HMS Holdings Corp
Q2 2019 Earnings Call Transcript

Published: 2 Aug 2019

[Operator:]

Good day, ladies and gentlemen. And welcome to the HMS Second Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time [Operator Instructions]. As a reminder, this call is being recorded.It is now my pleasure to introduce SVP of Investor Relations, Robert Borchert.

[Robert Borchert:]

Thank you, Andrew, and good morning everyone. Joining me are Bill Lucia, our Chairman and Chief Executive Officer and Jeff Sherman, our Chief Financial Officer. This call is being webcast and could be accessed via the Investor Relations section of our company website at hms.com.Today's press release highlighting our financial results is posted on our IR website as well. Bill and Jeff will first provide their perspective on our recent financial operating results and business outlook and then we will open the line for questions. We ask that you please limit yourself to one question and one follow-up, so we can get through the full queue in a timely fashion.I’d like to remind you that the financial results reported today and in this morning's press release are preliminary and are not final until the Form 10-Q for the second quarter ended June 30, 2019 is filed. Some of the statements we will make today are forward-looking in their nature based on our current expectations and our view of our business as we see it today. Such statements, including those related to our updated full year 2019 guidance, future financial and operating performance and future business plans and objectives are subject to risks and uncertainties that may cause actual results to differ materially. As a result this should be considered in conjunction with the cautionary statements in today's press release and the risk factors described in the company's most recent SEC filings, including our Form 10-K.Finally, we may refer to certain non-GAAP financial measures this morning. Reconciliations of these measures to the comparable GAAP measures are included in our press release posted to our website.With that, I'll now hand the call over to Bill.

[Bill Lucia:]

Thank you, Robert, and good morning everyone. HMS delivered another solid quarter performance as we continue to execute on our long term strategy to help our clients reduce costs and improve health outcomes.Our second quarter revenue increased more than 14% compared to the same period a year ago and with up 7.4% when you exclude the Medicare RAC reserve release of $10.5 million we reported this quarter. Adjusted EBITDA was up 18.8 excluding the reserve release and we generated record operating cash flow as we continue to experience the financial leverage and cash flow dynamics we expect from our operating model.Our revenue performance was led by more than 4% increased in coordination of benefits and almost 24% growth in our payment integrity service lines excluding the reserve release. We continue to innovate in both our COB and PI business lines. In COB the 9.6% year-to-date revenue growth was driven by enhanced analytics, improving yield as well as new product introductions like our real-time insurance verification solution, we noted last quarter.We continue to add talent and expertise that are driving new strategies to accelerate the pace of savings opportunities for our clients. We’re also advancing our use of machine learning, national language processing and other advanced technologies, all in an effort to drive faster savings for our clients, reduce provider abrasion while lowering our operating costs.We’ve renamed our newest solution set Population Health Management to better align with market nomenclature. This quarter we had a challenging comp in PHM due to a sizeable special project in Q2 last year. On a year-to-date basis however, PHM revenue was up 9.3% from a year ago. We continue to see momentum in this business line and currently expect strong revenue growth on an annual basis as we introduce new and enhanced solutions and expand our share of valuable clients by continuing to deliver significant value and ROI.From a product innovation perspective, we formally launched our crisis management outreach program that helps our customers efficiently communicate and share crucial health and safety information with consumers before enduring a natural disaster, prescription recall or other public health events.Payers and other entities such as retail pharmacies and pharmacy benefit managers can now communicate efficiently, effectively and compassionately with thousands and even millions of consumers as fast as possible about their coverage and access to care. This is accomplished through SMS text messaging, email and our active voice response and live agents during emergencies and public health events.In short, we can help move healthcare and government organizations from a reactive spent on crisis to one that is proactive where they take an active role in managing their population’s health, safety and wellbeing. We also continue to expand our predictive and prescriptive analytics capabilities to include [indiscernible] determinants of health to ensure we’re offering solutions to enable our clients to treat the whole person.Separately, we recently announced a major international initiative to tackle some of healthcare’s toughest challenges. The digital health cooperative research center is a partnership between the Australian government, universities and businesses to undertake research projects that will lead to significant advances in digital health solutions. HMS is the lead corporate partner in this initiative and we’re helping to ensure researchers have a significant volume of the identified claims data to access and analyze.We’re working with major universities in Australia and in the U.S. Our work with Stanford University is focused on identifying potential risk factors for opioid abuse and misuse which is an international healthcare crisis. We also partnered with Southern Methodist University on the development on our predictive analytics model to reduce the rate of hospital readmission, a challenge that drives significant costs in our healthcare system. These two initiatives could provide benefits to payers, providers and patients.HMS is committed to this vital research for the long haul not only because of its potential to fuel our product development and innovation pipeline because the core purpose of our work is about helping real people with real health issues. Adding talent and expertise is key to enhancing our business.In Population Health Management, our new chief analytics officer has more than 20 years of informatics and technology experience with executive leadership roles at major healthcare companies and now lead clinical analytics, health engagement design and data science. And our new VP of data engineering and analytics has 20 plus years of experience in analytics and artificial intelligence with leadership roles at several Fortune 500 companies. He will drive strategies and artificial intelligence, machine learning and analytics across all lines of our business. We expect these new leaders and their teams to have an immediate impact on furthering our abilities to drive innovation and improve operating performance.Jeff will now provide additional detail on our second quarter performance. Jeff?

[Jeff Sherman:]

Thank you, Bill and good morning. Q2 was another solid quarter for HMS in terms of total company revenue, adjusted EBITDA, adjusted EPS and cash flow. As Bill mentioned, in the second quarter total revenue was up 7.4% excluding the Medicare RAC reserve release in Q2 of 2019. This was driven by 4.3% growth in coordination of benefits revenue and a 23.7% increase in payment integrity revenue, again excluding the reserve release.The remaining balance sheet amounts from the original Medicare RAC contract have now been released which resulted in the recognition of $10.5 million in net revenue this quarter. As we’ve said in the past, our business model has the potential for some quarter-to-quarter revenue variability and year-to-date COB revenue was up 9.6% compared to the same period a year ago, PI was up 8% excluding the reserve releases and PHM revenue increased 9.3% during the same period.In PHM, we continued to see traction with our cross-selling initiatives driving the sales pipeline for our consumer engagement capabilities. At the same time we’re working to balance our sales efforts between the signing of longer term recurring revenue agreement with the near term benefit of transaction oriented services and revenue.Our overall business model and increasingly diversified revenue stream continued to show strong operating leverage. Adjusted EBITDA increased 18.8% compared to the second quarter of last year with margins up 280 basis points to 30.1% excluding the Medicare RAC reserve release benefit. This was driven by the continuing impact of our technology investments that drive both revenue yield and operating efficiency as well as the continued management of operating expenses overall.Second quarter 2019 adjusted EPS excluding the reserve release benefit was $0.34 per diluted share and was driven by the operating leverage I noted earlier. Our cash flow remains strong with operating cash flow of $49.6 million in Q2 compared to $9 million in the second quarter of 2018 and free cash flow of more than $45 million in this year’s second quarter.With cash and cash equivalents of $269 million and total debt of $240 million at June 30, 2019, we continued to have a very strong balance sheet and liquidity profile. As we remain principally focused on executing on our existing business strategy at a high level, our capital allocation strategy continues to be geared towards investing in our IT infrastructure and enhancing our product capabilities.At the same time we remain active in our efforts to identify potential acquisitions to complement our payment integrity and Population Health Management Solution suites. We will remain disciplined in our approach to M&A and we'll move forward with the transaction if it meets our strategic and financial criteria.Today, we announced our updated full year 2019 financial guidance to take into account the $10.5 million in revenue from Medicare RAC reserve release this quarter as well as our year-to-date adjusted EBITDA, effective tax rate and net income performance. We now expect 2019 total company revenue of $650 million to $660 million including the reserve release.On a year-to-date basis, our revenue growth excluding the reserve releases from both years was 9.2%. This is consistent with our original guidance range of 8% to 10% growth. We are now projecting full-year adjusted EBITDA of $185 million to $190 million which represents growth of 14% to 17% over 2018. As with revenues, we are including the reserve releases in both years.We continue to add new talent and analytics expertise to further capitalize on the technology investments we have made over the last two years. We are seeing both revenue yield and expense management benefits and currently expect them to continue.Moving onto net income, we are now projecting $85 million to $90 million for the year which is approximately 30% higher than previous guidance. This is due primarily to year-over-year revenue growth, the reserve release benefit, margin expansion through operating leverage and a slightly lower projected full-year effective tax rate. Additional details on our revised outlook for the year were provided in this morning's press release now posted on our IR website which will help address more detailed modeling questions.So overall, we believe our second quarter performance positions the HMS well to achieve our raised full-year objectives and anticipate revenue will step up throughout the remainder of 2019 consistent with our full-year guidance.Bill will now have some concluding remarks and then we'll be ready for questions. Bill?

[Bill Lucia:]

Thank you, Jeff. HMS continues to be well positioned for future success with access to market leading data assets and a broad solution suite that drives down unnecessary costs and positively impacts patient outcomes. We truly appreciate the hard work and commitment of all our employees and the long-term support of our customers, shareholders and our Board of Directors. We look forward to sharing our future activities and accomplishments with you in the months to come as we continue to employ data, technology and analytics to benefit the entire healthcare system.We are now ready for the first question.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from the line of Jailendra Singh with Credit Suisse. Your line is now open.

[Jailendra Singh:]

Thanks a lot, thanks for taking questions. I actually want to follow up on the performance in payment integrity segment in second quarter. Maybe talk about how much of this strong growth there was driven by certain projects floating from Q1 to Q2. I mean, last quarter you talked about payers turning off the service in Q1, did you see those business coming back in Q2?

[Jeff Sherman:]

Yes. What we said last quarter was, we had some added that we had submitted to approvals to our customers that did not get improved as quickly as we thought. I think particularly with the payment integrity as it does contend to be lumpier from quarter-to-quarter, we don't give quarter guidance for that reason and so I think we expected the revenue to come back in Q2 based upon our Q1 results. And with year-to-date growth of 8% in payment integrity, we still see it as a good grower for the year. So I think overall, our performance in payment integrity is on a year-to-date basis close to what we expected and still see growth in the back half of the year.

[Jailendra Singh:]

Then on Population Health Management business, I know this is still a small part of business today, but you guys have been talking about that as a largest potential market opportunity. But if you look at the trends over past four or five quarters, we haven't seen much sequential uplift in that segment. Just wondering if you can give some color around how should we think about the growth in that business going forward and what gives you confidence that we should be seeing some progress there in second half and next year?

[Jeff Sherman:]

Yes. There's been no change in the market opportunity and outlook for PHM solutions and we currently expect our PHM revenue will see strong growth on an annual basis for the foreseeable future. We did say this quarter, we had a challenging comp due to a sizable special project in Q2 of last year, but we are off 9.3% year-over-year and continue to see traction with our cross-selling initiatives driving our sales pipeline. And we are working to balance our sales efforts between the signing of longer-term recurring revenue agreements with the near-term benefit of transaction oriented services as I said in my prepared remarks.So I think we continue to see a big opportunity. We have noted as we move more into the subscription model sales approach that takes longer but when we achieve those sales it will be sticky revenue for a longer period and so I think the focus is balancing those two dynamics of longer-term recurring revenue with the more transactional revenue work that we do.

[Jailendra Singh:]

Thanks a lot.

[Operator:]

Thank you. And our next question comes from the line of Vikram Kesavabhotla with Guggenheim Securities. Your line is now open.

[Vikram Kesavabhotla:]

Thanks for taking the question. I want to follow up on the margins this quarter. Obviously a strong profitability quarter and so curious if you can give us some color on what the main sources of operating leverage have been and if there's anything specific that's been driving more accelerated expansion this year versus what you'd expect to see on a normalized basis? Thanks.

[Jeff Sherman:]

Yes. I would say this quarter and for the first half really demonstrates what we believe is the inherent operating leverage in our business model. We've set an incremental dollar of revenue in COB and payment integrity comes in a quite a bit higher margins overall than the company's blended averaging. So with the strong revenue growth in both of those segments that's having a positive impact on our margin performance. And we've also said that continuing investments that we're making in technology both to drive revenue yield and increase operating efficiencies are having a positive impact on margins as well.So we've set in the path to continue to believe we're still in our early innings of capitalizing on those investments. We are continuing to ramp up our technology spend and still see a lot of potential value in the future. As Bill noted, we're continuing to bring on people to help with both the analytics side of our business and with artificial intelligence and machine learning. So I think we're learning as we go here, but it would still say characterized as really in their early innings of capitalizing on those benefits and expect to see the ability to expand margins over time for the foreseeable future.

[Vikram Kesavabhotla:]

Got it. And then on the COB side obviously you guys had a great first quarter and then another 4% this quarter. I'm curious of the expectation for the full year is still low to mid single digit revenue growth and if you can give us some color on the factors that impact that business on a quarterly basis and how we should be thinking about the second half of the year? Thanks.

[Jeff Sherman:]

Yes. So overall we've given our revenue guidance for the year. We've a portfolio of products that can balance into that revenue guidance. So I'm not going to try to update specific line items for revenue guidance for the year on this call, but we do see with the COB variability as well from quarter to quarter. It's hard to predict timing sometimes. Our ability to get information that we need or get information from our customers, but I would say we're certainly pleased with that almost double-digit growth in COB for the year and still expect it's going to contribute to growth for the year.

[Vikram Kesavabhotla:]

Thank you.

[Operator:]

Thank you. And our next question comes from the line of Donald Hooker with KeyBanc. Your line is now open.

[Donald Hooker:]

Good morning. So I wanted to ask about the COB business, the legacy COB business which rolling for quarter basis looks like it was up about 7% and doing very well. I think in the past you guys have talked about kind of a lower mid single-digit growth there, but it seems like you guys have been trending above that for a while and I was wondering if maybe we should start thinking about a higher growth rate there. What is your commentary there?

[Jeff Sherman:]

Yes. I think we have talked about the technology investments that we are making our investments in big data. Just to sheer size and complexity of the amount of data that we get and manage on a daily, weekly, monthly basis, it is enormous. And so certainly implying advanced analytics and advanced data technologies to that we're seeing a yield benefit from that and so I think that's been a positive driver.I would say, we also have as we looked at COB marketplace and total addressable market we're also introducing new products as Bill mentioned in his prepared remarks. So it's an area where we've been in the business for a long time. I think we are innovating in it as well as continuing to drive more value from the existing population of claims data that we have. So I think it's a combination of both of those things and we certainly see the capacity to continue to expand more there.

[Donald Hooker:]

Super and maybe just a follow-up question on the payment integrity space. I think in the past you guys have talked about maybe going after employers and maybe trying to extend yourselves into new areas like ambulatory settings. Can you update us on any initiatives or if not that's fine too but any initiatives kind of extending into some of those newer areas?

[Bill Lucia:]

Yes. This is Bill. So we do distribute primarily pre-pay clinical audits though we'll also retrospective audits to employers, larger employers and for the most part through benefit consulting organizations that find employers who as you probably know, employers are in many ways holding the bag financially, their administrators do a certain amount of work for them, but not always the kinds of things that we offer. So we see that as a growing market opportunity.The implementations are a little more complex because we're implementing with a large administrator or TPA on sometimes several, but the opportunity is significant. So we just rolled that out, we have a couple employers under contract that are either implemented or in the implementation phase. We also believe that our other products are attractive to them. So we will be and has started to introduce our PHM product line, particularly a segment of our allies of consumer engagement tools to employers.In terms of expanding the payment integrity, what I would consider audit set. We have this year and last year, but little bit heavily focused on this year expanding more broadly. So that were pursuing claim types and/or places of service that we've not pursued as aggressively in the past. And so that's all part of our ongoing development innovation to bring a lot of strategies to our clients.

[Jeff Sherman:]

And some PIs also an area where we're continuing to deploy advanced technologies to both improve our ability to claim, select claims that have a higher probability of errors as well as create operating efficiencies and how we work claims by using technology to make our whole process more efficient.

[Donald Hooker:]

Super, thank you very much.

[Operator:]

Thank you. And our next question comes from the line of Ryan Daniels with William Blair. Your line is now open.

[Ryan Daniels:]

Yes, good morning guys. Thanks for taking the question. Bill, maybe one for you just on the M&A environment. Obviously, your cash balance continues to build up quite nicely but haven't done any transaction. So, I'm curious if you're not finding the assets that meet your strategic objectives or if it's just the pricing you're seeing in the marketplace today that’s driving it outside of your financial parameters?

[Bill Lucia:]

Thank you, Ryan. In reality we're active, in fact very active. We always have a portfolio of candidates that we are looking at. We're aligning our strategic objectives for M&A along with the objectives for our clients. So the solutions they're seeking as well as the advancement of each one of our product lines whether it's coordination of benefits, payment integrity or Population Health Management.But we're very specific in terms of the right fit from a product and technology perspective and the right financial fit. So you're right, we are finding some properties that we don't believe command the valuation that they're asking and of course again, we're always in process looking at company. So I think as we said and will continue to say, it's a primary use of our capital.

[Jeff Sherman:]

Yes Ryan, this is Jeff. I think we continue to take a very disciplined approach adding to what Bill has said, we've looked at a lot of companies and for a variety of reasons they just haven’t added up to the right fit for HMS. And so, we're committed to deploying our capital in an efficient and strategic way, so we'll maintain that disciplined approach but we do think there is properties that make sense for as if we can get them at the right price to make the economics work for us.

[Ryan Daniels:]

Okay, thank you for that color. And then, maybe a different topic as my follow-up. You talked a lot about new and enhanced solutions across some of the businesses and I'm curious what kind of investments you're making outside of the leadership in the customer facing organization that can help promote products.I know it can be a smaller group of buyers but still curious if there is could be any forward investments in the sales team of the organization there, thanks.

[Bill Lucia:]

Yes. We are continuing to invest in both the sales team but also additional subject matter experts who can help in the sales process. We have a rather complex business and actually our clients had some complex problems with some of it. So, we're constantly adding more and upgrading our sales account management teams in all of our markets.And we're definitely brining more SMEs in. and last year, we launched an advisory services, a component of our business which is actually contributing to the revenue in a bigger way this year and we expect that to continue to grow. And that, I kind of say is the to the MedeSphere to help client -- help us understand these complex problems clients are facing and then help them better use the products and services we deliver them.So, all of that is being invested then and we are doing some investment this year and we'll continue to do so.

[Jeff Sherman:]

And then, I think if you look at overall customer footprint being in over 40 states in 22 or the 25 largest health plans and the work we do is CMS and the Veterans Administration, our starting point is a very broad customer footprint and so selling more into those existing customers continues to be a critical focus of ours.And then on the PHN side, we said in the past, historically set in the lines when we acquired those businesses had entirely sold into the commercial marketplace and we are also having a lot more dialogue with states on our PHN solutions in the state market, we said that was going to be a longer sales process at the state market is but we are beginning to see more interest in traction on that front throughout.

[Ryan Daniels:]

Okay, great. Thanks guys, congrats.

[Jeff Sherman:]

Thanks.

[Operator:]

Thank you. And our next question comes from the line of Mohan Naidu with Oppenheimer. Your line is now open.

[Mohan Naidu:]

Thanks for taking my questions. Bill, first on the crisis management program that you've talked about. This sounds like it's built on top of Eliza. What is new in this offering and where's this what Eliza was doing before?

[Bill Lucia:]

Well, it's actually leveraging all of the same analytics, the machine learning and all of the strategy and behavioral science about how to reach out to individuals and what modality and outreach they'll respond to. But what we found was we had a couple of clients who really used this extensively during natural disasters.They got excellent feedback from their members and so we decided to roll this up more broadly. And more broadly means that it really we can really use this for any type of natural disaster public health disaster or other crisis that a health plan, PVM pharmacy chain and it's managing recalls because they're responsible for doing the outreach or even broader in public health and state government.So, we have just started to talk with state government about the opportunity here because they struggle with as you know they struggle with being able to reach all of their constituents and that they do have the database of contacts that they can see this and demographic data.We could do the same exact type of outreach, in fact enhance their data what cellphone numbers that they all already have and reach people in advance of a crisis and ends up floating whatever it might be to be able to get them to realize what their health benefits are, to give in instructions on how to be safe during the crisis.So, it's a pretty broad reaching tool.

[Mohan Naidu:]

That sounds very interesting. Thanks for all the color. Any update on the real-time verification product, I thought there were a couple of states and a federal contract that could be a possibility in second half of this year.

[Bill Lucia:]

Yes. So, we have been working with the federal government on through special longer periods and are hoping to get additional funding for that because we had used all funding that they had budgeted. We did go live with another state exchange and we're also using that product in other markets as we enter new markets.So, there are only an it's all a half a dozen of reasonably sized exchanges in the nation that sell to but of course we'll be talking if or not already we will be talking to each of them. But we did go live in Q2 with another state exchange.

[Mohan Naidu:]

On the federal government, Bill, is the expectation that you'll be able to do it get into the open enrolment as we move from special enrolment?

[Bill Lucia:]

We love to, depends on if they aim at something that they want to implement. We are talking a little about it but --.

[Jeff Sherman:]

Yes, we are having those discussions. At this point, giving a timing, that's more likely a 2020 from, Mohan, just given the timing in how they work but we are working to secure additional funding for this special enrolment period.

[Mohan Naidu:]

Great. Thanks a lot for taking my questions.

[Operator:]

Thank you. And our next question comes from the line of Jamie Stockton with Wells Fargo. Your line is now open.

[Jamie Stockton:]

Good morning. Thanks for taking my question. I guess, maybe to follow-up on something I think Ryan was asking about earlier with the population health management platform. What is the timing you think of the state opportunities, is that something that we should be thinking about as maybe a 2020 or 2021 in a -- you said pay you know that something we're working on but it's not imminent. Just any color there would be great.

[Bill Lucia:]

I would say we started seeing revenue in 2020 but like with any new product in a new market, new market for us but a new initiative being sold into a market, you see that ramp up our number of years. The initial states we've had discussions with have been very positive.Like in our commercial market, sometimes when we sell a health plan, we sell with a small project, we get through proof-of-concept, and they realize that yes we're able to move the needle on a specific key you score, states are the same way. So, the nice thing about the states is many of our contracts allow for additional services underneath the contract as long with the vendor and the state agree on it.Many have very low, source limits. So, there could be some proof-of-concept projects that we could even deploy as early as this year because it's really pretty quick to get up and running from the time we sign a contract and get our data which we may already have the data for that client depending on what the job is that they need.Could be 30 days to get the proof-of-concept out the door. And so, but we're really expecting a 2020 impact on state revenue and then quietening from there.

[Jamie Stockton:]

Okay, that's great. And then, maybe on other one. You guys have you've referenced the investments that you're making in your technology and your infrastructure multiple times on this call and previous ones as well.I guess, part of me wonders how much of this is really just about trying to take labor out of the equation and automate things like audits, so maybe you could go after smaller dollar amounts where it's economical versus looking at ways to incorporate more data into the process that might make it more effective.And I know the temptation is going to be the same that they're both important but if you could just give us some sense for which one seems to be delivering better productivity incremental, it would be great.

[Bill Lucia:]

So, I would say that being able to find better, we're able to have a solution that automatically and at a much more level of proficiency find the error. So, using artificial intelligence do them or machine learning and to have less provider aberration because what you find is more accurate and most likely to be an actual actionable recovery is more important to us than actually reducing labor.What we've done as a company is we sell our headcount flat. That doesn't mean we haven’t brought new people in but we have in some areas not have to expand those much in terms of labor. And our goal is as we have people who may be impacted by an automation event that we give them the opportunity to take higher skilled jobs at the company.And in fact a lot of our employees are excited about being able to automate some things that they can do some in the process they're learning more and can do more value-added roles in our company. Because we always need data scientists and business analysts looking at our data.It's only so much the machines are going to do, I mean I know that it's the promise of the future but they still think that they're going to need human eyeballs that understand healthcare.

[Jamie Stockton:]

Okay, thank you.

[Operator:]

Thank you. And our next question comes from the line of Richard Close with Canaccord Genuity. Your line is now open.

[Richard Close:]

Great, thanks. Congratulations on the execution. Jeff, I was curious maybe to hit on the margins a little bit more, making maybe easy for you. Obviously impressive on the leverage from these tech investments. But how would you characterize what inning are you guys in on seeing the benefit from the past investments and expect it continue investment.

[Jeff Sherman:]

Yes. I've said early innings, Richard. So, if you want to memorize the second or third inning, I mean I think we're just to kind of follow-up on the last question. I mean, a lot of the benefit we've seen so far is just on getting better at analyzing the existing data set and extracting more yield out of it because our analytics are better.And that's separating this thing from creating new analytics or automating analytic. This is our initial effort was just how do we get better about what we're currently doing, I think we've seen good results there and have good ability to increase that. I think as we get more sophisticated in our technology deployment, it will be about more about how do we actually use technology to actually create new findings in a more automated way.And we think there is a lot of opportunity for that and we think the marketplace is asking for that and to the extent we can do that, well minimizing provider aberration or needing medical records because that creates a lot of aberration the system is well.I think that represents big opportunities for us. And I think with the new people we're bringing on as well as continuing to look at the analytic possibilities that we have, we still see a lot of runway for margin expansion.

[Richard Close:]

Excellent. So Bill, maybe a question for you here, like a bigger picture question in given the excellent performance you guys have had, just trying to look forward in maybe evaluate potential pitfalls on the horizon. I'm curious your thoughts on two policy proposals.First, the proposed rule I'm posting negotiated prices between payers and health systems, would that impact, do you think that would impact, reduce, or change the opportunities for HMS at all?

[Bill Lucia:]

I don’t. I really don’t think so. Still pricing is still complex, so even though it might be posted, they're still -- they're not going to -- let me give you an example like financing way with the ten-year rollout. So I don't think it's kind of hard to comment on it about the impact it would have when there really isn't what is the target that we're going to move towards. I think what we will more likely move towards is universal coverage and that can be done through Medicare buy-in over a certain age that's positive for HMS because we do Medicaid buy-in for or health insurance premium payments for about dozen states.It could be a Medicaid buy-in. It could be again lifting Medicaid eligibility. So there's a lot of ways to make sure we have universal coverage in the U.S. without a Medicare for all system. And look, I mean, Medicare has a 10% error rate. So if we really want to hand all the healthcare system over to that we would be talking about significant dollars flowing out of the Medicare system. So it doesn't sound feasible.

[Richard Close:]

Thanks for the perspective. Congratulations.

[Bill Lucia:]

Thank you.

[Operator:]

Thank you. And our next question comes from the line of Stephanie Demko with Citi. Your line is now open.

[Stephanie Demko:]

Hey guys Congrats on the quarter and thank you taking my question.

[Bill Lucia:]

Thank you.

[Stephanie Demko:]

So I heard you mention a little bit about your initial foray into social determinants of health, I just want to ask a little bit more about how you're approaching the initiative? Is it through building out infrastructure, partnerships, identifying members that could be in need or something else?

[Jeff Sherman:]

All of the above. So what we do today is for a number of our clients if it's an on-boarding call and again it could be via IVR. Usually is the IVR that we're actually achieving this information, but if it’s an on-boarding call or health risk assessment or a specialized outreach for member retention, the helpline will ask us and we're actually seeing a large focus now on the states in this issue. But the helpline will ask us to ask certain questions, do you feel concerned about food? Do you have a hunger concern? Do you feel that you have a concern about access to shelter?Whatever if you feel safe at home there's a lot of different questions they may ask us to capture and then it's really up to them today and this is where I think health plans and states have challenges is then taking that information and actually connecting the people to those services, but not just connecting them assuring that they actually went and received that service. So that's the types of things that we're looking at through partnerships, through technology build out and potentially through acquisitions is to tie that system together so that there's a closed end loop and we have helped use that information to then allow our clients to make sure that patient has received the right services.We already do take social determinants of health that are either self-report is or that we impute the zip code other socio-economic factors and that is in our predictive and prescriptive analytics tool. So it will tell you as a health plan that you have higher barriers to minimizing this cost curve for this patient or having better outcomes because they do have these social determinants. So that's already in our analytics pool.

[Stephanie Demko:]

Given the complexity of the issue when you think about those different areas where you could look at buy versus build are there certain areas that you think would be better to do inorganically versus organically?

[Jeff Sherman:]

I mean, I'll give you an example. We don't manage a network of social service organizations and then track that network. That may be something that not owning that network, but having the connectivity to all those non-traditional providers that may be something that we would pursue. I mean I think it's too soon to tell, but we have been having discussions with just about everybody in the market that is focused on this issue because it's a big issue for our health plans and it's becoming a bigger issue for our states. In fact, states are requiring Medicaid managed care plans to address this. It's also a big issue for Medicare advantage. So we think this is something that our nation has to tackle when we're tackling treating the whole person.

[Stephanie Demko:]

Understood. And one quick follow-up just on the [pass-out] business. Could you walk us through some of the three different areas and kind of put some takes for demand and traction in the quarter?

[Jeff Sherman:]

Well, we said on the consumer engagement side with Eliza that was a little softer year-over-year because we did have a big project we did in the second quarter of last year. The said piece is growing very nicely. The care management side of it is growing stronger in the care management side and we're ramping up our LA product sales. So we said that was going to be a material number in 2019 where we are seeing some sales wins on the LA side and expect that revenue to be ramping up slowly.

[Stephanie Demko:]

Thank you guys, appreciate it.

[Operator:]

Thank you. And our next question comes from the line of Matthew Gillmor with Baird. Your line is now open. Pardon me Matthew, please check your mute button.

[Matthew Gillmor:]

Sorry about that. I was going to ask you about that competitive environment. There was a report that a large payer may be buying a program integrity platform. So just sort of hoping to get an update in terms of what you're seeing from a competitive standpoint especially as it relates to COB and PI and what a large payer buying a PI platform change things in your view?

[Jeff Sherman:]

Yes, Matthew. So we haven't noticed really any meaningful changes in the marketplace following the news of that potential deal. We really welcome a competitive environment and we do think there are certain dynamics as a result that could yield opportunities for us. And so, I think in the PI side most of the health plans take a first pass with their claims and then use a number of third-party service providers including HMS and others to run on a programs to identify savings, so given the contingency fee model that we are operating in, I think that makes sense.So our focus really is how do we continue to drive more value and more savings for our customers on the PI side and we've said, we think the total addressable market is $5 billion to $6 billion and roughly a $1.5 billion to $2 billion that we think is currently being addressed by external providers. So we still think the wide space opportunity is considerable on the PI side. We continue to have strong interest both in the commercial health plans side or even on the state side, so I think from our vantage point, our focus is how do we continue to capitalize and drive savings throughout all of our customer base and PI.

[Matthew Gillmor:]

Got it and then, one follow-up on the guidance in the margin discussion from earlier, I think on an underlying basis you did about 30% EBITDA margins this quarter if you exclude the reserve release. It doesn't seem like guidance assumes that level of sustainable in terms of what's implied for the back half, even with the revenue pickup that you're talking about. So just assuming my premise is right, can you maybe just give us a sense for what would maybe cause margin the back half to be a little bit lower or maybe the second quarter was just great and you don't want to extrapolate that out yet?

[Jeff Sherman:]

Well, it was really strong again, strong I would say through the first six months of the year we're at about 29% Matt. So if you looked at the low end and the high end of our revised guidance and the revised revenue ranges, you're at 28.5% to almost 29%. So I would say maybe a little secondhand segregation. We are continuing to ramp both investments and people and in product. So I think we will see some incremental ramp up in product development in some of our technology spend in the second half of the year, but nothing else is going to move the overall margin profile significantly I would say.

[Matthew Gillmor:]

Fair enough thank you.

[Operator:]

Thank you. Our next question comes from the line of [Indiscernible] with SVB Leerink. Your line is now open.

[Unidentified Analyst:]

Congrats on the continued momentum here and thanks for taking my question. Just a quick one on your international ambitions, I know you have a Australian research project you commented on, but was curious how you're going to commercialize that and how you're going to kind of attack the international markets going forward? Thanks.

[Bill Lucia:]

Thanks. This is Bill. So we're actually, first use the building, really we're attempting to do is build IP that can be baked into our existing or future analytics service offerings. So the two components we talked about a predictive model for its identifying at the time of prescribing a patient is more likely to become addicted, what is the best treatment plan for that specific individual, who's most likely to relapse after treatment and then a study on the impact of opioids in the third trimester of pregnancy that's what's being done by Stanford.But you can imagine after you have enough data and we have currently six Medicaid agencies committed. I think that's the number of us using five years of history and then one pretty large Medicaid managed care plan. When you consider a database of that size for research, you can come back with building an interesting model that could really impact this crisis. So it could be something that would be in the tools of either a prescriber or it could be in the tools of a pharmacy or it could be in the tools of the payer when they get that first claim, so they can intervene.And the second of course, which we talked about with SMU is being able to do the same thing to identify at admit who is most likely to readmit for that specific type of procedure and then making sure that they are building the appropriate discharge planning. So as to both our care management, our analytics and even our Eliza outreach.Now these issues also exist in Australia. So the goal would be ultimately to bake them into sales of products into Australia. We've not actually signed any business there, but the same problems exist in their healthcare system and they do have both a private and public payer system. So we would anticipate that that would be able to be our foot in the door and we are also working with Australian universities on other initiatives.

[Unidentified Analyst:]

Got it, thank you. And then one more if I could, just going back to the all the policy noise we do have the challenges to the ACA going through the courts right now. Can you remind us what your revenue exposure is to the ACA and Medicaid expansion in particular? Thanks.

[Jeff Sherman:]

This is Jeff. There's a lot of factors that go into that. So making precise estimates are challenge, but our best estimate based on what we know today is a total repeal which again we view as very unlikely would have a low single-digit impact on our COB business. So even a lower single-digit impact on total revenue and as we've said in the past we believe our continued yield improvement efforts could really offset that. So I think that's really the answer.We have very little exposure on the exchange side and even today CMS cannot discreetly point out how many members have been added as a result of the lower income thresholds. What gets reported is just the total number of why's that grown since the ACA was signed and so there are estimates that a significant chunk of the expansion would have been covered under the old income requirements anyway and so I think that would really lessen the impact if there was even the unlikely outcome of a formal appeal. So again we said it was a positive on the way up. We never said it was a huge major impact, but we do think that we have the ability to offset any of the exposure to our yield activities.

[Unidentified Analyst:]

Got it, thanks, congrats again guys.

[Operator:]

Thank you. And our next question comes from the line of Frank Sparacino with First Analysis. Your line is now open.

[Jeff Sherman:]

Hello Frank. Are you on mute?

[Bill Lucia:]

Andrew, would you open up that line for Frank?

[Operator:]

Yes. One moment please. Frank your line is now open.

[Frank Sparacino:]

Am I good?

[Bill Lucia:]

Yes we hear you now.

[Frank Sparacino:]

Yes. Just real quick. If we put aside the Medicare RAC reserve issue this quarter, is there any change in the outlook for the RAC business in 2019 and the reason I ask is there's been a few articles talking about ramp up in activity. I don't know if that's a forward-looking commentary but any thoughts there?

[Jeff Sherman:]

It's an area we've said, we expect to see double-digit growth Frank in our Medicare RAC revenue. So we did about $12 million last year excluding the reserve release. We are continuing to see more edits being improved quickly and so I think it's an area where we continue to see opportunity and have seen growth and expect to see more growth for the year.

[Frank Sparacino:]

Thank you.

[Operator:]

Thank you. And our last question comes from the line of David Windley with Jefferies. Your line is now open.

[David Windley:]

Thanks, I appreciate you taking my question and kind of a big-picture one that's follow-up to several. In Medicare, Bill it sounds like kind of the reserve release will cleanup off the balance sheet that's the RAC largely buttoned up ongoing, but they kind of buttoned up at that level. You mentioned in a prior answer some things around social determinants of health and the relevance of that to Medicare advantage plans. I wanted to get a more comprehensive view of what HMS-wise opportunities or exposure is in Medicare specifically short of policy change, but thinking about if the policy does change in a Medicare direction what the opportunity does that -- where do you grow with Medicare if Medicare grows? Thanks.

[Bill Lucia:]

Well, I think Medicare is going to grow no matter what because of the 10,000 people a day that are aging into Medicare with more than two-thirds of them selecting Medicare Advantage. So the opportunity to serve our Medicare Advantage clients or new Medicare Advantage clients only increases. With the administration's discussion about their focus on next year plans being able to write a prescription for food and actually make sure that that transaction goes through the system that's a very different thing and so that's going to need a lot of connection points. It's going to need collaboration with different entities. The kinds of things that HMS is good at and we think all of the other programs that we offer today apply to Medicare.Medicare has coordination of benefits opportunity. Medicare has a payment integrity opportunity and Medicare has a significant opportunity for raising star ratings, making sure people are getting their primary care business each year or taking their medication or being linked to appropriate non-traditional providers and closing those gaps and social determinants of health. So we think all of those areas in addition to our predictive analytics tools are very important in the Medicare population. So Medicare growth is good for us.

[David Windley:]

Super and then kind of the philosophical one on margin, as you talk about the earlier question about incremental margin that you are seeing and then separately investment. Do you have a structure or philosophy around how much of the leverage that you are able to generate in the base business that gets reinvested back in the business versus what you deliver to the bottom line or is that still kind of a project-by-project and can be kind of lumpy? Is there a philosophy to try to manage just certain steady amount of margin expansion over time as you're making those investments? Thanks.

[Jeff Sherman:]

Yes. I think we're looking at where is the best place to deploy capital that's going to earn a good return and so it's not necessarily an endgame in mind much rather what is the most strategic way we can deploy capital and earn a return realizing that we have a lot of liquidity, our CapEx investment has been ramping up and so I think from that standpoint we're positioned well. We have the resources to do it. I think it's more about just managing all the opportunities we have and how do we deploy capital to maximize the biggest opportunities because we have a lot of opportunities. It's really about prioritizing them that we're trying to focus our capital deployment.

[David Windley:]

If I could let me ask that in reverse. Would you anticipate that there would be investment in technology or otherwise that would be significant enough and that you would want to make that would actually dilute the margin for a period of time because you're investing as that aggressively into the business that would more than overwhelm the incremental margin from the natural structure of the business?

[Bill Lucia:]

I think at this point we believe we can continue to invest in key margin expansion to answer your question, I understand your question now. We believe we can continue to invest at a level we need to be strategically competitive and continue to expand margins.

[David Windley:]

Perfect. That's the answer I was looking for. Thank you very much.

[Operator:]

Thank you. I would now like to turn the conference back over to CEO, Bill Lucia for closing remarks.

[Bill Lucia:]

We want to thank everybody for your interest in HMS and attending our call and we do look forward to speaking to you again on our third quarter call. Have a great weekend everyone.

[Operator:]

Ladies and gentlemen thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a wonderful day.