Computer Task Group Inc (CTG) 2010 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the CTG fourth-quarter conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time. (Operator Instructions). And as a reminder, this conference is being recorded.

I would now like to turn the conference over to Jim Culligan, Investor Relations for CTG. Please go ahead, sir.

Thank you, Andrea, and good morning, everyone. We certainly appreciate your time and your interest in CTG. On the call today, we have CTG's Chief Executive Officer, Jim Boldt, and Brendan Harrington, Senior Vice President and Chief Financial Officer. Jim and Brendan are going to review the results for the fourth quarter of 2010, and then update you on the Company's strategy and outlook. We'll follow with an opportunity for Q&A. If you don't have the news release discussing our financial results, you can access it at the Company's website at CTG.com.

Before we begin, I want to mention that statements in the course of this conference call that state the Company's or management's intentions, hopes, beliefs, expectations and predictions for the future, are forward-looking statements. It's important to note that the Company's actual results could differ materially from these -- from those projected. Additional information concerning factors that could cause actual results to differ from those in the forward-looking statements is contained in our earnings release, as well as in the Company's SEC filings.

You can find these at our website or at the SEC's website at www.SEC.gov. Please review our forward-looking statements in conjunction with these cautionary factors.

With that, I'd like to turn it over to Jim to begin the discussion.

Thanks, Jim, and good morning, everyone. This is Jim Boldt. I want to thank you for joining us this morning for our fourth-quarter earnings conference call.

As you saw on our earnings release, in the fourth quarter of 2010, we exceeded the upper end of our guidance for both revenue and earnings per share. For the full year, we returned to double-digit growth, with revenue increasing 20% and EPS up 37% over 2009. Our revenue and earnings continue to grow as demand for our services expands, both as the result of the continued need in the United States for staffing services, and as the healthcare industry invests in electronic medical records. We expect that as a result of this demand, we'll continue to grow at a double-digit pace in 2011.

I'm going to talk more about our results and what we see for the 2011 first quarter and the full year, but first, I'm going to ask Brendan to start us off with a review of our financial results. Brendan?

Thanks, Jim. Good morning, everyone. For the fourth quarter of 2010, CTG's revenue grew to $87.3 million, an increase of $19.7 million or 29% from the fourth quarter of 2009. On a sequential basis, revenue increased 3.4% compared with the 2010 third quarter.

Solutions revenue in the fourth quarter of 2010 was $31.2 million, $9.1 million or 41% higher than last year's fourth quarter, driven mainly from an increasing level of electronic medical record work in 2010. As a percentage of total revenue, solutions revenue was 36%, an increase from 33% a year ago and also up from 34% in the 2010 third quarter.

Driven by continued demand in the quarter, staffing revenue increased $10.6 million or 23% to $56.1 million. Fourth-quarter revenue from IBM, our largest customer, was $26.9 million, an increase of 51% or $9.1 million, compared with last year's fourth quarter. As a percent of total revenue, IBM increased to 30.8% in the 2010 fourth quarter. In the fourth quarter of 2009, revenue from IBM was 26.3% of total revenue.

Revenue from our European operations was $15.9 million, up 4.7% from the $15.2 million recorded in last year's fourth quarter. Although the recovery in the European economy continues to lag that of the US, excluding the foreign exchange fluctuations, the European revenue in the quarter would have increased 13.3% from last year. The effective fluctuations in the US dollar during the fourth quarter of 2010 decreased our consolidated revenue by approximately $1.3 million, or 1.5%.

Direct costs as a percentage of revenue were 78.1% in the fourth quarter compared with 77.8% in the fourth quarter of 2009 and 79.5% in the trailing third quarter of 2010. Our overall SG&A costs as a percent of revenue decreased to 17.1% from 18.4% in the fourth quarter of 2009 and increased from 16.8% in the third quarter of 2010. The year-over-year decrease was primarily due to the additional operating leverage from the higher revenues.

Fourth-quarter operating income was $4.2 million, up $1.7 million or 65% year-over-year. Compared with the trailing third quarter, our fourth-quarter operating income increased by $1.1 million or 36%. Operating margin in the fourth quarter was 4.9%, up 110 basis points from the 3.8% in the fourth quarter of 2009, and up from 3.7% in the trailing third quarter of 2010, due to leverage associated with the higher revenue level and the continued shift toward more profitable Solutions business.

Net income increased $1 million to $2.7 million in the quarter, an increase of 63%. On a per diluted share basis, net income was $0.16 for the quarter, a 60% increase from the 2009 fourth quarter and a 23% increase from the 2010 third quarter. The 2010 fourth quarter results include equity compensation expense of approximately $0.01 per diluted share net of tax, while the 2009 fourth-quarter results included approximately $0.02 per diluted share net of tax.

The tax rate for the 2010 fourth quarter was 37.3% compared with 36.5% in the 2009 fourth quarter. During the fourth quarter of 2010, the Company realized the tax benefit as a result of the US federal government's extension of the Research and Development credit, which resulted in lower than expected income tax of approximately $140,000, or $0.01 per diluted share. The income tax rate for the full year of 2010 was 39.2%. We expect the tax rate for the full year 2011 to be between 38% and 40%.

We had approximately 3,400 employees at the end of the fourth quarter 2010, of which 90% were billable resources. We did add approximately 70 new employees to our headcount during the fourth quarter of 2010, but the ending headcount numbers for both the third and the fourth quarters of 2010 rounded to 3,400.

On the balance sheet, our days sales outstanding was 60 days at the end of 2010, compared with the same 60 days at the end of 2009. Our cash generated from operations in the fourth quarter of 2010 was $6.6 million, as compared with cash generated from operations of approximately $0.3 million in the fourth quarter of 2009. Both the fourth quarter of 2010 and 2009 ended in the middle of a bi-weekly payroll period for our US operations. In the quarter, capital expenditures were $412,000 and depreciation expense was $460,000.

At the end of the 2010 fourth quarter, we had no debt outstanding and we had $14.8 million of cash on the balance sheet. We have continued to use a portion of our free cash flow to repurchase shares of CTG stock. During the fourth quarter of 2010, we repurchased approximately 59,000 shares of CTG common stock.

As announced in the earnings release, CTG's Board of Directors approved a new 1 million share repurchase authorization. As of February 22, 2011, our total remaining repurchase authorization is for approximately 1.2 million shares. Because it remains accretive to our earnings, and since we believe it is a good investment of our cash, we intend to continue our repurchase program during 2011.

Jim?

Thanks, Brendan. In aggregate, our Solutions business increased by 41% in the fourth quarter of 2010. Overall, our healthcare business was up 37% over the fourth quarter of last year.

On our October conference call, we mentioned that we bid on seven RFPs for electronic medical record projects during the second and third quarters of 2010, but the clients have not decided what IT services firms would be awarded those projects. Since that call, we were notified that we had won three of those projects; two are still undecided; one client decided that they would not do -- that they would do the implementation themselves; and we were not awarded one of the engagements. That was the first time in four years we've lost a bid for an EMR project.

During the fourth quarter of 2010, we received three RFPs for additional electronic medical record projects, and have been notified that we won one of those engagements, are waiting to hear on one engagement, and were notified that we were not awarded one engagement. In the first quarter of 2011, we have so far received three additional RFPs. None of those projects have yet been awarded. That means we currently have 17 active EMR projects and six open RFPs, which the clients have not yet selected an IT services firm.

For the fourth quarter of 2010, electronic medical record projects accounted for approximately 14% of our total revenue. Our pipeline for EMR projects remains strong. However, we do have some EMR projects that are coming to an end. In the third quarter of 2009, we started six new electronic medical record projects, all of which were targeted to be implemented in two years. Starting in the second quarter of 2011, we expect those projects will begin to wind down.

We believe that data analytics will be another major opportunity for growth in serving the healthcare industry. We've developed and are marketing three new solutions for the healthcare market that employ data analytics to identify ways to improve the quality and efficiency of healthcare delivery.

The first offering is a medical care management model that improves patients' outcomes while lowering costs. Our second offering is an actuarial tool for the more accurate underwriting of group medical plans, helping insurers more equitably price premiums. The third offering is for the detection of fraud, waste, and abuse that is estimated to account for 3% to 10% of all healthcare expenditures annually.

We now have our first customers for all three of our new offerings and the pipeline for these new offerings is building nicely. I'd also like to talk about the other three vertical markets in which we focus. Demand from the technology service provider market was very strong during 2010, and right now, we expect demand will remain strong for 2011 as well. As to our financial services and energy verticals, we depict those businesses as stable. We're not expecting it to change in the near future.

Turning to our staffing business, which generates the majority of its revenue from the technology service provider market, it increased by 23% in the fourth quarter of 2010 when compared with the fourth quarter of 2009. We did see the normal seasonal slowdown in staffing demand in the latter part of December of last year, and that caused our headcount to increase during the fourth quarter by 70 staff instead of the 100 additional staff we were expecting. Staffing demand was strong again in the month of January of 2011, and we expect to see a double-digit increase in our staffing business this year.

We're forecasting revenue in the first quarter of 2011 to be in the range of $90 million to $93 million, or a 17% increase from the midpoint of our guidance over last year's first quarter. We're forecasting earnings per share in the first quarter of 2011 to be in the range of $0.15 to $0.17 per diluted share, or a 45% increase from the midpoint of our guidance over the first quarter of last year. For 2011, we expect revenue for the year will be in the range of $365 million to $385 million, or a 13% increase from the midpoint of our guidance over 2010. Based upon our revenue forecast and the anticipated mix of business, we expect net income per diluted share in 2011 will be in the range of $0.63 to $0.73, or a 31% increase from 2010 at the midpoint of our guidance.

When you compare CTG to companies both in and outside of our industry, we had a stellar year in 2010 and expect the same in 2011. Importantly, well beyond this year, we've established ourselves as IT solutions experts for the healthcare industry, and we believe the solutions we have introduced will have a lasting effect on our future growth.

With that, I'd like to open the call for questions, if there are any. Operator, would you please manage our question-and-answer period?

Certainly. (Operator Instructions). Bill Sutherland, Boenning & Scattergood.

That's pretty good. (laughter) (multiple speakers) Jim and Brendan, morning. Just going through a few number questions here behind the 2011 outlook you provided. You said -- I'm guessing it's going to be pretty low double-digit growth for staffing that's in your model?

(multiple speakers) Yes, just barely -- yes, barely double-digit.

Okay. Give me a little color on the bill-pay spread trend, I guess, across that business.

Okay. Maybe I'll give it to you for the whole Company, if you don't mind.

Sure. Sure.

We definitely have seen both wage and bill rate inflation in the healthcare business. We've started to see that probably mid-2010. And we've obviously been giving, where needed, appropriate wage increases and we've been getting appropriate bill rate increases.

Europe -- most of our business is in Belgium and, there, they have a statutory increase. The Belgium government actually puts out the percent increase you have to, by statute, increase IT workers' wages each year. And then you have to get (technical difficulty) bill rate increases. So, for most of our employees in Europe, we're also getting them as well. That kind of leaves the US staffing business as the largest piece that I haven't talked about.

We've seen some increases in both wages and bill rates in the United States, but they tended to be for the newer skills that sometimes are in short supply. In certain cities, it's hard to get, for instance, people that have that net skills and certain of the java languages. We have not seen across-the-board wage or bill rate inflation, but it is getting harder and harder to find technical resources. So, it wouldn't surprise us that, at some point during 2011, that we see some wage and bill rate inflation in the US, but we haven't seen it yet.

What's the Belgium increase for this year?

For IT workers, it's 2.49%.

On the margin front, the remarkable thing I thought about the fourth quarter was SG&A, a little lower -- or down as much as it was, given that I know Solutions was the faster-growing piece and that's more of a gross margin factor. Is there any color on the SG&A that we should know about or --?

Well, the biggest thing that's happening -- I think for awhile we've told people that the corporate office has been running as our size shrunk. The corporate office, because it's largely fixed cost, was running about 0.5% to 1% over its target. And as our revenues are growing, because it is largely fixed costs, its cost isn't going up in tandem. And -- nor are the fixed costs that we have out in the field, like -- things like rent, et cetera, that are out there.

We expect, actually, in 2011 that the corporate office will actually hit its target as a percentage of revenue. The biggest thing you're seeing is the leverage you get when you've got fixed costs and your revenues are going up.

I don't know if you want to comment on the EMR project specifically as far as margin attainment, but is it safe to call out the top end of your Solution margin range?

The EMR projects definitely are at the top end of our range and significantly more than the average. We've told people in the past that, generally, in the Solutions side of our business, they'd expect 35% to 45% direct profit margins. The staffing side of the business is more like 18%. When you merge them together, you're getting something in the low 20s. Over time, given the fact that we expect, for instance, in 2011, that our Solutions business is going to grow faster, probably at least double the rate of our staffing business, you should expect to see the aggregate direct margins improve.

And then switching gears a little bit, any new data you've seen on the IDC conversion issue?

No, not really. Just to explain, as I'm not sure everyone is aware of the IDC conversion. The World Health Organization maintains the ICD codes -- the WHO -- and the United States currently is on Version 9 -- ICD-9. The WHO, many years ago, went to ICD-10. There are 14,400 codes under 9. There are 69,000 under OCD-10. The only country in the world that hasn't switched to 10 is the United States. Every other country uses them just as a diagnostic code. In the United States, a (technical difficulty) [T] code is a diagnostic and a billing code. And because of that, the conversion from 9 to 10 is significant.

The only estimate I've seen that's out is it will cost the US between $12 billion and $30 billion actually to make the conversion.

The provider side of the market, we have not seen much activity whatsoever. And the reason for that is that their IT Departments are pretty consumed at the moment, reaching meaningful use so they can get their [R] reimbursements starting in 2011.

The payor side of the market, we have just seen start to do assessments. They have a bigger problem, quite frankly, and they're not consumed by the EMR projects. So we have started up our first engagement working with a payor actually on the ICD front. We expect -- certainly, before the end of the year, to start talking more about it, because it is a big opportunity. (multiple speakers)

Well, that (multiple speakers) --

(multiple speakers) Yes, right now CMS is adamant that the conversion has to be made by October 1 of [2013].

(laughter) I'm only laughing because that's a little aggressive.

I know. But they gave -- this is, I think, the third date. And when they came out with it last time, they gave everybody two additional years -- that's it; we're not changing the date. And I don't know how much flexibility there is going to be in it. But you're right, it is very aggressive.

That market estimate, just to wrap up, would be what kind of composite of labor and software and hardware?

In the estimate, they didn't give out any details and so we really don't have any basis for it. But from what we've seen, there are some tools out there that definitely help you do it. But you're talking maybe 10% to 15% of the project at the moment that the tools can handle.

You can easily map from ICD-10 back to ICD-9, because often, an ICD-9 code under ICD-10 becomes four codes instead of one. So it's easy to go backwards, but pushing it forward isn't as easy. So the tools that are out there now tend to just basically point to areas that you're using the code, somebody's got to go in and figure out what to do.

Actually, let me snake one more in, Jim. On the EMR side, with -- as you look at the RFP process, are you still participating directly as opposed to with the system vendor that's going to be involved?

Yes. We don't actually do anything through the system vendor -- and often actually they're the competition.

Yes. That's what I was thinking. Okay. Thanks, Jim.

Steve Shaw, Sidoti and Company.

I've got two quick questions for you. You said that Solutions grew by 41% versus 37% for healthcare. Can you explain how that happened? And also what the CapEx might look for 2011? Or if that's going to be on par with 2010?

Okay. I'll answer the first one, I'll let Brendan answer the second one.

That's a good question, by the way. Most of our Solutions work is in our healthcare vertical, but there's three components of the healthcare vertical. There's the provider side of the market, which is the hospitals, and it actually grew up more than 60% in the fourth quarter versus the fourth quarter of the previous year. And that's where all the EMR work is, obviously.

The payor side grew at about the same rate, that's also a Solutions business. And we also have a component in life sciences, which is a combination of staffing and Solutions. That actually was slightly negative, mainly because the staffing was off. So we're getting a mix change even within our healthcare business, in that we're selling more Solutions and less staffing. And that's why Solutions in the quarter went up faster than healthcare.

Brendan?

Yes, Steve, the CapEx in 2010 was just over $2 million. And we would expect it to be approximately in that range in 2011 as well.

All right. Thanks a lot.

(Operator Instructions). James Friedman, Susquehanna.

Thanks for taking my questions. Good morning, guys. (multiple speakers) So I wanted to ask about what sort of applications you're seeing out there for EMR. Are you seeing any of the incumbent vendors on the software side increase their market share? Are there more horizontal companies starting to approach the market? What are you seeing in terms of the software selections in the market?

A variety of things, quite frankly. If a hospital, for instance, has already spent the money to put -- and I'm just using examples -- Cerner's clinical systems in, the EMR package is actually a subset of the clinical package. So unless they're planning on switching it out and putting someone else's clinical in, most likely they're going to put in Cerner's EMR package.

We are seeing Epic, which is a private company, win more and more market share. They have -- about five years ago, they rewrote their package. So -- they rewrote it so that it will work -- it has the workflows to work in a physicians office and it also has the workflows to work in a hospital. And most of the other packages that are out there are either -- or they don't tend to work equally well in those two environments.

So we are seeing Epic definitely pick up market share. On the physician's side of the practice, Allscripts has probably been the big winner from what we've seen, and that will probably continue to happen. I don't know if you're looking for something -- and obviously, in the smaller hospitals, we're seeing MetaTech generally win because most of the -- a lot of the small hospitals have MetaTech, and this is, again, is just an additional module that they're adding on.

And related to that, in terms of your skill sets, I mean, do you find your guys require additional training? Or can you find the people in the market that you need to deploy these skills?

Generally, we hire people with the skills for that particular package. So if we're doing an Epic implementation, we generally hire Epic-trained, or sometimes we will hire someone who has a background in doing either EMR or clinical package implementations, and we'll actually send them to training to get them trained. So we are training some people in that manner. But for an Allscripts implementation that we started about a year ago, we actually ran our own classes. We have the capability to train in-house too, as we need.

Up until now, and we've been a little bit surprised, the market still seems to be there. It gets tougher every month, but you still seem to be able to find consultants who are perhaps finishing a project and, therefore, you can move them over. As I mentioned in my introduction, we have six projects that are ending, so we'll be able to move those people over to other projects.

Great. Okay. Thanks for the update.

We have a follow-up from Steve Shaw's line, from Sidoti and Company.

I know you said that I believe you won four recent projects and then one potential customer decided to do their own project. I'm not sure if you mentioned, I may have missed it -- how many does that leave that you're currently bidding on?

Six. We have four that we're starting up and we have six RFPs we've either answered or are about to answer, where the customer hasn't decided.

And then lastly, this might be pretty tough, but any color on any additions to headcount in the first quarter or year in total?

Well, I'm not sure we're ready right yet to give out the year in total, but given the fact that we added 70 people in the fourth quarter and it rounded down, it's kind of probable that we'll have at least 100 people of an addition in the first quarter.

Thanks.

Our next follow-up is from Bill Sutherland from Boenning & Scattergood.

The new deals that you just announced, the four, are they kind of a typical size range?

Yes, they would be. They're probably $4 million to $6 million a year for two years. So they're fairly typical.

Okay. Did they come with physician components?

Actually, these four, there are no physicians practices in. No.

Okay. And have you planned another training class yet?

No, actually we haven't. When you start up a project, you've got the RSP probably for at least a month, so you know it's coming. And then usually there's at least a month where the client [down] selects to have only two or three vendors they're talking to and you're doing [rolls]. And then the client decides. At that point, we have to send in a project manager and a high-end consultant, who will do the project plan and get everything organized, et cetera. And then after about two months, we really start to build the staff up.

The training required is probably -- if you've got people either that are experienced in healthcare or in IT, it's probably -- you can get most of it done in 60 days. So what we did for the project that we trained for last year was, when we knew we had the project, we already had recruiting -- come up with candidates for training. As soon as we won the project, we got them as quickly as possible into training, and trained them during that couple-month period when the planning was done. So we don't currently have any training plan, but it's quite possible, as we win projects, that we'll start up training classes again.

Okay. Then the last thing, you covered data analytics quickly. Maybe a little color on what you're looking for in each of those in the course of this year. Thanks.

Okay. The patient maturity -- the patient management model is by far the most mature of the three. It was finished first. We have two engagements. Both were grants -- this is public -- that the University of Buffalo Medical School's medical practice received. One was a grant to put that application into about a 500-physician practice and the other is to install it in two hospitals in Western New York. So those projects -- one of them has been ongoing for awhile and we'll probably ramp up shortly. The other one is really just starting up -- started up in January of this year.

We have installed the actuarial application in and are using it for one insurance company, health insurance company. And we've got probably half a dozen others that we're doing betas for, so we're optimistic that we'll close some of those. And in the first quarter of the year, we just closed our first fraud, waste and abuse, and we have a number of clients we're pursuing there as well.

Okay. Sounds good. Thanks, Jim.

And there are no more questions at this time.

Thank you. Looking forward, the Solutions side of our business clearly offers us the largest opportunity over the next several years, specifically in electronic medical records work. Given the magnitude of creating electronic medical records for everyone in the US, we believe the electronic medical record work will most likely drive our Solutions business for the foreseeable future.

Couple the EMR work with the additional profitability from our new offerings, and you can see why we're very excited about the future for CTG. We believe our strategy and our ability to execute it well provides us with strong growth prospects for the foreseeable future.

I would like to thank you for your continued support and for joining us this morning. Have a great day.

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