ModivCare Inc (MODV) 2017 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Second Quarter 2017 Providence Service Corporation Earnings Conference Call. (Operator Instructions) As a reminder, this call is being recorded. I would now like to turn the conference over to our host for today, Laurence Orton. You may begin.

Thank you, Sonia. So, good morning, everybody, and thank you for joining Providence's Second Quarter 2017 Conference Call and Webcast. With me today from Providence are Jim Lindstrom, Chief Executive Officer; and David Shackelton, Chief Financial Officer. By way of a brief introduction, my name is Laurence Orton, and I just recently joined Providence as Corporate Controller and VP of Finance, and among my responsibilities will be Investor Relations. I'm looking forward to building an ongoing dialogue with our investors as we move forward. During this call, Mr. Lindstrom and Mr. Shackelton will be referencing the presentation that can be found on our investor website under the event calendar and in the current Form 8-K, which was furnished to the SEC this morning. Before we get started, I'll just run through the traditional formalities. I'd like to remind everyone that during the course of today's call, the company's management will make certain statements characterized as forward-looking statements under the Private Securities Litigation Reform Act. These statements involve risks, uncertainties and other factors which may cause actual results or events to differ materially. Information regarding these factors is contained in yesterday's press release and with the company's other filings with the SEC. The company will also discuss non-GAAP financial measures in an effort to provide additional information to investors. A definition of these non-GAAP measures and reconciliations to the most comparable GAAP measures can be found in our press release, investor presentation and Form 8-K. And then finally, we have arranged for a replay of this call which will be available approximately 1 hour after today's call on our website, where it can be accessed via the phone numbers that we've listed in the press release. So at this point, I'd now like to turn the call over to Providence's Chief Executive Officer, Jim Lindstrom.

Thank you, Laurence, and good morning, everyone. We'll be starting today's presentation on Page 3 of the presentation that we filed with the SEC this morning. So on Page 3, just a quick highlight on revenue growth. We did report revenue growth of 2.5% on a consolidated basis. And as usual, we encourage our shareholders to dig a bit below this number as there are a lot of underlying improvements within this so-so headline growth rate. Underlying the headline number was a future that we have seen in previous quarters, continued strong growth in LogistiCare, the larger of our 2 U.S. health care network management businesses and growth within certain countries and new health programs within our workforce development segment. Not included in this consolidated revenue growth due to our partial ownership was 16% revenue growth at Matrix. As we walk through on the next few slides, we continue to focus on improving the already strong growth prospects within these areas.

On margins, as many of you expected, our margins contracted versus a year ago, primarily due to a few items. First, the continued wind down of WD Services legacy Work Programme contract in the U.K., contract start up and utilization challenges on a small handful of NET Services contracts, the ending of NET's Services administration services only or ASO contract with the state of New York at the beginning of the second quarter. Finally, our value enhancement initiatives continue to be on track and give us confidence that the margin contraction will rebound. On cash, our operating cash flow was negatively impacted by temporary working capital items but we don't see any ongoing issues here and David will give a little bit more insight into that. CapEx continued to be dramatically lower than last year as well as sequentially. Our ROIC is now over 20%, a solid achievement in my view that shouldn't be overlooked. Finally, we remain focused on capital allocation as we have returned via share buybacks $122.3 million since the fourth quarter of 2015, representing 18% of the company's common stock. Our repurchases were stagnant during the quarter, primarily due to M&A and contract activity, including dialogue over the renewal of the New Jersey contract. So with that, we'll move onto Page 4 and cover NET Services. So first of all, let me welcome Jeff Felton, as CEO of LogistiCare. Jeff brings great experience from McKesson Technology Solutions, where he had a set of network-based technology-enabled businesses with revenues in excess of $500 million. While Jeff will be laser-focused on our value enhancement projects, he will also lead the charge with me on the longer-term growth strategy within NET that I will comment on in a minute. We're pleased to file an 8-K announcing New Jersey's intent to renew our contract for another 5 years, and much like the previous contract, the new contract will generate approximately $170 million of revenues per year and again, with further -- which further increases our confidence in long-term prospects for Providence. As I mentioned, Q2 was highlighted by LogistiCare's revenues increasing 10% to $338 million in the second quarter, primarily driven by new contracts and rate increases. Margins were impacted by the loss of our New York State ACO contract last fall and start up and utilization challenges on a couple of contracts. Offsetting this for lower payroll cost is a percent of revenue and the rate adjustments associated with extraordinary utilization in one of our larger programs that impacted us historically. CapEx continues to be light, well under 20% of EBITDA. And looking forward, on a Member Experience initiative, we have previously reported that we're engaged on 3 fronts: First, on the technology side, we're in the process of developing a host of technological enhancements to our platform that are well underway and will improve service and reduce costs across our nationwide network. The cost reductions are anticipated to be more impactful in 2018 versus the changes in our call centers or transportation network. Second, in our call centers, our various work streams have started to generate improved efficiencies. Third, on our transportation network, our efforts to improve our network capacity and efficiency are beginning to pay off with financial benefits and improved service levels. So to summarize, we have 20 work streams in progress that we expect to complete by the -- largely complete by the end of 2018. And once completed, we now expect over $40 million in annual net benefits on a run rate basis. This is up from the $35 million we communicated last quarter. You should also keep in mind that a portion of this $40 million of net benefits may be reinvested and will likely be reinvested back into the business. We hope to disclose a more accurate reinvestment figure to you later this year, once Jeff and I have worked -- more fully worked through their strategic plan. This strategic plan we hope to incorporate incremental reinvestment areas, in areas such as sales and marketing and potentially expanded solutions to further enhance the Member Experience and support longer-term growth. In terms of longer-term growth, we see great potential in the nonemergency transportation market. Previously thought of as primarily a Medicaid program, with the addition of Jeff Felton as CEO, our small investments in Circulation and lot of strategic work that we've already started on, we do see great growth potential in areas such as Medicare Advantage, other value

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improve our target market size over the longer-term. So we look forward to reporting more about this longer-term strategic growth plan later this year. Moving onto Page 5 with Matrix, which also falls under our U.S. Healthcare business umbrella. So in Q4 -- in our Q4 2016 earnings call, I reported that largely because of the initiatives in late 2015 and early 2016, Matrix ended 2016 with a strongest pipeline that I've seen at Matrix since I joined Providence. Matrix's pipeline in these efforts are now paying off. I'm pleased to report Matrix's strongest sales growth since I've been at Providence with a quarterly growth rate of over 16%. Regarding profitability, Matrix generated adjusted EBITDA of $15.3 million or 25.2% adjusted EBITDA margin. As usual, this adjusted EBITDA was generated with a CapEx spend of less than 25% of EBITDA, which together with improvements in working capital during the quarter enabled continued debt paydown. So in 2017, we've continued to work with our strategic partner Frazier Healthcare to enhance the value of Matrix's operating platform and important network of over a 1,000 nurse practitioners. We've looked at lot of acquisitions and expanding complementary offerings. I'd say, in summary, while we've continued to work on acquisitions, and see a lot in our pipeline, we do remain focused on making sure that we do have an optimized balance sheet, and we look forward to reporting back to you on any excess capital capacity and how we intend to deploy that towards acquisitions or other. On Page 6, moving on to WD Services. So as expected, revenue

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part of this decline was due to currency fluctuations but was mostly due to the continued wind down of the legacy U.K. Work Programme. Offsetting this decline was growth in a few of our international operations. So we're now profitable in Q2, our longer-term confidence and short-term and long-term cash flow trends in the business continue to improve in Q2. And as we noted in the year-end conference call, our restructuring efforts and increased operating rigor has started to pay off. Our U.K. restructuring program called the Ingeus Futures Program has largely been completed resulting in cost-savings consistent with our previous communications of over GBP 10 million in 2017 and almost GBP 18 million in 2018. Please note that these reductions were built into our long-term thoughts on profitability communicated previously. We continue to see our primary KPIs at Ingeus ahead of last year and our ratings in our largest contracts continue to be stronger, even improved. In France, in Mission Providence, we experienced profitability outside of restructuring costs, a significant improvement from last year. Finally, CapEx remains much lower than previous years. Also we do not see any significant outlays, including from potential wins in the new work and health programs. So overall, cash flow continues to be positive. In terms of the remainder of 2017, our outlook remains solid. Business development remains a focus with good progress in certain countries and in our core U.K. employability efforts. We're well positioned in contention for several contracts in the DWP, London, Manchester and Scotland tenders. In short, we anticipate hearing about these awards beginning in September through the end of Q4. In other business development news, we're also off to a great start in our new contract in Singapore, and an expansion effort from our South Korea options -- operations and bidding on additional opportunities in the U.K. health sector, where we have made good headway in diabetes prevention. So as we look forward, we expect to see the benefits of these business development efforts within WD Services, which has started to show up in the financials later this year and into 2018, when we anticipate the revenue declines will start to flatten out and growth and profitability begin to increase. Finally, although we are constructively working with the Ministry of Justice on their Probation System Review in the U.K. in order to improve profitability of our offender rehabilitation program, we have nothing to report of as of right now, but hopefully will later this year. I will now turn the rest of the time over to David for a few other points on our financials.

Thanks, Jim. Starting on Page 7 of the presentation, I will not go into the consolidated results as Jim has already done so, I'll instead focus my commentary on the segments. NET had another strong revenue quarter, largely driven by new MCO contracts in California, Florida and New York. However, unlike Q1, Q2 benefited from a significant rate increase that was secured in a large existing contract to offset the impact to our transportation costs of recent utilization increases. In terms of margins, similar to last quarter, NET's margins contracted in the second quarter of 2017 versus the prior year. This was due to startup costs associated with MCO contracts in California, Florida, which should begin to alleviate as we move into Q3 as well as increased utilization on a couple of large contracts on which we're still in the process of trying to renegotiate rates with the payers, which we've already seen some success doing. Q2's margins were also negatively impacted by the rolling off of our ASO contract with the state of New York at the beginning of the quarter. Remember that ASO contracts tend to be higher margin as transportation costs are paid directly by the client and do not essentially flow through our revenue line as is the case for our other contracts. Also, the impact of margins of our value enhancement work in the first half of the year was fairly negligible. Although the major call center and transportation cost-savings programs remain on track, the largely fixed costs of the new processes and systems put into place to support these initiatives on an ongoing basis don't add back to EBITDA, has not yet been surpassed by the associated productivity steps. The savings are expected to begin to exceed the incremental support costs in the second half of 2017, but only by a small margin. The real value of initiatives isn't expected to materialize until the end of 2017, and beginning of 2018, eventually reaching a run rate net benefit of over $40 million by the end of 2018. Looking forward to the rest of 2017 at NET Services, our confidence continues to grow in regards to our previously communicated outlook (inaudible) . This increased confidence is based on secured rate changes, new contract awards and value enhancement activities. We now believe we are at the high end of our 5% to 7% revenue growth outlook for the year, if not a little above and our conviction in achieving approximately 6% margins has also increased. Moving to WD Services, revenue declined in line with our previously communicated full year expectation of $60 million decline versus 2016. The margin contraction in Q2 of '17 versus Q2 of '16 was almost entirely due to decreased profitability on the Work Programme under which we are no longer receiving referrals. Excluding the Work Programme, margins in Q2 '17 were significantly higher than Q2 '16 as the profitability to the rest of the business continued to show improvement, including our offender rehabilitation program in French operations, which have both shown significant profitability improvement on a year-over-year basis. When combined with the large decrease in year-over-year CapEx spend, this improved profitability is translating into material improvement in cash flows at WD Services. Also note that WD Services Q2 margin did not meaningfully benefit from the redundancies associated with our Ingeus Futures initiatives as these redundancies were only completed towards the end of the quarter. Consistent with our last call, we expect low to mid-single digit EBITDA margins at WD Services for 2017. Moving to corporate, corporate costs in the quarter were flat versus last year despite seeing increased cash settled stock-based compensation expense of $1.4 million in the quarter, due to our share price increasing during Q2 '17 while a decrease in Q2 '16. However, the full year -- for the full year, we still expect to achieve corporate cash costs of approximately $18 million. Due to the volatility of cash settled share-based compensation expense, it is difficult for us to precisely predict corporate's P&L for the year. Moving to Matrix, we saw another very strong quarter. Remember that we treat Matrix as an equity net investment so its revenue and EBITDA are not included in Providence's revenue and EBITDA. Matrix's balance sheet is also not consolidated with Providence's. So the benefit in Matrix's high free cash flow and debt paydown isn't reflected on our consolidated cash flow statement or balance sheet. Moving to Page 8, we have our cash flow summary. Year-over-year comparisons are difficult on this page because the 2016 numbers include the strong cash flow from Matrix, while the 2017 numbers do not. (inaudible) doesn't trigger restatement of cash flows. Also working capital can be very volatile on a quarter-over-quarter and year-over-year basis, which we saw play out in Q2 of this year, particularly within NET Services during the last week of June where we experienced large mismatch between payments and collections. This temporary imbalance largely corrected itself in the first week of July. You can also see that on a year-to-date basis working capital is relatively flat as we currently expect it to be on a full year basis. Staying on Page 8. CapEx spend was significantly down for the quarter and year-to-date versus last year. This was due to a large decrease in WD Services CapEx needs offset slightly by increased CapEx spend at NET Services to support the value enhancement activities. Consistent with our last earnings call, we still expect 2017 CapEx to be approximately $20 million. Before turning to Page 9, I'll mention that our effective tax rate for the quarter was 42.7%, still higher than our statutory rates due to our continued inability to recognize benefits in foreign jurisdictions where losses are being incurred. Now moving to our balance sheet summary on Page 9. You can see that our cash balance fell from last quarter due to the temporary working capital movement I just discussed, which reversed itself in July. Our preliminary July balance sheet has cash back to approximately $80 million. Ending on Page 10 with capital allocation, I'll make 2 points. First, we continue to pursue M&A targets. Recently, we are seeing increased opportunities to deploy capital on strategic assets that are aligned with NET's mobility and network enhancement efforts. Although it was a small investment for us, only $3 million and noncontrol, our investment in Circulation reflects this increased focus. Circulation utilizes technology solutions to more efficiently manage health care logistics and transportation, including a fully digital platform that is complementary to and capable of leveraging LogistiCare's nonemergency transportation network. Second, the fact that we did not repurchase any shares in Q2 did not reflect a departure from our view, even after taking into account the recent increase in our share price, that repurchasing shares is a great way for the company to generate attractive returns over the long term. As Jim mentioned, M&A and contract activity kept us out of the market in Q2. We believe the substantial value-enhancing initiatives being undertaken across all of our companies will eventually translate into increased profitability and a more valuable enterprise for our shareholders. I will now turn the call back over to Jim.

Great. Thank you, David. So just a few final comments. So as we enter the second half of the year, we anticipate continued solid performance. Our value enhancement programs will begin to show through as they have in Matrix the past few quarters. We believe in the power of our value enhancement programs enabling our businesses to reach their full potential. These programs, significant long-term opportunity in our businesses and our strong balance sheet position all come together to position us well for 2017 and beyond. So with that, I'll open it up to questions.

(Operator Instructions) And our first question comes from Bob Labick of CJS Securities.

It's actually Dan Moore filling in for Bob. Obviously, the biggest piece of news post quarter was the New Jersey win, maybe just talk a little bit about that and update us on the level of competition in the industry more generally?

Sure. This is Jim. I'll take that. So, in general, no major changes I think from the contract structure that we previously had, which we communicated in the 8-K. In terms of the level of competition, it was fairly small and select. I think largely due to the size of the contract. Most of our limited competition is smaller, much smaller than the scale of LogistiCare. In terms of overall competition, we aren't seeing any major changes in our core Medicaid business. In terms of trends, I think you've obviously seen an increased focus on IT and the Member Experience that I think that LogistiCare is leading. And we started to see that most recently in the feedback from one of the -- something that we are -- have been on in terms of IT scores that we are at the top of the list there. So I think everything is in our favor in the core Medicaid area. I think as we look outside of that, we do see some new entrants like Circulation and a handful of other startups looking at some markets that we're not currently in. And so that is an area that we're going to be expanding into one way or the other through the NET segment. I think just sort of other trends that we're seeing. We're seeing continued outsourcing towards MCOs and smaller contracts. I think that's one reason why you're probably not hearing about as many from us. So smaller -- as we look at sort of our renewals coming up over the next year, I don't think there's anything over $75 million. And as we look at our bids, I think 90% of what we have in our pipeline is under $30 million a year, let's say, there is a large number of contracts, but in general, they are smaller as states outsource more to MCOs.

Very helpful. And maybe one more, a 2 parter. Can you provide a little bit more color and update on Matrix? I know part of the rationale for the JV was the opportunity for additional M&A -- what you're seeing there. And then at this stage, how would you think about valuing Matrix given the growth that they've seen since you partnered with Frazier.

Yes. On the M&A, it's very active. I think the partnership with Frazier has definitely been a strategic positive. They have a full-time -- they have a dedicated internal resource now who is pretty much solely focused on partnerships in M&A. And we're seeing a lot more in our -- in some active discussions, most of the time. I'd say some of these opportunities would give us the opportunity to deploy more capital in and a lot of them -- we have a lot of excess capital, we're generating a lot of cash. So some of these opportunities actually might not require us to put in capital, which would be great. And in terms of value, David has done some great work on this and I'll hand it over to him for how we look at it.

Yes, so in terms of -- I think it's a good question, because it's important not to -- given that Matrix is not included in the revenue or adjusted EBITDA or adjusted net income that we report to not overlook Matrix because of significant value to the company. So the way that we look at is not -- it's on our books right now at a book value of $157 million. But if you want to calculate more of a market value, I guess, you could call it -- we often take the 10.5x EBITDA multiple that Frazier bought in at and apply that -- so if you apply that against Matrix's EBITDA, which was -- or LTM's EBITDA of $53 million, and then you subtract out their current net debt of $180 million. And then apply our 46.8% ownership that gives you to about $175 million, which is almost $20 million higher than the book carrying value. Yes, so again, it is important to recognize that it's not -- that's often not picked up, but is a significant part of our overall value.

Appreciate it, maybe I'll sneak one more in and hand it over. You made some interesting investments in Circulation. Just any color or anything you like to expand on there?

Sure. This is Jim. So it is a very small investment for us. And I think it came out of our direct research and strategic work in and around sort of other potential growth areas for nonemergency transportation. And Circulation is doing a great job. They are a partner with Uber, which we're not. We're partnered with Lyft. And they're doing a great job at -- with more of a Software as a Service model, working with hospital discharge units, clinical trials, companies to -- as more of a in-house software option, which we obviously don't offer at LogistiCare. We're more sort of the fully outsourced option in much larger scale. So in terms of working together, Jeff Felton, we anticipate him going on the Board of Circulation as we do have a board seat. And he will be spearheading when, and if, and how LogistiCare and Circulation work together. And again, its if, and when, and how. There are no definite plans at this point for them to work together but we're excited about both companies.

Great. Thank you everybody. Are there any other questions? Operator?

Thank you. And that does conclude our question-and-answer session. I would now like to turn the call back over to Jim Lindstrom for closing remarks.

Great. Thank you. So as always, we are around and available for further questions or discussions, suggestions from any of you. So please don't hesitate to give us a call and hope everyone enjoys the rest of their summer. Thanks. Bye-bye.

Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone, have a great day.