PRA Health Sciences, Inc.
Q4 2015 Earnings Call Transcript

Published: 25 Feb 2016

[Operator:]

Welcome to the PRA Health Sciences Fourth Quarter 2015 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 follow at that time. If anyone should require operator assistance during today’s conference, please press star then zero on your telephone keypad. As a reminder, this conference call is being recorded. I would now like to introduce your host for today’s presentation, Mr. Mike Bonello, Senior Vice President and Corporate Controller. Sir, please begin.

[Mike Bonello:]

Thank you, Howard. Good morning and thank you for joining us for the PRA Health Sciences fourth quarter 2015 earnings teleconference. Today Colin Shannon, Chief Executive Officer, and Linda Baddour, Chief Financial Officer will discuss our fourth quarter and full year 2015 financial results and provide our 2016 guidance. Following our opening comments, we will be available to take your questions. In addition to our press release, a presentation with additional financial information is available on our website at www.prahs.com/investors. 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 could 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 Factors section of our annual report on Form 10-K filed with the SEC on March 3, 2015. 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 of the 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 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 our investor presentation included in the Investor Relations 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 the fourth quarter and full-year 2015 financial results. I’m delighted to report the fourth quarter of 2015 was one of further progress for PRA across a whole host of financial and operating metrics. Service revenues for the quarter were $362.3 million, which represents an increase of approximately 12% year-over-year or 15% on a constant currency basis. Our adjusted net income for the fourth quarter was $37.5 million, an increase of 101% over the same period last year. Adjusted net income per diluted share was correspondingly $0.59, which included $0.02 of improvement related to a stronger than forecasted dollar, a 69% increase versus the fourth quarter of 2014. New business continues to be strong. For fourth quarter 2015, we booked $459.4 million of net new business awards, representing a book to bill of 1.27 times service revenue. For the year ended December 31, 2015, we booked approximately $1.7 billion of net new business awards, resulting in a full-year net book to bill of 1.23 times service revenue. In addition, our backlog increased 14% to finish the year at approximately $2.4 billion. Our client base continues to be very well diversified with one client representing 11% of our 2015 consolidated revenues and our top five clients representing 41% of our consolidated revenues. Our full-year 2015 financial results continued a trend of consistent performance and strong growth. We reported solid revenue growth and improved our overall operating margins as we put the finishing touches on the integration of our acquisitions. We delivered full-year service revenues of $1.4 billion, representing actual growth of 9% over 2014 and 12% on a constant currency basis. The geographical breakdown of our full-year 2015 service revenue is 61% in North America, 35% in EAPA, and 4% in Latin America. An important event for PRA during the fourth quarter was the signing of a framework agreement to dissolve the WuXi-PRA joint venture. Under the new arrangement, the portion of the joint venture located in mainland China will become a wholly owned subsidiary of WuXi and the portion of the joint venture located in Hong Kong will become a wholly owned subsidiary of PRA. In addition, PRA will retain its strategic solutions business in China and Hong Kong. PRA and WuXi will form a preferred provider relationship under which WuXi will provide full service clinical trial services for global clinical trials subcontracted by PRA in China. We expect the transaction to close during the second quarter of 2016. During the fourth quarter of 2015, we had a record cash collection quarter of $526 million which resulted in days sales outstanding of 15 at the end of the quarter. As a result of this, last week we announced the commencement of an offer to purchase up to $75 million of our senior notes at a price of $1.13 per $1,000 principal amount tendered. It should be noted that though the pricing of the bond tender is at a premium to the current trading value, it is well below the current make whole premium. We currently anticipate a settlement day of March 17, 2016 and expect the tender offer to result in after-tax savings ranging from $0.03 to $0.06. The amount of after-tax savings will depend on the source of cash used to finance the tender offer. We are currently anticipating using a mix of cash from our balance sheet and borrowings under our revolving credit facility. Our decision to initiate the tender offer was primarily driven by a desire to reduce the outstanding balance on our higher interest rate debt. Finally, I would like to take this opportunity to thank our staff for their continued commitment to PRA Health Sciences. We are proud of the robust financial results we achieved in our first full year as a public company as well as the industry awards and recognition the company has received. They are a direct result of the dedication of our staff and the delivery of top quality service to our clients. I would now like to hand over the call to Linda Baddour, our CFO, who will go through our quarterly financial results in more detail.

[Linda Baddour:]

Thank you, Colin. Good morning everyone. As Colin mentioned, for the quarter ended December 31, 2015, our consolidated service revenues grew approximately 11.9% at actual foreign exchange rates and 15.1% on a constant currency basis. For the fourth quarter, we reported $362.3 million of service revenue compared to $323.8 million for the same quarter last year. In addition, on a sequential basis revenue grew 5% at actual foreign exchange rates. Our client base continues to be well diversified with our top five clients representing 40.1% of our total fourth quarter revenue, and our single largest client constituting approximately 9.6% of total revenue during the quarter. In the fourth quarter, direct costs were $234.9 million compared to $214.9 million in the prior year. Direct costs were 64.8% of service revenue in the fourth quarter compared to 66.4% during the fourth quarter of the prior year. On a constant currency basis, our direct costs increased by $33.8 million as we hired billable staff to support current projects and additional staff in anticipate of future growth. This increase in our cost base was offset by a favorable foreign currency effect of $13.9 million. On a constant currency basis, our direct costs were 66.8% of service revenue in the fourth quarter compared to 66.4% during the fourth quarter of the prior year. For the fourth quarter, SG&A expenses were $63.6 million or 17.6% of service revenue compared to 22.8% of service revenue during the fourth quarter of 2014. The decrease in SG&A as a percentage of service revenue is primarily related to our continued ability to effectively manage our overhead functions and the fourth quarter of 2014 including one-time IPO related expenses. Compared to the prior year, fourth quarter 2015 adjusted income from operations grew 37.9% to $62.4 million, a margin of 17.2%, up 320 basis points due to the strength in our underlying business and the continued leverage of our SG&A functions. Adjusted net income, which excluded certain items whose fluctuation from period to period does not necessarily correspond to changes in our operating results, was $37.5 million in the fourth quarter, representing growth of 101.2% compared to the previous year. Contributing to the adjusted net income growth were increased service revenues, improved operating margins, lower interest expense due to the decreased debt and a lower effective tax rate driven by geographic dispersion of our pre-tax income. Adjusted net income per diluted share grew 68.6% to $0.59 per share in the fourth quarter versus $0.35 per share in the period a year earlier. It should be noted that during the quarter, adjusted net income per diluted share included a benefit of $0.04 per diluted share related to the true-up of the tax rate using calculated adjusted net income per share to 28%. For the 12 months ended December 31, 2015, our consolidated service revenues grew 9% at actual foreign exchange rates and 12% on a constant currency basis. We finished the year with approximately $1.4 billion of service revenues compared to $1.3 billion in the comparable prior year. Cash provided by operations was $81.5 million for the three months ended December 31, 2015 compared to cash provided by operations of $21.3 million for the same period in 2014. For the 12 months ended December 31, 2015, cash provided by operations was $153.7 million compared to cash provided by operations of $22.7 million for the same period in 2014. The increase in operating cash flow was the result of operational performance improvements as well as a reduction in cash outflows from working capital driven by a slower rate of increase in our DSOs during the three and 12 months ended December 31, 2015 as compared to the same periods of 2014. Capital expenditures were $32.8 million for the 12 months ended December 31, 2015 compared to $27.3 million during the same period in 2014. The increase in capital expenditure reflects our ongoing investment in information technology and the expansion of our facilities in the U.S. and abroad. Our cash balance was $121.1 million at the end of fourth quarter, of which $38.2 million was held by our foreign subs. Net debt outstanding, defined as total debt less cash and cash equivalents at December 31, 2015 was $792.9 million compared to $868.8 million at the end of December 2014. The overall reduction in our net debt is attributable to repayments of $40 million made in 2015 and increased levels of cash on hand. As Colin mentioned, 61% of our service revenues are earned in North America; however, approximately 83% of our client contracts are denominated in U.S. dollars, and another 13% are in euros. At December 31, 2015, 63% of our total expenses were denominated in U.S. dollars, 14% in euros, and 7% in British pounds. The remaining expenses are incurred in Asia-Pac, Russia or Latin America. Now, let’s turn to our guidance for 2016. We are currently estimating service revenues between $1.53 billion and $1.57 billion, representing constant currency growth of 11% to 14%. For 2016, our total company backlog coverage is 88% looking into 2016. We are anticipating diluted adjusted earnings per share between $2.32 and $2.42 per share, and diluted GAAP earnings per share between $1.56 and $1.66 per share. We anticipate our annual effective income tax rate will be approximately 28%, which incorporates various corporate tax initiatives that we’ve been implementing over the past couple of years. Our guidance includes the impact of our announcement related to the tender offer of our senior notes. In addition, our guidance assumes a euro exchange rate of 1.12 and a British pound exchange rate of 1.52. All other foreign currency exchange rates are as of January 1, 2016. At this time, we’d be happy to take your questions, and I would ask our participants to limit themselves to one question and one follow-up to allow as many participants as possible to ask questions. Please provide your name and affiliation when asking your questions. Operator, you may now open the line for questions.

[Operator:]

[Operator instructions] Our first question or comment comes from the line of David Windley from Jefferies. Your line is open.

[David Windley:]

Thanks for taking my question, and congratulations on the quarter. Wanted to start on maybe not the most obvious place, but around technology and Predictivv. I think you obviously rolled that out in 2015. There were some modules that I think were going to go live. Colin, I was just hoping if you could give us a sense of where you stand in terms of rolling out some of the functionality of Predictivv. Has it been in place long enough to see some benefits from that, and if you could share with us some of those, and then how much contribution might it make to efficiency and margin and wins in 2016? Thanks.

[Colin Shannon:]

Thanks Dave. As you know, initially our whole goal was looking at having tools to help us improve our internal efficiency, so that was the primary focus of [indiscernible] initial platform, was for internal metrics. But as you know, we started to provide some of the connections with Predictivv Connect to some of our clients and really just to let them, give them access, and that’s going nicely. But you know, where we’re seeing this--this was our--when we started off in the IPO, we were trying to build up a track record of consistent improvement year after year and letting investors join in to the ramp-up as we develop and grow our company, so we continue to want to do that and we see this year as another continuation of looking for margin expansion, continue to build the business, and using these tools to bring that success. We’re very pleased that the way things are going, we know that the marketplace is actually very heavy demanding for this type of technology, and we’ve just got to make sure that we can give it out because it does create obviously a lot of questions and new ways of dealing with clients, so we’ve got to make sure that the partnership is very solid to accommodate so we don’t get actually buried with additional questions and work for the project teams over and above their normal tasks. So we are introducing it very gradually, and we’ll continue to ramp up throughout the year.

[David Windley:]

Okay. A follow-up question would be just around maybe composition of bookings, is essentially what I’m getting at, and interested in the balance between, say, more strategic solutions types of activities versus traditional programmatic, and then therapeutic area mix, if you’re seeing any changes along either one of those axes. Thanks.

[Colin Shannon:]

Well, we had very, very strong traditional product registration bookings for Q4. Strategic solutions has been ticking along at a similar type of rate all year, so we’re very pleased for that consistency. The type of client mix and therapeutic area is very similar to our make-up. We’re seeing obviously no major swings in that either way, looking at various therapeutic areas, but it’s all the major ones that we concentrate on, we’re seeing a lot of activity. So obviously we’re very pleased at the amount of opportunities that we’re given sight of, and Q4 was a record quarter for dealing with RFPs. We’re obviously pleased to have very strong bookings.

[David Windley:]

Very good, thank you.

[Operator:]

Thank you. Our next question or comment comes from the line of Tim Evans from Wells Fargo Securities. Your line is open.

[Tim Evans:]

Linda, I appreciate the comments on the foreign exchange, that’s very helpful. As you called out the impact to the gross margin, is that just because there’s not much foreign exchange impact to the SG&A line, and if there is, would you be willing to give us the impact to the operating income for the full year?

[Linda Baddour:]

Yes, thank you. You’re correct - there isn’t much impact to the SG&A line. Primarily, most of those functions are run out of the U.S., so the effect is nominal. We haven’t been disclosing that and I don’t plan to do it today, but I think you have enough information to make an assessment on what’s going on with the quarter. We gave you the information that there was $0.02 of benefit in this quarter compared to our forecasted FX.

[Tim Evans:]

Yes, got you. That’s helpful. And then just quickly on the client mix, understanding that you’ve been trying to push a little bit towards the larger client segment, could you give us some color at this point where you stand in terms of big pharma, midsize pharma, and maybe non-revenue generating or unprofitable bio-pharma?

[Colin Shannon:]

You know, obviously we cover a whole broad mix of clients. We like the fact that we’re fairly well diversified across all of the client mix. I think a lot of people think that we’ve got a heavier weighting on the smaller biotech than is really true. That’s great if you think that, but we obviously like to work with that type of exciting new environment but we’ve got lots of large accounts. I mean, the majority of our accounts are the mid to large biotech and pharma. Our number one client is a pharma client, and it’s traditional type of work, it’s not strategic solutions. So you know, we cover a whole broad mix and we’re seeing new types of work coming from all of the sectors.

[Tim Evans:]

Okay, thank you.

[Operator:]

Thank you. Our next question or comment comes from the line of Garen Sarafian from Citi Research. Your line is open.

[Garen Sarafian:]

Good morning Colin, Linda and Mike. One is a follow-up to just a question prior. You’ve highlighted in the past few quarters, among other things, how well you’ve done in the mid-tier to biotech pharma market, but we continue to hear investor concerns of the volatility of this market potentially impacting their work as well as with the CROs. You clearly had another solid quarter of new wins, but could you maybe discuss what you’re hearing from this segment in terms of what they’re thinking of the funding environment, market volatility, and ultimately how it’s changing their view and investments in R&D?

[Colin Shannon:]

You know, we’ve not seen any dramatic change. A lot of the program that have been earmarked for development over the next year or two they’ve already raised the capital for. We’ve typically seen that there’s quite a lag between any stress in the financial performance of these companies to actually when they start to really rein in this expenditure, because they need to spend and get down deep to improve their revenue forecasts and get these new compounds to market. I keep on going back to 2008 when we actually chose a strategy of working closer with the smaller type of biotechs because they needed the help getting the products to market in a very difficult economic environment, and we actually did very, very well during that period concentrating on the sort of mid-tier to smaller type of biotechs. We’re seeing the same thing again - there’s a lot of well-funded companies with good products. We’re very disciplined in the clients we work with. We do make sure that they do have enough money to complete any programs, but typically we’re dealing with very, very well funded biotechs.

[Garen Sarafian:]

That’s useful. I guess sticking to one follow-up, I’ll split it into two but it’s related to modeling. One is on SG&A, clearly some substantial improvements in 2015 coming down nicely. How much more headwind is there as we think about modeling that past 2016? The second part of it is just broadly speaking, is there any sort of call-outs for the quarterly progression in earnings, or anything else for that matter, that we should be aware of as we model 2016 out, that you could help us with? Thanks.

[Linda Baddour:]

Yes, thank you for the question. That’s a good question. As far as it relates to SG&A beyond 2016, we continue to look for leverage there, and it’s interesting after all these years in the CRO business, you’ll see that often that comes on a step-by-step basis. It’s not going to happen--sometimes it’s not gradual, so as we look into 2017, we’re going to be making plans to improve. We’ll have further utilization in our facilities, we’ll have some additional work completed on the RPS integration to actually get rid of some facilities that we don’t need, so there’s always legal entities that we don’t need to use.

[Colin Shannon:]

And we’re continuously spending money in technology, and in the last years we’re starting to see the improvement of all of the work that we’re doing now, so we’ll actually have a much leaner and more efficient technology department.

[Linda Baddour:]

Thank you, Colin. As it relates to your second question, remind me what that was? I’m sorry.

[Garen Sarafian:]

It was just overall, just anything to call out relative to 2016 quarterly progression of any of the line items versus 2015 that’s worth pointing out.

[Linda Baddour:]

Yes, thank you. So typically in Q1, you’ll see that we have an increase of several items. One is, of course, all the Social Security taxes that kick in the U.S., and that can be quite dramatic, and then also you have PTO accruals that start in the first quarter and they build up so that you can use those dollars later on in the year - that’s just how we have to do it for GAAP, so thank you for pointing that out. If you’re modeling your quarters, you would expect that Q1 will be either on par with Q4 or slightly below, but then as we graduate, obviously with our guidance, you’ll be able to model that going forward.

[Garen Sarafian:]

Got it, great. Thank you.

[Linda Baddour:]

Thank you.

[Operator:]

Thank you. Our next question or comment comes from the line of Steven Valiquette from UBS. Your line is open.

[Steven Valiquette:]

Thanks, good morning Colin and Linda. So I hate to beat the dead horse on this subject from earlier, but I guess just irrespective of what the current mix is right now between biotech and pharma, if we can think of it that way, if you did have to predict where you might end 2016 versus where you are right now, do you think your biotech mix would be higher, the same or lower than it is right now? I think we’re all trying to figure out basically is this still potentially your fastest growth category. That’s really kind of the nature of the question. Thanks.

[Colin Shannon:]

You know, remember maybe number of clients it’s faster growth, but not by the size of awards. I actually really like the mix that we’re on just now, and we’re seeing that type of mix with the type of volume of RFP that comes through, we’ve got a nice broad mix. Some of our clients are actually moving on from the smaller type of biotech to larger biotech, just because they’ve actually been very successful over the last few years, and we’re seeing them obviously continue to expand and we’ve been actually growing with them and becoming really good partners as they have continued to grow their revenue streams. Looking across the mix, we are actually very pleased that we’ve got a whole broad range. We like the fact that we deal with the smaller type biotechs through the mid-tier to the really larger clients. It gives us the good variety and allows us to utilize effectively all of our medical informatics. We’re finding even within some of the larger clients specific areas, like orphan indications, where they’re coming to us to help them identify how best to tackle these type of very difficult projects and get the patients on board. So not only within the actual mix of the difference between the biotechs, pharma, big biotech, small biotech, but even niches within the companies, we’re finding we’re able to exploit, so very, very much like the mix, and I really don’t see it changing significantly within the year.

[Steven Valiquette:]

Okay. All right, that’s very helpful. Thanks.

[Operator:]

Thank you. Again ladies and gentlemen, if you have a question or comment at this time, please press star then one on your telephone keypad. Our next question or comment comes from the line of John Kreger from William Blair. Your line is open.

[John Kreger:]

[Indiscernible] in for John today. Thanks for taking the questions. The first quick question on headcount growth expectations and potential wage inflation. Is there anything interesting you’re seeing on that front, and can we start to expect headcount growth to be slower than total revenue growth in the next couple of years?

[Colin Shannon:]

There are challenges there. There’s no doubt there’s certain job families where there is specific scarcity and it’s causing some salary pressures throughout the year. We’ve been successfully utilizing lots of our training programs to build our own staff through many different aspects throughout the company, and working closely with our clients to give them the appropriate talent needed to conduct their trials. But there’s certainly pockets, and we’re noticing that we’re having to pay additional fees like sign-on bonuses and various things, and retention tools that we have obviously had to model in looking forward in 2016. You probably noticed that we’ve tried to be a little bit conservative there and not just be aggressive, saying we’re going to have these great margins, because we recognize there is some difficulty in recruiting out in the marketplace, and we want to obviously have the appropriate amount set aside to accommodate that.

[John Kreger:]

Great, that’s helpful. One other question on RPS if I could. You had mentioned that there’s some integration still to come in maybe late ’16 or 2017. What about the sales synergies that you had talked to in previous quarters? How far are you into that process, and have you been able to sell some more traditional full service type work into the legacy RPS base?

[Colin Shannon:]

Yes, we actually deliberately chose a strategy of allowing our clients that chose the strategic solutions option to continue that and without having pressure of trying to switch over to full service work, so we are finding that we wait until we’re asked by them or if we see an opportunity that we can help them with a particular study that might be in danger of not being done properly or enrolment rates are hurting them, that we go in and try to help them figure out how to address this difficult situation to get it back on track. So it’s more about a [indiscernible] situation rather than us forcing our way into them. But yes, we’re seeing a pick-up and I think that our patience is paying off, because they now respect the fact that we’ve not used the strategic solutions to sell them full service work, and they respect the fact that we’re investing in the strategic solutions side of the business and we continue to give great work. Actually, there was two clients that specifically singled out strategic solutions as vendors of the year last year, which I think was actually a great testament to the work and quality of work that they do, so we don’t want to actually make them water that down a bit in any way.

[John Kreger:]

Great, thanks very much.

[Operator:]

Thank you. Our next question or comment is a follow-up from Garen Sarafian from Citi Research. Your line is open.

[Garen Sarafian:]

Hi, thank you for taking the follow-ups, and first, I think I forgot to mention, congratulations on your first successful year as a public company. It’s no small feat. But I just wanted to follow up on the KKR commentary and just the relationship with WuXi in the prepared remarks, Colin. I’m not sure I understood it. Could you just elaborate a little further, how the relationship works in the future, if there is trial work to be done in China, how it would work, and the level of exclusivity versus not in the partnership moving forward?

[Colin Shannon:]

Well, it’s not an exclusive arrangement, but we’ve got an arrangement because we’ve got great connections with WuXi and we hold them in the greatest respect. We want to obviously continue to develop the great relationships we have with our senior executives at WuXi, so we obviously will work with them wherever we can and utilize where we can their capabilities. They’re potentially a great partner for us to have. Now, there’s other areas where we’ll have to continue to develop on our own. The strategic solutions is where we singled out, because the client really wants us to retain control and they want us to make sure that it’s our name that’s managing it, so that was always difficult when we actually had the joint venture in the first place. But then obviously there’s not been a lot of work going for global trials into China. If that changes, then we’d obviously work closely with WuXi to see how best to manage that. In the meantime, we’ve created a great unit where they’ve got a lot of fantastic program staff that do all our clinical programming, and we are utilizing that. We’ve got arrangements to continue to utilize them going forward since we’ve built up such a strong unit. So we see very much a nice relationship on a go forward basis, and hopefully we see it as a two-way street that when they need work developed outside of China, that we’ll be the partner of choice to help that develop that work.

[Garen Sarafian:]

Got it, that’s useful. Thank you very much.

[Operator:]

Thank you. Again ladies and gentlemen, if you have a question or comment at this time, please press star then one on your telephone keypad.

[Colin Shannon:]

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

[Operator:]

Ladies and gentlemen, thank you for participating in today’s conference. This concludes the program. You may now disconnect. Everyone have a wonderful day.