Maximus Inc (MMS) 2004 Q2 法說會逐字稿

Good day, everyone, and welcome to this MAXIMUS second-quarter conference call. Today's call is being recorded. For opening remarks and introductions, I would like to now turn the call over to the Director of Investor Relations, Ms. Lisa Miles. Ms. Miles, go ahead.

Good morning and thank you for joining us. On the call today is David Mastran, Chief Executive Officer; Rich Montoni, Chief Financial Officer, and Lynn Davenport, Chief Operating Officer is also present.

Before we begin, I would like to remind everybody that a number of statements being made today will be forward-looking in nature. Please remember that such statements are only predictions, and actual results or results may differ materially as a result of risks we face, including those discussed in Exhibit 99.1 of our SEC filings. We encourage you to review a summary of these risks in our 2003 10-K filed with the SEC on December 19, 2003. The Company does not assume any obligation to revise or update these forward-looking statements to reflect subsequent events or circumstances.

And with that, I will turn the call over to Rich Montoni, Chief Financial Officer.

Thank you, Lisa. This morning we reported second-quarter financial results of improved revenue and earnings per share, driven principally by our health and systems segments. Revenue for the second quarter totaled $150.7 million, a 9 percent increase over last quarter and a 15 percent increase over revenue of 130.7 million reported for the same period last year. Net income for the second quarter was 9.5 million or 43 cents per diluted share versus 9.1 million or 42 cents per diluted share recorded in the last quarter, and we have 6.9 million or 32 cents per share reported for the second quarter of fiscal 2003.

As noted in this morning's press release, we had certain non-recurring charges in the quarter as a result of the legal settlement and downsizing the Management Services business, both of which impacted the quarter. The total impact on diluted earnings per share in the second quarter was slightly over 2 cents. DSOs remained under 90 days at 88 days. We generated cash from operations of 5.6 million for the quarter and free cash flow of 2 million, and we ended the quarter with cash and cash equivalents of 138.4 million.

Segments. Let us move on into the quarterly results by business segments. In this section, I will also provide detail as to how we expect the segments to trend in the second half of fiscal 2004 versus the results in the first half of this year. In addition, at the end of my prepared comments, I will provide a summary of the drivers we expect will get us to the targeted range of $1.88 per diluted share.

Our Health Services segment. Revenue for the second quarter was 50.2 million, 27 percent increase over last year and a 22 percent increase over 41.4 million reported for the comparable period last year. As expected, revenue for the Health Services segment increased substantially as a result of commencing operations on the California Healthy Families project. We remain on track for recognizing revenue with this project of approximately 40 million in fiscal 2004. Our Health segment continues to generate solid reoccurring revenue and remains reasonably predictable as most of the contracts in this segment are long-term in nature.

For the second half of fiscal 2004, we expect continued revenue and profit growth from the Health segment when compared to the first half of the year. The growth in health is coming from new wins such as the federal TRICARE Quality Assurance work and the Center for Medicaid and Medicare Drug Discount card program. There are lots of opportunities in the Health segment, and the pipeline remains robust.

Our Human Services segment. Second-quarter revenue for this segment was 38.8 million, which is an 11 percent increase over 34.8 million recorded in the second quarter of last year, but down approximately $500,000 from the first quarter. We continue to make modest improvements in profitability in the Human Services segment, and once again income from operations improved sequentially to 2.1 million and an operating margin of 5.5 percent. The Human Services segment is dynamic with challenges and opportunities. It remains on target for continued improvement in net income for the remainder of the year. We anticipate that we will see growth in net income in the second half of 2004 compared to the first six months, largely attributed to continued improvement in work force services, some seasonality related to our tax credit business, and new work.

Financial Services segment. This segment had revenue of 17.6 million, which compares to 19.3 million for the first quarter and 17 million reported for the same period last year. Performance in the Financial Services practice has been strong over the last several quarters. However, since the majority of the work comes primarily from contingency-based contracts, it is the nature of this business to experience periodic fluctuations in its profitability.

Specifically, as we have discussed in the past, the accounting for contingency-based new work usually results in front-end expenses with no associated revenue with the expectation that subsequent returns will occur. We do expect growth in the net income for the Financial Services segment for the second half of the year versus the first half of fiscal 2004. Several new projects were in the startup mode or early phases in the first half of 2004 that are expected to gain momentum with increased profitability in the second half of the year. We also expect benefits from new work coming onstream in the school-based claiming area, some of which is in the form of extensions on existing work.

As discussed in the last call, we still anticipate operating margins will run in the mid-20s for this segment for fiscal 2004.

Management Services segment. Management Services segment revenue for the second quarter was down sequentially and on a year-over-year basis at $9.9 to $9.6 million. From an operating income perspective, there were non-recurring expenses that hit the P&L this quarter, impacting the quarter by slightly more than 2 cents per share. This includes a legal settlement and expenses to downsize the business. The steps taken over last six months, including reduced staffing levels to better aligned resources with backlog levels and redirected sales and marketing efforts, have helped stabilize these businesses. The next best step is to align the divisions within this segment with other businesses within the organization, and David Mastran will discuss this in greater detail later.

On an ongoing basis, we expect approved operating income from these businesses for the second half of the year when compared to the first half of fiscal 2004.

Systems segment. It had second-quarter revenue which increased 42 percent on a year-over-year basis to 34.5 million and 14 percent over the last quarter. The segment remains a solid performer, but as noted in the press release, variability in financial results is largely driven by project timing and license fees. We have some sizable projects winding down in the third quarter, which are expected to reduce the segments financial results in the third quarter. However, we anticipate that new work will pick up in the fourth quarter.

As a result, we expect that operating income for the Systems segment in the second half of fiscal 2004 will be lower when compared to operating income reported for the first six months of 2004.

Overall expenses and operating margin. Operating margin for the second fiscal quarter was 10.2 percent versus 10.7 percent reported last quarter and improved significantly over Operating margin of 8.4 percent in the second quarter last year. Excluding the non-recurring expenses taken during the second quarter, Operating income would have remained relatively consistent in the mid-10 percent range.

On Accounts Receivable and DSO metrics, we are pleased again that DSOs for this quarter were 88 days, and this is again less 90 days. The sequential increase in total AR of 10 percent to 146.2 million correlates with our increased revenue. Billed receivables increased by 9.3 million to 105.1 million, and unbilled receivables also increased by 3.7 million.

As discussed last quarter, the increase in the Company's unbilled receivables is primarily attributable to the product status of certain milestone billings in our Systems segment. This type of contract is common in the Systems business.

Our analysis of these larger contracts indicates this quarter's increase in unbilled should reverse in the June quarter. Again overall, the increase in AR is in line with our increased revenue for the second quarter.

Cash, stock repurchase activities, balance sheet related matters. The balance sheet remained strong and provides us with continued flexibility. We ended this quarter with 138.4 million in cash and cash equivalents. During the quarter, the Company used approximately 11.7 million in cash for the purchase of approximately 327,000 shares of common stock as part of our ongoing stock repurchase program. At March 31st, 2004, we had 43.5 million remaining available under the share repurchase program.

I want to take a minute and talk about what is going on at MAXIMUS from a Sarbanes-Oxley initiative perspective. We are all aware that within the area of corporate governance Sarbanes-Oxley requirements are of very very high interest. We have a September year-end as you know, and having a September year-end, we had been in the position of being first in line being required to report Sarbanes-Oxley. That would have been for this fiscal year ending September 30, 2004.

And based upon that previous requirement, we had planned and have been implementing a Sarbanes-Oxley compliance program. This program was developed with internal -- with our internal audit personnel, with our internal finance personnel, with the involvement of our audit committee. We received input from our external auditors. We also had input from external consultants. So quite a significant cadre of resources focused on this.

As you know, the rules have been changed to push back the timetable. Consequently, MAXIMUS is not required to comply until the year ended September 30, 2005. While this gave us a one-year relief, we decided to continue with our program, except for the external testing and reporting phase. Our thinking is that we had good momentum, and there are real benefits to be derived from the process. And as a result, we expect that by 9/30/04 we will be well down the path of Sarbanes-Oxley compliance and certainly well-positioned for formal external reporting compliance in fiscal 2005.

On guidance and forecasting. From a guidance perspective, earnings per share of approximately $1.88 is still where we expect to be for fiscal 2004. This would represent performance in the second half of the year of approximately 20 cents per share better than the first half of fiscal 2004. I share with you in my earlier remarks the dynamics occurring within our various segments, and we believe these segment dynamics constitute the drivers to accelerate the growth in the remainder of fiscal 2004.

To recap, we expect revenue and earnings growth in the second half of the year driven principally by the new work in the Financial Services and Health segments, continued improvements in operations in the Human Services segment, as well as businesses within the Management Services segment, also being expected to contribute. Or in summary, the improved profitability is expected from new work and a reduction of losses and improved operating results from existing work.

And with that, I will hand this call over to David Mastran.

Good morning and thanks again for joining us. Second-quarter revenues, as you heard, improved 15 percent to 150.7 million versus 130.7 million reported last year. Diluted EPS for the second quarter improved 34 percent to 43 cents from 32 cents reported last year. However, we want to acknowledge that the quarter and the prior year was depressed relative to expectations.

I would like to review the segment results with you. As Rich noted, year-over-year growth was largely attributable to increases in our Health and Systems segments. Our Health Operations group remains a solid source of predictable and recurring revenue. We see a tremendous amount of opportunity in the health market, and the pipeline for health relating contract services has never been stronger. The recent successes in the Health segment allow us to take our portfolio upstream, targeting larger opportunities at the state and federal levels, as well as abroad.

Our Systems segment benefited from several large projects that were won in fiscal 2003. This segment delivered a higher level of revenue in the second quarter versus last year. Some of the projects, however, will be winding down, and as a result, we anticipate a decrease for the Systems segment next quarter, which is the nature of the business. However, there are still a number of significant large opportunities in our pipeline that point to continued growth.

The Human Services segment experienced notable improvement in both revenue and profitability over last year. However, this segment has both significant challenges in terms of competition and major opportunities being presented as Rich noted. Consequently we will remain focused on this segment with the goal of sustaining and improving its performance.

The Financial Services segment is in startup mode on several large projects. We expect to see the benefits from these startups beginning in the third quarter and going into the fourth quarter. While there is some uncertainty over their contribution because of the nature of contingency-based work, this segment has major potential. In fact, we have recently been notified of another RevMAX award in a very large state where we are already doing a significant amount of work in child welfare.

As we discussed last quarter, the majority of our segments are improving as expected. However, the Management Services segment has been an underperformer for several quarters now. Over the last six months, we have placed considerable focus on assessing these operations with the goal of improving performance and identifying longer-term synergies with other business segments. We have taken steps to improve these operations, and we have seen a stabilization of staffing and a significant reduction in losses.

We believe to realize additional improvement we need to integrate these lines of business into other complementary divisions within our organization. So effective April 1st, we dismantled the Management Services segment of MAXIMUS and reassigned its business operation to other segments that have similar product offerings or where synergies can be realized. Combining the Asset Services and the Asset Solutions division best exemplifies this strategy. In this case, we rolled all of our asset products and capabilities into a single division. Since many of the larger governments have now complied with accounting for fixed assets, we have reoriented the staff that had previously focused on GASB 34, 35 consulting work and turned their efforts toward selling annual appraisal services and also to marketing our proprietary AssetMAX software solution, a capital asset tracking solution for government agencies.

AssetMAX is complementary to our other asset software product. As such, we believe we can create valuable cross-selling opportunities by combining these two divisions into a single asset management division.

Our Human Capital update. As indicated last quarter, we are engaged in a major upgrade of the Human Capital function at MAXIMUS. We have been conducting a vigorous search program for the last several months to fill key positions in our line executive management team, as well as the Chief of Human Capital. We have identified several excellent candidates for four positions at the division and group president level within MAXIMUS. We expect the position to be filled within the next couple of months.

The first position filled was our new Group President of Financial Services. Robert Moul joined MAXIMUS last week and is working first with our RevMAX division. Bob recently led a $250 million higher education business for SCT Corporation before the company was bought by SunGard. He also spent many years with EDS, and we are very pleased to have him.

We believe this new injection of talent will give MAXIMUS a significant boost in our ability to capitalize the market opportunities.

Moving on, I would like to update you on certain past acquisitions. Our Australian operation remains on track for continued improvement in profitability and is now operating near breakeven. The recent appointment of Michael Hobday as CEO down under to lead these operations will accelerate the implementation of several initiatives. These initiatives will improve profitability through better service, reduced costs and increased outreach efforts and relationship building. Michael comes to MAXIMUS with over 23 years experience working with state and federal government in Australia. He is another welcome addition to our leadership team.

In Canada, our acquisition of Themis at the beginning of fiscal 2003 has proven to be a very positive strategic step. It expanded our footprint in North America and positioned MAXIMUS to offer our portfolio of services in Canada. Themis has been successfully operating the family maintenance enforcement program in the Providence of British Columbia for nearly 15 years on an outsourcing basis. This experience, coupled with our extensive health service experience in the U.S., put MAXIMUS in an excellent position to pursue a major health care contract in British Columbia.

Following an extensive five-month competitive procurement process, MAXIMUS was selected to enter contract negotiations by the British Columbia Ministry of Health Services to implement certain health benefit administrative services. The scope of work is expected to include beneficiary registration and eligibility determination based on policies established by the Ministry of Health Services, maintenance of registration, premium assistance eligibility determination, provider enrollment maintenance, and medical and pharmacy claims processing. We are currently in the process of negotiating the terms of the agreement and cannot comment on specific revenue contribution from this opportunity. But to give you some idea of the scale, however, this operation is likely to involve close to 200 staff.

We have included the estimated value of this contract over an assumed six-year period in the pipeline category of contracts awarded but unsigned. Though no award has technically been made, we are the only vendor invited to negotiate.

Revenue contribution for this project is not expected to begin until fiscal 2005, and the startup costs will have to be amortized over five years. Upon execution of the contract, should negotiations be successful, we will provide additional details on the terms.

MAXIMUS has the potential to increase our presence in Canada as a result of this initiative. We believe we will have the critical mass necessary in the Canadian market to pursue a wide range of new business opportunities in health care and other verticals.

In terms of other wins during the second quarter, we also announced wins on three new SchoolMAX contracts. The cities of Albuquerque, Birmingham and Freemont, California will all use the Web-based system to manage student information. They join 80 other school districts throughout the country relying on SchoolMAX. The combined value of these contracts is about 8 million.

After the quarter closed, we announced $5.4 million contract with the federal Centers for Medicare and Medicaid services to administrator a component of the new Medicare Prescription Drug Discount card program. Our role is to process appeals by beneficiaries and eligibility and subsidy level determinations. The government reported recently that the program is showing a 10 to 17 percent savings for brand-name drugs off national average retail pharmacy prices. So the program looks like it's going to be successful.

We also announced wins of three school-based claiming contracts with the Arizona Health Care Cost Containment System, the Kentucky Department of Education, and the Michigan Department of Management and Budget, totaling an estimated 13.3 million in combined value.

In terms of rebids year-to-date, we won a large rebid and a key extension. We successfully rebid a two-year work force services contract in Wisconsin valued at 36 million, and we secured an extension on the Texas enrollment broker contract, which is 23 million over eight months with additional options.

We lost the rebid on our Child Support Enforcement division in Nashville to a lower price competitor, but the award is now under protest. The state of Hawaii also brought back in house a 2.25 million work force services contract for budget reasons. So some states are still curtailing services due to budget problems. Despite these setbacks, we still see growth.

MAXIMUS has numerous contracts with option years coming up in fiscal 2004. We have been successful in securing options on eight contracts with a combined value of 79 million. We still have seven contracts with option year decisions due 2004 with a combined value of approximately 64 million, and we remained optimistic on our prospects.

In terms of our pipeline, our pipeline remains healthy with new opportunities in all stages of development. As of April 29th, year-to-date signed contract wins totaled 219 million compared to 238 million for the same period last year. The value of new contracts awarded but not signed was 242 million. You recall that these contracts are very likely to be signed but are in negotiations or in a protests wait period. The amount awarded and not signed is considerably below the 540 million reported last year, but that amount included the $418 million Healthy Families contract.

Total sales opportunities before us increased to 1.2 billion. These opportunities include proposals pending with the government for 490 million, proposals in process of preparation for 127 million, and RFP tracking with no proposal yet submitted for 673 million. We have many exciting potential new business opportunities represented in this pipeline, including a contract to help the federal government disclose a surplus property and the up and coming Transportation Security Agency TWIC program.

Capital Cities update. I would also like to update you on our Capital Cities state sales and marketing programs that we introduced last year. This program redefines the way that MAXIMUS develops and pursues new business at the state-level in all our major markets. The program provides us with a better opportunity to highlight our capabilities across all product lines and maintain a presence in the state.

Through the Capital Cities program, we are developing a focused, prioritized and coordinated marketing approach using dedicated sales and marketing personnel develop and pursue new opportunities. This approach is more proactive and seeks to address the highest priorities of the state. Our sales and marketing professionals are tasked to focus on the big picture and build a plan for MAXIMUS in the respective geographic area and bring the company to market.

The program has been underway for less than a year and is already gaining traction. As a result of the growing Capital Cities team, we have identified many new contract opportunities across a broad range of practice areas including child welfare, correctional services, asset solutions, justice solutions and health systems. We will continue to add personnel to support this effort in the coming months with an emphasis on growing in specific geographic areas.

In conclusion, as Rich discussed, we remain comfortable with an estimate of approximately $1.88 per diluted share for fiscal 2004, and we do expect a sequential increase in revenue and EPS for the third and fourth quarters. Most of our business segments are hitting on all cylinders and continue to build robust pipelines. We continue to push forward with initiatives to improve profitability in underperforming businesses. Our healthy balance sheet gives us lots of flexibility in pursuing new larger opportunities, as well as strategic acquisitions that complement our current business.

We are benefiting from investments we have made over the last several quarters and new sales and marketing programs. We also are excited about bringing a new cadre of senior management talent that will help us grow into the future. I remain optimistic and confident in our continued ability to deliver to shareholders improving results and increasing profitability.

With that, I would like to open the call to questions.

(OPERATOR INSTRUCTIONS). Tom Meagher, BB&T Capital Markets.

Could you talk a little bit about the Management Services segment? When you broke that up -- first of all, if you could remind us what the kind of services were that you were providing there? And secondly, when you broke it up and reassigned it, was there anyone of your other divisions that received the bulk of that work, or was it pretty much evenly spread out?

Some of the divisions that were included in there were the Asset Service division, which went to our Systems group. There was a Technology Solutions division that also went through the Systems group, but a different group of it. We moved some of the costs in small studies component to our Financial Services group. I think you could say is pretty much spread around.

Shlomo Rosenbaum, Legg Mason.

I just wanted to get an update from you. Last quarter you talked about five large contracts you were pursuing. The British Columbia one was one of them. I was wondering what some of the other ones were, if you could give us a little bit more detail on some of the timing? I know one of them was the state of Florida contract. If we could talk a little bit more about federal contract potential, I was wondering if you could expound on that?

Okay. British Columbia was one of them. Another one was the eligibility contract in Florida. That has not -- they are expected to release an RP this month, but you never know for sure. We are biding on a federal asset sales contract to help the government dispose of surplus property. We did a contract with the Center for Disease Control that is still being a evaluated and another one with the Department of Defense. So of the five, four are still up in the air. One is resolved, and it was in our favor.

Expanding into the federal potential, where do you see that going as a percentage of your revenue, and could you just give us a summary of where it was this last quarter?

The federal potential for MAXIMUS is expanding rapidly in the healthcare area. Again, if we do happen to win in this federal surplus property contract, which by the way, goes along with our Asset Management division, will also allow us to penetrate. We have won a purchase order or test quarter type contract with the DOD Department of Health, and we are bidding on contracts there. We see the federal market opening up for us.

In terms of the percentage that we had last quarter, I am not sure what percentage of our business was -- 6 percent.

6 percent of this quarter's revenue.

But it will be growing I am sure.

Larry Lee, CIBC World Markets.

Rich, just two quick questions for you. One, can you give us some detail on what the legal settlement charge was for? And then second, I just wanted to clarify if the $1.88 guidance includes the non-recurring charges that you took in this quarter?

In relationship to the legal charge, it related -- it represents our share of the legal settlement related to a situation called Maywood. This was described in the footnotes to prior financial statements. Keep in mind that this was a situation that actually represented a contract that existed in a company that we purchased several years ago, and the contract existed before we bought that company. So the legal situation really had its roots before we bought the company, and we saw it just as an expeditious way to wrap up the affair. And we are under nondisclosure in terms of what the total settlement is, but we try to give you a flavor for our ramification when we told you that plus some other charges represent a little bit more than 2 cents to the quarter.

As it relates to the $1.88, $1.88 is net of those non-recurring charges.

Okay. Great. Thanks, guys.

Adam Waldo, Lehman Brothers.

Good morning, everyone. For the fourth straight quarter now you have really conservatively lowered DSO in the business model traditionally exhibited. I wonder, Rich, if you can comment on whether we are now at a point where the processes and procedures have changed both in terms of the backoffice and in terms of the culture of MAXIMUS, that we might expect DSO to continue around the ninety-day level on a structural basis?

Adam, my reaction to that is I think you're headed in the right direction. I think certainly having posted several quarters of effectively record level low DSOs, is a sound basis to do that. Over the last year or so, I have said that I think 95 to 105 days is a reasonable range. I think it is fair to say the lower end towards lower 90 is now a reasonable range. In terms of what is the upper end, there could be situations where either a combination of a quarter when our clients pay slow or when we might have some special terms and circumstances. It could get us to the 105, but I think it's fair to start to bring down that 95 a day range in terms of the lower end of the expected range.

And having done four straight quarters even below that, are you expecting it to most often be towards the lower end of that range then?

That certainly would be our aspiration.

Okay. On the California MRMIB contract that obviously started January 1 and has been ramping over the course of the year and will do so in the back half of the year. But as we get into '05, do you think we will see 70 million or so of net revenue out of that contract consistent with the fully ramped levels that you were targeting when you announced the signing?

Adam, I don't if there is a -- we are ramping up the enrollment numbers to 700,000, and the total price or the total value of the contract anticipated that adults would become eligible in years two and three. Whether that, in fact, happens has not really been decided. So I cannot confirm a $70 million number for 2005 as a run-rate.

Overall as you all continue to evaluate that contract as it ramps, do you see you are specking them that contract that you initially announced the markets back in April having changed materially, or is it just something in which you think the ramp schedule will be somewhat slower?

Actually the activity in the contract has been higher than anticipated in terms of call volume, and so there may be some adjustment upwards in terms of level of effort for the existing enrollment numbers. But it is too premature to say that ultimately it will not ramp up as originally projected.

(OPERATOR INSTRUCTIONS). Charles Strauzer, CJS Securities.

A couple of quick questions for you. In the British Columbia contract, I know when that contract news came out there was press in Canada that there were some concerns by some groups there that U.S. Patriot Act may have an impact on the privacy of Canadian citizens there. Has anything been resolved with that yet?

I don't think it has been resolved, but physicians have been taking, the ministry has taken the position that they are going to solve the problem. MAXIMUS has taken the position that we are going to work with them to solve the problem. We think it can be solved and hopefully will not deter the contract.

Talk a little bit too, you talked about some of the successful rebids. Any other competitive rebids of contracts? I know you talked about their option contracts up for renewal, but are there any other competitive contracts up for rebid?

There are three up for rebid. We have three in the health area for physician New York, physicians profile, Michigan enrollment and our Michigan child insurance contracts. We also have a Cook County modification of orders outsourcing contract, and one in San Diego as well.

Great. Rich, can you just break out if you can by type the sales opportunities versus Q1 if you have those numbers handy?

When you say break out the sales opportunity by type --

Yes. RFP pending preparation and tracking?

Sure. For the second quarter, the key data points, and I think David shared with you -- you want the -- the proposals timing were 419 million. Proposals and prep were 127 million, and RFP tracking is 673 million. And that should total to $1.2 billion (inaudible).

And Q1? What was the number for Q1?

Q1, the respective numbers were 365 million, 213 million, 446 million, and I think those totaled a little bit over $1 billion.

One last question. If you are looking at some of the new contract awards you have been getting lately, what are the margin trends that you have been seeing on those?

The margins are about the same. There is no significantly higher margin or significantly lower margin. (multiple speakers).

I would also add it really does vary, as you know, by segment. So different segments have different margins just by the nature of their business, and you will have larger opportunities and smaller opportunities. So it will vary significantly by segment.

Yes, in the federal segment, it is lower. The margins are lower.

This obviously has not come to light yet, so that could happen down the road if you get some of those.

And just one last quick thing. If you looked at the human side of the business, are you guys going to continue to see operating margins trend upward, Rich, do you think?

Human Services area? Probably not. The margins are going to be steady.

Dana Walker, Kalmar Investments.

On the Tennessee contract that you described as being in protest, is that a contract letting that you have protested, or is that coming from a different direction?

We protested it.

What is the nature of your beef other than you think you have done a good job?

We don't think that the bidder was identified or the award was -- had enough staff -- did not understand the requirement.

Are you still there as an incumbent, or have you ceased work there?

We are still there as an incumbent.

On the Systems side, can you talk about the nature of the work that will expire as we work through Q3 and how much visibility you have towards additional work in Q4 whether it is similar or different in nature?

The biggest item in the Systems world is in the second quarter. One large project that really came together in our enterprise solution space really related to a certain phase in the TWIC project. We expect that will come back. They are moving on with the next phases, but there is period of time here where we are working on getting to that next phase. So we have a little bit of a holiday in this third quarter.

In terms of rebound in the fourth quarter, I expect that is a driver. Plus we have got some focused opportunities in our Justice division that we expect will come on stream in the fourth quarter.

Rich, would you describe the mix of revenue year-to-date as being software light or software heavy? I want to recall that we have seen systems margins in quarters where it has been software heavy in excess of this 10 percent level.

My reaction year-to-date has been more software license light than occurs in the prior years.

Would you view that as being representative and/or suggestive or just the vagaries of the business?

I actually view that as last year being a bit of a banner year for them in terms of several large wins, particularly in the Justice world where may recall (inaudible) and DC and Houston. They were just very very fortunate to have I think almost period after period some very large successful wins, which I think is a bit out of -- I would not put that in the expected norm. So it sets up this year as more normal than I think last year. Last year was more of a banner year for them.

As you see things presently, would you expect for the total Company for Q4 to show evidence of improvement over Q3 or currently similar?

I would say Q4 improved over Q3, improved over Q2.

In order of magnitude to drive the type of 20 cent positive EPS delta, what type of revenue progress are you seeing as necessary to underpin that type of performance?

I don't think we are looking for any dynamic changes in margins, so I would probably go more in the proportionate range as it relates to revenue.

Final question. On Healthy Families, are you satisfied with your profitability trends today?

Yes, we are. In terms of driving the results for the remainder of the year, remember we are also reducing losses in those divisions, and I think that contributes to it. That will help a little bit.

Adam Waldo, Lehman Brothers.

Any updates on the city of San Diego or David Johnson disputes relative to your 10-Q filing?

I will turn that over to our General Counsel.

There have been no developments in the San Diego lawsuit. The only development in the David Johnson lawsuit is that we were successful in having it transferred from Ohio to Virginia. Otherwise, it is just entering the discovery phase.

Okay and then a final question for Dr. Mastran. Just update us if you would on your prioritization for uses for surplus capital as between acquisitions, buybacks and dividends in light of last quarter's comments that you were potentially seeking larger acquisitions going forward?

Okay. Again, we all understand the value of acquisitions. In fact, we made a couple of small ones in the quarter. We just finished the small one and are in the process of another one. We have had discussions with other companies of a larger nature, and we still continue to be interested in acquiring companies that strengthen our position in the marketplace. So acquisition is right there in front of us. It is just hard to find the companies that fit that well with us.

In terms of dividends, the Board of Directors is on the topic for the Board of Directors at the next meeting in June. It was raised at the last Board of Directors meeting, so I think it is being seriously considered.

In terms of stock buybacks, again we are very confident in our company, and any opportunities we have to buy back the stock -- you saw that we currently have about 42 million left of authorized money to do so -- we will take action.

Charles Strauzer, CJS Securities.

One clarification. When you talk about the Management segment being distributed back into the other segments, does that mean you are actually not going to report that it is a separate segment, and if so, are you going to give another reclassification of the pro forma data?

I think the best thing to do is to do a reclassification, Charles. We don't want to obviously confuse this call with the impact of that, but what we will do is on a timely basis come out with any reclassifications we will have to sort through what is the right way to segment the information prospectively and retroactively so you have comparable data.

Remind me correctly, when you broke it out a couple of quarters ago, the purpose was to isolate it so it could be either fixed or resolved. Is it fair to say now this step will essentially fix that problem?

Actually the way that it works, Charles, is under segment reporting rules and regulations we effectively -- I think this is a good thing -- we report the segment data the way we manage the data. So the primary driver from our prospective is what is the best way to organize the business units and manage the business units, and obviously synergies and size and scale all come into play. And we just (inaudible) that right up through the divisions, the groups and the SPUs and report to our Board of Directors and our shareholders in that fashion. So that is really the driver.

As a management team, we have been pretty open about what is happening inside the group. So we will continue to share with you what is working and not working. It is just that these businesses, which happened to be those pieces that were not growing revenues, they have -- for obvious reasons, we think it is best to combine them with other pieces.

Are there any last questions?

There are no other questions at this time. I would like to go ahead and turn it back to management for additional and closing remarks.

I would like to thank everybody for their continued support, and thanks for joining us on our second-quarter 2004 conference call.

Ladies and gentlemen, thank you for joining us today. This does conclude our conference, and we ask that you now please disconnect.