Evolent Health Inc (EVH) 2017 Q2 法說會逐字稿

Welcome to Evolent Health's Earnings Conference Call for the Quarter ended June 30, 2017. As a reminder, this conference call is being recorded. Your host for the call today is Mr. Frank Williams, Chief Executive Officer of Evolent Health. This call will be archived and available later this evening and for the next week via the webcast on the company's website in the section entitled Investor Relations.

Here are some important introductory information. This call contains forward-looking statements under the U.S. federal securities laws. These statements are subject to risks and uncertainties that could cause actual results to differ materially from historical experience or present expectations.

A description of some of the risks and uncertainties can be found in the company's reports that are filed with the Securities and Exchange Commission, including cautionary statements included in the current and periodic filings. For additional information on the company's results and outlook, please refer to the first quarter news release.

As a reminder, reconciliations of non-GAAP measures discussed during today's call to the most direct comparable GAAP measures are available in the company's press release issued today and posted on the Investor Relations section of the company's website, ir.evolenthealth.com, and the 8-K filed by the company with the SEC earlier today.

At this time, I will turn the call over to the company's Chief Executive Officer, Mr. Frank Williams. Please go ahead, sir.

Thank you, and good evening. I'm Frank Williams, Chief Executive Officer of Evolent Health, and I'm joined by Nicky McGrane, our Chief Financial Officer.

Before I begin with my customary remarks, I want to note that tonight, we filed a press release detailing a proposed public offering of $175 million in primary shares. In addition to the press release, we also filed an S3 registration statement. On the advice of our counsel, we'll not be addressing the details of the press release or taking any questions about it on tonight's conference call.

I'll open the call this evening with a summary of our financial performance for the quarter and share perspective on our view of the overall market. Then I'll hand it over to Nicky to take us through a detailed review of our second quarter results. I'll then close this out with an update on our product development. As always, we're happy to take questions at the end of the call.

Beginning with our financial results for the quarter ended June 30, 2017, total adjusted revenue increased 89.9% to $107.3 million from the comparable quarter of the prior year. Adjusted EBITDA for the quarter ended June 30, 2017, was negative $3.6 million compared to negative $3.9 million from the comparable quarter of the prior year.

As of June 30, 2017, we had approximately 2.8 million total lives on the platform, an increase of 98% year-over-year. Overall, we're pleased with our results, having met our strategic, operational and financial objectives for the quarter.

Coming in to this year, one of our primary objectives has been to demonstrate continued operational consistency as well as the scalability of our infrastructure and clinical model to power provider-driven health care in multiple markets. In policy circles, particularly around the repeal and replace discussion, there's been a lot of focus on provider-driven models and their ability to deliver high-quality, lower-cost health care, particularly in the face of anticipated spending growth in Medicare and Medicaid. The good news, based on the results we've seen from our partners is that providers can consistently deliver higher-value care when they engage their physicians, leverage sophisticated predictive analytics to focus on the right patients and deploy proven and effective clinical programs.

One of the benefits of the investments we've made in our infrastructure is the ability to manage populations in a variety of delegated risk arrangements from a central foundation. This enables us to support partners with very different local market dynamics and yet produce consistent results through the deployment of our integrated platform. I'll speak to a few examples of how we see this model providing value for our partners in action today across commercial care partnerships, governmental programs and pharmacy management that ultimately touch a multitude of populations and geographies.

In terms of the commercial segment, for example, we've been working with a partner system in the South to manage care for a population in a delegated risk arrangement from a national payer. We've worked to build a high-value network of primary and specialty care providers, optimized the network referral process to ensure members were routed to the highest value care and deploy our technology and clinical programs to identify and engage members that were highest risks. After many months of continual physician engagement efforts, payer relationship management, data and reporting work, our partners helped to radically reduce spending on the population while also hitting aggressive goals for improved quality of care. As a result, the payers generated substantial savings and is now returning between $10 million and $15 million in provider bonuses and has a strong interest in expanding the relationship.

On the governmental payer side and Medicare, we have a Midwest partner that was an early adopter in CMS' innovative Next Generation ACO program. NextGen enables providers to benefit from the upside of shared savings and puts dollars at risk if costs increase for managing a designated group of Medicare beneficiaries compared to benchmark. With this partner, we developed a strategy to expand physician participation in the ACO from employed physicians to include regional affiliates and independents that cover a much wider geography.

With the collaborative group of participating physicians, the system was able to deploy our care management resources to effectively coordinate care for high-risk complex patients, those with chronic conditions and those in need of hospital transition care. This partner system was one of the highest-performing ACOs in the 2016 Next Generation program and has continued to serve as a demonstration site for partners in the current performance year as well as those considering NextGen in 2018. A great example of provider-driven care delivering substantial improvements in population health and ultimately influencing CMS in its development of innovative programs in Medicare.

In Medicaid, we're able to provide value to our Medicaid plan partners on the clinical side and all other cost categories of plan administration. For one partner, we've been able to transition hundreds of thousands of Medicaid beneficiary lives onto our platform and customized our predictive models to support the unique needs of this population. By bringing clinical resources into a proven and more measurable methodology for care management, integrating social determinants of health into the care model and bringing networks of community health organizations into the patient engagement and care coordination efforts alongside the health plan, we've been able to turn around the MLR performance of the plan in the face of state rate cut pressures and stabilized AOR in the face of fluctuating premiums.

The ability to systematically address every cost category from inpatient and outpatient spending and high-cost specialties, while at the same time supporting an integrated model of care, is what ultimately has the ability to improve the health of a population and truly bend the cost curve.

Finally, one cost category that cuts across many populations and lines of business for our partners and which impacts performance is pharmacy. Across multiple markets where pharmacy spend and clinical impact need to be optimized, we work to engage physicians in better prescribing decisions. For example, we deployed pharmacists as part of the integrated care team, actively manage the formulary to promote use of lower-cost and equally effective medications, implement step therapy when appropriate and provide access to top national retail and mail-order pharmacy options and lower total cost for our health plan partners. In multiple markets, we're realizing tens of millions of dollars in pharmacy savings while driving medication adherence, improve safety and having greater impact on health outcomes.

That value to our partners, in these and many other ways, has given us confidence that engaged, aligned providers supported by an integrated infrastructure can deliver higher-value health care. This effort requires regular course corrections, data-driven insights and innovation to extend our impact into new clinical areas and new frontiers in population management. It's this continuous investment in enhancing our value-based care platform that's helped us to build a market-leading brand and attracted several new partners to join the Evolent network this year.

To that end, I'm pleased to announce the addition of Crystal Run Healthcare in New York. Crystal Run is a multi-specialty group medical practice with nearly 50 medical specialties represented across 20 practice locations in the lower Catskill region of New York and New Jersey. A few years ago, Crystal Run was among the initial class of 27 organizations to participate as an accountable care organization in a medical shared savings program and then transitioned into taking full risk through its provider-sponsored health plan.

Evolent will be providing third-party administration services and population health management for Crystal Run's Medicaid and commercial lines of business, including a plan for lower-income residents who do not qualify for Medicaid but need the same essential benefits as other health plans at a lower cost. This focus on providing access, high-quality care and coverage for the underserved aligns directly with our mission and our investment in establishing a Medicaid Center of Excellence nationally.

In terms of a brief commentary on our overall pipeline and the macro environment, first, we feel good about our 5 new partner additions in 2017 and are hopeful we can end the year at the high end of our anticipated range of 5 to 7. There continues to be interest in the market in Medicaid, the Next Generation ACO program and providing an integrated infrastructure for health plan operations. We still have work to do in closing out the pipeline and setting up 2018, and we're working diligently to move several new market opportunities forward by the end of the year.

Second, we're hopeful that the recent defeat of repeal and replace in the Senate will lead to some relative policy stability for the remainder of the year and into 2018. While we continue to see a broad market movement to value, the legislative environment has had a high degree of uncertainty over the last 9 months, particularly around the exchanges, the future of CMMI and potential contraction in Medicaid. We remain bullish on the macro factors driving fundamental changes towards value. However, it's important that HHS and CMS begin to issue positioning statements on the continuation of current programs, stabilization of certain market segments and greater clarity on state-by-state flexibility in Medicaid so that providers can adequately develop clear growth plans for 2018 and 2019. It appears that Secretary Price and the broader team within HHS recognize the importance of settling in and providing clear directives to providers on a number of key issues, which should help to move the market forward with greater certainty and focus.

Third and finally, we're seeing growth in the pipeline with existing provider-owned plans that are looking for scale and enhanced performance as well as position ACOs that are looking for advanced capabilities and a financially aligned partner to enter into delegated risk arrangements. In both of these segments, there is interest in Evolent not only providing the clinical platform and infrastructure but also being an aligned partner financially with skin in the game as these providers move towards risks. It's exciting to see our investment in an integrated infrastructure and depth in programs like Medicaid and duals opening up new segments and expanding what is already a large and growing market opportunity.

With that overview, I'll turn it over to our Chief Financial Officer, Nicky McGrane, to speak about our financial performance for the quarter.

Thanks, Frank, and good evening, everyone. Today, I will cover our financial results for the second quarter of 2017 and provide guidance on our outlook for the third quarter and remainder of the year.

Echoing Frank's comments, Q2 was another strong quarter for Evolent. For the quarter, adjusted revenue was $107.3 million, and adjusted EBITDA was negative $3.6 million. Adjusted revenue for the quarter represented an 89.9% growth from the same period of the prior year, while adjusted EBITDA increased $0.3 million from the prior year.

Adjusted loss available for Class A and Class B common shareholders was negative $8.8 million or negative $0.13 per share for the quarter, compared to negative $7.2 million or negative $0.12 per share for the same period of the prior year.

Finally, we ended the quarter with approximately 2.8 million lives on our platform as of June 30, an increase of 98% over the prior year. Now let's turn to a detailed review of our adjusted results for the quarter.

As a reminder, we derive our revenue from 2 sources: transformation and platform and operation services. Adjusted transformation revenue accounted for $5.3 million or 5% of total adjusted revenue for the quarter, representing a decrease of $5 million compared to the same quarter last year. As we have noted in the past, transformation revenue can fluctuate from quarter-to-quarter based on the timing of when contracts are executed, new and existing partners, the scope of delivery and the timing of work being performed.

I would also add that we are seeing some changes in our transformation business.

As we increase the level of product we are offering in the marketplace, the average transformation revenue from newly-added partner is coming down modestly. As a result, we would expect our quarterly transformation revenues to range between $6 million and $8 million in the back half of the year.

Adjusted platform and operations revenue accounted for $102 million or 95% of our total adjusted revenue for the second quarter, representing an increase of $55.8 million or 121% compared to the same quarter last year. The increase was driven primarily by a 98% increase in the number of lives in our platform from approximately 1.4 million as of June 30, 2016, to approximately 2.8 million as of June 30, 2017. The increase in lives in our platform was due primarily to the acquisitions of Valence Health and Aldera as well as the addition of new partners and growth in existing markets.

Our average PMPM fee for the quarter was $12.23 compared to $11.64 in the same period of the prior year.

Adjusted cost of revenue increased to $66.2 million or 61.6% of adjusted revenue for the second quarter, compared to $32.1 million or 56.9% of adjusted revenue in the same quarter of the prior year. The increase in expense year-over-year was due primarily to costs assumed from the acquisitions of Valence Health and Aldera as well as additional personnel cost and third-party support services across the organization.

Adjusted SG&A expenses increased to $44.7 million or 41.7% of adjusted revenue for the second quarter compared to $28.3 million or 50% of adjusted revenue in the same quarter the prior year. This increase in expense year-over-year was primarily related to costs we assumed from the acquisitions of Valence Health and Aldera. This is the sixth consecutive quarter where we've seen a decline in adjusted SG&A as a percent of adjusted revenue, and we continue to expect total adjusted SG&A expenses to decrease as a percentage of our total adjusted revenue over time.

Combined, our total adjusted cost of revenue and adjusted SG&A expense as a percentage of total adjusted revenue declined to 103.3% in the second quarter of 2017 compared to 106.9% in the same quarter of the prior year.

Adjusted depreciation and amortization expense in the quarter were $4.5 million or 4.2% of adjusted revenue compared to $3.6 million or 6.4% of adjusted revenue in the same quarter of the prior year. The increase was due primarily to the depreciation and amortization assumed as part of the acquisitions we completed in 2016. We expect adjusted depreciation and amortization expense to increase in future periods as additional software assets are placed in service.

As of August 6, 2017, there were 65.8 million shares of our Class A common stock outstanding and 2.7 million shares of our Class B common stock outstanding.

Our balance sheet remains strong with $124 million of combined cash, cash equivalents and investments as of June 30, 2017. For the quarter, cash used in operations was $10.1 million, cash provided by investing activities was $3.3 million, and cash provided by financing activities was $2.5 million.

Now on to guidance. The following comments are intended to fall under the safe harbor provisions outlined at the beginning of the call and are based on preliminary assumptions, which are subject to change over time. For the third quarter, we are forecasting adjusted revenue to be in the range of $103 million to $105 million and adjusted EBITDA to be approximately breakeven. For the full year, we expect adjusted revenue to be in the range of $424 million to $428 million and adjusted EBITDA to be in the range of approximately negative $8 million to negative $4 million. In summary, the first half of 2017 was a strong period for Evolent that has kept us on track for our goals for the remainder and entirety of the year.

This concludes the financial summary, and I'll now turn things back over to Frank.

Thanks, Nicky. I want to close with a few updates on product development, and then we'll take your questions.

As I mentioned earlier today, a key differentiator at our stage of operations is having a single infrastructure that can impact a wide range of diverse populations. One insight that we've developed over time is that retroactively trying to manage the highest-cost spenders of this year is not necessarily the key to creating clinical and financial performance in the future. The predictive model and clinical rules engine of Identifi is built to assist with workflow for patients who are obviously in need of care and also those whose cost and quality we can impact next year. Having cutting edge predictive modeling of this kind helps our partners identify and target patients that might not even seem sick today but who've left without intervention would result in millions of avoidable medical spend in the coming year.

In a retrospective analysis of a leading health system using our technology to stratify complex patients, we looked at about 100 cases that met our criteria but were closed by the system staff because they were deemed inappropriate for care management. Within 6 months, 90 of those 100 patients were admitted to the hospital unexpectedly, resulting in more than $1 million in costs and demonstrating the predictive value of Identifi. As the industry learns to trust new data and leverage the power of best-in-class technology alongside a clinician's intuition, we will be able to create meaningful savings in avoidable medical expense and unnecessary hospitalization. A provider-led environment can be even more impactful because of the availability of robust data sets to enhance predictive accuracy as well as an engaged provider community to intervene effectively with patients.

In closing, we're pleased with our results for the second quarter and remain focused on achieving our strategic and financial objectives in 2017. We remain focused on delivering operationally and clinically for our current partners, moving past breakeven in Q3 and continuing to scale the business financially and working to close out some important pursuits in the remaining months of this year to expand the Evolent network and set up 2018 and beyond.

Thank you for participating in this evening's call, and we're now happy to take your questions.

(Operator Instructions) And our first question comes from Robert Jones of Goldman Sachs.

This is Adam Noble in for Bob. I just wanted to talk a little bit about the revenue guidance for this year. You guys are guiding towards a sequential drop in revenue next quarter versus this quarter. I just wanted to get a sense if that's more from some lives maybe coming off the platform or decline in PMPM rates. I just want to get a little more clarity on how we should be thinking about the back half from a top line standpoint.

Yes, Adam, I'll take that one, and Nicky can obviously add. I think as we mentioned earlier and as you're probably aware, we do have some onetime payments that come in across the year, so we have a number of gain-sharing arrangements, different fees that might come in during implementation periods and things like that. So you'll see some mild fluctuations from quarter-to-quarter, but it's really what we expected at the beginning of the year when we set our guidance. Nicky, feel free to add.

Yes, Adam, I would just say, I mean, I think the way we think about the world is we guided $103 million to $105 million for Q2, we came in at $107 million. I think in any given quarter, there's $1 million or $2 million that can come in over the course of a quarter. We tried to guide to the revenue we feel the strongest about, and then we've -- if you look at Q1 and Q2, we've come in, in a very consistent fashion. The full year guidance at $424 million to $428 million implies what we've said all along, relatively flat first 3 quarters, tick up in Q4. So it's very similar, Adam. I think it's just that, Frank -- there's some pass-through and other revenue in Q2. But I think within range, we sort of see this as sequentially -- flat sequential Q1 to Q3, which is what we said at the outset of the year. And the guidance just makes sure that we deliver what we say.

Got you. And I think it makes a lot of sense. And just wanted to ask around your comments around transformation revenue. I was just hoping you can go into a little bit more detail on the comment you made about the lower transformation revenues moving forward because of the product -- because of different types of products. Is that simply that you're seeing some clients start with smaller footprints or basically, have you guys done a lot of work on the product side so implementations themselves are a lot quicker and therefore less costly to the client?

There's a couple of different pieces to it, Adam. I would say, what we're referring to specifically is when we look at the mix, you look at last year and into this year, some of the bigger pieces, Passport or MDWise, some of the big pieces of business we've brought on, because they're more mature products, their transformation revenue is a little bit lower, so you look at some of these -- the NextGen, RAF, some of these products, it's a more defined implementation. I think historically if you go back to the transformation revenue, there was Blueprint and long-duration implementations as we got more product offerings in the mix. What we're trying to say is the average revenue per added partner is a little lower, just sort of staying in the back half of this year based on what we're seeing, it's in the range of $6 million to $8 million. Obviously, that could change based on what comes in next year. But it was really -- listen, I think we are fundamentally trying to get people on the platform, and so we don't see this as a negative development. We're trying to move these folks through implementation and get them into a P&L phase. And so one of the advantages in the way of the productization is that we can do that more rapidly, bring someone on at the set -- at this point and beyond in the year and still have them up and running 1/1/18. So again, I think it's just an observation of what we're seeing, and I think as we've looked consistently, folks have had a slightly higher transformation revenues in a quarterly basis and just sort of, at least for the next 2 quarters, just resetting to a slightly lower level. But I think from our perspective, it's not a bad issue -- it's not a bad movement.

Our next question comes from Stephanie Davis of JPMorgan.

How much of the '17 EBITDA guidance was driven by your expectations for a higher number of new wins this year than the recent trend? And how should we think about the ramp-up costs associated with each new win, depending on the kind of win it is?

I'll just answer quickly and again, Nicky can comment. But we did not assume -- really, if you think about the new organizations we bring on and timing for when they start, very little impact on '17. And again, even if we were at the higher end of the range, it really would not have much of an impact on '17 in most cases. So I would say, again, if you look at our numbers, we're on plan, we feel good about where we are. In terms of cost base, it's the same thing. Again, we are staffing up, particularly as we get towards the tail end of the year to serve new clients, particularly in the fourth quarter, we'll always have that balance of staffing up. And so you'll see some increased costs at that time but not a lot of costs at this point in the year.

All right. And just a follow-up on that, just with EBITDA breakeven on the horizon, could you provide any guidance on how to think about the ramp following the breakeven period?

I think, Stephanie -- this is Nicky. I mean, if you look at what's implied when we give the full year guidance, there's -- we go from a breakeven point of view in Q3 to kind of a modest EBITDA, mid-single digits EBITDA, low to mid-single digits EBITDA in Q4. Some of that has to do with what Frank talked about in terms of just Q4 setting up to next year. But I think we just wanted to be thoughtful about Q4 guidance, and then, obviously, as we move towards next year, with the growth implied next year, that's where you'll start to see the ramp more than in Q4 specifically.

Our next question comes from Jamie Stockton of Wells Fargo.

I guess, Frank, maybe the first one, there's been a lot of commentary about the NextGen Medicare ACO program and kind of the 2018 Class and how it's driven a lot of conversations. When do health systems really have to make a decision if they're going to participate in that?

Yes. With NextGen, it is a phased decision process. So there's an early application that happens at the beginning part of the year. They then receive indication, were they accepted in the program. There's been a preparatory period where more data is shared and where a lot of the organizations we work frankly make a commitment, which is really in the fourth quarter, as to whether they're going to participate. There is a point at the beginning of next year where organizations can decide to not participate once the final data and information comes through. I believe if you look at all the organizations for instance we have in this year's class, all of them continued once they had committed in the fourth quarter. So I think we'll have very good visibility in the fourth quarter. There is the possibility that an organization could decide at the beginning of next year, for some reason, the benchmark data that they don't want to move forward, but we should have good visibility by the fourth quarter.

Okay, that's great. And then Nicky, just sequentially, as we think about getting to the breakeven level for EBITDA. I'm assuming that the real leverage is going to come from lower cost of revenue. But we just love to hear your thoughts sequentially on how expenses should flow.

Yes, Jamie, it's a bit of both. I mean, I would say, as we look at Q3, and again, I would say we think about it as relatively flat revenue versus Q2, we talked about this at the outset of the year. We went from 2 million lives at the end of '16. By the end of Q1, at 2.8 million and sort of flattish year in Q2. But that was obviously a significant ramp with a large number of clients. So as we look with those new clients up and running and stabilized, there is some contract revenue that we can take out of this system that we had put in place to ensure that we were meeting our deliverables. So to your point, a portion of it is on the cost of revenue side. I would say there's just operating discipline on the SG&A side, some continued integration of the acquisitions. So it's balanced, I think you're instinct is right. It's a little -- slightly more of it cost of revenue than SG&A, but both factors are contributing to the breakeven drive here in Q3.

Our next question comes from Ryan Daniels of William Blair.

Frank, let me address this one to you. If we think about your same client growth expectations for 2018, the 5 new accounts that you've already signed and planned there and then the cross-selling of Passport, TPA services, what kind of visibility do you have at this point into your '18 goal of at least 30% organic sales growth?

Yes. I would say at this time of the year, we still got a lot of work to do in setting up 2018. If you think about it, for a lot of our current clients, they're still making decisions in terms of new populations that they might pursue. We're still in discussions around delegated risk arrangements. In some cases, we're having broader discussions, our initial partners or at the renewal point. And obviously, we're talking broadly about the relationship and how we want to structure it going forward. On the new business side, there's -- it depends on the client, but there are always timing aspects to when are we actually going to get through the early implementation period, are we going to be on cycle if there's a payer involved or a state government on the Medicaid side. So I would say right now, we feel good about the fact that we have 5 new partners. We feel like we're adding a lot of value across our existing client base. We're having very positive discussions in the market in terms of the new pipeline, but we've still got a lot of work to do in setting up 2018. And traditionally, in the August time period, I would say we probably have the least amount of visibility going into a new year just given all of those factors.

Okay. That's helpful color. And I know you can't talk about the secondary offering, but maybe more broadly with cash on the balance sheet, is that typically, in your view, going to be allocated towards more M&A activity? Or with you partnering with MDs that want to see a little bit more skin in the game, is it kind of a credibility issue to increase your cash on the balance sheet whether you spend that or not? Just any broader color not related to the deal.

Ryan, obviously, we'd love to talk about it in more detail, but I worry a little about getting on a slippery slope and starting to talk about it. So my preference on the call, as I said upfront, is for us not to discuss it or imply what the uses of capital might be. But obviously, we'll discuss in more detail at the appropriate time.

Okay. And then Nicky, maybe one for you, a follow-up on the last transaction revenue in the second half of the year. Obviously, that's a good thing because it's one-time versus the recurring revenue. I'm curious though what the impact of that specific revenue mix shift would be on margins. Is that somewhat augmented the margins, given that I know a lot of the development activity is kind of a breakeven to drive business development?

No. I mean, we -- that piece of the business has always been relatively consistent with margin on the core business. So no, I mean, I think as you can see in the numbers we gave, we're not moving off anything, even as we talk about slightly lower transformation revenue. So it's not a negative margin mix hit to us in the back half of the year, pretty consistent.

Okay, great. And then final one, and I'll hop off. I think Crystal Health is the first initial client you've signed with both the TPA services and population health in a bundle. I know you've done cross-sells like Passport. But one, is that the case? And number two, are you seeing more interest in the pipeline for these aggregated services versus simply one or the other?

Yes, Ryan, I think you're correct that Crystal Run is the first upfront, where we've combined the Valence TPA, along with our population health services. Part of the reason we made the investment is because we thought there was going to be an opportunity to have an integrated offering and be able to talk about the benefits of TPA, Identifi, clinical, all working together in an integrated fashion. So we do have more of those in the pipeline currently, and I think we'll see more as we get into 2018 given some of the trends we're seeing in the market.

Our next question comes from Matthew Gillmor of Robert Baird.

Just had a couple of follow-ups here. So on the Crystal Run announcement, can you maybe give us a sense for how many members are in the Medicaid and commercial health plans that will be supported in the TPA versus the ACO members that I think were mentioned in the press release? If there's any difference there, I'd be curious. And then as a follow-up to that, are the scope of services on the TPA side, are those similar to what's planned for Passport? Or is there any sort of difference in how we think about the services you'll be providing to Crystal Run?

I mean, I think there'd be some slight differences. Passport is obviously a very large health plan, large number of lives, large geographic area that it's covering very large number of providers and been in the market for a long time, so there is a slightly different service mix. You are correct with Crystal Run, we're doing both the TPA piece as well as the early implementation phases of our clinical programs, population health, more broadly and as well, deploying Identifi. In terms of lives, initially, we're starting somewhere between 10,000 and 15,000 lives, so it's actually reasonably small out of the gates. If you look at the population area that the practices sit in, it's probably close to 1 million lives in that geographic area. And if we look at the broader plans of Crystal Run and what they're trying to accomplish, we see a lot of potential growth, both in Medicaid and commercial and potentially some other product lines down the road. So really excited about it. They have a great reputation, were one of the early ACO participants and very highly regarded and pretty aggressive in terms of what they ultimately want to do in Medicaid and beyond. So a great win for us, and we're excited to begin working with them.

Okay. And then, Frank, this is probably for you, too, and I wanted to ask about the pipeline again. And I appreciate the comments you've made about where you're seeing the activity. I was curious if there's also any observations you have about the mix between established organizations, like a Passport, which are obviously a little bit more chunky from a revenue standpoint compared to organizations that are a little bit more organic and provide for a longer tail of growth. So I was curious if there's any trend in the pipeline around that mix.

Yes, a good question. I would say relative to historical, our pipeline is probably more of a barbell than it has been traditionally, not dramatically but slightly so. And what I mean by that is we have some very large potential opportunities in the pipeline that represent a lot of lives and fairly significant revenues potentially right out of the gates, and I'd say we have several that we're working on at this very moment that we're quite excited about. And then on the other end, if you think about our NextGen cohort, we're starting with, as an example, a very specific group of lives in one program and, again, believe we can cross-sell and build on that early population. But we have a number of those types of opportunities, which are sub -- usually sub $10 million on an annual basis. So really good chunks of revenue for us and, again, incredible expansion potential over time. But I would say right now, the pipeline is probably bifurcated in that way. I can't really say why, but that's where it sits today, still broad and deep and a lot out there for us, but that's probably a little bit of a difference versus maybe a year ago at this time.

Our next question comes from David Larsen of Leerink Partners.

Can you talk a bit about the Valence integration? How is that progressing? And any thoughts around potentially transferring lives from the UPMC platform over to Valence, and could that ultimately improve the overall cost structure and margins?

Yes. I would say the Valence integration has gone extremely well. Early on in the process, Steve Wigginton, who's one of our senior executives here essentially moved to Chicago, not quite. But he's been there Monday through Friday since the day we closed the transaction. There's a very strong team in Chicago. I think we worked very hard out of the gates just to understand where the business was, where are some areas we could make some improvements, make sure we were shoring up all the client relationships. They'd had a tremendous amount of growth. If you look at Cook County, MDWise, potentially bringing on Passport towards the tail end of this year. So incredible growth, and I would say the team has done an excellent job. And I feel, culturally, there's a lot of alignment. As Nicky said, I don't think in the early period, we took advantage of all of the efficiencies and cost synergies simply because we had so much growth that we needed to manage, and we obviously wanted to start those off on a very strong track. But I would say right now, we feel very good about where Valence sits, its ability to accommodate our growth, the ability to cross-sell as we talked about earlier, so it feels like a very good investment. In terms of UPMC, as all of you are aware, UPMC has been a great partner for us. They've served our clients at a very high standard. We did look at the TPA aspect of what they were doing, and we recognize that long term, we could potentially get better margins if we were in-sourcing that function. That's obviously true with the new business that we've brought on and will be true going forward. Some of our legacy clients that are on the Medicare side we're still going to live on the UPMC platform for the time being. We will, over time, build out that capability with Valence and eventually move those lives over. But UPMC has done a great job. We've got happy partners there, and for now, we're continuing on that platform in Medicare until we feel comfortable moving those lives over.

Our next question comes from Steve Halper of Cantor Fitzgerald.

Just relative to the legislative comments. Do you feel like there's a pause in the marketplace, and that might prevent you from hitting some of the objectives for the rest of the year and into 2018? Or is it sort of the same sort of aspect as what we've been looking at for the last year or so in terms of the legislative uncertainty?

Yes. I think in terms of my broad feelings about current environment, pipeline, et cetera, as we mentioned, I feel great about the fact we brought on 5 partners this year. I think we've got a very good pipeline. The broader market need that we've articulated feels robust. I mean, this is a very large market. It is moving forward, and we're in a great position. I think my commentary is specific to uncertainty in any business. And I want to give you an example. I mean, one thing we had a lot of excitement around is NextGen. And given our success this year or success with the provider last year, we've got a lot of market interest right now from several health systems. At the same time, there really hasn't been a comment from CMS on whether that program is going to continue beyond next year. And there's not a great amount of visibility as to is that program going to be altered in some way, is it going to be continued, where does it stand vis-à-vis Medicare Advantage. And same goes with some of the discussions at the national level on Medicaid. So I think my broader point is we're fine wherever CMS comes out on a lot of these topics. I just think for planning purposes, for a lot of health systems, we've seen a lot of frustration in their ability to make sound investment decisions when they don't know exactly where the government is coming out on these issues. So again, feel good about where we are, feel very good about the pipeline and hopeful there will be some clearer statements, that's what we've heard, from HHS and CMS as to some guidance as to some of these programs, particularly in Medicare and Medicaid, there's obviously the individual market and stabilization there. So for now, my hope is that we'll get that clarity, and I think things would continue as normal if we have prolonged uncertainty around some of those programs and again, makes it difficult for providers to make decisions, then I think it might impact our business in some way. Again, hard to speculate, and right now, I feel very good about the pipeline, but it's definitely possible.

Our next question comes from Mohan Naidu of Oppenheimer.

Frank, along the same lines, you've commented every year that the relative stability in the regulatory environment might be good for you. I mean, is that, I guess, the post ACA repeal defeat, I guess, is that a -- is that creating more conversations with your prospects? Or do you expect to see an acceleration in decision-making from your pipeline?

That's -- I mean, I think it's a very good question, and that's what I am hopeful about. I'm hoping that this vote in the Senate and hopefully, some finality, at least for the short-to-medium term, begins to allow us to say, look, here's what we know for the next 6 to 12 months, or next 12 to 18 months. We don't have to have perfect clarity, but at least, some stakes we can put in the ground on what's likely to happen. So yes, I think if things stand in this direction. If the secretary puts out same basic statements around their views, around some of the topics that I mentioned, and just give some guidance to providers about where we're headed across the next 6 to 12 months, I think incredibly helpful to our conversations, obviously, to Boards of Directors that are making pretty significant investment decisions, that they have some clarity there. Right now, that's where we think things are headed. If for some reason, again, you see a lot of legislative tug-of-war or statements that are sort of shedding doubt on some of the program areas, then in certain places, you might see providers saying, God, we're not sure, should we jump into NextGen, or should we make this particular investment on the Medicaid side. And so again what we're hoping for and what we've heard is that we'll hear some substantial commentary in the coming 30 to 60 days, and I think that will be quite helpful.

That's great. That is really helpful. Nicky, one clarification. On the transformation revenue, the $68 million, I guess, guidance that you talked about, that's only for the next couple of quarters, right?

Correct.

Our next question comes from Charles Rhyee of Cowen and Company.

Frank, just to kind of follow up on that last -- your last comments there. Do you think that -- do you think the Senate needs to first make a decision? Does the CMS or the Congress have to make a decision first around stabilizing the insurance market before they can move on to guidance around payment models? Or can they be done sort of concurrently? Or are they not linked?

I think they can be done concurrently. I really think there -- I mean, of course, all of this is interrelated, but for practical purposes, I think there really are a separate set of decisions. CMS has a number of programs which they currently have in place, right? There are a number of states that have Medicaid programs in place or plans to move in certain directions. I think just clarity around certain decisions relative to those programs would be helpful. And again, these don't have to be precise declarative statements, but general guidance on yes, we're supporting CMMI and in general, we're bullish on some form of NextGen going forward. I mean, those kinds of comments would be very helpful, but I don't think they have to be done in a particular order.

Okay, that's helpful. And you made earlier comments in your prepared comments around you can do -- see more skin in the game. Was that a reference to you taking more risk or in terms of more gain-sharing in terms of the types of contracts that you are looking at?

Yes. I think what we've seen is that providers really prefer when we have some skin in the game and we feel truly aligned. I think it changes the nature of the relationship, and frankly, when we do that, we can be more directive about what we require of the partner to drive performance. And I think increasingly, in our business, we are looking for situations where we can participate as an aligned partner and drive very specific actions in terms of how they're ultimately operating their risk business, how they're thinking about a number of decisions relative to it. Because we think in doing that, one, it changes the nature of the relationship, it makes it feel longer term in nature and, in some cases, perpetual; and then it enables us to drive performance because we're able to control many more levers than if we're just in a pure service relationship. We do feel that's really important because, as many of you know, this is hard stuff and you got to get all the decisions right. How you price products, what the benefit design is, how you think about physician compensation and network composition, how you think about site of service, all of those issues. And increasingly, we believe that if our customers are going to be successful and we're going to be successful long term, we want to be at the table participating in those decisions and structuring our relationships in a way that allows us to do that.

And just to clarify, when you're talking about providers in this case, are you also including sort of health systems? Or is this distinct from health systems? Or if it's combined. Is that -- can you talk about how the contracting kind of starting to shape up in terms of taking a little more risk in terms of larger health systems or health plans?

Yes. I would say honestly, across the board. I mean, I just, I think we've learned a lot in our first 6 years in the market, and we really feel that we want to be in relationships, as I said, that are aligned. And that's with health systems, that's with physician organizations, that's with provider-owned health plans. If you think about our relationship with Passport as an example, we made an upfront investment in a Medicaid Center of Excellence, in sort of jointly doing something nationally with them, which demonstrated we were committed to their markets, and we were committed, frankly, to investments in Medicaid. And as a result, we have a very aligned relationship with them. One, it's a long-term arrangement, so the initial term was 10 years in length. We do have some of our fees at risk in that relationship, and they really look at us, in some ways -- while we are separate entities, they look at us as a co-owner. And I just think in places where we can create alignment through direct investments, through putting fees at risk, through then being able to sit down at the table and say, okay, now that we are "co-owners" together, here's how we want to operate and what we need to do to be successful and get that commitment upfront and again, get away to work together where we really have joint governance and we're able to drive the decisions we think are important for performance. So I think you'll see that orientation. That's not to say we wouldn't have some traditional deals that we might do that are more service-heavy. But strategically, I think we're looking to move in that direction.

And Nicky, just one last thing. I don't know if you mentioned it. Can you just give us, at this time, sort of total number of P&L clients that you have contracted either live or in the backlog versus how many are currently live?

At this point, just given the number, Charles, what we say publicly, as you know, more than 25 customers. But we don't break it out in terms of exact number that we're on live versus -- in the old days, that was a relatively small number, we did that. But today, we just talked about more than 25 customers active on the P&L platform today. And then, obviously, some of the ones we signed are not active, that gives you some sense of it, but we don't break it out specifically.

Our next question comes from Sean Dodge of Jefferies.

Maybe just one from me. Frank, on your existing client agreements, I know in the past you've gotten a request to renegotiate the terms of some of those. Can you maybe talk a little about what has precipitated or led up to those historically and maybe what the typical outcomes have been?

Sure. What I would say is if you imagine you've been working with someone for several years, their business has changed over that time. So they may be in multiple populations. There's lots of things that have happened across that period. Usually, what we're doing is we're stepping back and evaluating the totality of the relationship. What can be enhanced? Or what can we improve? What can they improve on their end -- in terms of coordination, in terms of efficiency? What's the appropriate service mix given their growth plans? So are they heavily investing in the value business? Are they extending paths? In every situation, I think the good news is we've added substantial value, and we put a lot of work in to documenting and demonstrating that. So I think we've come into those discussions from a position of strength. If you look at Valence, as an example, they tend to have shorter-term agreements, in general, had been very successful at renewing a very high proportion of their relationships and keeping them largely intact. So I think they've had very strong history there. On our end, because our agreements were pretty long in length, we haven't had a lot of history on renewal. We have had periods where based on things that happened across our relationship where we might add lives or services as we have with Passport and many other clients. And we might have situations, and if you think of WakeMed, a client that was under some financial pressure because of the nature of their shared savings agreements, where we restructured the relationship. The good news is we've added a tremendous amount of value, and they've been very successful across last year in their delegated risk arrangements, and so I think we're in a really good place. But what we try to do is be a good partner and understand how we can support the client with their objectives. We're obviously trying to balance everything from the clients, how this fits strategically with what we're doing. We're very profitability focused, so that's something that's very important. Given our commitment to get past breakeven and to continue to ramp and demonstrate financial scalability in the business, we've got to be very disciplined about how we price, what we can do and what we can't. And so I do think you're going to see some situations where we increase the relationship, we're doing more services, we're expanding. And you can see that in -- with a number of our clients. And frankly, we'll have some situations where they're taking some services back in. And we're actually at a lower position of revenues but potentially higher profitability based on how we set up the arrangement. And it's going to be client-by-client, and we obviously are trying to balance multiple factors, but that's really how the process goes.

Okay. Are those renewals or negotiations, are those kind of your best opportunity to get in front of the client and cross-sell more stuff? Or is that something that I'd imagine maybe you're doing every day?

Yes. I would say much better that we're doing that across our service term, first of all, that we've got regular communication processes, we're doing quarterly value meetings with the board and CEO. We're really thinking through ways that we can enhance what we're doing under the current contract, ways we can support them. And then we're also looking for opportunities where we know we can add additional value. When you get in the renewal conversation as you suggest, that could be a great opportunity to do that. But you also don't want to be overselling during a renewal period. I mean, you want to make sure it feels very service-oriented, that you're being responsive. And so we're careful during that phase that we're doing a lot of listening and appropriate responding and not overselling in those moments. And yet, as you suggest, sometimes additional service opportunities come out of those conversations.

Our next question comes from Richard Close of Canaccord Genuity.

I wanted to circle back on the EBITDA guidance. Nicky, on the top end of guidance moving from breakeven for the year now to the negative $4 million. I guess I'm not -- I don't fully understand what changed from exiting the first quarter to the second quarter. So if you could give any details there. Is it a ramp-up expectation of one of these large deals that are in the pipeline that Frank mentioned? Or anything specific would be helpful.

Fair question, Richard. I would just say, I mean, I think the math, as we looked across back couple of quarters, at some point, you're right at a runway to sort of get all the way down to full year breakeven. It was ambitious, I would say, in some regards. But coming out of the first half of the year, just a little over negative $8 million in EBITDA, which have meant Q3 being breakeven, so it would have implied a very significant number in the back half of the year. It's not like Q4 -- there's something softer about Q4. It's just we had a couple of shots on goal across the back half of the year, and we said -- as we look at where we're setting up now, it just didn't make sense to have people thinking there was an $8 million EBITDA fourth quarter out there. So we trimmed the fourth quarter. So again, I think just as I said, trimming the estimates more than some big move in our mind, I understand how you're looking at it. But it was more just -- it's not like there was some -- I mean, to Frank's earlier comments of a question of how much this new business impact this year, that -- it's not like some big deal we're going to win to really going to be a big '17 contributor. So it's more about just kind of a couple of million bucks either way, and so we just trimmed it to make sure that we didn't -- people didn't get out ahead of -- with unrealistic expectations for the fourth quarter.

Okay, that's helpful. And then Frank, when you were talking about the 5 to 7 new customers in the pipeline discussion, you said something along the lines of new market initiatives, I believe. And I'm just curious, does that mean new product areas, new service areas? Is there something that you'd see developing over the next couple of years from a new product or service offering?

Yes. I mean, obviously, we're constantly scanning the market for services that we can be hooking onto our platform that can add value for clients that we can potentially sell across what is now a large growing network that will help hope our partners deliver in their value-based businesses. So that's one category. The addition of our PBM, of risk adjustment, are examples where we saw an opportunity to add something that we think is quite important and has a tremendous market opportunity. Also new segments, I mentioned, if you go back several years ago, we started working with health systems, and we haven't worked with that many physician organizations directly. We're now seeing that as a very important part of the market we want to serve. And we're also seeing a tremendous number of opportunities potentially to expand our work in certain segments. And then lastly, I mentioned that we are looking for situations where we can be aligned with our partners, where we can feel as if either through the way we've structured fees, some sort of upfront investment and working with our clients, that we are in a co-ownership position, at least in form. We think that's important, and we see a lot of opportunities for that in the market where providers actually want that type of support if they're considering making some pretty significant moves in their value-based businesses -- so I think that's really what I was referring to and it really is that full gamut of strategic choices that continue to position us as a market leader, continue to allow us to add value maximally for our clients and obviously contribute to growth long term.

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Frank Williams for any closing remarks.

Thank you for everyone participating in the call. We look forward to seeing a number of you on the conference circuit across the fall, and again, we appreciate everyone participating. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.