SXC Health Solutions Corp. Q4 2008 Earnings Call Transcript

Mar. 5.09 | About: Catamaran Corp. (CTRX)

SXC Health Solutions Corp. (SXCI) Q4 2008 Earnings Call Transcript March 5, 2009 8:30 PM ET

Executives

Mark A. Thierer – President & Chief Executive Officer

Jeffrey Park – Senior Vice President & Chief Financial Officer

Analysts

Brooks O’Neil – Dougherty and Company

David MacDonald – Suntrust Robinson Humphrey

Tom Liston – Versant Partners

Blair Abernethy – Thomas Weisel Partners

Charles Rhyee – Oppenheimer & Company

Tony Perkins – First Analysis

Lawrence Rhee – Blackmont Capital

Michael Baker – Raymond James

Michael Minchak – JPMorgan

Peter – Scotia Capital

Husein Kirefu – M Partners Inc.

Gabriel Leung – Paradigm Capital Inc.

Husein Kirefu – M Partners Inc.

Operator

Good morning, ladies and gentlemen. Thank you, for standing by. Welcome to the SXC Health Solutions Corp. 2008 fourth quarter and year-end conference call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer-session. (Operator Instructions)

This is a reminder that portion of today's discussion may contain forward-looking statements that reflect current views with respect to future events. Any such statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected in the forward-looking statements. For more information on the Company's risk and uncertainties related to these forward-looking statements, please refer to SXC's annual information form. I would like to remind everyone that this call is being recorded on Thursday, March 05, 2009, at 8.30 a.m. Eastern Time.

I would now like to turn the conference over to Mark Thierer, President and Chief Executive Officer. Please go ahead, sir.

Mark Thierer

Thank you and good morning everyone. Thank you for joining us on today's call. This morning, we issued our Q4 and 2008 financial results by press release. If you did not receive a copy, the results can be found online at our website, sxc.com. With me on the call today is Jeff Park, our Chief Financial Officer.

I’ll summarize the key events for the year, and then Jeff will provide an overview of our financial results along with our 2009 guidance. I'll then close with a few comments before opening it up to Q&A.

Overall, we are pleased with the Company’s performance in 2008. We made great progress in advancing our mission of redefining pharmacy benefit management as the industry’s technology-enabled PBM.

Although the economy experienced a significant down wrap much of the year, we exceeded our financial targets and built the platform, which will drive SXC’s future growth. We now have the PBM industry’s broadest set of choices to contain the cost of pharmaceuticals and improve patient care. Keeping cost in check with advanced clinical programs, full price transparency and flexible plan design is especially important to the customers in today's recessionary environment.

Well 2008 was indeed a very busy year for us. We made two strategic acquisitions. We added new leadership in multiple areas of our business. We won substantial contracts in our key target markets and we grew our company’s reputation for technology innovation. Most importantly, the momentum we established in 2008 extended through the fourth quarter and is now continuing into 2009.

The acquisition of NMHC was truly a transformational event for SXC. The purchase rationale was to combine SXC's PBM technology expertise with NMHC’s leadership in traditional PBM services. NMHC expanded our strategic footprint with established mail order capability, clinical products and specialty pharmacy operations. With the completion of the acquisition, we are now delivering PBM services and tools to a well-diversified customer base from two separate business units – informedRx, our full service PBM and our Healthcare Information Technology or HCIT operations.

On the integration front, our operations team has done an exceptional job with the integration of NMHC. I’m pleased to announce today that we are now 100% complete with the conversion of all NMHC customers to SXC's Rx claim processing platform. Our team successfully converted over 350 customers in eight months, which was really a phenomenal team effort and I would like to take this opportunity to recognize the effort of the entire company to focus on this challenging task and one, which candidly I think no one in the industry, could have accomplished in this timeframe.

In the first and second quarter of 2009, we will be generating additional savings and operating efficiencies through side consolidation and facility closures. As part of the integration, we were successful in renewing contracts with the majority of NMHC’s customers and have already completed a number of flow through opportunities with the mail and specialty operations. We see good opportunities for further pull-through incoming quarters.

Our account management team has a targeted campaign to drive revenue synergies throughout our client basis. Obviously driving mail order and specialty pull through provides excellent margin expansion opportunities for the company. We are also seeing strong purchasing efficiency through our combined network management activities. This is an area where we saw significant pickup in the second half of 2008. Additionally, we've been able to realize cost efficiencies in the purchasing of prescription drugs due to the greater scale of the combined businesses.

We now possess the broadest set of PBM solutions and the most flexible PBM model in the industry. Our unique business model has increased our market opportunities and our competitiveness resulting in several new informedRx contract wins since the purchase closed. These include the Health Plan of San Mateo, a five-year contract valued at $250 million and the UFCW & Employers Benefit Trust, a three-year contract valued at $240 million, both of these plans based in California.

Our pipeline of opportunities for 2009 midyear starts as well as 1/1/2010 new starts is very full. And in fact, we've seen a five-fold increase of RFPs compared to this time last year. Our HCIT also turned in a strong performance in 2008. We won a number of contracts including the state Medicaid programs in Tennessee a three-year contract worth $35 million and South Dakota a three-contract worth $10 million.

And the program in Tennessee is one of a largest fee-for-service Medicaid plans in the country and our team deserves a tremendous amount of credit for standing the state up within a very tight timeframe. In October, we completed the implementation of the State of Washington and we began processing their Medicaid transactions at that time. So today SXC now services five states in the fee-for-service Medicaid market and we’ve quickly captured 10% of the national market share in just over 2.5 years time.

Our fee-for-service transparent model is ideal for this market. Now remember this is a space where the big three have no presence. And in terms of opportunity, we’re actively engaged in a number of new state bids as we speak. Shortly after year-end, we announced a three-year multimillion-dollar agreement with PharMerica. PharMerica is a reader in the long-term care market and this win helps cement our leadership position in this marketplace.

The long-term care market is beginning to invest more heavily in advanced managed pharmacy services and a screening of significant market opportunity for SXC. We’ve first mover advantage in this market as the industry’s only long-term care PVM, with a strong management team who knows the intuitional pharmacy space very well.

Our client retention in our HCIT business has been excellent over the years. However, we were recently notified by a large transaction-processing customer that they’ve undertaken an overhaul of their Medicare Advantage Health Plan strategy and will be terminating their claims processing agreement with us. As a result, we will see a reduction in claims processing volumes effective in the first quarter of 2009 and a revenue impact of roughly $4 million for the full year. This customer’s decision had nothing to do with SXC’s service or value proposition and in fact SXC will continue to provide certain reporting in data services through the contract length of 2011.

On the acquisition front, in late 2008 we acquired Zynchros, a widely installed solution used to manage formularies and maintain compliance with Medicare Part D requirements. Zynchros has 45 customers principally health plans, many of whom represent good cross sell opportunities for our HCIT solutions. The Zynchros product is now part of our HCIT toolset and we use it ourselves in our informedRx PBM unit.

Integration activities are in full swing and we are well in our way to having Zynchros pulled into our HCIT operations. We also experienced significant success with Pathfinder PRO, our advanced risk-modeling tool that gives payors the ability to identified high risk patients in advance.

Today we announced that the Pharmacy Benefit Management Institute or PBMI, named SXC and our Pathfinder PRO tool, the winner of the 2009 PBMI innovation award. PBMI sponsors an annual work to recognize innovated solutions in the PBM business and this is generally considered to be the premier award in the industry.

We were co-awarded this award with one of our important clients, the state of Arkansas, who has used the tool to save significant dollars in overall healthcare spending. Our sales team today is aggressively taking Pathfinder into the health plan and payor community and we see this product as an important weapon in our arsenal of technology enabled cost savings tools. We are proud of the fact this is the second time in three years that SXC has won the PBMI innovation award having won it previously in 2007 for our Rx portal, our member Web portal technology.

Turning to Washington D.C. and healthcare reform, President Obama’s Stimulus Bill and national healthcare agenda will give the healthcare IT sector, a financial shot in the arm in the coming years and we believe sets up very well for SXC. In addition, the President pledged to extend health benefit coverage to many of the 46 million Americans without coverage. And this means eligibility for state Medicaid programs will grow substantially. In fact, we’ve already seen a significant increase in the number of covered lives in the state plans that we service today. Additionally the Kaiser Foundation has said that every 1% increase in our nation’s unemployment rate, yield an incremental $1 million people who joined the fee-for-service Medicaid roles, which is another driver of increased lives under management for us.

In the end, we believe the SXC business model is uniquely positioned to respond to any type of reform agenda put forth by the new administration. So looking ahead, 2009 is stacking up to be a very good year for SXC.

I’ll let Jeff take you through our financial outlook for the year as well as our guidance, but strategically it's clear that SXC has emerged as the industry technology enabled PBM, with the tools, technology and services to help a wide range of clients in multiple markets save money on pharmaceuticals and take better care of patients.

At this point I will turn it over to Jeff to take a closer look at the financial results for the quarter.

Jeffery Park

Thanks Mark, and welcome everyone. As Mark said, 2008 was a very good year for SXC. We generated $42.5 million in adjusted EBITDA, up more than 90% from 2007 and we grew our GAAP earnings per share to $0.65 from $0.61 in 2007. This represents GAAP accretion for the NMHC acquisition in 2008, which beat our expectations as it includes $7.8 million of deal related amortization.

Excluding deal related amortization for the purchase of NMHC, our EPS increased from $0.61 in 2007 to $0.89 in 2008. As a result of this strong performance, we delivered $41.6 million in cash from operations in 2008 compared to $22.1 million in 2007.

Revenue for 2008 was $863 million, ahead of the top end of our guidance range of $855 million. As discussed on our last call, on the PBM side, Q4 revenue was below Q3, primarily due to the State of New York business being taken in-house and the anticipated pruning of certain accounts from the NMHC base.

In general, revenue levels from NMHC are tracking at a steady rate relative to the results prior to our acquistion and we would begin to climb as agreements with San Mateo and UFCW are launched in 2009.

Adjusted prescription claimed volume on the PBM side was $8.4 million in Q4 compared to $8.9 million in Q3. As Mark highlighted our mail penetration remains steady at 8%, which is a key focus for us in 2009, and our generic expense were industry leading at 70%. Q4 revenues are positively impacted by seasonal spike in utilization and seasonal specialty drugs like [Synergies].

On the healthcare IT side, goal lies in our public sector for Tennessee and Washington, were offset in part by lower professional services revenue. The Q4 2008 and year-to-date revenue numbers do not include the preacquisition informedRx business, which we now account for in our PBM segment. Recurring revenues in the healthcare IT business increase 81% in Q4 from 75% in Q3.

For the year, recurring revenue was 76% of healthcare IT revenue, equal to last year’s percentage. Transaction processing volume was $118.5 million in Q4 compared to a $103.3 million in Q3.

Tennessee and Washington helped drive this increase quarter-to-quarter. In addition, Q4 tends to experience the boost in volumes due to the cold and flu season.

As Mark mentioned in his opening remarks, we will see reduction in transaction volumes in Q1. In 2009, the impact will be a reduction of approximately $100 million transactions year-over-year and approximately $4 million of healthcare IT revenue. While disappointing, this had nothing to do with SXC’s service levels or performance and the fact that it will have minimal impact on our overall business speaks to the level of diversification that we have in our customer base, in particular post the acquisition of NMHC.

Consolidated gross profit for the year was $115.5 million ahead of the high-end of the guidance of $114 million. For the quarter, it was $37.3 million, 13% compared to $34.9 million or 11% in Q3. Gross profit per adjusted claim on the PBM side was $3.34 per claim compared to $2.77 in Q3. Strong gross profit performance in the quarter was due primarily to the realization of efficiencies related to the acquisition, organic growth on the IT side of the business and a one-time help of $1.5 million of purchasing efficiencies through our manufacturer rebate recontracting work.

Adjusted EBITDA for the year was $42.5 million, up sharply from $21.4 million last year, and ahead of our guidance target of $39 million to $40 million. Q4 adjusted EBITDA was $14.7 million compared to $11.9 million in Q3. Adjusted EBITDA totals for 2008 increased due to strong gross profit expansion and cost synergies.

We're very pleased with our adjusted EBITDA performance and our ability to drive improved combined performance post acquisition. It validates why we felt the NMHC acquisition was important to us and is a strong indicator of our ability to integrate the organizations.

As I stated on the last call, when we made the acquisition, we identified three main areas that would drive gross profit expansion: Increased cross selling of mail and specialty and improved purchasing economies of scale in both the retail network as well as the drug manufacturers. We are very pleased that post acquisition, we have seen some important contributions to the business in each of these areas and we will see new opportunities lining up in the coming quarters.

As suggested in our last call, in terms of cost synergies, although SG&A is flat for the quarter, we did generate significant new incremental cost synergies in Q4. These additional synergies were offset by additional expenses to support the goal lies in our public sector business. We are pleased with our progress so far and remain well on track to achieve or potentially exceed the targets that were established at the time of the purchase. Q4 GAAP net income was $0.20 per diluted share compared to $0.15 per diluted share in Q3, and $0.18 per diluted share in Q4 2007.

Net income for 2008 was $0.65 per diluted share compared to $0.61 per diluted share in 2007. It's worth noting that we delivered EPS growth in the second half of 2008 and for the year-end total on a GAAP basis, despite the inclusion of significant non-cash acquisition related costs in a very rough economic environment. This is due to better than expected gross profit expansion, the accelerated timeline on our acquisition synergy and organic growth activities.

Non-GAAP adjusted EPS was $0.28 per diluted share in Q4 and $0.89 per diluted share for the year. This metrics excludes the amortization of intangibles directly related to the NMHC acquisition. And we believe provides a better comparison with the net income from the 2007 period.

A reconciliation of this can be found in today’s press release. This represents a greater than 45% increase in EPS compared to 2007. We currently expect 2009 to have $7.6 million in deal-related amortization and $6 million for 2010. This detail will be outlined in our 10-K, which will be released in about a week.

Post-acquisition, generating strong cash from operation remains a key feature of our business model. For 2008, we generated cash from operations of $41.6 million compared to $22.1 million last year, an 88% increase.

Looking quickly at the balance sheet with the acquisition, we hold a $48 million term loan. At the end of 2008, we had 67.7 million in cash and cash equivalents on the balance sheet plus an additional $12.5 million in restricted cash. CapEx for the year was $8.5 million below our expectations at $10 million and some of the CapEx positions were moved into 2009. In 2009, we expect to invest $9 million to $10 million in CapEx.

Finally, let’s focus on guidance for 2009. With revenue we’re forecasting $1.2 billion to $1.3 billion. This implies a slight uptick based on the revenue run rate for Q4. As you’re aware, Q4 and Q1 are seasonally high for utilization and so a straight run rate from Q4 is not the right way to look at the guidance.

Consolidated gross profit guidance is $140 million to $150 million. In considering this range relative to the level of Q4 gross profit and we must take into account Q4’s one-time rebate pickup of $1.5 million, which is in excess of our improved run rate. Additionally, I would caution you of annualizing Q4 due to seasonal performances outlined, but also with the resetting of employee deductibles with the new January first plan year, we do see modestly reduced gross margins in our non-transparent business as we start the year. But as those deductibles are used up at the beginning of the year, we’ll see margins return to normal.

Adjusted EBITDA guidance is $51 million to $54 million. Again in considering this range relative to Q4 numbers you need to take the $1.5 million Q4 pickup into account as well as the seasonal increase in SG&A and Q1 2009 related to the resetting of employer contributions for our employee benefits.

We do expect to continue our synergy activities in 2009. As Mark outlined we are completed with the technology conversion, and we are currently forecasting modest headcount expansion in 2009 as we continue to support our expanded sales, mail and specialty growth heading into 2010.

GAAP EPS guidance on a diluted basis is $0.77 to $0.85. The midpoint here implies healthy year-over-year EPS growth of 25%. Non-GAAP adjusted EPS guidance is $0.99 to $1.08 fully diluted. As mentioned before, by excluding the deal-related amortization this measure provides a better comparison to the pre-transaction GAAP EPS. It also points the cash generating potential of the combined business.

All in all, we are very pleased with 2008. And 2009 promises to be another exciting year with good visibility on our renewals and our new business opportunities. We have given guidance with a conservative view into 2009. With the seismic changes occurring in the marketplace and rising unemployment, we are cautiously optimistic that through efforts to expand synergies and purchasing efficiencies as well as upsell of mail, specialty and new starts, we will be able to improve upon the 2009 outlook as the year progresses.

While the current economic environment is still with caution and uncertainty, we believe our core business is largely resilient to the turbulence in the economy and we have assembled a strong leadership team capable of executing on our long-term plan and delivering growth during tough economic markets.

With that, I’ll turn it back to Mark for closing comments. Thank you again for your time and your continued support.

Mark Thierer

Thanks Jeff. When we announced the acquisition of NMHC in April last year, we talked about building a technology-enabled PBM platform focussed on growth. Now with much of the heavy lifting of the integration behind us, we've set our side squarely on new sales. We see significant growth opportunity in each of the markets we serve and we put together a strong sales engine that can generate new business wins across multiple markets.

So our game plan for 2009 is really very straightforward. First, complete the successful integrations of NMHC and Zynchros. Second, drive continued EBITDA growth through cost and revenue synergies. Third, drive continued operating efficiencies across our entire company and finally, realize our growth potential with broad sales initiatives in 2009 that drive customer wins this year and into 2010.

Thank you, for you participation on today's call and for your ongoing support of our business. This concludes our prepared remarks for today and at this point I would like to open the call to any questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions). And your first question comes from Brooks O’Neil of Dougherty and Company. Please go ahead.

Brooks O’Neil – Dougherty and Company

Good morning guys. Congratulations on a terrific year. I have a number of cautions. First I’m hoping you could provide a little additional color on the contract you've referred to that is terminating any other at risk contracts you feel might be in your mix?

Mark Thierer

Sure, Brooks. Thank you. The contract that we are referring to is an HCIT contract and we won’t be disclosing the name of the customer at their request and out of respect for their wishes that won’t be a name that we share. But bottom line is, this is a Medicare Advantage Health Plan that went through a strategic reassessment of their operations and many of the MA plans are doing that. The contract that we have in place is actually still in effect, who are doing work for this customer from a reporting and data servicing standpoint, but we will not be clearing claims for this client and you’ll see it in our transaction volumes effective in the first quarter.

Brooks O’Neil – Dougherty and Company

We would assume this client has it’s own claims processing engine developed for other parts of its business?

Mark Thierer

Right. You can assume that they have another way to process claims.

Brooks O’Neil – Dougherty and Company

And do you feel as you look across your book of business that there are other meaningful accounts that Mike, make a decision like that obviously not only in that HCIT business but across your PBM platform as well?

Mark Thierer

No, I don’t Brooks. This was a unique situation that was unique to their business and bottom line we don’t see any exposure like this for 2009 or candidly for 2010 at this time.

Brooks O’Neil – Dougherty and Company

Correct me if I’m wrong but you don’t have a lot of renewal schedule for 2009 as it is?

Mark Thierer

That’s right. We had a very strong initiative through 3Q and 4Q last year and basically the entire flock of large businesses has been renewed for 2009. We don’t really have any large account exposure.

Brooks O’Neil – Dougherty and Company

Okay, great. Maybe a good question for Jeff and then I’ll hop off. We noticed that the tax rate was a little bit lower than we were modeling. Was there anything specific that drove that?

Jeffrey Park

No, I think the tax rate was pretty close to the information I had given. I think when I talked about 25% tax rate for ’08, I think we came in at 25.5% or 26% with respect to 2009 tax rates in and around 27%.

Brooks O’Neil – Dougherty and Company

27. Okay great. Maybe just one other question, I'm curious. If you could just give us a feel for sort of the key underlying assumptions in the guidance specifically, what drives the difference between the high-end and the low-end of your ranges?

Jeffrey Park

Sure, I've few things. We have to certainly the flexibility or the opportunity with respect to additional execution on the synergies will be one of the areas. We wanted to be conservative as I tried to outline in my prepared remarks and we think that’s prudent in this market in particular with the rising unemployment and sort of the economic uncertainty that we're currently in. As you look at the higher end of the range, it’s really our opportunities to drive additional mail, specialty or gross margin expansion through those purchasing efficiencies and certainly allowed for little flexibility on any increase in utilization through the coverage.

Brooks O’Neil – Dougherty and Company

Okay great. Thanks a lot guys.

Jeffrey Park

No problem.

Operator

And your next question comes from David MacDonald of Suntrust. Please go ahead.

David MacDonald – Suntrust Robinson Humphrey

Good morning. Jeff, just a couple of questions on the 2009 guidance. Can you give us some sense of a) what tax rate that assumes? And b) what the stock comp numbers expected to be in '09?

Jeffrey Park

Sure. If we use our Q4 annualized stock comp, it's around $4.5 million and tax rate I had mentioned is around 27%.

David MacDonald – Suntrust Robinson Humphrey

Okay. Isn’t the stock comp right about $4 million? Jeff, wasn’t it $1 million in the quarter? Just about that.

Jeffrey Park

It looks like a run rate around $4.5 million.

David MacDonald – Suntrust Robinson Humphrey

And what tax rate?

Jeffrey Park

27.

David MacDonald – Suntrust Robinson Humphrey

And then guys can you talk a little bit in terms of the cross selling opportunity and frankly the way your sales guide gets paid. Is there any incentive payments to kind of cross sell mail and specialty and how you’re driving your sales folks out to push that initiative as hard as you can?

Mark Thierer

Right, Dave. This is Mark. That’s actually an initiative being driven out of our account management team and we have a new compensation plan in place, in fact that pays these folks well to drive net new mail order and specialty customers. So in the informedRx business unit under Greg Buscetto's leadership, we have our top 60 clients with an account specific game plan to introduce mail order and specialty plan designs for each and every one of those customers. And so this is an all-year initiative. As we sell these plans come on Board and there are certain burn-in time to get their utilization ramped up, but we have an all-hands-on-deck focus on selling mail and specialty pull through in the informedRx business. Separately, we are having some good success with some HCIT clients and I am expecting to have some good news in the area of a number of HCIT clients adding mail and/or specialty as well in 2009, so we are very focused on that.

David MacDonald – Suntrust Robinson Humphrey

And then guys can you talk a little bit about the opportunity for strategic acquisitions. I’ve got to imagine that multiples are coming down and you are probably seeing more properties that are willing to talk. Is that a fair assessment and what can we expect on that front?

Mark Thierer

Dave, it is a fair assessment and what you can expect from us is first we are focused on integrating the two companies we bought this last year, and that’s job one. But we are very active, candidly with an acquisition map that we have laid out and it includes today tuck-in targets in specialty pharmacy, regional PBMs, Medicaid tools that would add to our fee-for-service Medicaid model. And so what we’re seeing is actually a unique opportunity from a valuation standpoint. So I think our track record here on digesting acquisitions is good and from an acquisition standpoint, we will be disciplined but we will act if the valuation is right and it fits into the product line.

David MacDonald – Suntrust Robinson Humphrey

And then I don’t know if you guys are comfortable going here but can you give us a sense of where you think the mail penetration could be exiting 2009 and I realize that’s going to be impacted by potential new business that you could add throughout the year, but ballpark, should we expect it into the low double-digits?

Jeffrey Park

Internally that's what we're targeting Dave. We obviously have a relatively low base at 8% and really it's only opportunity to grow that. So that will be a good assumption going forward.

David MacDonald – Suntrust Robinson Humphrey

Okay thanks.

Operator

Your next question comes from Tom Liston of Versant Partners. Please go ahead.

Tom Liston – Versant Partners

All right. Thank you and good morning. Just further questions on the guidance. Firstly on EBITDA line, Jeff obviously warned us not to extrapolate Q4. But when you remove the one-time gain and even with some seasonality in the like, your mail order working in your favor this year, a few items on the suite just alternative side working in your favor. Why wouldn't that range be reasonable amount higher given some of the good things that is going to happen this year?

Jeffrey Park

Yeah if you take the Q4 to your point, Tom, if you take the Q4 and backup that $1.5 million, it puts it in pretty close to the low side of the middle of the range. We want to be able to make sure we've got the opportunity to continue to expand as I mentioned. We think we've got given some conservative guidance, which we think is prudent in the market that we’re in right now. As we get better visibility either through additional synergy opportunities or expanded mail and specialty penetration, we would look forward to come back and talk to all of the above about how that starts to shape up for 2009 with the better view.

Tom Liston – Versant Partners

So what is it the gross margin that we should be able to more cautious on coming out of Q4? Or what’s the negative key that’s built into there?

Jeffrey Park

Right. I tried to hopefully cover of in the prepared remarks. You see a lot of seasonally in the Q4 and Q1. You’ve got cold and flu season Tom and that’s a good period for both the specialty area as well as the rest of the operations and so that’s the only caution I give you with respect to using Q4 and multiplying it by four.

Tom Liston – Versant Partners

Yeah, but we mean building on that. There are certainly a lot of things working in your favor this year there is first synergies to come out. What other piece are we missing? We know the seasonality piece but would have expected maybe to do a little better than that. So is there any pressure at all in the gross margin? Was there anything out that we should be aware of besides obviously that the one customer that follow up?

Mark Thierer

Tom, this is Mark. There is really nothing else at all beyond what we’ve described to you and we are going to manage the business and getting the habit of under promising and over delivering. So the guidance that we put out there is we’ve thought about long and hard and we feel good about it.

Tom Liston – Versant Partners

Okay, and just to clarify the 1.5, the one-time non-recurring that came out of gross margin as well, correct? That would aid the gross margin in other words right?

Mark Thierer

That’s right, Tom.

Tom Liston – Versant Partners

Okay, thanks.

Mark Thierer

Okay.

Operator

And your next question comes from Blair Abernethy of Thomas Weisel Partners. Please go ahead.

Blair Abernethy – Thomas Weisel Partners

Thank you. Mark, I’m just wondering, if you can fill out for us a little more some of the risks and opportunities that you see with the Obama administration’s push into affecting change in healthcare industry, particularly around insurance and some of the concerns of the PBM's have?

Mark Thierer

Yeah thanks Blair. We have spent a lot of time on this and I do think we’re uniquely positioned. There has been so much talk about the new healthcare platform and universal coverage. The Obama administration already reauthorized the SCHIP program for another 4 million kids coming into that program and you’re already hearing about states receiving incremental federal funding for their Medicaid programs. We're already seeing a pickup in the covered lives and so to the extent that public and people service Medicaid roles grow, that’s going to be good for us with five states in our book of business today. I would also in that respect to the extent that government gets more active in the management of pharmacy, this is a place where we are very familiar and it sets up nicely from a technology standpoint and a pharmacy domain standpoint. I mean it’s truly the most transparent model that exists in all of managed pharmacy. So we like that space a lot and we would like the current direction that the administration is taking. Separately you asked about insurance. The real pressure that’s coming out of the Obama administration has more to do with the add risk providers in the Medicare Advantage space. And this is where these reimbursement cuts for MAPDs. There could be some adverse impact and you've seen some of that certainly in the share prices of the publically traded health plans, who are at risk for Medicare Advantage type programs. And so for us, we have no exposure to the add risk portion of that and we don’t see that impacting SXC's business. Beyond that, there are two or three other things that we actually feel very good about going on in the Obama administration. The first is this big push in the HCIT space and $20 billion being earmarked for ePrescribing initiatives and basically incentives as per adoption of electronic health records and ePrescribing. We setup very well there. We've a couple of products in the product line that we saw broadly to health plan called RxExchange, which enables the prescribing process to happen and we’ve got a number of initiatives in terms of our PVM of the future that are focussed around technologies you would expects. So we think long-term that sets up very well for us. And then finally there is a lot of talk about driving increased generics as well a pathway for biosimilars or generics in the specialty space and both of those and our new business model setup very well as margin drivers, so I’ve to say all in all, we like what we are hearing out of the Obama Administration and candidly I would like to see it get on track very quickly.

Blair Abernethy – Thomas Weisel Partners

From your perspective net-net the positives here, I mean obviously nothing is set in stone yet, but the positives here seemed to outweigh the potential negatives for you?

Mark Thierer

I don't actually see a lot of negatives Blair, but yes I do like the positives.

Blair Abernethy – Thomas Weisel Partners

Okay great. Just another question circling back to state Medicaid market. Can you just give us a sense of what you see there and what we should be expecting to see this year not obviously in terms of things that might go live but just how big the opportunity set is there over the next year or two?

Mark Thierer

Yeah, I’ll Blair. Obviously there are 45 states that represent Greenfield to us for full PBM services. But the state Medicaid managed pharmacy market is pretty focus to market and there are really only two players to compete today and those include ACS and FirstHelp, which is an operating unit inside Conventry. And so for us, 45 states represent opportunity. Now not every single state is a full carve out opportunity. There are supplemental drug rebate programs, prior authorization programs. There are incremental things that you can do with states that could be sure of taking a full carve out and we're active across the Board and we’ve built out a state team in the public sector under Dan Harden’s leadership in Atlanta, and this is a very capable team with a track record here of success. So we're active right now on a number of open bids in a number of states, some of them very large, some of them incremental, as I've described. So hopefully that helps you kind of size it a little bit.

Blair Abernethy – Thomas Weisel Partners

Okay great. Thanks very much.

Operator

Your next question comes from Charles Rhyee of Oppenheimer & Company. Please go ahead.

Charles Rhyee – Oppenheimer & Company

Thanks guys. Couple of questions. First I missed the very beginning. I don’t know if you've commented obviously, WellPoint has announced that they are going to auction of its PBM. Is that something you guys could handle? Is that something you guys would be interested in all?

Jeffrey Park

I was unaware that they publically announced they were auctioning the PBM. I will tell you that one of the keys to operating a PBM efficiently is consolidating platforms and creating an efficient operating model. And that if you think of the fact that we have 60 payor clients, all of whom at one point or another, we converted and we just finished this last one with NMHC. The fact is there isn't a PBM operation we couldn’t take on from an operating standpoint and manage and so I rather not comment on WellPoint and what they will or won't do. But we’re thinking about all the alternatives available to us.

Charles Rhyee – Oppenheimer & Company

It was reported in I think the Financial Times that WellPoint is going to put it up for auction. So, I guess it's going to start getting out there. The second question actually refers to the fee-for-service Medicaid business. Looking out at the states that are up for or bid this year, we're getting some feedback about potentially given type Medicaid budgets. Some of these states considering to just sort of extend or optionality that are exciting in content provider given the cost of going to RFP. Is that a sort of feedback you started hearing? Is that a concern as we think about? Those were the opportunities that as we look through ’09 and 2010?

Jeffery Park

Yeah Charles. What we’re actually seeing is the exact opposite of that and the states are against the war from an economic standpoint. If you look at major states like California as well as Kentucky and others Texas, these states must address this new spiraling cost of prescription drugs and to the contrary, they are not looking at just extending the status quo. These guys are looking to make changes. And we are active in capitalizing on that sea change today.

Charles Rhyee - Oppenheimer & Company

Because it tells me that even though we are going to seen more money from an Obama administration potentially here going into Medicaid and clearly that benefit stage. Is it a function where they are able to still allocate those dollars for an RFP process? So given the cost of the RFP process that’s something to bid?

Jeffrey Park

In the scheme of things, the actual process in the RFP costs are generally pretty insignificant in relation to the drug spend and as Mark was saying, the economics that these states are under a lot of pressure. They are seeing a lot of enrollment increases with the unemployment rates. And although the CHIPS program and some of the Obama administration moves to try to support some of those states is really just an opportunity to again further the point that they have a lot of requirements for health. And that we see as a great market, as Mark was outlining, we certainly setup well for this state business. It’s very technology centered, very passthrough and it requires the PBM skills that we’ve really have and owned.

Mark Thierer

The other thing I’ll add is that what's happening today in Medicaid is they are stepping up and out in terms of clinical management and aggressive management of pharmacy through prior authorization step therapies, concomitant therapies. They are really beginning to look more than they ever have before on unique way to save money. And so what's happening is aggressive managed pharmacy is finding its way into the state fee-for-service Medicaid world and that sets up well for our Company.

Charles Rhyee - Oppenheimer & Company

Okay, great thanks for the comment guys.

Mark Thierer

Thanks Charles.

Operator

And your next question comes from Tony Perkins of First Analysis. Please go ahead.

Tony Perkins – First Analysis

Good morning. I have a couple of questions here. Are you still seeing the organic drug utilization growth around the 1% to 2%?

Jeffrey Park

There is a lot of information in the market around what the utilization growth would be through 2009. We have basically forecasted low to no utilization increases through 2009. Some people have actually talked about negative utilization in some areas of the market and it really depends on the type of clients, Tony. You could imagine that different types of health plans, different sized employers as well as the Medicaid are all different. Their utilization drivers are all unique and so it's certainly much lower than it has been in previous years.

Tony Perkins – First Analysis

You say you are still forecasting low to no growth? So you are still forecasting negative?

Jeffrey Park

Correct.

Tony Perkins – First Analysis

And then also just one more question on the Medicaid programs. Is it fair to say for the 2010 selling season, you are focusing more on the Medicaid programs than you are on other sectors and as far new sales in concerned RFP process?

Mark Thierer

Tony, this is Mark. No that would be – that's not right. In terms of where we’re focused on new sales, the buybacks increased in RFPs that I mentioned which I really think was a product of our consultant strategy in getting the word out in 2008. We really have five segments that we were very focussed on. The first is smaller to mid sized health plans. The 250,000 lives to as high as 500,000 lives. We've got a good number of those in the pipeline. We are also very focussed through the consultant community on small to midsize employers. The state and fee-for-service Medicaid opportunity, which lives inside our HCIT space is one of the segments we are focussed on. But beyond that the labor union space is one that we have a very strong footprint. We have over 80 that all the plans that we service today and a very strong footprint there. And then finally we have opportunities in the long-term tier spaces I mentioned earlier. So, we've got a diversified set of new business opportunities that does include fee-for-service Medicaid but it’s just one of many.

Tony Perkins – First Analysis

Okay. And I guess one follow up. Do you think clients are more interested in the transparent model and maybe a bigger transition from the traditional pricing model to that your transparent model?

Mark Thierer

Well as you know Tony, we've always had a lot clients that we talked about transparency and so, it has been a regular discussion with us, with most of the sales opportunities and most of existing clients for the last few years. For us it hasn’t really been a significant change in the amount of clients I talk about it. What we are seeing is client is more willing to take on different approaches on their clinical programs in an attempt to save money. So whether its utilizing mail more effectively, as Mark outlined, aggressive intervention strategies, our prior authorizations, trying to find ways to manage the specialty business, which historically hasn’t been an area that has received as much focus and really trying to find ways with either restricted networks or rationalized networks to drive more efficiencies and really areas that these employers have outlined or touched in the past.

Tony Perkins – First Analysis

So, they are hoping for more aggressive formularies, more aggressive promotion of trying to control the drug spent in this rate environment?

Mark Thierer

That's right.

Tony Perkins – First Analysis

Thanks guys.

Jeffrey Park

Thanks Tony.

Operator: And your next question comes from the Lawrence Rhee of Blackmont Capital. Please go ahead.

Lawrence Rhee – Blackmont Capital

Hi guys. Jeff, more for you. With respect to NMHC integration prior to this quarter you guys were kind of ahead of the curve in terms of realizing cost savings, which you guys with $68 million in the first 12 months. I think you had $5 million in the first five months in terms of cost savings from the NMHC. Where do we stand today? How much synergies did you realize in Q4 and would you expect it kind of depends on the, I guess, the next stage of the $6 million to $8 million incremental for next year earlier as suspected?

Jeffrey Park

Yeah. Great Lawrence. Well as you mentioned in the last quarter we indicated roughly $5 million in cost synergies in the first five months and this quarter we realized approximately $1.5 million in the quarter, which was offset by really the full run out for our public sector rollout of Tennessee and Washington et cetera. As Mark outlined, we're focussed on, not on the consolidation of technology platforms that are there. We are focussed on consolidation on facilities and operations and sit and drive really those synergy expectations through 2009. We still feel good with the targets we put out. Certainly we're ahead of schedule and that's really in my prepared remarks, I hope to be able to indicate that we will be either add or exceed those targets as we move through this acquisition. It has been ahead of schedule and in front of plan for us.

Lawrence Rhee – Blackmont Capital

That's great. And just with respect to the state opportunities. Could you just outline, obviously you’ve got five states in contract right now? What’s kind of in your track record in terms of opportunities for those states that may have not chosen SXC? What were the reasons why? And just kind of, trying to get color on the expensive environment in the state business?

Jeffrey Park

Sure. As Mark outlined each of these states are unique. The types of programs that they have are unique. The footprints that they may have are unique and so in some cases, we setup really well for it. We've been fortunate over the last three years to able to close their win one to two of those plans a year. And we think that with the expanded footprint that we have as well as the new services and the service model that we bring post the acquisition of NMHC that we actually setup, as well as we have ever setup in that marketplace. So, we would hope to be able to continue to keep that batting average moving forward.

Lawrence Rhee – Blackmont Capital

Okay. And what would you expect the timeline for the remaining of 45 states to come on side with some initiatives. Is it the next five years, three years? If you could frame that for us?

Jeffrey Park

It's tough to do that honestly. All of the states are unique in their contracting requirements. As you know, many of the states sign anywhere between 1 to 5 and some 10 plus year contracts. So there's no way I could give you sort of an easy answer on the 45 outstanding states but we feel good about the size of the pipeline we have. It sets up the same way we've seen it. And like I said we've been fortunate enough to win 1 or 2 of those a year and we hope to be able to keep that batting average.

Lawrence Rhee – Blackmont Capital

That’s great, Jeff. Thanks.

Jeffrey Park

Okay thank you.

Operator

Your next question comes from Michael Baker of Raymond James. Please go ahead.

Michael Baker – Raymond James

Thanks a lot. First question is for Mark. With the potential of the fourth largest PBM coming on market that being related to the potential for WellPoint to sell theirs. I was just wondering if you could comment in terms of any potential changing competitive dynamics or landscape around that from your perspective?

Jeffery Park

Well, I’m not going to comment. I think Michael on the WellPoint scenario specifically, I will tell you that we through our underwriting process look at every single deal that leaves our four walls and we’ve been disciplined about pricing and looking at new opportunities. I think the marketplace in which we compete has been a pretty rational market from a pricing standpoint and so. Perhaps the highest end of the market where the largest self-insured employers go out to bid, I mean it’s a place we don’t live. There maybe aggressive pricing in that space but we were competing in the five markets I outlined, spend pretty rational and the competitive profile haven’t changed a lot. And candidly companies like WellPoint, we don’t see them a lot.

Michael Baker – Raymond James

That’s helpful, and then I just had another question for Jeff. Obviously, with the facility dynamic focusing on operational efficiencies. Can you give us some sense for which quarters might benefit the most incrementally? In other words, have some of these actions already happen, so Q1 will see a nice uplift or some of these just kind of in the earlier stages and therefore it’s more of a back half of the year type of dynamic in terms of incremental benefit to the quarters from cost save perspective?

Jeffery Park

Yeah, good question Mike. I’m cognizant really of the activities that we’re doing with respect to some of the facility works. It certainly will likely be in the mid to latter half of the year where you will see additional increase in the synergies? Is that really your question?

Michael Baker – Raymond James

Yeah, it’s really my question. I understand the dynamics around and I’m just trying to get a general sense and you helped me on that. So thanks a lot.

Jeffery Park

Okay.

Operator

And your next comes from Michael Minchak of JPMorgan. Please go ahead.

Michael Minchak – JPMorgan

Thanks and good morning. Just a followup to the previous questions regarding WellPoint, I was wondering maybe if could talk about your exposure overall to the captive PBMs that are run by managed care players. And if you could about it in terms of the percentage of claims that comprises on your healthcare IT business, which is I think where those relationships flow through and maybe as a percent of sales or earnings?

Mark Thierer

Michael, this is Mark. I’m not sure I understand your question.

Michael Minchak – JPMorgan

When you are serving as the back end processing claims for PBMs that for managed care companies that have captive PBMs? Do you have an exposure to other companies that stay potentially which has been out of these businesses? Do you have any exposure there?

Mark Thierer

Well I see what you are saying. Well as if we were the technology engine inside WellPoint do we have other places like that health plans or PBM's were if they were to be acquired would we'll be exposed is that what you are asking?

Michael Minchak – JP Morgan

Exactly.

Mark Thierer

Yeah well converting application platforms is tough and that’s been proven because some of the biggest player run four of them today and so, if one of our platforms, were acquired out of somebody's business unit for the conversion effort they in all likelihood would come to us and ask our help anyway. So this why the HCIT retention numbers are so high is because it’s very hard to unplug a pharmacy adjudication engine so, overall I don’t worry too much about what you've just described and we have no exposure at WellPoint.

Michael Minchak – JP Morgan

Okay and then secondly, Jeff, just a clarification around your expectation [of low to no] the utilization growth for 2009. Am I correct in thinking that you think about that on an underlying basis, which really excludes the impact of winter losses?

Mark Thierer

That's correct.

Michael Minchak – JPMorgan

And then finally just with respect to unemployment trends underlying the assumptions in your guidance if we were to see the national employment rate go over 10%, do you think the low end of your guidance is conservative enough to reflect that?

Mark Thierer

Yes we do.

Michael Minchak - JP Morgan

Great. That’s all my questions. Thank you.

Jeffrey Park

Okay, thanks Michael.

Operator

Your next question comes from Paul Steep of Scotia Capital. Please go ahead.

Peter – Scotia Capital

Yes, good morning gentlemen. This is [Peter] calling in for Paul. Just briefly wondering about any margin pressure that you would be seeing relating to other renewal of pricing?

Mark Thierer

Yeah, Peter. We’ve actually gone through to a lot of the renewal work with respect to NMHC acquisition, post the acquisition. I think we’ve been relatively disciplined on how we’ve addressed these markets. I don’t see a lot of additional change in the amount of pressure from last two quarters to the next four quarters. There is really no change in my mind around how it looks.

Peter – Scotia Capital

Okay, great thank you.

Mark Thierer

Okay.

Operator

And you next question comes from Husein Kirefu of M Partners. Please go ahead.

Husein Kirefu – M Partners Inc.

Good morning gentlemen. Nice quarter and a quick question if we go around long-term care opportunity. Currently, if I’m not mistaken you are doing primarily a true indication oriented work in that space. What opportunity do you see for additional services within that long-term care segment and how much more do you believe you can earn on a prescription basis and a percentage terms? Can you increase you per transactions? Do believe you can increase your per-transaction earnings by 50% or 100% over the next 12 to 24 months by introducing new services?

Mark Thierer

Yeah Husein, this is Mark and let me break that down really into two components. First of all, the long-term care marketplace is kind of I call it the Last Frontier and the Wild Wild West in terms of managed pharmacy and there is really no one who showed up to bring PBM type tools and approaches to that market space. I mean the large players like Omnicare and PharMerica are excellent huge central filled pharmacies and so the work we're doing today is principally financial and is principally preimposed adjudication type work to help support those folks as they interact with their homes, their assisted nursing, their assisted living facilities and the facilities that they ship a product to. Longer term there is a tremendous amount of opportunity in the clinical area. Today we are not even touching it relative to intervention technologies, relative to the same things that we use in the commercial PBM market space like formulary management, like prior authorizations and ultimately some of the data are extracting and reporting tools like Integrail that we've talked about. So in terms of the market opportunity we've really only have two players today that we service. We're talking to a half dozen or so on smaller players in that segment and longer term as I've said we see a lot of runway in the clinical services and further administrative services for the markets. So, I will just tell you that we hired an executive from the long-term care marketplace who spent her entire career in that space and we feel that a team much like what we've done in the state side. So, we like our chance, we like that market a lot.

Husein Kirefu – M Partners Inc.

Can you put any sort of quantification to it without features like giving out specifics on a dollar-cent basis but do you see this becoming a $0.50 per script business in the next 24 months or dollar per script business and the next 36 months. Can you sort of give us a direction on what sort of accretive opportunity you see in this business from your current book of business?

Jeffery Park

It’s in our HCIT segment which the transaction rates are certainly more modest and really what we do and are supporting in the full administrative services of our PBM. I don’t see rates increasing to that level for the current suite of services must be able to expand and grow as Mark outlined one of the areas and acquisition areas that we look at and tuck-in and that may help us to expand our service footprint in that marketplace. This is really just the beginning for us in there and, but specifically to your question, I don’t see numbers that can get up that high in that next 12 months.

Husein Kirefu - M Partners Inc.

Okay, thank you.

Jeffery Park

You’re welcome.

Operator

And your next question comes from Gabriel Leung of Paradigm Capital. Please go ahead.

Gabriel Leung – Paradigm Capital Inc.

Thanks and good morning. Mark, just on the competitive front, just wondering whether you are seeing from of the larger PBMs increasingly create towards your mid market sweet spot, and if so I mean assume what are some of the strength that you are focusing on with the customers in order to send some of these guys off?

Mark Thierer

Well, the biggest guys, have had a presence in the middle market, a couple of them own what we are effectively mid market PBMs and they have set them up to target those segments. So it's not like they have been non-existent. Our strategy in this market is really a consultant driven strategy and we've taken a cheered approach to our consultant strategy and basically put consultants in three tiers. The largest players will include the Towers, the Hewitts, Watson, Wyatts. We're playing kind of an awareness game with they need to know who we are, we are not spending a ton of time with them. The middle market consultants that are principally regional and are focused on the middle market of employers and we're spending all our time in terms of hand-and-hand compact getting our value proposition out. And then the lower end of consultants and brokers who drive TPA type businesses the other place that we're very focussed and so our strategy is to build business relationships with those consultants and brokers and get ourselves known and in the bid process. We just concluded our last month our first ever client advisory group where we had a 100 of our customers. This is the first time we've done it coming to phoenix spend a bunch of time with us and 25 of those folks were consultants in the community that we're targeting. And so our strategy is pretty riffle shot strategy to build business relationship and get a lot of looks in the lower end of that market and I think we can compete one-on-one on every metric with the big guys in that space. It's the place where service is important and it's not always been good in this marketplace, so that's really what we're doing in the middle market.

Gabriel Leung – Paradigm Capital Inc

That's perfect. Jeff I just got a couple of quick things for you. I didn’t see in the press release, but do you have the gross profit breakdown by HCIT recurring in non-recurring revenue business?

Jeffrey Park

Well actually I don’t have in front of me Gab but it will come out in the 10-K.

Gabriel Leung – Paradigm Capital Inc

Okay and just two other quick things headcount at end of the quarter number one. And number two can you comment on whether or not you received full quarter contributions from TennCare and State of Washington? That’s it from me. Thanks

Mark Thierer

Sure Tennessee launched in the first day of the quarter, Washington launched 20 days into the quarter and the headcount is roughly 950.

Gabriel Leung – Paradigm Capital Inc

Thanks.

Mark Thierer

You are welcome.

Operator

Mr. Park, Mr. Thierer, there are no further questions at this time. Please continue.

Mark Thierer

Well good, thank you very much. I want to thank everybody for joining us on the call today and we'll be talking with you in the coming months.

Operator

Ladies and gentlemen, this concludes the conference call for today. Thank you for participating, you may now disconnect your lines.

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