PRA Health Sciences, Inc.
Q1 2017 Earnings Call Transcript

Published: 26 Apr 2017

[Operator:]

Good day, ladies and gentlemen, and welcome to the PRA Health Sciences, Inc. Q1 2017 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 conference is being recorded. I would now like to introduce your host for today’s conference, Mr. Mike Bonello, Senior Vice President and Corporate Controller. Sir, you may begin.

[Michael Bonello:]

Thank you, James. Good morning and thank you for joining us for the PRA Health Sciences first quarter 2017 earnings teleconference. Today Colin Shannon, our Chief Executive Officer; and Linda Baddour, our Chief Financial Officer, will discuss our first quarter financial. Following our opening comments, we will be available for questions. In addition to our press release and investor supplement with additional financial information is available in the investor relation portion of our website. Before we begin, I’d like to remind you that our remarks and responses to your questions during this teleconference may include forward-looking statements. Actual results may differ materially from those stated or implied by forward-looking statements, due to risks and uncertainties associated with our business, which are discussed in the risk factor section of our Annual Report on Form 10-K, filed with the SEC on February 23, 2017. Such risk factors may be updated from time to time in our filings with the SEC. We assume no obligation to update any forward-looking statements. Certain other financial measures we will discuss on this call are non-GAAP financial measures. We believe that providing these measures helps investors gain a more helpful and complete understanding of our results and is consistent with how management views our financial results. A reconciliation of these non-GAAP financial measures to the most comparable GAAP measure calculated and presented in accordance with GAAP are available in the earnings press release and investor supplement, included in the investor relation portion of our website. I would now like to turn the call over to our CEO, Colin Shannon.

[Colin Shannon:]

Thank you, Mike. Good morning, everyone. Thank you all for joining the PRA Health Sciences conference call covering our first quarter 2017 financial results. I’m delighted to report that the first quarter of 2017 was another strong quarter for PRA with double-digit revenue, earnings, and net new business growth. Service revenues for the quarter were approximately $427 million, which represents an increase of approximately 15% year-over-year at actual foreign exchange rates and on a constant currency basis. Adjusted net income for the first quarter was approximately $40 million, an increase of 16% over the same period last year. Adjusted net income per diluted share was $0.62, a 13% increase versus the first quarter of 2016. New business continues to be robust and increased approximately 19% when compared to the first quarter of 2016. We recorded $565 million of net new business awards, representing a net book-to-bill of 1.32 times of service revenue. Consistent with previous quarters, the concentration of our net new business awards continues to be well-diversified, with approximately 60% of our new awards coming from the pharmaceutical sector and approximately 40% coming from the biotech sector. This has resulted in our backlog increasing approximately 5% on a sequential basis and approximately 21% year-over-year to finish approximately $3.1 billion. Our client base continues to be well-diversified with our top five clients representing approximately 43% of total revenue for the quarter, with our largest client representing approximately a 11% of total revenue. We continue to have healthy growth among all of our top five clients. The size of our customers from slow development stage biotech to large biopharma remains well-diversified and clinical trial among our biotech customers continues to be steady. In closing, I would like to take this opportunity to thank our entire staff and all of our clients for their continued commitment to PRA Health Sciences. We are delighted with our strong financial results this quarter and we are well-positioned for the remainder of 2017. I would now like to hand the call over to Linda Baddour, our Chief Financial Officer, who will discuss our first quarter financial results in more detail.

[Linda Baddour:]

Thank you, Colin. Good morning, everyone. For the first quarter of 2017, our consolidated service revenues grew 14.7% at actual foreign exchange rates and 16.1% on a constant currency basis. We reported $427.1 million of service revenue for the quarter compared to $372.3 million for the same quarter last year. As Colin mentioned earlier, our client concentration continues to be well-diversified. We derived 52% of our service revenue from large pharmaceutical companies, 17% from small- to mid-size pharmaceutical companies, 18% from large biotech companies, and 13% from all other biotech companies. Direct costs were $287.5 million in the first quarter of 2017 compared to $243.5 million in the same quarter last year. Direct costs were 67.3% of service revenue in the first quarter of 2017 compared to 65.4% in the same quarter last year. The increase in direct costs as a percentage of service revenue is primarily related to our continued hiring of billable staff to support our current projects and to ensure we have appropriate staffing levels for our future growth. On a constant currency basis, direct costs increased by $46.1 million year-over-year. This increase in our cost base was offset by a favorable foreign currency effect of $2 million. SG&A expenses were $74.3 million, or 17.4% of service revenue for the first quarter of 2017 compared to 17.2% of service revenue for the same quarter last year. The slight increase in SG&A as a percentage of service revenue is primarily related to increased facility costs as we have needed to add additional space as we continue to grow. Adjusted net income, which excludes certain items whose fluctuation from period-to-period does not necessarily correspond to changes in our operating results, increased 15.9% year-over-year to $40.4 million for the first quarter of 2017. Contributing to the adjusted net income growth were increased service revenues, lower interest expense, and a lower effective tax rate driven by the geographic dispersion of our pre-tax income. Adjusted net income per diluted share grew 12.7% to $0.62 per share in the first quarter of 2017 compared to $0.55 per share in the same quarter last year. Cash used in operations was $10.8 million for the three months ended March 31, 2017, compared to cash provided by operations of $20.4 million for the same period of 2016. The decrease in operating cash flow was a result of an increase in working capital, driven by an increase in our days sales outstanding offset by our operational performance improvement and reduced interest payments. Our net days sales outstanding was 28 days at March 31, 2017, compared to 18 days at March 31, 2016. As we have mentioned last quarter, we expected our days sales outstanding to increase over time closer to the industry average. Capital expenditures were $8.0 million for the quarter compared to $8.1 million during the same period of 2016. Our capital expenditures reflect our continued investment in information technology and our expanding infrastructure to support our growth. Our cash balance was $123.5 million at the end of the first quarter, of which $44.2 million was held by our foreign subs. Net debt outstanding defined as total debt less cash and cash equivalents at March 31, 2017 was $705.2 million, compared to $802.8 million at March 31, 2016. The overall reduction in our net debt is attributable to repayments made and an increase in the amount of cash on hand. Regarding the geographic concentration of our revenue, 59% of our quarterly service revenues were earned in North America. At March 31, 2017, approximately 84% of our client contracts were denominated in U.S. dollars and 61% of our total expenses were denominated in U.S. dollars, which is consistent with 2016 levels. Our euro exposure continues to be naturally hedged. Regarding our 2017 guidance, we are reaffirming our service revenue estimate of between $1.795 billion and $1.835 billion, representing constant currency growth of between 14% and 16%. We are also reaffirming our adjusted net income per diluted share of between $3.08 and $3.18 per share, and our diluted GAAP earnings per share estimate of between $2.46 and $2.56 per share. Finally, we continue to anticipate an annual effective tax rate of 27%. That concludes our prepared remarks at this time, and we’d be happy to take your questions. Operator, you may now open the line for questions.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from John Kreger with William Blair. Your question please?

[John Kreger:]

Hi, thanks very much. Colin and Linda, can you guys talk about the two new relationships that you’ve added in the last six months or so? How are those ramping? And just kind of give us your latest thinking on when you think the sort of a – hiring a head pattern will sort of stabilize and you can start to get some of the staffing leverage back? Thanks.

[Colin Shannon:]

Thank you, John. We are doing nicely with the new relationships. It’s not an overwhelming amount and that we booked in the quarter, but it’s nice, steady business, which is why I really didn’t want to make a big focus, because obviously our goal is to look and concentrate on dealing with all of our major clients. And so we try to make sure that at any given time, we ebbs and flows, but we’ve got a nice good steady stream for all of our top 10 companies that we work with. Regarding the hiring a head, as I mentioned to you the last time that, we saw that and believe the first-half of the year that we would be in a state of kind of oversupply of labor. We started to see that ease off already, and we’re having actually some hiring pressures again. So we went from instinct to the other that we’re starting to notice that in certain pockets that we actually need to continue hiring. So it’s basically coming out as anticipated that first-half of the year develop a software staff and then we start to see it and we more fully utilize that in the latter part of the year.

[John Kreger:]

Great, thanks. And then one quick follow-up on – can you talk a little bit about backlog conversion? I know it’s a bit over the last two or three quarters. Do you see that trend continuing, or do you think it will start to reverse?

[Colin Shannon:]

Well, we anticipated reversing that. And just that we’ve had some recently very, very significant net book-to-bills, which is giving us a different mix within a backlog with a lot more studies and the start-up phases. So we saw that having a little reduction in our conversion rate. Obviously, as we start to go through our backlog and become to a more normal type of adds book-to-bill and new business awards, we start to see that leveling off again and become more normalized. So obviously, this is just temporary and like to convert back and probably later on in the year.

[John Kreger:]

Great. Thank you.

[Operator:]

Thank you. Our next question comes from Tim Evans with Wells Fargo. Your question please?

[Tim Evans:]

Thanks. Colin, just wanted to kind of follow-up on John’s question there. It sounds like if we look at the unusually large book-to-bills that you’ve had for the last few quarters, including this quarter, it’s not just the new – the, say, the two big clients that you’ve won, but it sounds like it is a diverse range of clients that you are winning business with that are causing those abnormal book-to-bills, is that a fair statement?

[Colin Shannon:]

Yes. That’s what I’ve been trying to say, Tim. Thank you for putting it so eloquently.

[Tim Evans:]

Okay. And so, if that’s the case then, can you talk about what it is that you feel like is allowing you to seemingly win disproportion amount of share here?

[Colin Shannon:]

I mean, it’s very difficult for us to pinpoint that exactly. I mean, I know that our win rate is higher than historical normal. So, I think a lot of it is, say, the preparation and amount of what we do for our clients well ahead of the business is significant. And that planning part and amount of time and effort and expense that we incur and getting ready is certainly helpful. And there’s lots of ingredients that go into and some of it are very expensive. But we don’t want to obviously short change ourselves by making any differences and then losing. So we keep trying to be as diligent as we can. We use our medical informatics to try and get different views of what’s going on with patient populations and providing insights to our clients. We try to help them look at the better ways of actually conducting the trials. And more importantly, though, we want to make sure that when we pick them as partner that they know that we’ll do everything in our power to get that work executed and completed on time.

[Tim Evans:]

Okay. Thank you for the comment.

[Operator:]

Thank you. Our next question comes from Eric Coldwell with Baird. Your question please.

[Eric Coldwell:]

Thanks very much. Two quick ones I think and nice result as always. I guess, the first one, I know you don’t like talking about individual clients and I completely understand that I’m going to ask a bookings question a little differently. You did mention early in the prepared remarks that you had a good balance large pharma, biotech, et cetera. Could you talk about the contribution to bookings of your largest client, but you don’t need to name the client or tell us which one obviously, but was there anyone who stood out in terms of driving a disproportionate amount of the 1.32 book-to-bill?

[Colin Shannon:]

I won’t give you some color, I mean on our newer partnerships and we’ve – we knew that going into the quarter we had a nice amount of business to start off the relationship. And that totaled approximately 17% of our booking this quarter. So to give you some color and that was significantly higher than any other booking.

[Eric Coldwell:]

That’s perfect, thank you. And second question, Linda, you did a really good job last quarter of coming out and giving a little more detail around the quarterly phasing this year, that’s not something you’ve done really since the IPO. But you did give more on Q1, given seasonality, given the strategic partners, and the ramp up and also the investments you’re making and making sure existing clients are getting over serviced at the moment keeping them happy. So I think one of the things a lot of folks on the street always worry about is when you’re on-boarding such significant amounts of new business. Is the sell-side going to get the models right in terms of the phasing and ramp? And I know you haven’t given quite as much color here in the second quarter and I’m not asking you to go overboard, but have you had a chance to look at the street models, which implied $20 million of sequential revenue growth, imply somewhere in the ballpark of 200, 250 bps of margin expansion to get to consensus. Have you looked at that? Do you feel comfortable with those numbers? Is there any additional color you could give us as we think about the phasing and the timing of all of this activity as we move through the year?

[Linda Baddour:]

Thanks, Eric. Yes, we always look at the models that are out there from all the different analysts. And we look to make sure that there’s no one that’s completely out of line, or that if you took it as an average that you would be on target with what we expect. So yes, we have done that and we feel comfortable with what’s out there.

[Eric Coldwell:]

Great, thank you so much, I’ll feed the floor to others.

[Operator:]

Thank you. Our next question comes from Garen Sarafian with Citi Research. Your question please.

[Garen Sarafian:]

Good morning Colin and Linda. So maybe – and one of the maybe the few areas that warrant is favorable, which was on backlog conversion, which is still high, but trickling down the last few quarters. So any other additional color you could give on that. And sort of where you think that the steady run rate would be?

[Colin Shannon:]

Sorry Garen, I just mentioned that earlier in the other question where I was basically saying that, it’s just that with the disproportionate amount of new awards we have a lot of studies in the startup phase and that’s caused a reduction and our backlog conversion.

[Linda Baddour:]

And we actually talked about this on our call in February that we thought that it would be the latter half of the year before we saw that coming up above 15% again, but we were not precise about the number.

[Garen Sarafian:]

Okay, got it, apologies we’re juggling a few calls this morning. And just a quick follow-up, which is sort of a high level question it’s come up in prior quarters. But it sort of on the M&A landscape or the CRO space, it’s sort of – again it’s sort of come up is just sort of, is the level of activity that you’re sort of seeing elevated relative to just the compensations that were occurring in the past or any sort of commentary you can provide would be appreciated there. Thank you again.

[Colin Shannon:]

M&A for within the CRO sector or within the client base?

[Garen Sarafian:]

No, CRO, within the CRO sector.

[Colin Shannon:]

I mean obviously we knew that obviously PPD was actionable for a while, we saw what happened with inventive, we know that jumped on right now, but I mean I really don’t know of anything that’s happening. I can’t really comment on anything else because we’re looking at couple of very minor things that are mainly technology related in all our assets, but there’s nothing to do with the consolidation in the sector.

[Garen Sarafian:]

Got it, thank you.

[Operator:]

Thank you. Our next question comes from Donald Hooker with KeyBanc. Your question please.

[Donald Hooker:]

Good morning. Yes, I just wanted to maybe kind of step-back more broadly and kind of maybe where do you opine on the predictive technology platform kind of watching that developing new applications and where you’re seeing uptake and where you are seeing inability to maybe displace third-party independent technology vendors?

[Colin Shannon:]

We’ve not yet been looking at to do that, our first step has been building it so that is improving our operational efficiency internally and we’re spending the year really working through that. Obviously there is many components within the platform that we use and some of the advanced stages that are showing early development, but we’re starting to see a lot of progress being made. We continue to move forward through the year looking to gain these efficiencies. We’re adding a little tuck-in acquisitions will help to maybe accelerate some of the aspects. We are hoping to complete something pretty soon, this is small, but I think it gives us a technology that we didn’t have. And again maybe give us more access to some of the pie that we are giving to other vendors. So there might be some movement in that in the future, but it was never an intent for this year, we were consolidating and looking to do things and use the tools to gain more operational efficiencies and we work pretty much on target to do that.

[Donald Hooker:]

Okay and then one last kind of general question. When you look broadly across the outsourcing space, are you seeing a little bit more of a movement I guess towards functional relationships beyond just your averages, generally speaking, I mean do you feel that there is little bit more gravity towards functional engagements of biopharma versus the sort of project-based engagements?

[Colin Shannon:]

I’m not really seeing a significant shift and you know we’ve got clients may be willing to discuss more about hybrid solutions and very small, those – every client is always looking for better ways of getting things done more cost-effectively. And these discussion happen from time-to-time and we’re always willing to help them with their thought process and show them that there is alternative ways of having an operating model. So, there is no major shift visible and is pretty much in the same way for, as far as I can remember, so maybe client-specific, you could add different ideas and our goals, but there is certainly no problem.

[Donald Hooker:]

Okay, thank you for the feedback.

[Operator:]

Thank you. [Operator Instructions] Our next question comes from Erin Wright with Credit Suisse. Your question please.

[Erin Wright:]

Great, thanks for taking my questions. How much – just a follow-up to the earlier or last question. How much do you think your mix of FFP as a key factor and helping you to win new business and do you think it’s really helping you to gain share? Thanks.

[Colin Shannon:]

I just think it’s important to have the capability and so yes, I think it helps with the whole aspect of what we can actually offer. We’ve now got a breadth of service offerings that allows us to be flexible in our approach. And I certainly that – know that that’s a factor and it’s – and I think it’s important and I wouldn’t overweight in any, because it takes a lots of factors to make it,including [indiscernible] mass in major countries and concentration in certain areas and key skills and key project management skills, and various other factors that come into play therapeutic knowledge and expertise. But having that broad offering is certainly a factor that allow us more engaging discussions and with our clients.

[Erin Wright:]

Great, that’s helpful. And excluding Takeda and the second major new partnership, can you provide some commentary on the underlying demand trends you’re seeing in terms of booking trends, RFP volumes? Are you also seeing any changes in the broader pricing environment? Is the competitive landscape behaving fairly rationally at the moment? Thank you.

[Colin Shannon:]

I would say that, we’re still seeing a strong volume of RFPs, which is actually very encouraging, and we’re seeing across all sectors, and which again is very promising. You know what, we do see little pockets of pricing hotspots from time to time, where we know that there’s such repricing that’s just a lot better of the ordinary. But I’ve not seen anything, I would say is a definite pattern that just seems to be one-offs. And I feel like it’s a little bit and it’s quite difficult in the early stage part, where the smaller studies are very price competitive. And there’s nothing again unusual there. It’s always been very, very competitive, and we try to offer a high-caliber, science-based approach, which tends to leap a little bit more and increase pricing. We start making it a little bit trickier than the early states. But there’s nothing, I would say that major or consistent that – but it’s always been competitive out there.

[Erin Wright:]

Right, thanks. And if I could just ask one more, cancellations were a little bit lower. But could you speak to kind of the underlying rationale behind some of the cancellations you’re seeing in the market right now? Is there any major differences than maybe what you’ve seen historically? Thanks.

[Colin Shannon:]

We just – we’ve got our same methodology of viewing cancellations. And sometimes you get surprises when a drug, it doesn’t work, and it gets canceled in early stage and normal and as always unfortunate, and not only for us, but for the client when that happens. We’ve typically found though that as we model out that cancellations and change orders, they’re approximately the same. So it helps in our – as we forecast them that we get that balance. So we always look and we – early stage, we’ll look at anything that looks high-risk. We model out and we look at the revenue effect to ensure that we keep our revenues intact and that we are making sure that we set expectations to the street that, we’re going to deliver on what we see we are. So we’re always looking well in advance about where we see cancellations follow and obviously making some contingency plans over that. So nothing unusual bottom line.

[Erin Wright:]

Okay, great. Thank you so much.

[Operator:]

Thank you. I show no further questions in queue at this time. I would now like to turn the call back over to Mr. Shannon for closing remarks.

[Colin Shannon:]

Well, thank you everyone for participating in our call today. If you have any additional questions, please feel free to contact us and have a great day. Thank you.

[Operator:]

Thank you. Ladies and gentlemen, that does conclude today’s conference. Thank you for your participation. You may now disconnect. Have a wonderful day.