CorVel Corp (CRVL) 2004 Q2 法說會逐字稿

Welcome to the CorVel Corporation quarterly earnings release conference call. During the course of this conference call, CorVel Corporation may make projections or other forward-looking statements regarding future events or the financial performances of the Company. CorVel wishes to caution you that these statements are only predictions, and that actual events or results may differ materially. CorVel refers you to the documents the Company files from time to time with the Securities and Exchange Commission; specifically, the Company's last Form 10-K and 10-Q, filed for the (indiscernible) fiscal year and quarter. These documents contain and identify important factors that could cause actual results to differ materially from those contained in our projections and forward-looking statements. (OPERATOR INSTRUCTIONS). This conference call is being recorded. I would now like to turn the conference over to your host, Mr. Gordon Clemons. Please go ahead.

Welcome to our September quarter conference call. In spite of a difficult market, CorVel had another record quarter. We were recognized by Forbes in their Best 200 Small Companies list, as being one of only two companies that have been on the list for 10 consecutive years. Because of the way they compute that stat, you have to have 14 years of consecutive good results to make the list. No company has ever done 11 years, so we're hoping to set a new high watermark for them next year. Kipplinger had a sort that showed companies with 12 years of record growth in earnings, together with a return on equity of 24 percent or better, and five companies were listed -- Wrigley, Cisco, Paychex, Freddie Mac and CorVel. A list of exciting industries -- gum, food distribution, payroll, mortgages and workers comp. I don't know what that says for the computer industry, but apparently commodities are a good place to create long-term growth records. If you take that list and sort it for companies that have less than 5 percent debt, there are only 3 left --Wrigleys, Paychex and CorVel. And if on top of that, they added the sort of having a PE low enough you might buy the stock, CorVel is the only stock in the entire list of public companies with a PE below 24 and those other growth parameters. So we feel good about our ongoing growth record, although it's been a tough time in the last year and a half or so with this soft labor market.

In the quarter -- and first I would like to summarize some of our results, then I will come back and go through the some more detail -- our revenues were a new high at 77 million, up 11 percent. Earnings per share, likewise at a new high of 41 cents per share, up 11 percent as well. In the quarter, we had, I would say, three important accomplishments. We entered the ASP market for medical (indiscernible) software with a first time sale in our new product. Simultaneously, we have completed a next generation version of that software, which I'll talk more about later, which was an important milestone for us. And we, I think in the quarter, improved our closure rate on prospective customers. We had a little better fortune I would say, closing some of the important deals we were working on. The market has reflected the very soft labor market and low inflation rate for health care. Health care was inflating rapidly but has really slowed down. Employers remain concerned, though, about workers comp, and are looking for new solutions.

On the operating side, we continued rolling out new software in all of our product lines. This is a big challenge to get that implemented in our field operations. A new version of MedCheck, I mentioned, is beginning implementation. We began expanding in the document management market, and I think very importantly in the quarter, we showed that we could manage expenses in the tougher market. I'll come back to that again later.

Now in more detail, the slow economy certainly has hurt the demand for workers comp, and particularly the number of claims. Insurance bankruptcies continue, and they are struggling, particularly with their older claims. The new HIPPA legislation, the new Sarbanes legislation for us in California, the new mandatory health care legislation -- all of these things have combined to make this a particularly difficult time I would say. And I think the government's appetite for rapidly expanding regulation in the midst of a difficult economy is certainly unfortunate at best. California in particular, and the U.S. in general, is becoming so unfriendly to business that I think this trend toward offshore investments and offshore distribution of manufacturing is just too attractive. And it's now, with new technology, made it possible for even service companies like CorVel to begin doing production offshore. And soon, I would say, the market for our services will begin to move offshore. Certainly as the employment of people around the world begins to be concentrated in other markets. So it's, I think, a very discouraging trend. And I think our federal and state governments are playing a very poor hand in all of this.

Moving on to other parts of the market. Insurers are continuing to get top prices for workers comp, which helps them gradually recover from the weak years that preceded. However, it is frustrating employers and causing them to look for new solutions, which is helpful to us. As I mentioned, the health care inflation rate appears to be abating, and I think at this point, is relatively low compared to where it's been in prior years. Improving operations efficiency is important to insurers, and the work we've done with both document management and some of our new products is making those products attractive in the marketplace.

On the business side, our patient management revenues increased only 4 percent in the quarter and were flat to down slightly sequentially. Provider programs were up 17 percent year-over-year and continue to be a strong part of our business. Patient management profits were down somewhat in the quarter, both annually and sequentially, as that market reflects the soft labor market. The PPO profits increased, although less than the revenue rate of growth. On the product line side, in patient management we had, I would say, volumes reflecting the soft labor market. Pricing rationality though, at least among the major vendors or competitors of CorVel, has been improving. And I think some of the larger companies are taking positions that really are forcing the business to be more logical and rational. That probably drives up a little volume, but it certainly is improving the background in the business. CareMC, our health transaction processing website, continues to grow and be an important part of sales in that market. On the PPO side, the low inflation rate, as I said, has hurt the rate of growth in that business somewhat. Our new version of MedCheck, which we are calling MedCheck QL, has been completed. Very much favors both document management and much higher speeds of processing. It's begun a pilot, and now just recently, production implementations.

Moving over to expenses, we had, I think, a particularly good quarter there. I really feel very proud of our management team. I think people throughout the Company really addressed the issue to sort of slow down our rate of investment in growth. Given the toughness of the market, we were able to change our expenses fairly significantly beginning late last quarter. And with nice accomplishments in the current quarter, more reductions will be pursued, but I would say selectively, as we go forward. We are in spite of all of this maintaining the pace of our product development. We have no slowdown in that area. I think things like certainly HIPPA, Sarbanes and now the health care initiatives in California have added significantly to expenses related to regulatory issues. That will be a drag, certainly, going forward. Marketing expenses have been adjusted somewhat, and some of that will trail on out into next spring. But as I said, product development opportunities remain plentiful and we are continuing to invest meaningfully there.

On the strategic side, we see a couple of meaningful growth opportunities and are marshalling our forces to enter both one new market and one new product area. I'll talk more about that in the coming quarters, as we get a little something going there. We continue to emphasize, as I have said, investments in technology. We will be shifting our focus somewhat to this new product area and one new market. And because of the tightness in the market in general, we'll probably be looking at acquisitions as a way of helping us move into new products without having to do as much of it ourselves. I think a positive byproduct of the slow economy for CorVel has been that we can continue to invest in technology and new services, whereas a number of our competitors have had to cut back. So it gives us a little breathing room in here to get some of these things done that we might not gain as much ground on people otherwise.

On the product development side, we had a very busy quarter; in fact, if anything a little too busy. We've gotten to where the release rate of new software is really on a weekly basis now, and that's an awfully hectic pace to maintain. Our investment in document management has gone well so far, and we are expanding the application of that technology into both CareMC and our MedCheck product lines.

On the bill review side as I mentioned, we have the new version of MedCheck, which represents a big step forward in productivity -- particularly it's designed to fit nicely with our interest in document management. It does increase production speed substantially, and fits particularly well into our ASP strategy. We did close one customer in the quarter on an ASP application for MedCheck and we have other proposals out at this time. Our development continues in these products to reflect the movement we see in transaction processing in the insurance industry. That would be toward much more of a banking-type approach, where you have high-speed processing at very low cost; something that's not been, certainly, a part of -- particularly workers comp, and probably even group health, to the degree that it's going to be in the future.

In the CareMC area, which is our transaction processing website, we had another very busy quarter. The product is ambitious and complicated but it continues to be of particularly strong interest to customers. We anticipate that it's well designed to meet some of the HIPPA requirements. It's a regular part of all of our sales at this point. We have a substantial backlog of product expansion ideas. The document management, as I mentioned, fits very well into that site. Current projects include -- continued expansions in the different kinds of reporting and analysis we can do out of the site; new transaction processing capabilities; expanding the artificial intelligence capabilities of the site; and providing more quality control over our internal production operations.

In the quarter, we had a good quarter for cash flow, as well as earnings. EBITDA was up to 9.6 million from 9.3 in the prior quarter, and extends a trend in steady increases in that over the last few quarters. Adding in (indiscernible) just income and depreciation was 6.8 million. Taking out fixed assets and working capital, we still had free cash flow of 2.8 million, which is up from breakeven on that a couple of quarters ago. So we are certainly running in a strong position on cash flow. In the quarter, we had cash increase to 6.4 million, partly in anticipation of our looking a little more aggressively at transactions. We did, nonetheless, repurchase $4.4 million worth of stock in the quarter, bringing that total over 90 million. Hard shares were down to 10.58 million and diluted shares to 10,877,000. So we continue to be able to manage our working capital, as well as our fixed assets, in a way that allows us to generate free cash flow. And I think that's particularly exciting to us at this time, because we do feel in this market there are some opportunities to be a little more aggressive looking outside the Company into a couple of new areas.

That completes my initial rate initial remarks. I would like to turn it open to questions now, and go into any further detail you would like. Thank you.

(OPERATOR INSTRUCTIONS). Chris Arndt, Select Equity.

I had two questions. The first was, given that it sounds like the pricing dynamics have improved a little bit in the patient management area, why was profitability down in the quarter? It sounds like it was down year-over-year. And if you have those numbers, too, that would be helpful?

Yes, I do. I will give you those numbers and then comment on that. The patient management revenue in the quarter was 32.8 million, and the profit in that -- the field profit in that was 3.6 million, or 11.1 percent. So the margin was down from the prior year, which was kind of a peak quarter for us at 12.8 percent field margins. On the PPO side, we did 44.2 million in the quarter and 9.8 million in field profit. So there we were up 17 percent year over year and 5 percent at the profit line. I would say that the quarter, we were in kind of a tough market in the last -- well, it's been going on, I think, for a while -- since the labor market has been so soft. We tend to lag the economy, so we would like to think that we are kind of coming through the worst of times right in the last six months. And we did have to respond on the expense side. I would say the case management market is soft because the demand for case management is soft. The number of claims are down. So that just makes it tougher. But in addition, I'd say that both we and maybe one or two of our competitors, are taking a little tougher line in that area. And initially it drives off a little business, so it makes it harder to grow. In our case, when volumes are down it puts particular pressure on our offices to adjust their variable costs. And usually that's kind of hard to do in the short run. So it can hurt margins in the short run more than it benefits them by getting the prices up. I'd say there certainly an ample market out there of small vendors that are going to compete on price, and I think we feel like we've maybe chased that a little too hard. We've been comfortable in here taking a little firmer line on that. But at the same time, with newer technologies we don't want to drive off to much of that business. So we're playing kind of a balancing act there, but it is not as important a part of our business, frankly, as the network side.

So it sounds like the profitability on the patient management side -- I'm sorry, how did that compare to a year ago?

A year ago, we were at 12.8 percent margins there, which -- we had a very strong September quarter a year ago, which was kind of deceiving to us. Because the market then began to deteriorate a little bit, as the effect of the soft labor market and the lag of that affect into our business began to get more severe. But our profits in hard dollars were off almost $400,000 year-over-year in that particular segment. So yes, both gross margins were down and hard dollar profits were off, in the patient management area.

The other item that you mentioned -- you mentioned on CareMC that you thought that was going to help your customers with HIPPA requirements. Can you just add a little more color on that, how does it help them with the HIPPA requirements? How important is that, in terms of marketing CareMC or the -- what CareMC offers?

In fairness, HIPPA what is not as important in workers comp as it is in the regular health care marketplace. So it is less important. However, I think generally people are concerned that they not be drifting away from the spirit of HIPPA. And so, the fact that we've designed the site to deal with both the proper access controls both, as well as the ability to manage documents in a secure way, makes it attractive. I would say we expect both ourselves to expand more into the group market, where it will be critical to have it set up the way it is, and also, for the general spirit of HIPPA to have an influence on how people view the management of health care information. So I think first of all, HIPPA itself will favor companies wanting to move documents into the system rather than dealing with them as paper, because perhaps a lot of people don't realize that some of the more onerous requirements of HIPPA impact how you manage paper. So getting it into the system, being able to manage documents, being able to deal with workflow in an artificial intelligence engine that allows you to direct paperwork -- scanned paper work in this case -- properly through your organization; all of these things are going to be increasingly important. One of the byproducts of this, which is going to become perhaps maybe more important, is that once you have documentation in a website, you can begin to move the management of that work offshore -- both insurance companies can and so can CorVel. I think unfortunately for our U.S. economy, that is the direction our government is pushing us all, is to move our labor out of these unfriendly markets. So a big aspect of this is going to be the automation allowing you to do some of the work in areas that are more friendly to business.

Chris Carlin (ph), Kestrow (ph) Investment.

Could you give some more color about the new markets that you are looking at and the scope of the acquisitions that you might be getting?

, Yes. I will tell you first of all, and I would want to temper my comments a little bit there. As those of you who have been investors in CorVel for some time know, we're not as acquisitive as is probably typical of most companies. And I think that will continue to be the tone of what we do. We -- in the last year and a half, we've made 2 relatively small acquisitions. But they have been particularly attractive to us, in the sense that they did allow us to jump into new services without having to start from scratch. One was a diagnostic imaging network that represents a second generation product in the PPO area. The second was our move into document management with the acquisition of a very well-established and quite highly sophisticated document management company. And so, those -- while they were small, they took us into new services. I think that we're looking to make similar moves that would -- one of the areas we would like to go is a little further into the workers comp market. We certainly feel our franchise there is well-established. We would like a bigger, say, total market into which to sell services. So we are looking to take on a little more of the total responsibility for claims management in workers compensation as a service to our current customers, so that we'll be automating with artificial intelligence more of their work. It will move us a little beyond -- begin to move us beyond managed care, I would say, into activities that wouldn't be as traditional in the managed care market, but are very much a part of medical claims processing for insurance companies. The second area that has always been attractive to us and remains so is the opportunity to go beyond workers compensation into additional insurance markets for health care. We have in the last three or four years, had nice growth nice growth in the auto market. At this time, I would say the auto market is growing for us nicely, while workers compensation has been a much more difficult market. Although that is cyclical. The largest market, obviously, is the market for private health care benefits. And we are beginning to add services that take us into that market. We look in the next year to become a little more aggressive in that area. We are already a group health claims processor in a full third party administration mode in the Caribbean. So I would say that we have a small -- it's quite small, but we have a toehold in regular health care claims processing offshore. And as I implied in my comments, I guess I'm concerned that the offshore markets are going to be more attractive than the domestic markets, perhaps, over the next 10 years. And so we feel it's important for us to continue to look in that direction, and look in the bigger market, which is the market for regular health care claims processing.

So the acquisitions that you would be looking at are sort of in line, in terms of size, with what you have done in the past?

Yes, I would say. The ones most recently have been quite small, and there are -- it's a particularly attractive time, because of the difficulties in the marketplace, to look at acquisitions. So there might be some that are bigger, but I would concede that I've always been a little on the timid side when it comes to doing anything that puts us at great risk. I think we have to balance that against doing something that has enough scale to be meaningful. But we are not going to suddenly turn ourselves into a company that's doing significant acquisitions, I don't think. We're also going to be very careful. We've tried to do them at a size where we can assimilate them easily; we can have our culture become the dominant culture in the new business. Although in fairness, I think we have been very pleasantly surprised by how much we've had to learn from the two companies we've picked up in the last year and a half. Looking back, I think I feel that I was a little too timid in the last six or seven years, that we might have benefited by bringing a little bit of fresh thinking into our company periodically. So we are looking forward to that. But this would be an area where we would still be careful going forward.

And you would anticipate financing just with cash on the balance sheet?

Yes, we would hope to. It is certainly possible to find something that would be a little more expensive than we can afford easily, with the cash we already have. But I would say we have begun to slow our stock repurchases. In this most recent quarter, our diluted shares outstanding only drifted down very, very slightly. I would say looking out over the next year, I would expect that it won't be an even trendline. But we're trying to slow our stock purchases and build cash, with the expectation that we'll make a couple of investments over the coming year. But I don't expect us to do something that would disrupt or change the nature of our balance sheet. We've been relatively conservative, perhaps a little too. I think if we ended up a little bit in debt with an attractive acquisition, that wouldn't be inappropriate, but it would have to be -- at least my preference would be to have it be relatively nominal compared to the equity on our balance sheet. We have benefited, I think, over the years in having a solid balance sheet and always being in a position where we can respond to either threats or opportunities. The current market has been particularly difficult, and as I mentioned, I was somewhat surprised, actually, by the success our field management had in reducing expenses. We had a fairly meaningful change in our employment in the quarter. We normally build a little bit of employment every quarter, and we were down, I think, a couple hundred people over the last six months. And that's a pretty substantial change for CorVel. I think our management showed some great flexibility. So we wouldn't look to have our balance sheet suddenly put us in a place where we have to be particularly more careful than in the past. We are very decentralized, and I think that when you are aggressive like that operationally, it's good to have a conservative balance sheet to buffer against the operating aggressiveness. And we like to have our operating people feel that they're free to be pretty aggressive in the marketplace. And there are some interesting opportunities out there. In spite of the difficulty in this market, and it has been tough, we've been working our way into some new areas that are exciting. And I think we need our field people to be able to be aggressive. So we'll stay pretty conservative, I think, financially.

Glen Jaffe, Wachovia.

Do you give forward earnings guidance? And if so, what is your number for '04?

We haven't in the past, and I think at first we thought we were just being conservative not to give it. And then I think in the last five years we have felt we weren't any better at doing it than you guys are. So I think directionally, we like to think we could grow 15 percent, but we haven't been able to do that in the last year and a half. So I think we've pretty much stayed away from making any particularly strong forecasts. But I would say that if you look at our results over the last 10 years, you can see that our trends tend to be pretty gentle. We do change direction a little bit now and then, but we work awfully hard to keep the bounces from being very big. Our revenues tend to come in so many small pieces that it's hard to either accelerate them or decelerate them too much.

Are there any further questions? Chris Arndt, Select Equity group.

Just one other question. That comment, notwithstanding about your revenue coming in in small pieces -- you made a comment about an improved closure rate for new business in the quarter. Would that meaningfully impact results in the next couple of quarters? How significant were those closures?

We had a couple that were nice sized sales, and I would say, though, that we've also had to face some bumps along the road. We have -- the state of Colorado pulled back on their managed care support in the auto market. And we anticipate that will dampen our revenues in that state, going forward. So I think that we need some of these bigger sales to offset some of those kind of things that come along in the marketplace. So I don't -- I think that I feel, because of the softness in the labor market, that we'll be happy to continue our growth record in the coming year. And I think we'd be, obviously, thrilled to accelerate it. But it is a challenging market out there right now, and I would want to just be candid about that. But we felt that we had been maybe a little bit less successful closing big deals in the last couple of years than we should have been. We've gotten a little more assertive about that. And as I mentioned a couple of quarters ago, a member from our Board has joined the Company -- Peter Flynn -- who has been working on national sales. And so we've brought more firepower to that area and we are trying to work hard closing deals. A lot of the big deals have extremely complicated contractual arrangements these days, and so it's been a big help to have Peter involved in those. So I think we know there are other big deals out there. We would like to think we are going to be able to improve our closure rate. But I wouldn't want to change the forecast too much, based on that.

Okay. When you mean change the forecast, we're talking about similar year-over-year comparisons in terms of topline than what was experienced in the second quarter, which was 11 percent?

Yes. I would say that one of the things that -- and I know you look more closely than some at how things are going -- I think that sequentially, we have not moved up as much as we would like to in the last couple of quarters, so that our year-over-year comparisons get a little tougher in here. And even if we have a good quarter or two on a sequential basis, it wouldn't be impacting our year-over-year comparisons as much as we would like. And we benefit going the other way when we're slowing down a little bit, as we have in the last couple of quarters. So I would like to believe we are kind of at the trough in the difficulty in this market due to the labor market. But on the other hand, as the national commentators are pointing out, this is a pretty jobless recovery. And I think the government is creating that by making it so attractive to move jobs offshore. So I think the market is going to continue to be fairly difficult. I think there's a -- the people I follow, I think, are looking for the labor market to firm up maybe a little bit beginning in the late spring of next year. And hopefully, in time for the election, I guess. But those kinds of things have been a pretty big drag on us. On the other hand, we feel like we missed a big deal or two along the way that could have helped us over the last year. I think that we'll -- I think we would do well to stay in the same growth range right in here. We would like to think we can get back into the 14, 15 percent range, but we've been managing other variables to try to keep our performance in line as we go through this period. Nonetheless, we also believe that these new market areas that we are looking at will be important in the long run. Because we are getting bigger in comps, so we need to be expanding our service base. We were a little more aggressive doing that in the early '90s, and we're wanting to be kind of back being a little more aggressive in expanding the scope of our business going forward.

Are there any further questions? There are no further questions. Mr. Clemons, do you have any further comments?

I will just add a couple of details that we sometimes get into with people, and didn't on this particular call. Specifically, our accounts receivable were down a little bit, from 51.4 days to 51 days in the quarter. That's about the low we've achieved. We continue to believe we can go lower. But in the quarter we had a very slight increase in the hard dollar investment in accounts receivable. We've had a similar, I think, pretty good stretch in here on property. Although we are -- and I didn't mention this, we are in the process of establishing a second data center to complement the one we have had for the last 12 or 15 years in Portland, Oregon. We're putting this in in Fort Worth Texas. It's been a fairly substantial investment for the Company; a part of the long-term process of building our website. Certainly, big companies have many data centers in order to provide continuity of service and dynamic load balancing in their operations. These are levels of complexity that are fairly substantial, and, I think, reflect the transition that CorVel is going through, from being a relatively small company to being one that -- on the technology side, and certainly in terms of its investments in hardware in software -- is moving into kind of a different phase in its growth, where we have much more sophisticated processing and operations. And that reflects well when we're talking to customers. So it's been a different period and we've had a lot going on in the last quarter in some of these investments.

I'd like to thank everyone for joining us today, and we would certainly welcome any of you that want to give us a call on any specific items of interest you may have. Thank you very much.

This concludes our conference call for today.