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Executives

Melody A. Carey - Co-Founder and Co-President

Nancy S. Lurker - Chief Executive Officer and Director

Jeffrey E. Smith - Chief Financial Officer, Principal Accounting Officer, Executive Vice President of Finance and Treasurer

Analysts

Scott R. Henry - Roth Capital Partners, LLC, Research Division

John Kreger - William Blair & Company L.L.C., Research Division

Jack Wallace - Sidoti & Company, LLC

PDI (PDII) Q2 2013 Earnings Call August 5, 2013 4:30 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the PDI 2013 Second Quarter Financial Results Conference Call. [Operator Instructions] Please note that today's call is being recorded. I would now like to turn the call over to Rx Communications Group.

Melody A. Carey

Good afternoon, everyone. This is Melody Carey with Rx Communications Group. Thank you for participating in today's call. On the call this morning from PDI are Nancy Lurker, Chief Executive Officer; and Jeff Smith, Chief Financial Officer. Today, after the market closed, PDI released financial and operational results for the second quarter ended June 30, 2013. If you have not received the news release or would like to be added to the company's distribution list, please call my office at (917) 322-2568.

Before we begin, I would like to caution that comments made during this conference call by management will contain forward-looking statements that involve risks and uncertainties regarding the operations and future results of PDI. I encourage you to review the company's filings with the Securities and Exchange Commission, including, without limitation, the company's Forms 10-K and 10-Q, which identify specific risk factors that may cause actual results or events to materially differ from those described in the forward-looking statements.

In addition, certain non-GAAP financial measures, specifically adjusted EBITDA, which management uses to measure cash flow of the ongoing operating business, will also be referenced on the call. The content of this conference call contains time-sensitive information that is accurate only as of today's date, August 5, 2013. The company undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this conference call. With that said, I would now like to turn the call over to Nancy Lurker.

Nancy S. Lurker

Thank you, Melody, and welcome to everyone on the call. I'll start with the financial highlights of the second quarter.

Second quarter revenues increased over $9 million or 34%, to $37 million compared to the same period last year. This significant increase was driven by Sales Services as revenues from contracts signed in the second half of last year and earlier this year positively impacted our top line. We are pleased to note that during the second quarter, PDI signed additional new Sales Services contracts valued at approximately $13 million, an estimated $5 million of which will fall into 2013. Together with the $17 million contract we announced in the first quarter, our total new business for the year thus far aggregates to approximately $30 million, with an estimated $12 million to be recorded during 2013. As a result, we remain on target to achieve an approximate 25% increase in 2013 full year revenue over 2012, assuming a reasonable level of new business wins for the remainder of this year and no early termination of contracts.

Second quarter gross profit of $6.8 million was marginally higher than last year. As anticipated, gross profit as a percent of revenue for the second quarter continue to trend lower and decreased 18% from 24% in the comparable prior year as contracts won last year and to increased competitive pressure with lower margins are executed. We do still expect gross profit percentages to decline slightly further during the second half of 2013 as last year's contract wins become a larger percent of our revenue, resulting in gross profit dollars for the full year being at or as much as 5% below last year's levels.

As anticipated, operating expenses increased in the second quarter compared to last year. While we continually maintain tight cost control, there was a modest net increase in spending to support the revenue growth of our core business. At the same time, we have progressed in all areas of investment aimed at strengthening our core capabilities and infrastructure, our competitive positioning and our goal of improving long-term margin. I'll give you an update on that more after Jeff reviews the financials in more detail.

The net increase in operating expenses for the quarter was approximately $800,000, more than half of which is related to the investment initiative. As previously disclosed, we still expect full year operating expenses that support our core business to increase modestly compared to 2012. In addition, we may spend up to $3 million this year to support our strategic initiatives.

Finally, the operating loss for the second quarter was $800,000 compared to a loss of $300,000 last year and adjusted EBITDA, which is our measure of cash flow from the ongoing business, was a positive $200,000 in the second quarter.

I'll now turn the call over to Jeff for a more detailed review of the financials, and then I'll provide an update on our strategic initiatives. Jeff?

Jeffrey E. Smith

Thank you, Nancy. As Nancy summarized, for the second quarter of 2013 revenue of just over $37 million, was about $9.5 million higher than the second quarter of last year. Overall, revenue increases in Sales Services were significant and was slightly offset by decreases in both Marketing Services and Product Commercialization. Sales Services revenue for the quarter of just over $32 million was $12 million, or 60% higher than the second quarter of last year as revenue from new contract wins much more than offset the anticipated expiration of certain other contracts. Most of you know that we did achieve over $250 million of multi-year new contract wins and renewals in 2012 and only about $40 million of that was recognized in 2012, resulting in a substantial carryover as we entered 2013.

In addition, we've now announced the signing of new contracts in 2013 which are expected to generate total revenues of up to $30 million, of which about $12 million should be recognized in 2013.

Marketing Services revenue for the second quarter of $1.6 million was slightly more than $1 million lower than last year. This decrease was primarily a result of fewer contract signings in Group DCA. The lower signings are in large part due to a contraction and amounts being spent by pharma, but we do expect to see a turnaround in this trend in the second half of this year. Product commercialization revenue for the second quarter was $3.3 million, about $1.5 million lower than last year due to the internalization of selected commercialization activities by a customer. We previously disclosed that the success of Interpace BioPharma's full commercialization program enabled this customer to accelerate their stated long-term plan of building a U.S. presence. We allowed them to internalize certain commercialization activities effective October of 2012, and in exchange they extended other services to June of 2014.

For the second quarter of 2013, gross profit of $6.8 million was marginally higher than the second quarter of last year. At the same time, the gross profit percentage decreased to 18% from 24% in 2012. Sales Services gross profit for the second quarter was $5.3 million, 30% higher than last year due to the significantly higher revenue. The gross profit percentage, however, in Sales Services decreased to 16% from 20% last year due to the factors previously discussed. Marketing Services gross profit for the quarter of $600,000 was $400,000 lower compared to 2012 due to lower revenue. And Product Commercialization gross profit for the quarter of $1 million was about $500,000 lower compared to last year as a result of the internalization of commercialization activities.

For the second quarter of 2013, as Nancy mentioned, operating expenses were $7.7 million compared to $6.9 million in 2012. The increase is primarily a result of investments in our strategic initiatives and a modest net increase in operating expenses to support the revenue increases in our current core business. The net impact of changes in revenue, gross profit and operating expenses is a net operating loss for the second quarter of $800,000 compared to $300,000 last year.

In terms of liquidity and cash flow, adjusted EBITDA, which you know is our non-GAAP measure of cash flow from ongoing operations, was a positive $200,000 for the second quarter and a positive $3.1 million for the first 6 months of 2013. Cash and cash equivalents at the end of the quarter totaled $51 million, down $1.8 million from year end. Even though adjusted EBITDA was $3.1 million positive, cash decreased from year end primarily due to increases in working capital and capital expenditures. As of June 30, 2013, the company's cash equivalents were predominantly invested in U.S. Treasury money market funds, and the company had no commercial debt. I'll now turn the call back over to Nancy.

Nancy S. Lurker

Thanks, Jeff. Since the close of last year, we've been stating that while we're confident that we will win our fair share of Sales Services opportunities that became available, for the foreseeable future, we believe we will continue to face slightly lower gross margins, stemming from competitive pressures. As a result, we have undertaken a number of strategic initiatives aimed at strengthening and further differentiating our core strategic businesses and adding more predictable, higher growth, higher margin business that can buffer the natural volatility of our current core business. In this regard, we are investing strategically in our core infrastructure to upgrade, further differentiate ourselves and strengthen our position as a leader in the CSO market. These investments are primarily systems related and the larger ones will be completed by year end.

At the same time, we're on track to launch a new Group DCA product in the latter part of this year that will connect health care providers, sales reps and other promotional channels in a new and unique way. For competitive reasons, we are not disclosing more now, but we will later this year.

Finally, and possibly most importantly, as I believe you all know, the full commercialization capabilities at Interpace BioPharma, our specialty biopharmaceutical division; and our Sales Services and Marketing Services businesses, are substantial. As we previously announced, we are pursuing commercialization opportunities for products aimed at more predictable, higher growth, higher margin businesses that can leverage these core capabilities. We continue to believe that this strategy is a natural extension of our core current business and capitalizes more fully on our proven core sales, marketing and full commercialization capability. We are prepared to use a limited portion of our cash supplemented, if necessary, by additional finances to further this strategy. We expect to be prudent in any deal structures we pursue and consider only those opportunities that leverage our current infrastructure with modest to minimal upfront payment. The board and management continue to believe that this approach plays to our strength and will build shareholder value in the face of increasing margin pressures on our core CSO business.

And since our last call, we have made significant progress in identifying and evaluating opportunities that meet our criteria. While we have nothing to announce today, we are optimistic about the possibility of closing at least 1 deal before year end. That concludes our formal comments on results. With that, we'll now open the call to your questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Scott Henry with Roth Capital.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Couple of questions. For starters, were there any revenues for Engage?

Jeffrey E. Smith

Yes, there were. They were around $500,000 for the quarter, Scott.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. And then when I looked at the income statements, comp expenses seemed to jump up in the quarter. I think they went from $4.2 million to $4.9 million. How should we think about that number going forward?

Jeffrey E. Smith

That number should actually stay about that level or maybe even go down a little bit from an ongoing standpoint, but roughly stay at that number.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Let's see, and then when you calculated adjusted EBITDA, could you give us just the DNA and the stock comp components just to get a sense of that?

Jeffrey E. Smith

Sure. So for the 6 months, Scott, the operating -- the DNA that was in there was about $600,000 and the stock comp was about $1.1 million. That's for the 6 months.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. And then I saw when I looked at my notes from the last call, you were targeting gross profits down 10%, and now I believe you're targeting them down 5%. Am I correct in that?

Jeffrey E. Smith

That's correct. I think up to this point, we were saying somewhere between 10% lower, now we've stepped back to 5%.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. Do you sense that the pricing environment, while still not very good, is starting to stabilize? What's your kind of top down view of the competitive outlook for the sector?

Nancy S. Lurker

Jeff, I'll take that one. Yes, Scott, we do see that right now it seems as if things have stabilized out. So based on that, that's a combination of why we also are showing slightly better than what we originally forecast in terms of reduction in our gross profit, but it's also continuing to be very tight cost control and then managing our contracts very, very well on an execution basis.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. So I guess that leads into kind of the next question, which is kind of a big question, which is at what point do you see foresee sustainable profitability? And I guess you can answer that from EBITDA, as well as from the earnings statement.

Nancy S. Lurker

Well, let me say this, that as you know, this business is a volatile business. And so that's why we've continued to not project earnings guidance of a detailed basis. And my answer, that is, that we believe that until we can get more sustainable, predictable revenues in, that we're not in a position to predict when we're going to get sustainable profitability. Obviously, we remain very competitive in the CSO space. I think that's reflected in the wins that we've been getting, but it remains very hard to predict. And as a result, that's also why we're moving, as you know, into leveraging our balance sheet to acquire or partner assets that will allow us more predictability. So if you assume that we're successful on the Interpace BioPharma side, I would see right now, realistically, we're probably looking at 2015 before we can move into a situation where we can be much, much more confident about what drops to the bottom line. And of course, that's contingent on assuming that we continue to close on a couple of deals at Interpace BioPharma and then execute on those deals.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. And I guess in the short term, you've been EBITDA profitable for a few quarters now. I mean, do you expect that to change? I mean, at some point you're going to have some of these cost initiatives probably impact that. Just any thoughts on the third quarter?

Jeffrey E. Smith

Yes, Scott, I think when you do the math of the numbers we've given you, the revenues and the expenses, the gross profit and all that, I think you're going to find that the second half will probably have to be EBITDA negative.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay, that's make sense. Just a final question. You usually give us an idea over the risk-adjusted pipeline and at least some commentary on your RFP success rate. Could you do that at the current time?

Nancy S. Lurker

Jeff, you want to take that one?

Jeffrey E. Smith

Yes, the pipelines Scott, right now is probably roughly what it was when we had the last call. It's somewhere in the 200 to 250 range.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. And then your RFP success rate, I guess, in your opinion?

Jeffrey E. Smith

It's still above our mathematical fair share. We'll just leave it at that.

Operator

Our next question comes from the line of John Kreger with William Blair.

John Kreger - William Blair & Company L.L.C., Research Division

Just to come back to the pricing question. The contracts that you're announcing today in terms of recent wins, how does that pricing compare to what you saw on the wins that you had around year end? In other words, is pricing getting better or worse in your view?

Nancy S. Lurker

I would say it's actually stabilized. Now I will say what we typically find of course is on smaller contracts, which obviously these are not huge ones that we've announced, the pricing and the margins typically tend to be slightly better. It's obviously on the big contracts, obviously, volume driven where you get a little bit more pricing pressure, which is what we saw last year at the close on several of those larger volume-driven contracts.

John Kreger - William Blair & Company L.L.C., Research Division

Okay, great. And then can you just review where you're really focused with this strategic investments? Just trying to get a better sense. Are you moving to just get paid differently or to add a new suite of services to what you currently offer?

Nancy S. Lurker

Well, it's not really adding new services because we already offer those in Interpace BioPharma. But rather than us just going out and doing fee-for-service on that broader suite of full commercialization services, which continues to allow people to have 1- to 2-year contracts, our intent now is that, as I said, is we would own or partner with companies, and that requires more investment on our part. And the result on the back end, of course, is that we have 5- to 8-year contracts, if not longer, and we book the revenues from the actual revenues of the product, or we'll book a profit split depending on how the deal is structured. What they provide is, obviously, much higher gross margins and much more predictable longer-term contracts.

John Kreger - William Blair & Company L.L.C., Research Division

Great. And then one last one. Just can you remind us what sort of cash you're willing to put at risk as you look at deals like this? How far down are you willing to take your cash balance?

Nancy S. Lurker

Jeff, why don't you take that one.

Jeffrey E. Smith

Yes. So the combination of saying we're looking for deals, we might consider financing, if necessary. And then certainly, the comment about modest upfront. So I think that the combination of that, you should interpret to mean we're talking about, let's say, $5 million to maybe the max $10 million of total commitment between upfront, fairly modest milestones in a timeframe of maybe in the first year or so, over which those milestones might be achieved by a potential partner.

Operator

Our next question comes from the line of Jack Wallace with Sidoti.

Jack Wallace - Sidoti & Company, LLC

Two quick questions for you. What percentage of the revenue mix this quarter would've been from business 1 in 2012?

Jeffrey E. Smith

Business 1 in 2012, yes, probably -- let's just see if we can answer that without getting too -- without setting a precedent here that we may not want to set for the future. It's somewhere -- it could be roughly, roughly, roughly maybe 1/3 to -- maybe roughly 1/3.

Jack Wallace - Sidoti & Company, LLC

Okay, thank you, that's helpful. And then just going back to the earlier pricing question. Specifically, for what's upcoming for the second half of the year in terms of available RFPs, would you consider the pricing environment, considering the size of the RFPs in the market, to be at better pricing or at equal pricing to what you saw in 2012?

Nancy S. Lurker

I would say it's roughly about the same, maybe slightly better, but not a lot.

Jeffrey E. Smith

It's probably slight better, but not dramatically better, slightly.

Operator

And we seem to have no further questions.

Melody A. Carey

Okay, thank you very much for your time and we look forward to speaking to you next quarter.

Jeffrey E. Smith

Thank you.

Operator

Ladies and gentlemen, this concludes today's PDI Second Quarter 2013 Financial Results Conference Call. We thank you for your participation. You may all disconnect.

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