HMS Holdings Corp
Q1 2014 Earnings Call Transcript

Published: 9 May 2014

[Operator:]

Good morning. My name is Andrew, and I will be your conference operator today. At this time, I would like to welcome everyone to the HMS Holdings Corp. Q1 2014 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator Instructions) I will now turn the call over to Jzaneen Lalani from HMS Holdings. Ms. Lalani, you may begin.

[Jzaneen Lalani:]

Good morning and thank you for joining us today. As you know, we distribute our earnings release through our Web site, hms.com under the Investor Relations tab. Under that tab, you will also find the supplementary slides that accompany our call today. This call is also being webcast. Please click on Events & Presentations under the Investor Relations tab to access the webcast. We will make a replay of the call available on our Web site later today. Before I turn the call over to management, let me remind you that some of the information presented today regarding the Company’s future expectations, plans and prospects are considered forward-looking statements under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements are based on the Company’s current expectations and actual events may differ materially from those expectations. We refer you to the Company’s filings with the Securities and Exchange Commission, including our Annual Report on Form 10-K and our quarterly reports on Form 10-Q, which identify important risk factors that could cause actual results to differ materially from those contained in the Company’s projections or forward-looking statements. All information on this call is as of today, May 9, 2014. And the Company disclaims any intent or obligation to update any forward-looking statements as a result of developments occurring after today’s call. During this call, we will also be referring to several non-GAAP measures. The press release issued this morning includes a reconciliation of these measures to GAAP measures and is available under the Investor Relations tab on our Web site, hms.com. On the call today is Bill Lucia, our President and CEO and Walter Hosp, our CFO. Walter will begin with a review of our financials and outlook then Bill will take you through a discussion of the Medicare RAC procurement. The positive impact of increased Medicaid enrollment on the business, and what are the progresses we’re making on a commercial market strategy. We will then open the call up for your questions. Walter?

[Walter Hosp:]

Thank you Jzaneen and good morning everyone. I would like to begin by going for our income statement for the first quarter 2014. Then I’ll review our quarterly revenue and margins adjusted for the Medicare RAC contract and our outlook for 2014. Revenue for the quarter decreased 11.9 million or 10.2% year-over-year to $104.7 million. As expected revenue in the quarter was impacted by our Medicare RAC contract, which was $10.6 million in the quarter versus $22.8 million in the same period last year, a year-over-year decline of 12.2 million. This decline reflects the impact of the wind down of the current contract and the two midnight rule claims processing moratorium. From a market perspective our state market revenue for the quarter was only down 1% year-over-year to approximately $52 million, despite the considerable migration in lives from fee-for-service to managed care. Our commercial market revenues were up over 8% in the quarter to approximately $37 million due to an increase in the number of lives and contracts coming online. And our federal market was down over 47% to 14.7 million due mainly to the Medicare RAC contract. Turning to expenses, we continue to make significant progress on our cost control and restructuring efforts. Total operating expenses were 96.9 million for the quarter a decrease of 4.4 million or 4.4% versus the same quarter last year, and over $5 million lower or 5% less than the fourth quarter of 2013. Nearly all of this expense reduction came from our non-Medicare RAC business. Additionally in late March 2014, we reduced headcount by 116 FTEs, primarily supporting the Medicare RAC contract. As a result, we expect to see the financial benefit of this reduction in the second quarter. Total cost of services for the quarter was 80.4 million, a decrease of 5.1 million or 6% compared to the prior year. Compensation expense related to the cost of services was 46.9 million for the quarter an increase of 6.7% year-over-year. As a percentage of sales, compensation expense will be higher than in 2013 until revenue from the new RAC contract begins to flow through our financial results. This is impart because we retained some Medicare RAC headcount to support our growing commercial business and in anticipation of new Medicare RAC contracts. In the first quarter, we had an average non-SG&A headcount of 2,295 employees, a 6% decrease compared to 2,441 employees in the prior year period. Severance expense related to our continuing restructuring efforts was 0.4 million. Although compensation costs have grown year-over-year, this expense was 0.8 million less than the prior quarter as a result of our cost cutting initiatives. Occupancy cost for the quarter were 4 million, down 14.3% from the prior year period. This includes efficiencies as we continue to consolidate our offices and bring more functions into our Irving headquarters. Since the first quarter of 2013, we have closed six offices and downsized three. Direct project costs were 7.7 million for the quarter a decrease of 5.6 million or 42.2% versus the prior year quarter. This decrease was primarily a result of fewer temporary personnel, lower professional fees and reduced medical record expenses in the Medicare RAC contract. Operating expenses have decreased two quarters in a row and our cost run rate decreased by 9% from Q3 2013. Selling, general, administrative expense for the quarter was 16.5 million a 0.7 million or 4.4% increase over the prior year, compensation expenses increased by 0.9 million and data processing expenses by 0.3 million. Income taxes for the quarter were 2.4 million or a $2.2 million or 47.9% decrease over the prior year. The effective tax rate for the quarter was 41.6% versus 39.7% last year. The increase in the rate is primarily due to reduced revenue and lower tax environments. Net income for the quarter was 3.4 million, a $3.6 million or 51.9% decrease over the prior year. Fully diluted weighted average common shares outstanding for the first quarter was 87.9 million shares. Fully diluted GAAP net income per share was $0.04 compared to the $0.08 for the same period last year. Adjusted EPS was $0.11 for the quarter compared to $0.15 or a 26.7% decrease compared to the same period last year. Adjusted EBITDA was 23.9 million for the quarter compared to 31.6 million, a decrease of 24.4% over the same period a year ago. We ended the quarter with cash and cash equivalents of 76.3 million and we had cash on-hand yesterday of approximately $68 million. The quarter-end cash balances after making a $35 million debt repayment. We ended the quarter with 197.8 million in borrowings under our $500 million revolving credit facility. Now let’s drill down into the quarterly trending of non-Medicare RAC revenues. First, I’d like to reiterate that our quarterly revenues are variable and subject to large fluctuations in any given quarter. This is why we do not provide quarterly guidance and while we believe that looking at developments on a full year basis is more informative than looking at any given quarter. This is particularly important to keep in mind when comparing our year-over-year quarterly results. Now having said that it is important to note that historically first quarter revenue is our lowest and is usually significantly lower than the fourth quarter of the prior year. This is particularly true in our COB business, although down about 3% year-over-year, COB revenues were actually higher in Q1 of 2014 than in the fourth quarter of 2013 by about a $1 million. While some Q4 revenue shifted to Q1 we are seeing a stabilization of our COB revenues in advance of the growth we expect to see later in the year from new lives entering the Medicaid program over 2014. We’re also seeing a positive impact from operational improvements and new sales. The 94.1 million in non-Medicare RAC revenue is a good start to the year and is consistent with our expectations. Now let’s turn to margin improvement. We expect to see in our business when we adjust for the Medicare RAC contract. This chart compares year-over-year operating margin for the first quarter with adjustments for the Medicare RAC contract. For the purpose of this analysis we kept Medicare RAC revenue and expenses the same for both Q1 2013 and Q1 2014. Because we did not reduce the cost structure supporting the Medicare RAC contract until late March, first quarter expenses in both 2013 and 2014 are fully loaded. So the reduction in operating expenses of 4.4 million is nearly all attributable to the non-Medicare RAC portion of our business, where not for the Medicare RAC contract operating margins would have increased from 13% to 17% in the quarter versus the actual reported decrease to 7%. We still cannot provide meaningful guidance on the full year Medicare RAC revenues at this time due to the procurement uncertainties that Bill will review in a moment. We do know that revenue in Q2 of 2014 from the MC RAC contract Medicare RAC contract will be lower in Q1 as the current contract winds down. Given our strong start to the year however, we believe that we’re well positioned to achieve our 2014 guidance of 10% to 11% growth in non-Medicare RAC revenue with expansion of operating margins by 5% to 6%. Now I’d like to turn the call over to Bill.

[Bill Lucia:]

Thanks Walter and good morning everyone. Let’s begin with our latest information on the Medicare RAC procurement. As you know on April 23rd, we learned that the GAO had denied all protests related to the payment terms in the Medicare RAC procurement. We subsequently learned that CGI had filed a lawsuit with the U.S. Court of Federal Claims challenging the terms of the solicitations. At this point we do not know the impact of this lawsuit on the timing of awards. But it does appear from the docket that the CGI lawsuit is on an accelerated timeline. We all know the Medicare RAC program has been an enormous success, since its onset Medicare RACs have recovered close to $5 billion for the Medicare trust fund. In the last quarter of federal fiscal year 2013, the RAC program recovered $1.4 billion that number dropped more than half in the second quarter due to the wind down of existing contracts and the moratorium on in-patient hospital audits. Given the importance of the Medicare RAC program to trust fund, we believe that CMS should proceed without delay to issue awards. We stand ready to assist CMS in making the RAC program an even more effective tool in identifying fraud, waste and abuse in the Medicare program. So now let’s shift to Medicaid. The increase in Medicaid enrollment due to the ACA provides a direct and positive impact on our business. As you can see from this map, 10 states account for 80% of Medicaid expansion. HMS has a significant footprint in eight of those states and near 100% coverage in other two. The Congressional budget office estimates that the ACA will result in 8 million new Medicaid enrollees in 2014, and over 4 million have already enrolled. Today we’re able to track 3 million of these lives in our client’s eligibility data and we expect this number of approximate the CBO number overtime as clients resolve processing backlogs and new members begin to appear in their files. This increase in lives translates to $4 million to $8 million in additional potential revenue for HMS in 2014 and significantly more on an annualized basis in 2015, for both our state government and commercial businesses. This also bodes very well for long-term organic growth as membership is expected to grow to 95 million members by 2020. The states and their managed care plans now have to absorb the significant membership growth rather quickly and enrollment backlogs already do exist. As a result, it will be very tough for them to project revenue streams, understand the impact of inverse selection and address member turnover and retention. Our clients are going to need new ways to contain costs, measure risk and gain insights into their own data. This is where we can use our analytics and broad set of services to impact our client’s programs. For example, our state clients need to ensure that their Medicaid enrollees have access to a broad provider network and that Medicaid does not crowd out the private group employer market. HMS’ ability to identify other coverage and keep as many members as possible enrolled in employer sponsored insurance can ensure access to a broader network of providers, offload primary risk to the group coverage and leverage Medicaid solely for premium assistance call insurance and deductibles. There is also the political reality that states will eventually start to pay an increasing share of the costs of this expanded population and must now prepare to ensure that all cost containment measures are in place. We hope to have better fiscal controls over the increased state burden but also to help avoid the political backlash that is likely to occur when state Medicaid spending rises significantly. Now let’s move to the commercial market. As we’ve discussed before HMS has followed a land and expand strategy in this market. Having begun marketing to Medicaid-only health plans in 2006 and expanding on those relationships by adding new products and serving their other lines of business, including Medicare advantage and private insurance offerings to employers and through exchanges. Last quarter we made significant progress under this strategy adding new services and new lines of business to commercial clients with large membership volumes. Many of these carriers are facing significant business pressure, due to the ACA and they are drawing on our broad and proven set of solutions to better manage their risk. In just the past two quarters, we have closed sales that have added more than 6 million new commercial lives to our business. You can see from the pie chart that these new lives represent a diverse set of products, including clinical services, data mining, credit balance audits and fraud waste and abuse services, further extending our value to our clients. Taking into account this product mix, each new life represents between $1.50 and $6.50 in per member per year revenue, giving us confidence in the 25% to 30% growth rate we have projected for this market in 2014 and a robust platform for growth in 2015. Now it’s difficult to be more specific about the value from any one contract or scope expansion, because it depends on many factors. First, it depends on the service being delivered. For example, COB has a revenue profile that is different from clinical services. Second, it depends on whether the client has fully outsourced the service to HMS or we’re secondary to their own services. Third, for audit services it depends on the nature of the audits, it maybe financial or clinical, they may be performed on the Medicaid, Medicare or the private market lines of business and they may be performed on a prepayment or post-payment basis. All of these factors impact the contract value. As you see it’s a very complex model to build, so in order to give you more insight we’re providing the number of new lives, services expanded on existing lives and a rather broad range of revenue per member per year to give you a sense of the magnitude of new contracted revenue. We’re clearly benefiting from the centralization and expansion of our commercial sales activities but also from the market demand for more effective solutions. This post reform environment continues to be challenging for commercial insurers for a number of reasons. They’re facing a previously uninsured population with a pent up demand for services and utilization is sure to increase. They will be required to set rates for this population well before they understand the new member’s clinical profiles, further complicating forecasting of costs and revenue. And when they’re facing new taxes and fees related to the FDA. It’s also estimated that over 40% of the newly enrolled are susceptible to churn moving in and out of Medicaid or subsidized exchange policies. This further complicates member engagement and retention strategies. And our nation’s healthcare market is shifting. It’s shifting financial and medical risk from a heavily health insurance and employer raise system to consumers or employers, employees with providers and the government bearing more risk. So for the first time many large insurers will have to pivot and shift from traditional marketing aimed at employers and brokers to marketing directly to consumers. This will require investing in new types of services to attract and retain profitable members a further drain on profits. All of these pressures are driving commercial insurers to seek cost containment, revenue protection and data analytics solutions. They are coming to HMS for a variety of reasons. First, we already have their data in-house and we have transformed that data into meaningful insights and results for them, using this same set of data we’re able to deliver value across the entire value chain because our solutions are broad and deep. Second, we already know their providers and have effective relationships and electronic audit platforms they are used to working with. We know this population of members, the turnover and the eligibility dynamics and can help them solve issues related to premium assistance, coordination of benefits or risk management. And lastly by consolidating to one or a limited set of vendor partners plans can reduce the risks and costs associated with managing multiple vendors and clearly mitigate provider confusion and abrasion. HMS has the market knowhow, a security infrastructure they already trust and the scale to support their growing needs. Now these graphs depict the success of our land and expand strategy at two of our large commercial clients, where we initially began as their COB vendor. From 2012 to 2014 we responded to their evolving needs with new products including recovery audit, fraud waste and abuse and clinical services. As a result of our strong partnership with these clients and the broad portfolio of services we offer, we’ve been able to significantly grow revenue from these accounts. Developing strategic partnerships with our clients is a fundamental element of our growth strategy. So let’s talk about our strategic outlook. HMS started the year in a solid position with the ACA providing considerable momentum for both our Medicaid coordination of benefits business as well as for commercial sales. As a result, we believe that we’re on-track to achieve our 2014 guidance. Growth in Medicaid will support robust growth in 2015 and drive organic growth for the foreseeable future. We continue to improve our cost structure, reallocate resources toward higher growth areas, improve product yields and reengineer our infrastructure to further remove costs. We foresee a significantly lower growth rate of expenses in 2014 than in 2013 and historically. We continue to gain traction in the commercial market today we serve seven of the 10 largest commercial insurers in the nation and in total over 200 Medicaid managed care plans. We’d expanded our presence in this market significantly over the past few years. Just three years ago we added, we had or served approximately 34 million commercial lives under contract. We’ve added new clients as well as new products to existing accounts over the years allowing for deeper and more valuable partnerships. We now have over 70 million commercial lives under contract, more than double from 2011. The commercial market will grow from a number of other factors. Medicaid lives continue to enter this market through Medicaid managed care or qualified health plans. Medicare will continue to grow as a result of aging baby boomers and people living longer with chronic illness. And while recent reports show that Medicare fee-for-service enrollment may remain flat, Medicare advantage enrollment is growing. Our qualification as the nation’s most effective Medicare RAC give us competitive strength in offering data mining and clinical services to these plans and our recent sales are an indication of that. And finally, the commercial market is moving rapidly to a consumer driven system, requiring carriers to identify and retain profitable members and expand cost containment and revenue protection services, to mitigate the new risks and challenges to their businesses. The commercial market will continue to be the biggest growth driver for HMS. On the topic of Medicare RAC, we believe the program should continue without delay. According to a recent report on improper payments issued by the department of health and human services OIG Recovery Audit Contractors increased recoveries by over $486 million from fiscal year 2012 to fiscal year 2013, accounting for the largest improvement of any healthcare integrity program during that time. The simple truth is that the RAC program has been extremely successful in protecting the integrity of the Medicare trust fund which continues to meet greater fiscal control over improper payments. We believe CMS understands this and we hope to be in a position to help them shape a program that will achieve the goals established in the original regulation. In closing, HMS possesses vast amounts of unique data and analytics that can be used to help clients in all of our markets to control costs, manage risk, impact quality and protect revenue. Our analytics agenda includes continued investment in our proprietary platforms to leverage the breadth and depth of our data as well as targeted acquisitions to augment organic growth. This presents exciting opportunities for the future, for our clients, the healthcare programs they serve and our shareholders. Now let me open up the call to questions. Question-and-Answer Session

[Operator:]

Thank you. (Operator Instructions) And our first question comes from the line of Ryan Daniels from William Blair. Your line is open. Ryan Daniels - William Blair & Company Yes, thanks guys, good morning. Maybe, Walter, one for you to start with. Just looking at the Accounts Receivable and Medicare RAC actual reserves, it looks like they are coming down, which I would expect given the wind down in the lower revenues. But a twofold question. Is any of that related to releasing some of the reserves into your revenue line? And then second, any thoughts on the reserve rates and if that's changed at all over the last three to six months given the current appeals trends?

[Walter Hosp:]

Thank you for that question Ryan, so on the reserves that we have for Medicare RAC and total reserves for appeals, let me start with saying where we were at the year-end December and then where we ended in March, I’ll go right to the RAC one, so on the RAC itself at year-end 2013 we had 49.4 million in reserves for the RAC and at the end of March we’re showing 37.4 million. What happened in the quarter is, not only did we have lower revenues coming in as you mentioned Ryan, which makes the reserve pool growth at a slower rate, but we also had a onetime, or a catch-up payment if you would for 2012 that came through for approximately $12 million that reduced the reserves for this item, and that goes back and covers primarily 2012 activity, as you saw CMS had reported and closed that activity there and in fact they reported that the actual reversal of appeals for claims that had been submitted was 7% for the entire program, okay. So we received this, we appropriately drew it down from our reserves. And we think our reserves are adequate and proper for going forward. We do not change have reserve percentage of approximately 18% for the specific appeals, and that will move on for this. Ryan Daniels - William Blair & Company And based on the closure of 2012, do you actually have the appeal rate? So you reserved 18%. What was it when all was said and done now that that's closed?

[Walter Hosp:]

Well as I said our -- from the very beginning even before we acquired HCI, we’ve been reserving at 18% for appeals under this contract. And we’ve continued to do that through this contract. When we go to the next contract we’re going to have to look at a new set of -- if you would actuarial information related to the contract and the expectations here, but the payment that happened here did not caused us to change our 18% basically that we had been reserving for appeals and we’ll do so on this contract for the remaining life going into Q2. Ryan Daniels - William Blair & Company Okay, okay.

[Bill Lucia:]

Ryan if I may, Ryan this is Bill if I may add a little color to that. So sometimes when the fuel rates are reported and the only factual reports are from CMS, for fiscal year 2012 of the over payment determinations providers actually appealed, so that’s you got to realize there is a significant number of claims that were found to be over payments. Out of those appealed providers successfully over turned 26.7%. But if you take that as a percentage against all over payments it moves it down to 7%. So we have a reserve of about 18%, there was a 7% net reduction, so we feel that reserves are adequate and will be going forward. Ryan Daniels - William Blair & Company Got it. Very helpful. And then one final one and I'll hop off. Just in the client case studies, those are interesting, two very different profiles. I think one client showed fraud waste and abuse of the lowest sales stream and the other one had that as the highest sales stream. So, Bill, longer-term, how should we think about the opportunities in those various product lines? And maybe as a follow-up, what are you doing internally both to land these new accounts and expand within existing accounts from sales force investment and commercial opportunity investments in the platform?

[Bill Lucia:]

Thanks that’s a very good question. Where we have been centralizing our sales force, as you know we have new leadership over our commercial markets, Doug Williams joined us late last year. His background was leading very large sales teams actually with the Head of Healthcare Sales at IBM, Protiviti has very, very strong background and building large sales teams facing the commercial payor marketplace. So Doug has been leading that sales team and we’ve had very good results in developing new sales, we’re extremely focused on the relationship building, building that deeper relationship with our existing customers, our expand strategy. And then lastly they’re just has been a pull from the market. I don’t want to sound overzealous about this but we get a call once a week from many of our customers saying I have a new problem, it’s related to the ACA, or states have now asked me to do x with my exchange population, can you help because you have my data. So it’s a real market pull and it’s an exciting time. Ryan Daniels - William Blair & Company Okay, thanks guys.

[Operator:]

Thank you. Our next question comes from the line of Bret Jones from Oppenheimer. Your line is open. Bret Jones - Oppenheimer & Company Hi. Good morning and thank you for taking the questions. I wanted to start with the guidance, especially on the commercial side, and get a better understanding for how commercial ramps. Obviously, you talked about 6 million lives added over the last two quarters. This quarter grew 8%. You're still talking about 20%, 25% for the full year. So can you give us a sense for how we get comfortable with that and just sort of give a sense for how long it takes for these commercial contracts to start recognizing revenue?

[Bill Lucia:]

So Bret there is really two major -- or there is three major factors to consider. The first is really the expansion of the Medicaid population. We initially in our forecast assumed that at some point this year we would be able to touch or provide services on behalf of 4 million of those members. This is the end of Q1 we already have 3 million in our pipes. We expect that number will grow significantly, but we’ll definitely achieve the 4 million number and much earlier than we had planned which means we had always said that would be back-end loaded, we will start to see revenue from or we have already started to, but we’ll start to see revenue from expansion lives in Q2 and we think that’s a real positive. So we expect that this original number we put in our budget of about 4 million bucks for Medicaid expansion will be larger. So that’s some wind in our sales that give us confidence in the second half of the year. The other is we have sales that closed in Q3 and Q4 last year that are in implementation, so they will be in implementation some are coming online this quarter, some in Q3, some in Q4. And then lastly on the new commercial sales we have as we said landed over 6 million new lives in Q3 and Q4 of last year and in this quarter, those lives are now in implementation and based on the actual go live dates revenue run dates, the kind of per member, per unit revenue, we believe that this is going to impact 2014 of course a bigger boost in 2015. And last but not least we focus significantly on yield and so we are expecting an increased yield on our clinical and non-clinical COB lines of business this year, so we’re very confident to hit that, hit the larger revenue growth that we anticipated. Bret Jones - Oppenheimer & Company So, is it safe to say that you're not dependent on signing new commercial lives to hit the 20% to 25%? That's kind of what it sounds like. I just want to be sure.

[Bill Lucia:]

That is, at this point it’s contracted revenue and implementation backlog. Bret Jones - Oppenheimer & Company Alright, great and then just lastly, I just wanted to get a sense for you had a pretty wide range on the commercial side on what the revenue per member per year would be. Can you give us any sense for where clinical services falls within that range?

[Bill Lucia:]

It’s at the higher end, but it does depend on the scope so we could be the second behind the client’s best efforts, so we can be at the top and there would be variations in that per member, per year range but a good ballpark is anywhere between 5 to 6.50 per member per year if we sign a million member Medicare plan which we did this last quarter, we’re talking about on a annualized run rate we think that’s equal to $5 million to $6.5 million or $7 million in revenue a year. Bret Jones - Oppenheimer & Company Alright great, thank you very much.

[Operator:]

Thank you. Our next question comes from the line of Robert Willoughby from Bank of America, Merrill Lynch. Your line is open. Elizabeth Blake - Bank of America Merrill Lynch Hi. Good morning. This is Elizabeth Blake in for Bob today. Could you explain the rise in days sales outstanding over the past few quarters please?

[Bill Lucia:]

Yes, so a couple of factors go in there, one, DSOs are obviously impacted by the receivable length and by the revenues that occur in the quarter. Because of the lower revenues that we’re seeing here DSOs are naturally going to extend from a mathematic point of view, the other part of it is, just our mix of clients and the terms that we have impart as we’ve been growing the Medicare RAC contract, that particular receivable is longer dated and adds to the average DSOs that come out of that. As we’ve also conformed some of our revenue recognition methodologies across some of our products and services that has added to some of the DSOs. We keep adding new products and services and as they come up we’re aligning the revenue recognition consistently across all those new products and services, so I wish I could say the DSOs I would expect something to drop significantly and of course you’re going to see now in subsequent quarters with the lower Medicare RAC revenue, an impact from that, but it’s a very complex set of mixes that are going on in the business here. Longer term, I’m talking much more than the next few quarters as the commercial revenues come in, those have more consistent and shorter collection terms on that and should overall average down DSOs but we have, and you’re going to see that for probably the rest of this year. Elizabeth Blake - Bank of America Merrill Lynch Okay, thanks. That's helpful. And you were calling out some HDI expense reduction that you began in late March in your slide deck. Could you elaborate a little bit on what exactly you're doing there and maybe quantify what the impact would be?

[Bill Lucia:]

So we reduced about 116 FTEs in late March that impact will happen in Q2 and beyond. It’s about 2 million in expense reduction. The other, we’ll continue to look at that staffing to see if it makes sense to do reductions or furloughs of staff, but we’re leveraging that staff for the steep climb we have on commercial sales implementations, and of course there is -- we are waiting for the contract awards on the new RAC. Elizabeth Blake - Bank of America Merrill Lynch Okay. And just one last question for Walter. I mean with the stock at these levels over the past quarter, we were I guess a little bit surprised to see deleveraging as opposed to share repurchases. I guess why, why not any buybacks in the period?

[Walter Hosp:]

Okay first-off is that we have done some share repurchases in the fourth quarter of last year and this is a topic that we review as our Board quarterly. We also looked at use of our cash and there is a 2% interest arbitrage between keeping cash balances and debt under our revolving credit facility, so every dollar of debt that -- so if you paid down $100 million of debt versus having it in cash, you save 2 million to the P&L, so there is a benefit from doing that. Now when you come to those broader topics of share repurchases, again the Board has regular quarterly discussions on this and we recognize the low share price. But we are still trying to maintain our financial resources. In dry powder if you would with the first priority being for acquisitions. We do have a very active program and hope to have at least one acquisition this year and that should -- the signal that we haven’t bought shares should not necessarily be confused with lack of confidence in the future of the company, but what our capital planning is going to be I guess appropriate for our business outlook which includes acquisitions and maybe additional capital requirements that are required under the new RAC contracts when they get awarded as well. Elizabeth Blake - Bank of America Merrill Lynch Okay, that certainly makes sense. Thanks a lot Walter I will see you next week.

[Operator:]

Thank you. Our next question comes from the line of Dave Windley from Jefferies. Your line is open. Dave Windley - Jefferies & Company Hi. Thank you. Good morning. Could you on Medicare RAC, could you talk about CMS does move forward what your view is of the sequence of awards, the current view on your current interpretation of how many contracts and individual bidder company could win. And your current view on what the DSO impact would be given some responses that have been out on that issue?

[Bill Lucia:]

This is Bill let me try to answer some of your questions. As we talked about the protest has been denied there is a lawsuit in the Federal Court of Claims. Now we have been looking at the core docket and see that there is a hearing on June 6, and we understand that’s accelerated timeframe. So we’re hoping that we’ll get a quick resolution from that and that awards will get issued. It is possible -- we believe it’s possible for a vendor to be awarded two regions through the information we received, through the actual protest and through the GAO, we notice that there have been bidders, four to five bidders depending on the region. So there has been bidding activity but one thing that I will remind everybody, it’s a very high bar that previous performance criteria is a very bar and because we were the most effective RAC we believe that we have great opportunity to be selected as a RAC if not two. Dave Windley - Jefferies & Company Thanks for that, Bill it’s helpful. Do you have any current estimates on if we were to put ourselves forward and imagine that the contracts have been awarded and you are back to receiving claims fees and in recovery activity, how much of the kind of pool of claims that had been available to you before will not be as a result of the two midnight day rule?

[Bill Lucia:]

So that’s a tough one to answer because first we have to get the contracts, we have to negotiate the contracts and statements of work with CMS. We also have to understand what CMS policy will be about the two midnight rule. And quite frankly well there is a two midnight rule. There are discussions, debates and discussions in Congress and with the AHA about whether or not that will survive. Regardless of that will surviving or not, you can’t have a program with error rates exceeding 10% and inpatient short stays being the highest problem area not being audited any longer. So I can’t give you a timeframe when that will happen, but purely good government and some fiscal responsibility tells you that those audits will begin again. Dave Windley - Jefferies & Company Very good and switching gears on last question here. Am I understanding you correctly on Medicaid COB that you’re seeing these lives in the pipe and you expect that those will have a positive impact but they did not impact 1Q meaningfully, is that the right interpretation I guess I am trying to still trying to go back and reconcile down year, understanding sequentially but a down year, year-over-year in COB relative to an environment with that we certainly are looking forward to that being a nice growth driver?

[Bill Lucia:]

Right, it was a very, very I would say minimal impact in Q1. Most of our data -- most of the states had backlogs and processing, as the members became eligible they moved into the state systems, the state data of HMS is -- there is some latency there. It could be a month to two months before they appear in our files. So as we said we now concede 3 million of the 4 million that are expected to have already deemed eligible are now in our files. And most of that came through the March files that we received around in first two weeks of April. So what that means is they’re going through our Q2 processing. So we’ll see a bigger lift in Q2 and then further throughout the year, now there will be other people who became eligible retroactively in January that will still appear on our files in future months and that will give us both those lives but potential retroactive claiming opportunities. So while we would have like to have seen more in Q1, it’s really the enrollment backlogs and the latency of the data that’s caused us to see this now in Q2 and beyond.

[Walter Hosp:]

Dave you had asked about DSOs under the Medicare RAC contract which we hadn’t response to yet, but let me talk about what we know about the contract at this point and the economics or cash flows versus the accounting treatment on that. I mean clearly DSOs would go up with it, because the payment terms are going to be extended on that. There is no question on that. But if you look at cash flows from these contracts with what we know right now, we could finance and it would require additional working capital the amount of which we can’t determine at this point but we could finance two contract wins with the available capital that we have today. And so yes there would be a portion on a cash basis of delayed payments on some of the work being done there, how much and the details of that we have to see in our final contract. And also without a final contract it’s very hard to do any solid interpretations of revenue recognition. Having said that as you know for the existing contract we have reserves and those reserves are calculated based on again like an actuarial basis on what the historical levels of appeals might be. We’ll have to do a new calculation under any new contracts and that reserve portion could absorb some of the impact of the extended receivables. So I would have some number different than 18%. Or a portion of revenues maybe actually deferred and put up on the balance sheet. In either case I think we can provide additional transparency regarding that contract so that you would be able to see and judge the economic impact and how -- when the financial results of that would flow through our P&L. But at this point we can’t give a lot of specifics on it. Dave Windley - Jefferies & Company Okay, thanks for the additional color I appreciate that.

[Operator:]

Thank you. Our next question comes from the line of Jamie Stockton from Wells Fargo. Your line is open. Jamie Stockton - Wells Fargo Securities Hi. Good morning. Thanks for taking my questions. I guess may be the first one, it seems like last quarter you guys talked about some issues with the PBMs hurting the COB business, maybe I missed it if you commented already on the call. But did that reverse any in the quarter or are we still going to see some incremental claims flow through in the remainder of the year?

[Bill Lucia:]

Hi Jamie this is Bill Lucia. Yes we solved the problems, it doesn’t mean that we’re through all of the backlogs and then of course some type -- some processing errors last year where they caused over payments and so we have refunds from those that worked through our system. So net of that impact is not a lift so to speak as much because of the refunds on other PBMs. But we believe now that all of the PBMs that we build to on behalf of Medicaid are online and they’re working through any processing issues. So we don’t have any that are not paying at all which was the case before, and now we’re working through any processing issues with them. Jamie Stockton - Wells Fargo Securities Okay. And then maybe just the recovery data that CMS has been reporting for the Medicare RAC program. If you look at the Q1 data or I guess I should say the March quarter data, it seems like your region wind down a little quicker than the other ones. Is that simply a matter of you guys have worked through the backlog of records faster than some of the other vendors?

[Bill Lucia:]

Yes, that’s our belief. I mean we can’t really comment on the other vendors but we have always focused on getting through our backlog on a very timely basis. Because no new claims were coming in, we have really gotten through the backlog. We had some new audit strategies that were approved by CMS and of course we were getting those out for the providers. But as everybody knows it was the end of February when we really had to stop work in terms of issuing new medical records requests. So we did work through our backlog rather quickly. Jamie Stockton - Wells Fargo Securities So you’d be able to carry over the audit strategies from the old contract or the new one?

[Bill Lucia:]

No I don’t officially know what CMSs rules are about that. I do know that there is -- there are thousands of approved audit strategies across four RACs. And my guess is CMS would want to take advantage of those already being approved because they’re in production and then just make sure that the RACs supply them to their existing or new regions depending on what they went. From my perspective it’s not a start from ground zero, we do already have new audit strategies that we will be proposing to CMS upon contract awards. Jamie Stockton - Wells Fargo Securities Okay, my last question, Walter. The unit direct costs are down materially year-over-year and sequentially. How should we be thinking about those once the business accelerates in the second half of the year and potentially once the Medicare RAC contract ramps back up in 2015? You know is this a sustainable source of cost savings on that line, or is it more just a variable cost that is low right now because utilization is relatively low?

[Walter Hosp:]

Yes, I think it’s more of the latter I mean direct costs by their nature includes some of the variable costs that we have that are directly tied to volume, all right, so like I mentioned this quarter Medicare RAC related medical request fee is one example. Temporary personnel which is sort of swing resources to help as we’re processing things, that came down, so it is the line that I would say is most directly related to pure volume whereas everything else is larger infrastructure type investment, so you had your permanent personnel in compensation, so that line you would see it grow and in some cases it’s the leading indicator of revenue ramps as well as we spend it advance of the revenues coming. Jamie Stockton - Wells Fargo Securities That's great. Thanks guys.

[Operator:]

Thank you. Our next question comes from the line of Richard Close from Avondale Partners. Your line is open. Richard Close - Avondale Partners Thank you, I appreciate the time here. Walter, you mentioned something on the tax rate, and it was higher because you had less revenue associated with certain states. I wonder if you could flesh that out a little bit more for us.

[Walter Hosp:]

Yes that’s simply where we have most of the variability in our effective tax rate really comes from the state side, the federal tax rate is what it is and that’s fairly consistent. And when you think about the state side it’s really how we’re allocating business across the country and in what jurisdictions, and with the reduction in the Medicare RACs we have less income coming through in Las Vegas, Nevada and Nevada happens to be a very low tax rate, so, that in combination with the real world lowering of the profitability there is what works into that effective tax rate. But as we, Las Vegas is a prime site for us, we are investing in it, we have renewed a lease there. This is a site that we’ll have increasing business from the commercial side so the long-term effects on the effective tax rate, I wouldn’t build them in, in any sort of modeling lay that they’re going to stay at current level. As we get that contract moving up we should see a reduction of that in the future. Richard Close - Avondale Partners Okay. And then a quick question on the commercial, the various products there. Bill, I was wondering if you could give us a little bit more in terms of a margin profile of the various products if possible.

[Bill Lucia:]

Well the -- you know it’s a different margin profile by product, so some are little more labor intensive, some use technology more, some are very technology driven but our margin contribution profile on these products is typically in the range of 35%-40% EBITDA impact. So they are a good, good decent margin products for us. Richard Close - Avondale Partners Okay. And I guess my final question relates to there was I guess a negative report we would call it about a month ago. It questioned some of the risk associated with New York and New Jersey for you guys. Can you just update us on the status of New York and New Jersey, how your relationships are with those clients, and just maybe your thoughts overall on that?

[Bill Lucia:]

We believe we have great relationships with both customers, we have provided significant savings and recoveries under multiple contracts for both New York and New Jersey, they -- that report spoke about the contract, New Jersey contract being up for bid. It was, it is up for bid this year, but it was extended through the end of October so it’s much lower risk to us this year. The New York contract, I believe renews in 2015 but gives us an opportunity for another one year extension. We have very long -term relationships with these states, in New Jersey I believe, we’ve been there 20 years. In fact, our account executive probably knows more about some of the particulars in their Medicaid system than some of the state employees, so it’s a relationship where we have significant value and we plan to continue to hold those relationships of significant state clients. Richard Close - Avondale Partners Okay. Thank you. Good luck for the rest of the year.

[Bill Lucia:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Charlie Strauzer from CJS Securities. Your line is open. Charlie Strauzer - CJS Securities Hi. Good morning Bill, how are you. A quick question for you, just picking up on the last question that Richard had about New York and New Jersey, but you know I don't think they mentioned in the report was potentially seeing a more of a repatriation if you will of some of the services to more in-house versus outsourcing. Have you seen any of that trend materialize and if so, can you maybe kind of talk a little bit more about that?

[Bill Lucia:]

We have not seen a trend of any state taking work back in-house. There is always a change in -- not always but there is often a change when states re-procure, so they are looking at different ways to price our services, they are bundling different services in the procurement. That of course is most favors us, because we have the broadest set of services. But we’ve not seen states taking the work back in-house. For the most part they don’t the capability to replicate our intellectual property and the data that we’ve announced. Charlie Strauzer - CJS Securities Got you. And have you seen any new competitors emerging on your kind of core business at all?

[Bill Lucia:]

I mean there is always smaller competitors that net around the edges, they may focus on one part of COB or another. There is no competitor that can handle COB from soup to nuts like HMS. And that’s our value proposition, to the market that we’re a one stop shop. Charlie Strauzer - CJS Securities Great. And then lastly, Bill, you had mentioned that you had seen in the re-procurement that there’s four to five bidders on each region it sounded like. Where there any new names that have cropped up that you were unfamiliar with before?

[Bill Lucia:]

Let me restate what I said. In d information we received from the GAO, there were four to five bidders on one region, they didn’t say which region and they didn’t say how many bid on each region and of course there are no names named. So it’s their view that this is a commercially viable procurement obviously it’s our view as well because we bid on the RAC procurement. So we unfortunately do not know who bid. Charlie Strauzer - CJS Securities Got it. But it sounds like the numbers are at least in line with what you had thought would be bidding.

[Bill Lucia:]

Yes. Charlie Strauzer - CJS Securities Okay, thank you very much.

[Operator:]

Thank you. Ladies and gentlemen this is all the time we have for questions. I would like to turn the call over to the speakers for closing remarks.

[Bill Lucia:]

Well, thank you everybody for joining our call today. We’re excited about the future of our Company, the Medicaid growth that we’re seeing this year and the commercial sales agenda. And we’ll forward to reporting on that in our second quarter results. Thanks.

[Operator:]

Ladies and gentlemen, this does conclude today’s program. Thank you for participation, you may now disconnect. Everyone have a great day.