the Credit Agreement) and (ii) an additional amount not less than $25 million, so long as the total securedour first lien leverage ratio calculated giving(as defined in the Credit Agreement) on a pro forma effect to the requested incremental borrowing and other customary and appropriate pro forma adjustment events, including any permitted acquisitions,basis is nonot greater than 2.5:1.0. The3.00:1.00, subject to obtaining commitments from lenders therefor and meeting certain other conditions.
As of June 30, 2018 and December 31, 2017, the outstanding principal balance due on the Amended Revolving Facility was $240.0 million. No principal payments were made against the Company’s obligations and any amounts dueAmended Revolving Facility during the six months ended June 30, 2018.
Borrowings under the Credit Agreement are guaranteed by the Company’s material 100% owned subsidiaries and secured byAmended Revolving Facility bear interest at a security interest in all or substantially all of the Company’s and the Company’s subsidiaries’ physical assets.
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The Credit Agreement requires the Companyrate equal to, comply with certain financial and other covenants, including a maximum consolidated leverage ratio of 3.25:1.00 and a minimum interest coverage ratio of 3.00:1.00.
The interest rates applicable to the revolving credit facility are, at the Company’s option,election (except with respect to swingline borrowings, which will accrue interest based only at the base rate), either:
| a base rate |
| ▪ | an adjusted LIBO Rate, equal to the LIBO Rate for the applicable interest period multiplied by the statutory reserve rate (equal to (x) one divided by (y) one minus the aggregate of the maximum reserve percentage (including any marginal, special, emergency or supplemental reserves) established by the Board of Governors of the Federal Reserve System of the United States), plus an interest margin ranging from 1.50% to 2.00% based on the Company’s consolidated leverage ratio for the applicable period. |
HMS pays anIn addition to paying interest on the outstanding principal, the Company is required to pay unused commitment feefees on the revolving credit facilityAmended Revolving Facility during the term of the Credit Agreement ranging from 0.375% to 0.50%0.250% per annum based on the Company’s consolidated leverage ratio.ratio and letter of credit fees equal to 0.125% per annum on the aggregate face amount of each letter of credit, as well as customary agency fees.
The Amended Revolving Facility is secured, subject to certain customary carve-outs and exceptions, by a first priority lien and security interest in substantially all tangible and intangible assets of the Company and certain subsidiaries of the Company. The Amended Revolving Facility contains certain restrictive covenants, which affect, among other things, the ability of the Company and its subsidiaries to incur indebtedness, create liens, make investments, sell or otherwise dispose of assets, engage in mergers or consolidations with other entities, and pay dividends or repurchase stock. The Company is also required to comply, on a quarterly basis, with two financial covenants: (i) a minimum interest coverage ratio of 3:00:1:00, and (ii) a maximum consolidated leverage ratio of 4.75:1.00 through December 2019 and 4.25:1.00 from and after January 2020. The consolidated leverage ratio is subject to a step-up to 5.25:1.00 for four full consecutive fiscal quarters following a permitted acquisition or similar investment. As of June 30, 2018, the Company was in compliance with all terms of the Credit Agreement.
Interest expense and the commitment fees on the unused portion of the Company’s revolving credit facility were as follows (in thousands):
| Three Months Ended September 30, | Nine Months Ended September 30, | Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||||||||||||||||
| 2017 | 2016 | 2017 | 2016 | 2018 | 2017 | 2018 | 2017 | |||||||||||||||||||||||||
| Interest expense | $ | 2,230 | $ | 1,204 | $ | 5,072 | $ | 3,572 | $ | 2,627 | $ | 1,469 | $ | 4,697 | $ | 2,843 | ||||||||||||||||
| Commitment fees | $ | 325 | $ | 382 | $ | 1,036 | $ | 1,138 | 239 | 333 | 477 | 711 | ||||||||||||||||||||
As of SeptemberJune 30, 20172018 and December 31, 2016,2017, the unamortized balance of deferred origination fees and debt issuance costs were $1.2$2.5 million and $2.8 million, respectively. For both the threesix month periods ended SeptemberJune 30, 20172018 and 2016,2017, HMS amortized $0.5$0.3 million and $1.0 million, respectively, of interest expense related to the Company’s deferred origination fees and debt issuance costs. For both the nine months ended September 30, 2017 and 2016, HMS amortized $1.5 million of interest expense related to the Company’s deferred origination and debt issue costs.
Although HMS expects that operating cash flows will continue to be a primary source of liquidity for the Company’s operating needs, the revolving credit facilityAmended Revolving Facility may be used for general corporate purposes, including, but not limited to acquisitions, if necessary.
HMS has an outstanding irrevocable letter of credit for $3.0 million, expiring on April 26, 2018.
The Company’s revolving credit facility is due within one year. Although the Company has no committed financing or refinancing in place as of September 30, 2017, the Company has successfully obtained financing or refinanced its debt in the past, and the Company is currently engaged in ongoing discussions with potential and existing lenders to extend or refinance the credit facility. The Company is not aware of any conditions or events that indicate that the Company may not be able to obtain additional financing or will not be able to refinance its existing debt. However, the terms and availability of such financing may be impacted by economic and financial market conditions as well as the Company’s financial condition and results of operations at the time the Company seeks to obtain such financing.
As of September 30, 2017, the Company was in compliance with all of the terms of the Credit Agreement.
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| 11. | Earnings Per Share |
Basic income per share is calculated by dividing net income by the weighted average number of common shares outstanding during the period. Diluted income per share is calculated by dividing net income by the weighted average number of common shares and dilutive common share equivalents outstanding during the period. The Company’s dilutive common share equivalents consist of stock options and restricted stock units.
The following table reconciles the basic to diluted weighted average common shares outstanding using the treasury stock method(in thousands, except per share amounts):
| Three Months Ended September 30, | Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||||||||||||||
| 2017 | 2016 | 2018 | 2017 | 2018 | 2017 | |||||||||||||||||||
| Net income | $ | 6,372 | $ | 14,046 | $ | (3,367 | ) | $ | 6,517 | $ | 3,024 | $ | 7,959 | |||||||||||
| Weighted average common shares outstanding-basic | 83,923 | 84,101 | 83,231 | 83,921 | 83,222 | 83,708 | ||||||||||||||||||
| Plus: net effect of dilutive stock options and restricted stock units | 1,807 | 752 | - | 1,905 | 1,615 | 1,826 | ||||||||||||||||||
| Weighted average common shares outstanding-diluted | 85,730 | 84,853 | 83,231 | 85,826 | 84,837 | 85,534 | ||||||||||||||||||
| Net income per common share-basic | $ | 0.08 | $ | 0.17 | ||||||||||||||||||||
| Net income per common share-diluted | $ | 0.07 | $ | 0.17 | ||||||||||||||||||||
| Net (loss)/income per common share-basic | $ | (0.04 | ) | $ | 0.08 | $ | 0.04 | $ | 0.10 | |||||||||||||||
| Net (loss)/income per common share-diluted | $ | (0.04 | ) | $ | 0.08 | $ | 0.04 | $ | 0.09 | |||||||||||||||
For the three months ended SeptemberJune 30, 2018, the Company incurred a net loss; therefore, basic and dilutive earnings per share were the same and 2,552,862 stock options and restricted stock units representing 626,341 shares of common stock were excluded from consideration in the calculation of diluted net loss per share because the effect would have been anti-dilutive. For the three months ended June 30, 2017, 1,804,272 stock options and 2016, 2,642,548restricted stock units representing 51,836 shares of common stock were not included in the diluted earnings per share calculation because the effect would have been anti-dilutive.
For the six months ended June 30, 2018 and 1,801,9892017, 2,738,783 and 1,888,257 stock options, respectively, were not included in the diluted earnings per share calculation because the effect would have been anti-dilutive. For the threesix months ended SeptemberJune 30, 20172018 and 2016,2017, restricted stock units representing 84,630106,501 and 35,73863,247 shares of common stock, respectively, were not included in the diluted earnings per share calculation because the effect would have been anti-dilutive.
| Nine Months Ended September 30, | ||||||||
| 2017 | 2016 | |||||||
| Net income | $ | 14,331 | $ | 28,486 | ||||
| Weighted average common shares outstanding-basic | 83,778 | 84,338 | ||||||
| Plus: net effect of dilutive stock options and restricted stock units | 1,808 | 1,655 | ||||||
| Weighted average common shares outstanding-diluted | 85,586 | 85,993 | ||||||
| Net income per common share-basic | $ | 0.17 | $ | 0.34 | ||||
| Net income per common share-diluted | $ | 0.17 | $ | 0.33 | ||||
For the nine months ended September 30, 2017 and 2016, 2,132,017 and 2,577,286 stock options, respectively, were not included in the diluted earnings per share calculation because the effect would have been anti-dilutive. For the nine months ended September 30, 2017 and 2016, restricted stock units representing 63,452 and 25,036 shares of common stock, respectively, were not included in the diluted earnings per share calculation because the effect would have been anti-dilutive.
18
| 12. | Stock-Based Compensation |
| (a) |
Total stock-based compensation expense in the Company’s consolidated statementsunaudited Consolidated Statements of incomeIncome related to the Company’s long-term incentive award plans was as follows(in thousands):
| Three Months Ended September 30, | Nine Months Ended September 30, | Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||||||||||||||||
| 2017 | 2016 | 2017 | 2016 | 2018 | 2017 | 2018 | 2017 | |||||||||||||||||||||||||
| Cost of services-compensation | $ | 1,851 | $ | 399 | $ | 5,353 | $ | 3,540 | $ | 1,673 | $ | 1,462 | $ | 4,236 | $ | 3,503 | ||||||||||||||||
| Selling, general and administrative | 5,531 | 1,703 | 11,408 | 7,207 | 3,041 | 2,532 | 9,972 | 5,877 | ||||||||||||||||||||||||
| Total | $ | 7,382 | $ | 2,102 | $ | 16,761 | $ | 10,747 | $ | 4,714 | $ | 3,994 | $ | 14,208 | $ | 9,380 | ||||||||||||||||
| (b) | Stock Options |
(b) Stock Options
For the three months ended September 30, 2017 and 2016, stock-basedStock-based compensation expense related to stock options was approximately $3.2$2.1 million and $1.2$1.7 million respectively. Forfor the ninethree months ended SeptemberJune 30, 2018 and 2017, and 2016, stock-basedrespectively. Stock-based compensation expense related to stock options was approximately $7.1$6.1 million and $5.3$3.9 million for the six months ended June 30, 2018 and 2017, respectively.
Presented below is a summary of stock option activity for the ninesix months ended SeptemberJune 30, 20172018 (in thousands except for weighted average exercise price and weighted average remaining contractual terms):
| Number of Options | Weighted Average Exercise Price | Weighted Average Remaining Contractual Terms | Aggregate Intrinsic Value | Number of Options | Weighted Average Exercise Price | Weighted Average Remaining Contractual Terms | Aggregate Intrinsic Value | |||||||||||||||||||||||||
| Outstanding balance at December 31, 2016 | 5,191 | $ | 17.35 | |||||||||||||||||||||||||||||
| Outstanding balance at December 31, 2017 | 5,554 | $ | 17.35 | |||||||||||||||||||||||||||||
| Granted | 984 | 18.95 | 1,010 | 19.58 | ||||||||||||||||||||||||||||
| Exercised | (174 | ) | 16.09 | (151 | ) | 15.81 | ||||||||||||||||||||||||||
| Forfeitures | (129 | ) | 16.04 | (26 | ) | 16.43 | ||||||||||||||||||||||||||
| Expired | (159 | ) | 22.99 | (27 | ) | 22.14 | ||||||||||||||||||||||||||
| Outstanding balance at September 30, 2017 | 5,713 | 17.50 | 5.25 | $ | 18,601 | |||||||||||||||||||||||||||
| Expected to vest at September 30, 2017 | 1,993 | 16.06 | 6.39 | 7,885 | ||||||||||||||||||||||||||||
| Exercisable at September 30, 2017 | 2,755 | $ | 18.85 | 3.88 | $ | 7,352 | ||||||||||||||||||||||||||
| Outstanding balance at June 30, 2018 | 6,360 | 17.78 | 5.37 | 26,785 | ||||||||||||||||||||||||||||
| Expected to vest at June 30, 2018 | 1,633 | 17.68 | 8.00 | 6,449 | ||||||||||||||||||||||||||||
| Exercisable at June 30, 2018 | 3,877 | $ | 17.87 | 3.72 | 16,929 | |||||||||||||||||||||||||||
During the three months ended SeptemberJune 30, 20172018 and 2016,2017, the Company issued 40,73487,230 and 211,774132,128 shares, respectively, of the Company’s common stock upon the exercise of outstanding stock options and received proceeds of $0.8$2.2 million and $2.4$2.0 million, respectively. The total intrinsic value of stock options exercised during the three months ended SeptemberJune 30, 2018 and 2017 and 2016 was $0.3$0.8 million and $2.2$0.6 million, respectively. During the ninesix months ended SeptemberJune 30, 20172018 and 2016,2017, the Company issued 173,539151,034 and 510,466132,805 shares, respectively, of the Company’s common stock upon the exercise of outstanding stock options and received proceeds of $2.7$2.4 million and $3.6$2.0 million, respectively. The total intrinsic value of stock options exercised during the ninesix months ended SeptemberJune 30, 2018 and 2017 and 2016 was $0.6$0.8 million and $6.3$0.6 million, respectively.
As of SeptemberJune 30, 2017,2018, there was approximately $11.9$9.6 million of total unrecognized compensation cost related to stock options outstanding, which is expected to be recognized over a weighted average period of 1.92.3 years.
Excess tax benefit/(deficiency) from the exercise of stock options for the three months ended September 30, 2017 and 2016 was a deficiency of $0.3 million and a benefit of $0.5 million, respectively. Excess tax benefit/(deficiency) for the nine months ended September 30, 2017 and 2016 was a deficiency of $0.2 million and a benefit of $1.9 million, respectively.
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The weighted-average grant date fair value per share of the stock options granted during the ninesix months ended SeptemberJune 30, 2018 and 2017 was $7.52 and 2016 was $7.68 and $5.49,$7.73, respectively. HMS estimated the fair value of each stock option grant on the date of grant using a Black ScholesBlack-Scholes option pricing model and weighted–average assumptions set forth in the following table:
| Nine Months Ended September 30, | Six Months Ended June 30, | |||||||||||||||
| 2017 | 2016 | 2018 | 2017 | |||||||||||||
| Expected dividend yield | ― | ― | 0% | 0% | ||||||||||||
| Risk-free interest rate | 1.74 | % | 1.20 | % | 2.68% | 1.74% | ||||||||||
| Expected volatility | 44.19 | % | 43.91 | % | 42.43% | 44.23% | ||||||||||
| Expected life (years) | 5.00 | 4.90 | 6.00 | 5.00 | ||||||||||||
(c) Restricted Stock UnitsThe total tax benefits recognized on stock-based compensation for the three and six months ended June 30, 2018 and 2017 was $2.5 million and $3.6 million, respectively.
| (c) | Restricted Stock Units |
For the three months ended September 30, 2017 and 2016 stock-based
Stock-based compensation expense related to restricted stock units was $4.2approximately $2.6 million and $0.9$2.2 million respectively. Forfor the ninethree months ended SeptemberJune 30, 2018 and 2017, and 2016 stock-basedrespectively. Stock-based compensation expense related to restricted stock units was $9.7approximately $8.1 million and $5.4$5.5 million for the six months ended June 30, 2018 and 2017, respectively.
Presented below is a summary of restricted stock units activity for the ninesix months ended SeptemberJune 30, 20172018 (in thousands, except for weighted average grant date fair value per unit):
| Number of Units | Weighted Average Grant Date Fair Value per Unit | Number of Units | Weighted Average Grant Date Fair Value per Unit | |||||||||||||
| Outstanding balance at December 31, 2016 | 1,413 | $ | 16.44 | |||||||||||||
| Outstanding balance at December 31, 2017 | 1,346 | $ | 17.65 | |||||||||||||
| Granted | 599 | 18.90 | 761 | 16.72 | ||||||||||||
| Vesting of restricted stock units, net of units withheld for taxes | (363 | ) | 16.45 | (364 | ) | 16.93 | ||||||||||
| Units withheld for taxes | (155 | ) | 16.45 | (161 | ) | 16.93 | ||||||||||
| Forfeitures | (47 | ) | 17.16 | (26 | ) | 16.89 | ||||||||||
| Outstanding balance at September 30, 2017 | 1,447 | $ | 17.57 | |||||||||||||
| Outstanding balance at June 30, 2018 | 1,556 | $ | 19.98 | |||||||||||||
For the three months ended SeptemberJune 30, 20172018 and 2016,2017, HMS granted 59,78462,259 and 8,603536,023 restricted stock units, respectively, with an aggregate fair market value of $1.0$0.9 million and $0.2$10.2 million, respectively. For the ninesix months ended SeptemberJune 30, 20172018 and 2016,2017, HMS granted 599,441761,083 and 598,531539,657 restricted stock units, respectively, with an aggregate fair market value of $11.3$12.7 million and $8.4$10.3 million, respectively.
As of SeptemberJune 30, 2017, 1,269,2712018, 1,330,734 restricted stock units remained unvested and there was approximately $14.2$13.9 million of unrecognized compensation cost related to restricted stock units, which is expected to be recognized over a weighted average vesting period of 1.51.38 years.
| 13. | Commitments and Contingencies |
Dennis Demetre and Lori Lewis:
In July 2012, Dennis Demetre and Lori Lewis (the “Plaintiffs”), filed an action in the Supreme Court of the State of New York against HMS Holdings Corp., claiming an undetermined amount of damages alleging that various actions by HMS unlawfully deprived the Plaintiffs of the acquisition earn-out portion of the purchase price for Allied Management Group Special Investigation Unit (“AMG”) under the applicable Stock Purchase Agreement (the “SPA”) and that HMS had breached certain contractual provisions under the SPA. The Plaintiffs filed a second amended complaint with two causes of action for breach of contract and one cause of action for breach of implied covenant of good faith and fair dealing. HMS asserted a counterclaim against Plaintiffs for breach of contract based on contractual indemnification costs, including attorneys’ fees arising out of the Company’s defense of AMG inKern Health Systems v. AMG, Dennis Demetre and Lori Lewis (the “California Action”),which are recoverable under the SPA. Mediation took place in September 2014 but the matter was not resolved.SPA. In June 2016, Kern Health Systems and AMG entered into a settlement agreement that resolved all claims in the California Action.
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Action. In January 2016, HMS movedJuly 2017, the Court issued a decision on the Company’s motion for partial summary judgment. On July 21, 2017, the Courtjudgment and granted the motion in part, dismissing one of Plaintiffs’ breach of contract causes of action against HMS. On November 3, 2017, following a jury trial, a verdict was returned in favor of the Plaintiffs on a breach of contract claim, and the jury awarded $60 million in damages to the Plaintiffs. On March 14, 2018, the Court held a hearing on the Company’s post-trial motion for an order granting it judgment notwithstanding the verdict or, alternatively, setting aside the jury’s award of damages. On June 27, 2018, prior to the Court issuing a decision on the motion, the Company entered into a Settlement Agreement (the “Settlement Agreement”) with the Plaintiffs, John Alfred Lewis and Christopher Brandon Lewis. Pursuant to the terms of the Settlement Agreement, the Company paid $20 million to resolve all matters in controversy pertaining to the lawsuit. On July 5, 2018, the Court entered an order to discontinue the lawsuit pursuant to the Stipulation of Discontinuance with Prejudice filed by the parties.
In February 2018, the Company received a Civil Investigative Demand (“CID”) from the Texas Attorney General, purporting to investigate possible unspecified violations of the Texas Medicaid Fraud Prevention Act. The Company intendshas provided certain documents and information in March 2018 in response to appeal the verdictCID and believes that strong grounds existcontinues to overturn or greatly reducecooperate with the damages awarded by the jury. In light of the Company’s belief that the jury award was unsupportable as a matter of law, the Companygovernment. HMS has not recorded a reservereceived any further requests for information in connection with this pending litigation. HMS will continue to monitor developments in assessing the probability and measurability of any related loss contingency.CID.
From time to time, HMS may be subject to investigations, legal proceedings and other disputes arising in the ordinary course of the Company’s business, including but not limited to regulatory audits, billing and contractual disputes, employment-related matters and post-closing disputes related to acquisitions. Due to the Company’s contractual relationships, including those with federal and state government entities, HMS’s operations, billing and business practices are subject to scrutiny and audit by those entities and other multiple agencies and levels of government, as well as to frequent transitions and changes in the personnel responsible for oversight of the Company’s contractual performance. HMS may have contractual disputes with its customers arising from differing interpretations of contractual provisions that define the Company’s rights, obligations, scope of work or terms of payment, and with associated claims of liability for inaccurate or improper billing for reimbursement of contract fees, or for sanctions or damages for alleged performance deficiencies. Resolution of such disputes may involve litigation or may require that HMS accept some amount of loss or liability in order to avoid customer abrasion, negative marketplace perceptions and other disadvantageous results that could affect the Company’s business, financial condition, results of operations and cash flows.
HMS records accruals for outstanding legal matters when it believes it is probable that a loss will be incurred and the amount can be reasonably estimated. The Company evaluates, on a quarterly basis, developments in legal matters that could affect the amount of any accrual and developments that would make a loss contingency both probable and reasonably estimable. If a loss contingency is not both probable and estimable, HMS does not establish an accrued liability.liability.
| 14. | Subsequent Events |
On November 1, 2017, the Board of Directors of the Company approved a share repurchase program authorizing the Company to repurchase up to $50.0 million in shares of its common stock from time to time on the open market or in privately negotiated or other transactions. The repurchase program is authorized for a period of up to two years, and may be suspended or discontinued at any time. Repurchased shares will be available for use in connection with reissuance under the Company’s stock plans and for other corporate purposes. The timing and amount of any shares repurchased under the program will be determined by the Company’s management based on its evaluation of market conditions, share price and other factors. In order to facilitate repurchases, the Company may enter into a Rule 10b5-1 plan from time to time, which would permit shares to be repurchased when the Company might otherwise be precluded from doing so under insider trading laws or because of a self-imposed trading blackout period.
In connection with the preparation of these unaudited consolidated financial statements,Consolidated Financial Statements, an evaluation of subsequent events was performed through the date of filing and there were no other events that have occurred that would require adjustments to the financial statements or disclosure.
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| Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations |
The following Management’s Discussion and Analysis is intended to help the reader understand the results of operations and financial condition of HMS. You should be read this discussion and analysis in conjunction with the other sections of this Quarterly Report on Form 10-Q, including the Cautionary Note Regarding Forward-Looking Statements appearing prior to Part I and the unaudited consolidatedConsolidated Financial Statements and Notes thereto in Part I, Item 1. The historical results set forth in Part I, Item 1 and Item 2 of this Form 10-Q should not be taken as necessarily indicative of our future operations or financial statements, related notes and other financial information appearing elsewhere in this Quarterly Report, and with our 2016 Form 10-K.results.
Business Overview
HMS is a leading provider of cost containment solutions in the U.S. healthcare marketplace. Using innovative technology as well as extensive data services and powerful analytics, the Company deliverswe deliver coordination of benefits, payment integrity, and healthcare management and memberconsumer engagement solutions through itsour operating subsidiaries to help at-risk healthcare organizationspayers improve financial performance and clinical outcomes. Together our various services help our customers recover improper payments; prevent future improper payments; reduce fraud, waste and abuse; better manage the care that their members receive; engage healthcare consumers to improve clinical outcomes and ensureincrease retention; and achieve regulatory compliance. HMS is managed and operates as one business segment, with a single management team reporting to the Chief Executive Officer. The Company serves
We serve state Medicaid programs, commercial health plans, statefederal government health agencies, federal programs, at-risk providers, pharmacy benefit managersgovernment and employers.private employers, CHIPs and other healthcare payers and sponsors. We also serve as a subcontractor for certain business outsourcing and technology firms. As of SeptemberJune 30, 2017,2018, our customer base included the Company:following:
| ▪ | approximately 325 health plans, including 23 of the |
| ▪ | over 225 private employers; |
| ▪ | CMS, the Centers for Disease Control and |
Critical Accounting Policies and Estimates
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Since the date of our 20162017 Form 10-K, there have been no material changes to our critical accounting policies. Referpolicies other than with respect to revenue recognition as described in Notes 1 and 3 to the items disclosed asunaudited Consolidated Financial Statements in Part I, Item 1 of this Form 10-Q. With respect to our Criticalaccounting policies other than revenue recognition, refer to the discussion in our 2017 Form 10-K under “Critical Accounting Policies and Estimates” in Part II, Item 7. “Management’sManagement’s Discussion and Analysis of Financial Condition and Results of Operations”Operations and Note 1 – “Business and Summary of Significant Accounting Policies” in our notesNote 1 to the audited consolidated financial statementsConsolidated Financial Statements under Part II, Item 8 of our 2016 Form 10-K.8.
SUMMARY OF OPERATING RESULTS
Selected Operating PerformanceAs of and Other Significant Items for the Threethree months ended June 30, 2018 and Nine Months Ended SeptemberJune 30, 2017
Three Months Ended September 30, 2017
| Revenue of $146.8 million increased |
| Operating loss of $0.7 million (which includes a non-recurring $20 million settlement expense) was lower by $15.0 million as compared to operating income |
Nine Months Ended September 30, 2017
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Comparison of Three and Nine Months Ended SeptemberJune 30, 20172018 to SeptemberJune 30, 20162017
The following table sets forth, for the periods indicated, certain items in our unaudited consolidated statements of income expressed as a percentage of revenue:
| Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||
| 2017 | 2016 | 2017 | 2016 | |||||||||||||
| Revenue | 100 | % | 100 | % | 100 | % | 100 | % | ||||||||
| Cost of services: | ||||||||||||||||
| Compensation | 39.0 | 39.3 | 40.2 | 39.0 | ||||||||||||
| Data processing | 9.6 | 7.7 | 8.9 | 7.8 | ||||||||||||
| Occupancy | 3.4 | 2.8 | 3.2 | 2.9 | ||||||||||||
| Direct project expenses | 7.6 | 9.0 | 8.1 | 10.1 | ||||||||||||
| Other operating expenses | 5.9 | 6.9 | 5.7 | 5.7 | ||||||||||||
| Amortization of acquisition related software and intangible assets | 6.5 | 5.2 | 5.8 | 5.6 | ||||||||||||
| Total cost of services | 72.0 | 70.9 | 71.9 | 71.1 | ||||||||||||
| Selling, general and administrative expenses | 17.7 | 18.8 | 19.7 | 18.2 | ||||||||||||
| Total operating expenses | 89.7 | 89.7 | 91.6 | 89.3 | ||||||||||||
| Operating income | 10.3 | 10.3 | 8.4 | 10.7 | ||||||||||||
| Interest expense | (2.5 | ) | (1.7 | ) | (2.1 | ) | (1.7 | ) | ||||||||
| Interest income | — | — | — | — | ||||||||||||
| Income before income taxes | 7.8 | 8.6 | 6.3 | 9.0 | ||||||||||||
| Income taxes | 2.7 | (2.8 | ) | 2.5 | 1.2 | |||||||||||
| Net income | 5.1 | % | 11.4 | % | 3.8 | % | 7.8 | % | ||||||||
| dollars in millions | | Three Months Ended June 30, | | $ Change | | % Change | ||||||||||
| 2018 | 2017 | 2018 vs 2017 | ||||||||||||||
| Revenue | $ | 146.8 | $ | 133.3 | $ | 13.5 | 10.1 | % | ||||||||
| Cost of Services : | ||||||||||||||||
| Compensation | 55.2 | 51.9 | 3.3 | 6.4 | ||||||||||||
| Information technology | 14.2 | 11.3 | 2.9 | 25.7 | ||||||||||||
| Occupancy | 4.0 | 4.2 | (0.2 | ) | (4.8 | ) | ||||||||||
| Direct project costs | 10.9 | 10.1 | 0.8 | 7.9 | ||||||||||||
| Other operating costs | 7.0 | 6.6 | 0.4 | 6.1 | ||||||||||||
| Amortization of acquisition related software and intangible assets | 9.7 | 7.3 | 2.4 | 32.9 | ||||||||||||
| Total Cost of Services | 101.0 | 91.4 | 9.6 | 10.5 | ||||||||||||
| Selling, general and administrative expenses | 26.5 | 27.6 | (1.1 | ) | (4.0 | ) | ||||||||||
| Settlement expense | 20.0 | - | 20.0 | - | ||||||||||||
| Total Operating Expenses | 147.5 | 119.0 | 28.5 | 23.9 | ||||||||||||
| Operating (loss)/income | (0.7 | ) | 14.3 | (15.0 | ) | (104.9 | ) | |||||||||
| Interest expense | (3.1 | ) | (2.3 | ) | (0.8 | ) | 34.8 | |||||||||
| Interest income | 0.2 | - | 0.2 | - | ||||||||||||
| (Loss)/income before income taxes | (3.6 | ) | 12.0 | (15.6 | ) | (130.0 | ) | |||||||||
| Income taxes | (0.2 | ) | 5.5 | (5.7 | ) | (103.6 | ) | |||||||||
| Net (loss)/income | (3.4 | ) | 6.5 | (9.9 | ) | (152.3 | )% | |||||||||
Revenue (in millions)
Three Months Ended SeptemberJune 30 2017– 2018 vs. 20162017
During the three months ended SeptemberJune 30, 20172018, revenue was $125.7$146.8 million, an increase of $2.8$13.5 million or 2.3%10.1% compared to revenue of $133.3 million for the prior year revenue of $122.9 million. The primary reason for the increase in total revenue was due to growth in commercial health plan revenue of $19.7 million as compared to prior year same quarter. This increase was largely driven by Eliza which generated $9.9 million of revenue in the third quarter of 2017. These increases were offset by decreases in Federal, Medicare RAC and other revenue.
| ▪ | By product: |
Nine Months Ended September 30, 2017 vs. 2016
| o | Coordination of benefits revenue increased $2.3 million or 2.3% which was attributable to incremental services and yield increases provided to existing customers in our cost avoidance business. |
During the nine months ended September 30, 2017 revenue was $372.7 million, an increase of $8.6 million or 2.4% compared to prior year revenue of $364.1 million. The primary reason for the increase in total revenue was due to growth in commercial health plan revenue of $24.7 million as compared to prior year same period. This increase was largely driven by Eliza which generated $17.5 million of revenue since acquisition. These increases were partially offset by decreases in Federal, Medicare RAC and other revenue.
| o | Analytical services revenue increased by $11.2 million or 32.4%. Care management and consumer engagement revenue increased by $6.2 million or 72.1% which was mostly driven by growth in the Eliza business. Payment integrity revenue increased $2.6 million or 9.7% primarily due to increased demand from existing clients, yield enhancements and improvements in provider processes. Medicare RAC revenue also increased by $2.4 million period over period. |
| ▪ | By market: |
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| o | Commercial health plan market revenue increased $11.1 million or 16.0% which was attributable to growth in the Eliza business and incremental services and yield increases provided to existing customers in our cost avoidance business. |
| o | Federal government market revenue increased $1.5 million or 25.0%. |
| o | State government market revenue grew by $0.9 million or 1.6%. |
Total Cost of Services (in millions)
Total cost of services consists of compensation, data processing, occupancy, direct project expenses, other operating expenses, and amortization of acquisition related software and intangible assets.
Three Months Ended SeptemberJune 30 2017– 2018 vs. 20162017
During the three months ended SeptemberJune 30, 2017,2018, total cost of services as a percentage of revenue was 72.0% compared to 70.9% for the three months ended September 30, 2016. Total cost of services for the three months ended September 30, 2017 was $90.6$101.0 million, an increase of $3.5$9.6 million or 10.5% compared to $87.1$91.4 million for the three months ended September 30, 2016. This change resulted primarily from increases in compensation costs, data processing costs, occupancyprior year quarter.
▪ | Compensation expense increased by $3.3 million due to increases in salaries, variable compensation and fringe benefits expenses. | |
| ▪ | Information technology expenses increased by $2.9 million due to increases in amortization of internally developed software and software maintenance. | |
| ▪ | Amortization of acquisition related software and intangible assets increased by $2.4 million. |
Selling, General and amortization of intangible assets. These increases were partially offset by decreases in direct projectAdministrative expenses and other operating expenses.(in millions)
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, total cost of services as a percentage of revenue was 71.9% compared to 71.1% for the nine months ended September 30, 2016. Total cost of services for the nine months ended September 30, 2017 was $268.2 million, an increase of $9.2 million, compared to $259.0 million for the nine months ended September 30, 2016. This change resulted primarily from increases in compensation costs, data processing costs, occupancy, other operating expenses and amortization of intangible assets. These increases were partially offset by decreases in direct project expenses.
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Compensation
Compensation expense is primarily composed of salaries and wages, which include overtime, health benefits, stock option expense, performance awards, commissions, employers’ share of FICA and fringe benefits.
Three Months Ended SeptemberJune 30 2017– 2018 vs. 20162017
During the three months ended SeptemberJune 30, 2017, compensation expense as a percentage of revenue was 39.0% compared to 39.3% for the three months ended September 30, 2016. Compensation expense for the three months ended September 30, 2017 was $49.0 million, an increase of $0.7 million, compared to $48.3 million for the three months ended September 30, 2016. This increase resulted primarily from an increase in salaries due to compensation for additional personnel in connection with the Eliza acquisition and increases in stock compensation expense, partially offset by a decrease in fringe benefits and variable compensation.
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, compensation expense as a percentage of revenue was 40.2% compared to 39.0% for the nine months ended September 30, 2016. Compensation expense for the nine months ended September 30, 2017 was $149.8 million, an increase of $7.8 million, compared to $142.0 million for the nine months ended September 30, 2016. This increase resulted primarily from an increase in salaries due to compensation for additional personnel in connection with the Eliza acquisition and increases in stock compensation expense, partially offset by a decrease in fringe benefits and variable compensation.
Data Processing
Three Months Ended September 30, 2017 vs. 2016
During the three months ended September 30, 2017, data processing expense as a percentage of revenue was 9.6% compared to 7.7% for the three months ended September 30, 2016. Data processing expense for the three months ended September 30, 2017 was $12.1 million, an increase of $2.6 million, compared to $9.5 million for the three months ended September 30, 2016. This change resulted primarily from a $2.1 million increase in equipment expense and software costs.
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, data processing expense as a percentage of revenue was 8.9% compared to 7.8% for the nine months ended September 30, 2016. Data processing expense for the nine months ended September 30, 2017 was $33.1 million, an increase of $4.8 million, compared to $28.3 million for the nine months ended September 30, 2016. This change resulted primarily from a $4.7 million increase in equipment expense and software costs.
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Occupancy
Three Months Ended September 30, 2017 vs. 2016
During the three months ended September 30, 2017, occupancy expense as a percentage of revenue was 3.4% compared to 2.8% for the three months ended September 30, 2016. Occupancy2018, SG&A expense was $4.3 million, an increase of $0.9 million, compared to $3.4 million for the three months ended September 30, 2016. This increase was primarily a result of the acquisition of Eliza.
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, occupancy expense as a percentage of revenue was 3.2% compared to 2.9% for the nine months ended September 30, 2016. Occupancy expense was $12.1 million, an increase of $1.5 million, compared to $10.6 million for the nine months ended September 30, 2016. This increase was primarily a result of the acquisition of Eliza.
Direct Project Expenses
Three Months Ended September 30, 2017 vs. 2016
During the three months ended September 30, 2017, direct project expense as a percentage of revenue was 7.6% compared to 9.0% for the three months ended September 30, 2016. Direct project expenses were $9.5 million for the three months ended September 30, 2017, a decrease of $1.5 million, compared to $11.0 million for the three months ended September 30, 2016. The decrease was primarily due to a $1.3 million reduction in expenses related to our contracts with CMS.
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, direct project expense as a percentage of revenue was 8.1% compared to 10.1% for the nine months ended September 30, 2016. Direct project expenses were $30.1 million, a decrease of $6.9 million compared to $37.0 million for the nine months ended September 30, 2016. This decrease was primarily due to an $8.5 million reduction in expenses related to our contracts with CMS, partially offset by increases related to new initiatives.
Other Operating Expenses
Three Months Ended September 30, 2017 vs. 2016
During the three months ended September 30, 2017, other operating expenses as a percentage of revenue was 5.9% compared to 6.9% for the three months ended September 30, 2016. Other operating expenses for the three months ended September 30, 2017 were $7.4$26.5 million, a decrease of $1.1 million or (4.0%) compared to $8.5$27.6 million for the prior year quarter.
| ▪ | The decrease relates to the net of several de minimis increases and decreases and is not specific to any one difference. |
Income Taxes
Three Months Ended June 30 – 2018 vs. 2017
The Company’s effective tax rate decreased to 6.7% for the three months ended SeptemberJune 30, 2016. This decrease primarily resulted from a $2.6 million decrease in temporary staffing expenses offset by a $1.5 million increase in sub-contractor fees.
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, other operating expenses as a percentage of revenue was 5.7%2018 compared to 5.7% for the nine months ended September 30, 2016. Other operating expenses for the nine months ended September 30, 2017 were $21.2 million, an increase of $0.6 million, compared to $20.6 million for the nine months ended September 30, 2016. This increase primarily resulted from a $7.5 million increase in sub-contractor fees, consulting fees and travel and entertainment expenses. These increases were offset by a $8.2 million decrease in temporary staffing and office related expenses.
Amortization of Acquisition Related Software and Intangible Assets
Three Months Ended September 30, 2017 vs. 2016
During the three months ended September 30, 2017, amortization of acquisition related software and intangibles as a percentage of revenue was 6.5% compared to 5.2%45.9% for the three months ended SeptemberJune 30, 2016. Amortization of acquisition related software and intangible assets2017. The effective rate for the three months ended SeptemberJune 30, 2017 was $8.2 million, an increase2018 includes discrete tax expense related to the settlement of $1.8 million, comparedthe litigation described in Note 13, Commitments and Contingencies, interest on uncertain tax benefits and net stock compensation in addition to $6.4 milliona net federal tax reform benefit comprised of a federal tax rate decrease, net of state impact, offset by tax increases for officer compensation deduction limits and loss of the domestic manufacturing deduction. Excluding the above mentioned discrete tax expense and net federal tax reform benefit, our effective tax rate would approximate 37.9% for the three months ended SeptemberJune 30, 2016. This increase2018. For the three months ended June 30, 2018, the differences between the federal statutory rate and our effective tax rate are discrete tax expense related to the addition of certain intangibles as a result of the Eliza acquisition.settlement, state taxes, equity compensation impacts, unrecognized tax benefits, including interest, officer compensation deduction limits, research and development tax credits, and other permanent differences.
As of and for the six months ended June 30, 2018 and June 30, 2017
| ▪ | Revenue of $288.2 million increased $41.2 million, or 16.7% over the same period in 2017; |
| ▪ | Operating income of $11.2 million (which includes a non-recurring $20 million settlement expense) was lower by $7.0 million as compared to the same period in 2017; |
| ▪ | Net income of $3.0 million (which includes a non-recurring $20 million settlement expense) decreased $4.9 million over the same period in 2017; and |
| ▪ | Year-to-date 2018 cash flow from operations was $23.7 million. |
Comparison of Six Months Ended June 30, 2018 to June 30, 2017
| dollars in millions | | Six Months Ended June 30, | | $ Change | | % Change | ||||||||||
| 2018 | 2017 | 2018 vs 2017 | ||||||||||||||
| Revenue | $ | 288.2 | $ | 247.0 | $ | 41.2 | 16.7 | % | ||||||||
| Cost of Services : | ||||||||||||||||
| Compensation | 111.3 | 100.8 | 10.5 | 10.4 | ||||||||||||
| Information technology | 26.5 | 21.1 | 5.4 | 25.6 | ||||||||||||
| Occupancy | 8.4 | 7.8 | 0.6 | 7.7 | ||||||||||||
| Direct project costs | 21.0 | 20.5 | 0.5 | 2.4 | ||||||||||||
| Other operating costs | 13.5 | 13.8 | (0.3 | ) | (2.2 | ) | ||||||||||
| Amortization of acquisition related software and intangible assets | 17.8 | 13.6 | 4.2 | 30.9 | ||||||||||||
| Total Cost of Services | 198.5 | 177.6 | 20.9 | 11.8 | ||||||||||||
| Selling, general and administrative expenses | 58.5 | 51.2 | 7.3 | 14.3 | ||||||||||||
| Settlement expense | 20.0 | - | 20.0 | - | ||||||||||||
| Total Operating Expenses | 277.0 | 228.8 | 48.2 | 21.1 | ||||||||||||
| Operating Income | 11.2 | 18.2 | (7.0 | ) | (38.5 | ) | ||||||||||
| Interest expense | (5.7 | ) | (4.6 | ) | (1.1 | ) | 23.9 | |||||||||
| Interest income | 0.3 | 0.2 | 0.1 | 50.0 | ||||||||||||
| Income before income taxes | 5.8 | 13.8 | (8.0 | ) | (58.0 | ) | ||||||||||
| Income taxes | 2.8 | 5.9 | (3.1 | ) | (52.5 | ) | ||||||||||
| Net Income | $ | 3.0 | $ | 7.9 | $ | (4.9 | ) | (62.0 | )% | |||||||
Revenue (in millions)
Six Months Ended June 30 – 2018 vs. 2017
During the six months ended June 30, 2018, revenue was $288.2 million, an increase of $41.2 million or 16.7% compared to revenue of $247.0 million for the prior year period.
| ▪ | By product: |
| o | Coordination of benefits revenue increased $5.6 million or 3.0% which was attributable to incremental services and yield increases provided to existing customers in our cost avoidance business. |
| o | Analytical services revenue increased $35.6 million or 59.2%. The increase was primarily due to our Eliza subsidiary (acquired in April 2017) increasing revenue by $15.8 as compared to prior year. Also, Medicare RAC revenue increased by $12.1 million as compared to prior year, primarily due to an $8.4 million release of our Medicare RAC appeals liability due to contract expiration in the first quarter of the current year. Payment integrity revenue increased $6.9 million as compared to prior year primarily due to increased demand from existing clients, yield enhancements and improvements in provider processes. |
| ▪ | By market: |
| o | Commercial health plan market revenue increased $27.8 million or 22.3% which was attributable to growth in the Eliza subsidiary (acquired in April 2017) of $15.8 million and incremental services and yield increases provided to existing customers in our cost avoidance business. |
| o | Federal government market revenue increased $11.2 million or 99.1%, primarily due to an $8.4 million release of our Medicare RAC appeals liability due to contract expiration in the first quarter of the current year. |
| o | State government market revenue grew by $2.2 million or 2.0%. |
Total Cost of Services (in millions)
Six Months Ended June 30 – 2018 vs. 2017
During the six months ended June 30, 2018, total cost of services was $198.5 million, an increase of $20.9 million or 11.8% compared to $177.6 million for the prior year period.
| ▪ | Our Eliza subsidiary (acquired in April 2017) and its related compensation, information technology, occupancy and amortization of intangibles expenses represented $11.2 million of the increase. | ||
| ▪ | Excluding Eliza, compensation expense increased by $6.2 million, including variable compensation, salaries, fringe benefits expenses, and stock compensation and Information technology expense increased by $3.1 million relating to amortization of internally developed software and software maintenance. |
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Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, amortization of acquisition related software and intangibles as a percentage of revenue was 5.8% compared to 5.6% for the nine months ended September 30, 2016. Amortization of acquisition related software and intangible assets for the nine months ended September 30, 2017 was $21.8 million, an increase of $1.4 million, compared to $20.4 million for the nine months ended September 30, 2016. This increase related to the addition of intangibles in connection with the Eliza acquisition.
Selling, General and Administrative expenses (in millions)
Three
Six Months Ended SeptemberJune 30 2017– 2018 vs. 20162017
During the threesix months ended SeptemberJune 30, 2017,2018, SG&A expenses as a percentage of revenueexpense was 17.7% compared to 18.8% for the three months ended September 30, 2016. SG&A expenses for the three months ended September 30, 2017 were $22.2 million, a decrease of $0.9 million, compared to $23.1 million for the three months ended September 30, 2016. This decrease was comprised primarily of decreases in legal and other operating expenses partially offset by increases in compensation for the additional personnel in connection with the Eliza acquisition.
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, SG&A expenses as a percentage of revenue was 19.7% compared to 18.2% for the nine months ended September 30, 2016. SG&A expenses for the nine months ended September 30, 2017 were $73.4$58.5 million, an increase of $7.2$7.3 million or 14.3% compared to $66.2$51.2 million for the nine months ended September 30, 2016. This increase was comprised primarily of increases in compensation for the additional personnel in connection with the Eliza acquisition and consulting fees, partially offset by a reduction in other operating expenses.prior year period.
| ▪ | Our Eliza subsidiary (acquired in April 2017) represented $3.2 million of the increase. | |
| ▪ | Excluding Eliza, compensation expense increased by $7.1 million including variable compensation, salaries, fringe benefits, and stock compensation expense. Other expenses decreased by $2.5 million primarily relating to acquisition costs incurred in the prior period. |
Operating Income
Three Months Ended September 30, 2017 vs. 2016
Operating income for the three months ended September 30, 2017, was $12.9 million, an increase of $0.2 million, or 1.6% compared to operating income of $12.7 million for the three months ended September 30, 2016.
Nine Months Ended September 30, 2017 vs. 2016
Operating income for the nine months ended September 30, 2017, was $31.2 million, a decrease of $7.7 million, or 19.8% compared to operating income of $38.9 million for the nine months ended September 30, 2016.
Interest Expense
Interest expense represents interest on borrowings under our revolving credit facility, amortization of deferred financing costs, commitment fees for our revolving credit facility and issuance fees for our letter of credit.
Three Months Ended September 30, 2017 vs. 2016
During the three months ended September 30, 2017, interest expense was $3.1 million, an increase of $1.0 million, compared to $2.1 million for the same period in the prior year. This increase resulted primarily from an increase in the principal amount on our outstanding debt. Amortization of deferred financing costs of $0.5 million in both periods is included within interest expense.
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, interest expense was $7.7 million, an increase of $1.4 million, compared to $6.3 million for the same period in the prior year. This increase resulted primarily from an increase in the principal amount on our outstanding debt. Amortization of deferred financing costs of $1.6 million in both periods is included within interest expense.
Income Taxes
ThreeSix Months Ended SeptemberJune 30 2017– 2018 vs. 20162017
During the three months ended September 30, 2017, we recorded income tax expense of $3.4 million, an increase of $6.8 million, compared to income tax benefit of ($3.4) million for the three months ended September 30, 2016. Our
The Company’s effective tax rate increased to 34.8%47.7% for the threesix months ended SeptemberJune 30, 20172018 compared to (32.1%)42.6% for the threesix months ended SeptemberJune 30, 2016, primarily due2017. The effective rate for the six months ended June 30, 2018 includes discrete tax expense related to the Company’s recognitionsettlement of the litigation described in Note 13, Commitments and Contingencies, interest on uncertain tax benefits and net stock compensation in addition to a net federal tax reform benefit comprised of a federal tax rate decrease, net of state impact, offset by tax increases for officer compensation deduction limits and loss of the third quarter of 2016domestic manufacturing deduction. Excluding the above mentioned discrete tax expense and net federal tax reform benefit, our effective tax rate would approximate 38.2% for the research and development tax credits andsix months ended June 30, 2018. For the U.S. production activities deduction for all open tax years at that time. Thesix months ended June 30, 2018, the differences between the federal statutory rate and our effective tax rate are state taxes, acquisition related costs and deferred adjustments, equity compensation impacts, unrecognized tax benefits, and permanent differences including the U.S. production activitiesinterest, officer compensation deduction andlimits, research and development tax credits.
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Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, we recorded income tax expense of $9.3 million, an increase of $5.0 million, compared to income tax expense of $4.3 million for the nine months ended September 30, 2016. Our effective tax rate increased to 39.4% for the nine months ended September 30, 2017 compared to 13.2% for the nine months ended September 30, 2016 primarily due to the Company’s recognition of tax benefits in the third quarter of 2016 for the Research and Development tax credits, and the U.S. production activities deduction for all open tax years at that time. The differences between the federal statutory rate and our effective tax rate are state taxes, acquisition related costs and deferred adjustments, equity compensation impacts, unrecognized tax benefits andother permanent differences including the U.S. production activities deduction and research and development tax credits.
Net Incomedifferences.
Three Months Ended September 30, 2017 vs. 2016
During the three months ended September 30, 2017, net income was $6.4 million which represents a $7.6 million decrease compared to net income of $14.0 million for the same period in 2016.
Nine Months Ended September 30, 2017 vs. 2016
During the nine months ended September 30, 2017, net income was $14.3 million which represents a $14.2 million decrease compared to net income of $28.5 million for the same period in 2016.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements as of September 30, 2017.arrangements.
Liquidity and Capital Resources
The following tables should be read in conjunction with the unaudited consolidated financial statementsConsolidated Financial Statements and related notes includedNotes thereto in Part I, Item 1 of this Quarterly Report on Form 10-Q.
Our cash and cash equivalents, working capital and available borrowings under our credit facility (based upon the borrowing base and financial covenants in our Credit Agreement) were as follows(in thousands):
| September 30, 2017 | December 31, 2016 | June 30, 2018 | December 31, 2017 | |||||||||||||
| Cash and cash equivalents | $ | 79,484 | $ | 175,999 | $ | 88,127 | $ | 83,313 | ||||||||
| Working capital | $ | (38,084 | ) | $ | 277,478 | $ | 226,874 | $ | 199,967 | |||||||
| Available borrowings under credit facility | $ | 139,356 | $ | 183,913 | $ | 254,600 | $ | 254,600 | ||||||||
OurA summary of our cash flows werewas as follows(in thousands):
| Six Months Ended June 30, | ||||||||
| 2018 | 2017 | |||||||
| Net cash provided by operating activities | $ | 23,691 | $ | 20,740 | ||||
| Net cash used in investing activities | (12,628 | ) | (186,681 | ) | ||||
| Net cash (used in)/provided by financing activities | (6,249 | ) | 41,311 | |||||
| Net increase (decrease) in cash and cash equivalents | $ | 4,814 | $ | (124,630 | ) | |||
| Nine Months Ended September 30, | ||||||||
| 2017 | 2016 | |||||||
| Net cash provided by operating activities | $ | 55,098 | $ | 56,222 | ||||
| Net cash used in investing activities | (193,494 | ) | (32,120 | ) | ||||
| Net cash provided by financing activities | 41,881 | 1,807 | ||||||
| Net (decrease) / increase in cash and cash equivalents | $ | (96,515 | ) | $ | 25,909 | |||
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Our cashCash and cash equivalents and available borrowings under our revolving credit facility were lower as of Septemberat June 30, 2017 as compared to December 31, 2016, primarily as a result of our acquisition of Eliza on April 17, 2017. Our working capital was lower as of September 30, 2017 as compared to December 31, 2016, primarily due to the Eliza acquisition, as well as the classification of amounts outstanding under our revolving credit facility as a current liability at September 30, 2017. Our revolving credit facility matures in May 2018 and consequently, amounts outstanding undernet cash provided by operating activities for the facility are classified assix months ended June 30, 2018, included a current liability at September 30, 2017 because such amounts are due within one year.non-recurring cash outflow of $20 million for the settlement expense.
Our principal source of cash has been our cash flow from operations and our $500 million five-year revolving credit facility. Other sources of cash include proceeds from the exercise of stock options and tax benefits associated with stock option exercises. The primary uses of cash are capital investments, acquisitions, compensation expenses, data processing,information technology, direct project costs, SG&A expenses, other expense and acquisitions. repurchases of our common stock.
We believe that expected cash flows from operations, available cash and cash equivalents, and funds available under our revolving credit facility will be sufficient to meet our liquidity requirements until our revolving credit facility matures in May 2018. Our liquidity requirementsfor the following year, which include:
| the working capital requirements of our operations; |
| investments in our business; |
| business development activities; and |
| repurchases of common |
Any projections of future earnings and cash flows are subject to substantial uncertainty. In addition, weWe may need to access debt and equity markets in the future if unforeseen costs or opportunities arise. Duringarise, to meet working capital requirements, fund acquisitions or repay our indebtedness under the second quarter of 2017,Credit Agreement. If we commenced plansneed to extendobtain new debt or refinance our revolving credit facility, and we are currently engagedequity financing in ongoing discussions with potential and existing lenders regarding these plans. We believe it is probable that we will be able to extend or refinance the facility prior to maturity; however,future, the terms and availability of such financing or any other proposed financing may be impacted by economic and financial market conditions as well as our financial condition and results of operations at the time we seek to obtain suchadditional financing.
Cash Flows from Operating Activities
Net cash provided by operating activities for the ninesix months ended SeptemberJune 30, 20172018 was $55.1$23.7 million, a decreasean increase of $1.1$3.0 million as compared to net cash provided by operating activities of $56.2$20.7 million for the ninesix months ended SeptemberJune 30, 2016. This decrease was2017. The increase in operating cash flow is primarily attributable to decreases in net income and a decrease in collections ofaccounts payable, accounts receivable, and deferred income taxes net income. These were partially offset by increasesthe release of estimated liability for appeals and an increase in accounts payabledepreciation and income taxes payable.amortization and stock compensation expense. Net cash provided by operating activities for the six months ended June 30, 2018 also included a non-recurring cash outflow of $20 million for the settlement expense.
Cash Flows from Investing Activities
Net cash used in investing activities for the ninesix months ended SeptemberJune 30, 20172018 was $193.5$12.6 million, a $161.4$174.2 million increasedecrease compared to net cash used in investing activities of $32.1$186.7 million for the ninesix months ended SeptemberJune 30, 2016.2017. The increasedecrease primarily related to the $171.2 million acquisition of Eliza as well as an increase in purchases of property and equipment and investment in capitalized software.the prior year period.
Cash Flows from Financing Activities
Net cash (used in)/provided by financing activities for the ninesix months ended SeptemberJune 30, 20172018 was $41.9$6.2 million, a $40.1$47.5 million increasedecrease compared to net cash provided by financing activities of $1.8$41.3 million for the ninesix months ended SeptemberJune 30, 2016. This increase was2017. The decrease is primarily related to proceeds from our revolving credit facility partially offset by payment of tax withholdings on behalf of employees for net-share settlement for stock-based compensation.$42.2 million in the prior year.
Contractual Obligations
There have been no material changes outside the ordinary course of business in our contractual obligations as presented in our 20162017 Form 10-K.
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Recently Issued Accounting Pronouncements
SeeThe information set forth under the caption “Recently Issued Accounting Pronouncements” in Note 1 ofto the unaudited consolidated financial statements.Consolidated Financial Statements in Part I, Item 1 is incorporated herein by reference.
| Item 3. | Quantitative and Qualitative Disclosures About Market Risk |
There have been no material changes to the market risks discussed in Item 7A to Part II of our 20162017 Form 10-K.
| Item 4. | Controls and Procedures |
We are responsible for maintaining disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) that are designed to ensure that information required to be disclosed in our reports filed under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and our Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
As required by Rule 13a-15(b) under the Exchange Act, management, with the participation of our Chief Executive Officer and Chief Financial Officer, performed an evaluation of the effectiveness of our disclosure controls and procedures as of SeptemberJune 30, 2017.2018. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were not effective because the material weaknesses discussed below continue to existprovide reasonable assurance that their objectives were met as of September 30, 2017.
During the quarter ended December 31, 2016, management identified material weaknesses in our internal control over financial reporting related to (i) the calculation our estimated liability for appeals associated with our contract with CMS (the “CMS Reserve”) and (ii) the valuation of our accounts receivable allowance (the “Allowance”). As described in Management’s Report on Internal Control Over Financial Reporting in Item 9A of our 2016 Form 10-K, management determined that we did not maintain an effective control environment based on lack of established reporting lines and defined authorities and responsibilities for financial reporting at our wholly owned subsidiary, HDI, and that we did not have an effective risk assessment process on a periodic basis to assess the effects of changes in business operations and turnover of our employees that significantly impact our financial processes and internal control over financial reporting related to the CMS Reserve and the Allowance. As a result, we did not design and implement effective process level control activities, specifically management review controls over the measurement and disclosure of the CMS Reserve and the Allowance and controls over the completeness and accuracy of data used to calculate the CMS Reserve and the Allowance.
During the first half of 2017, management took steps to revise and supplement the design of our controls around the CMS Reserve and the Allowance in order to remediate the material weaknesses. We implemented changes to improve our controls and enhance our internal control environment, which include refining the calculations and redesigning the review controls over the completeness and accuracy of data used to determine the CMS Reserve and the Allowance. We believe we are making progress toward achieving the effectiveness of our disclosure controls, and that the enhanced calculations and review procedures we have implemented are sufficient to remediate the material weaknesses; however, management will not be able to conclude that the material weaknesses are fully remediated until we have completed additional testing and subsequent evaluation of the applicable controls effectiveness, which we expect to be completed by the end of the next quarter. We will continue to test the ongoing design and operating effectiveness of our revised controls until we can provide reasonable assurance that we have implemented measures that remediate the control weaknesses identified.period covered by this Form 10-Q.
Except as noted above, thereThere have been no changes in the Company's internal control over financial reporting asidentified in connection with the evaluation of Septemberour controls performed during the three months ended June 30, 2017,2018, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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The information set forth under the caption “Commitments and Contingencies” in Note 11 of the notes13 to the unaudited consolidated financial statementsConsolidated Financial Statements of this Quarterly Report on Form 10-Q is incorporated herein by reference.
In addition to the information set forth in this Quarterly Report on Form 10-Q, the risks that are discussed in the 20162017 Form 10-K, under the headings “Part I, Item 1. Business,” “Part I, Item 1A. Risk Factors” and “Part II, Item 7A. Quantitative and Qualitative Disclosures About Market Risk,” should be carefully considered as such risks could materially affect the Company’s business, financial conditionscondition or future results. There has been no material change in the Company’s risk factors from those described in the 20162017 Form 10-K.
These risks are not the only risks facing the Company. Additional risks and uncertainties not currently known to the Company or that it currently deems to be immaterial also may have a material adverse effect on the Company’s business, financial condition or future results.
The Board of Directors has set the date of our 2018 Annual Meeting of Shareholders (the “2018 Annual Meeting”) as May 23, 2018. The date of the 2018 Annual Meeting is more than 30 days earlier in the year than the date of our previous annual meeting of shareholders, which affects the deadline for receipt of shareholder proposals intended to be included in our proxy materials for the 2018 Annual Meeting pursuant to Rule 14a-8 under the Exchange Act (“Rule 14a-8”).
Shareholders of the Company who wish to have a proposal considered for inclusion in the Company’s proxy materials for the 2018 Annual Meeting pursuant to Rule 14a-8 must ensure that such proposal is received in writing at our principal executive offices located at 5615 High Point Drive, Irving, Texas 75038, Attention: Meredith W. Bjorck, no later than December 14, 2017, which we have determined to be a reasonable time consistent with the deadline that typically applies under Rule 14a-8. Any such proposal must also comply with the requirements of Rule 14a-8 to be eligible for inclusion in our proxy materials.
With regard to any proposal by a shareholder not seeking to have such proposal included in the Company’s proxy materials, but seeking to have such proposal considered at the 2018 Annual Meeting or seeking to nominate a candidate for director at the 2018 Annual Meeting, the deadline for timely notice as set forth on page 8 of our proxy statement for our 2017 Annual Meeting of Shareholders has changed since, pursuant to our Bylaws, the date of our 2018 Annual Meeting has been advanced by more than 20 calendar days from the first anniversary of the preceding year’s annual meeting. In order for such proposal/nomination to be considered timely, it must be received in writing by the Corporate Secretary at our principal executive office not earlier than January 23, 2018 and no later than the close of business on February 22, 2018. Any such proposal must comply in all respects with (i) the rules and regulations of the SEC, (ii) the provisions of our Certificate of Incorporation and our Amended and Restated Bylaws and (iii) applicable Delaware law.
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The Exhibits include agreements to which the Company is a party or has a beneficial interest. The agreements have been filed to provide investors with information regarding their respective terms. The agreements are not intended to provide any other actual information about the Company or its business or operations. In particular, the assertions embodied in any representations, warranties, and covenants contained in the agreements may be subject to qualifications with respect to knowledge and materiality different from those applicable to investors and may be qualified by information in confidential disclosure schedules not included with the exhibits. These disclosure schedules may contain information that modifies, qualifies and creates exceptions to the representations, warranties and covenants set forth in the agreements. Moreover, certain representations, warranties, and covenants in the agreements may have been used for the purpose of allocating risk between parties, rather than establishing matters as facts. In addition, information concerning the subject matter of the representations, warranties and covenants may have changed after the date of the respective agreement, which subsequent information may or may not be fully reflected in the Company’s public disclosures. Accordingly, investors should not rely on the representations, warranties and covenants in the agreements as characterizations of the actual state of facts about the Company or its business or operations on the date hereof.
Where an exhibit is filed by incorporation by reference to a previously filed registration statement or report, such registration statement or report is identified after the description of the exhibit.
| 32.2 | ||
| 101.INS | XBRL Instance Document | |
| 101.SCH | XBRL Taxonomy Extension Schema Document | |
| 101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document | |
| 101.DEF | XBRL Taxonomy Extension Definition Linkbase Document | |
| 101.LAB | XBRL Taxonomy Extension Label Linkbase Document | |
| 101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document | |
_____________________
| † | Indicates a management contract or compensatory plan, contract or arrangement |
| * | The certifications attached hereto as Exhibit 32.1 and Exhibit 32.2 are furnished with this |
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Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrantRegistrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| Date: | HMS HOLDINGS CORP. | |||
| By: | /s/ | |||
| William C. Lucia | ||||
| President and Chief Executive | ||||
| (Principal Executive Officer) | ||||
| By: | /s/ | |||
| Jeffrey S. Sherman | ||||
| Executive Vice President, Chief Financial Officer and Treasurer | ||||
(Principal Financial Officer) | ||||
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32
HMS Holdings Corp. and Subsidiaries
Exhibit Index
|
| |
_____________________
* The certifications attached hereto as Exhibit 32.1 and Exhibit 32.2 are furnished with this Quarterly Report on Form 10-Q and shall not be deemed “filed” by the Company for purposes of Section 18 of the Securities Exchange Act of 1934, as amended.