MAXIMUS' CEO Presents at Citi Global Healthcare Conference (Transcript)

Feb.25.14 | About: MAXIMUS, Inc. (MMS)

MAXIMUS, Inc. (NYSE:MMS)

Citi Global Healthcare Conference Call

February 25, 2014 1:00 PM ET

Executives

Rich Montoni - President and CEO

Lisa Miles - SVP, IR

Analyst

Carl McDonald - Citi

Carl McDonald - Citi

Next up on the agenda is the MAXIMUS and so on behalf of the Company is Rich Montoni. He is the President and CEO and Lisa Miles, Vice President, Investor Relations. So I guess the -- first I wanted to start with was around catalysts. So maybe one of the things that comes up pretty frequently is, if we were sitting a year ago, we’d be talking about, RFPs for a couple of big health exchange contracts, call center contracts or the Federal exchange, state Medicaid, state exchanges. Whereas we sit here today and feel so with the mixes and the collateral catalysts and I don’t have any. So I guess the question around that is maybe you could just give us historical context around how -- last year was probably an unusual year in terms of the amount of visibility we have versus the new contract awards that are potentially out there.

Rich Montoni

I’ll be glad to do that. And I do see catalyst ahead of us, so I think that’s an important part of my job in terms of future growth opportunities. You’re right, Carl, as it relates to last year being a phenomenal year, in terms of growth opportunities. Last year was the year in which the Affordable Care Act from our perspective really came to a head as it relates to bidding opportunities and these governments be them a state-based insurance exchanges or the Federal insurance exchange; either one coming to a head in terms of making awards, selecting their vendors and moving forward with the billed and then the operate stage of these insurance exchanges.

And naturally you wouldn’t expect that that continues, you go into a period where you operationalize and then you normalize. So, I think last year was a very significant year, it’s reflected when you track what’s in our pipeline. You know we saw a very significant spike in one quarter in particular it happened to be the same quarter that the Supreme Court made their decision as it relates to the Affordable Care Act, maybe they opened the floodgates for a lot of opportunities.

We speculated that the total addressable market for MAXIMUS for the operation of health insurance exchanges would be in the vicinity of $500 million in annual revenue. Since that point in time we have won that and more. We estimate that our win on health insurance exchanges, if you include the work, the assignment we have being responsible for the appeals for the Federal marketplace. We include that assignment, that contract win we believe we have won over $200 million in annual contract value, the majority of which will be sustainable and should repeat.

We have some other opportunities that we refer to as [HIX] 2 .0 which we find it helpful kind of say let’s pause and take the Affordable Care Act, we will call it phase 1 of the Affordable Care Act, although these contracts have been not only floated but awarded and it’s helpful just to say that behind us in the result in a very significant piece of ongoing business. But what’s after that, which is really the heart of your question, right?

So when we think about it we think that’s going to happen, if the appeals work, it is just early phase that pause has just been turned on. We expect that the volume of appeals emanating from the Federal marketplace will continue. I think it’s interesting to think about what the volume will be and what the drivers would be. I think there could be a surprise in terms of volume of appeals in the Federal marketplace. So stay tuned and watch that closely.

We think there’s going to be opportunities when you study the laws that relates to the Affordable Care Act. It’s quite a complex act. And when you think about certain aspects of it, as an example, we think about circumstances or change in circumstances of individuals; these qualifying life events as they refer to them which could be for an individual it could be change in marital status, it could be a change in your income status, it could be a change in children that you have, you could move to a different state; all of those things will require redetermination under the Affordable Care Act.

And we worked with these populations for decades. It’s quite a transitory population. There’s a lot of transition. So I think there’s going to be a lot of ongoing work to help people who have qualifying life events deal with those circumstances in terms of re-enrolment, basically recalculating subsidies under the plans and moving forward.

Carl McDonald - Citi

That sounds like something like that briefly you’re saying that a lot of the opportunities you think that you’ve already won that are just smaller now with the potential will become more significant?

Rich Montoni

I think that’s right, and I do think there is going to be an Affordable Care Act phase 2, where the nature of the work is to be defined. I do think there’s going to be a second, third chapter as it relates to health care reform here in the United States. I think the Affordable Care Act as we know it today goes a long way to deal with the universality of healthcare. There is a lot of bugs to work out. But they will get worked out with the passage of time. But we also have to tackle the affordability and the efficacy of the quality of healthcare. So funding that optimal point, there are programs in place that are designed to help answer that. MAXIMUS is participating with its clients and I think five programs in particular and we’ll see what comes out of that. But I do think there will be new significant programs that help us better deal with elder care type issues and fraud ways and abuse type issues.

So I think those are, I could put those under the umbrella of the Affordable Care Act tool but I think those would be new awards, new contracts and additional work beyond what we’re seeing like today.

Lisa Miles

Carl, I just would like to add something I know that the question has focused principally on the Affordable Care Act. But there are several catalysts outside of the Affordable Care Act that sometimes I think are much less visible to the street, and therefore it just doesn’t get a lot of attention. And we’ve talked about things such as the additional health opportunities in our international health operation. We’ve talked extensively about emerging opportunities particularly in the United Kingdom that really across our core capabilities and enlighten our wheelhouse.

We’ve also talked about the U.S. federal business and we’ve had clear focus on growing that business in the last several years we’ve brought in some additional management there. We’ve beefed up our business development and we’ve had demonstrated success with our Department of Education win that was recently announced $835 million over 10 years. And we also still see emerging welfare reform opportunities in various countries around the globe and that will be in -- our interest in that will be dependent on those countries potentially to outsource stable environments, currencies, label all the things of that nature. But I really think the landscape it’s important to take a step back and realize that the catalysts are not just limited to the U.S. domestic Affordable Care Act.

Rich Montoni

Thank you.

Carl McDonald - Citi

And so I was going to bring up the Department of Education contract just from sort of to this catalyst, that was a catalyst question something nobody saw coming, turned out to be a significant contract. So, I guess the question would be how many contracts like that are there out there? I know you guys can’t talk specific opportunities, but just contracts like that that are in process or very close to, to in process that you’re looking at?

Rich Montoni

I think that’s an exciting area. And as you know expanding growing our U.S. federal business is one of our three key growth platforms, it’s worked extremely well over the last several years. That business has grown significantly under the new leadership. And as part of that new leadership teams’ program, they are not only focused on the agencies that we currently serve, which are really concentrated in the health business they have done a great job to grow our appeals business for the Medicare program, CMS’s Medicare program.

But they’ve also looked beyond to other agencies and this is the first I believe of what could be several/many additional agencies and so they have done a great job to come up with a capture plan, a teaming arrangement such that we were the successful awardee on this Department of Education contract. And I do think there’ll be additional work within that department it’s not just that award per se but that agency getting inside that agency and proving ourselves to be a good provider, a reliable provider I think will open up additional opportunities inside the Department of Education. And yes you can rest assure there are several other agencies out there that we think would be Department of Education like.

Carl McDonald - Citi

And the Department of Education contract, it was under process may be I think it was going to be February 20th I just haven’t done my job so don’t know it happened. But based on the way you’re talking about it sounds like it wasn’t a bad outcome?

Rich Montoni

I think it was a great outcome I’d put it in a category of a win-win-win. As probably most of you in the audience know that was protested by GDIT last fall MAXIMUS had been the successful awardee by the Department. GDIT protested the award and protest handicapping is always difficult. And we agreed with GDIT to give them a subcontractor role. They will play a meaningful role. MAXIMUS will continue to be a prime contractor. And under this arrangement we will move forward with the award as made by the Department. So there is no price adjustment to MAXIMUS.

We’ll give GDIT a meaningful assignment as subcontractor. The good news is that they will most of the work that they will perform is work that they’re performing today. So it really lessens the risk because there is less transformation that has to happen. It eliminates the protest because GDIT is part of this agreed to withdraw its protest. And the Department of Education, is very pleased to move forward it means they don’t have to deal with the consequences of a possible protest upheld which would likely would have delayed the whole process in a meaningful fashion, could have meant to total rebid which would take probably another year, which I didn’t want at all.

Carl McDonald - Citi

So one more catalyst question I’ll see if there is any questions from the audience, I think the strength of the reaction after the fourth quarter -- sorry your first quarter was driven mainly by the function I think people sort of forgot about earnings upside as a potential catalyst, and so saw the margin expansion and earnings coming insider. So, the question is where do you think about margins on a go forward basis? You are at the upper-end of the range that you’ve targeted. So are there opportunities for at least for some period of time for margins to be above that range whether it is call centers having more volume or whatever the specific driver is?

Rich Montoni

I think about margins, I do think that we look at it from a portfolio perspective. I think that the portfolio reasonably is expected to deliver between 10% and 15% operating margin. I believe in the last couple of years we have gravitated towards the midpoint with our Health segment being on the leading edge, a higher edge, sometimes North of that. And then our Human Services segment being on the lower end of that range, to a point about the midpoint maybe a little bit north of the midpoint Carl.

I think that we’ll have quarters where we’ll lean towards the upside, I don’t think north of that upside is sustainable for the main reason being that I do think just a customer base alone, our customers as most customer bases do often times monitor operating income, monitor profits, I think most of the customer base is comfortable with profits up through that range. I think north of that range it gathers too much attention, so I don’t really view north of 15 as being sustainable.

The one caveat to that is that we do have a fairly rigid business review, risk management process whereby, when we enter into contracts at a performance base, so we take on a low risk be it volume risk or outcome risk then. We believe in that circumstance that we should have a higher return and we would look for returns 15% plus for those types of contracts, so if got mix shift going in that direction, we could start to challenge that upper limit of 15%.

On the other hand, our federal businesses that are one of our three growth drivers, we are challenging integral. The majority of federal work is cost plus, less risk to the provider, lower operating income percentage, so it’s not uncommon for federal contracts that are cost plus to be in the single-digit mid to mid single-digit range, 5% to 7%, sometimes 8% range. Okay, good, questions from anybody?

Question-and-Answer Session

Unidentified Analyst

Can you elaborate on the relationship or business in United Kingdom as far as consulting National Health Service before is that kind of long-term contract or a short-term contract?

Rich Montoni

So, as your question for us to talk about the work we do in the United Kingdom is it long-term, is it short-term. We have some consulting business that the majority of our business is business process outsourcing. We very much favor business process outsourcing because they tend to be long-term in nature. The average contract length, if I were to give you an average, a typical situation would be three year based contract with not uncommon to have three one year extensions or option periods. So, when you add it all up, it’s intended to be a six year contractual period and then go to rebid. And I’d also say that the rebid win rate with the incumbent is very, very high, tends to be 95% with the incumbent.

But to really answer your question, the nature of these programs are such that, I expect that they will continue for the foreseeable future. In the case of the United Kingdom, what we do there is we are one of the key providers under what’s referred to as the Work Program, WP and it is run by the Department of Work and Pensions, part of the central government in the United Kingdom.

I am quite confident they are going to have some sort of welfare-to-work program like this, even though this one technically may come to termination at this point in time, let’s say I think this one comes to termination in a couple of years. 2017, already there is discussion by the leadership in the United Kingdom about do we continue the program, the leading as I understand it today is they will continue the program. If they don’t continue the program what ends up happening is they re-label it and they will give it a new name but effectively it becomes a welfare-to-work program.

So, the short answer is that I expect the program will continue in some form or fashion I expect that MAXIMUS will be in strong contention for extensions.

Lisa Miles

I guess I would add to that, that in July 2013, we completed the acquisition of Health Management Limited in the United Kingdom, they are focused principally in the area of occupational health and as you may know occupational health is a much larger bucket in the UK than it is here in the U.S. As we look out into a variety of opportunities that are emerging in the United Kingdom. We see things that are more akin to occupational health as well as health assessment that really straddle frankly both our health and human services.

Carl McDonald - Citi

The question I probably get more than anything else on the Company is probably more educational than anything else but just around the pipeline and the varying definitions and I think one of the confusions is, at least people from a health background, when they see the monitoring contracts line items with the third bucket, I think people are used to Medicaid RFPs as an example which could take six months, a year even longer, it’s actually -- coming to just quickly if you just go through the definitions of the three buckets so it’s clear for everybody.

Lisa Miles

So to set the stage our reported pipeline only reflects opportunities that we expect RFPs will hit the street within a six month period. We obviously track a pipeline outside of that six month period. So we think the six month period provides really frankly the best visibility of the street. So the first bucket with the opportunities tracking those would be, those RFPs that we have been doing business development on, we understand that there will be released at some point in time. Typically that was expected to be the largest bucket within our total pipeline. And that again reflects bid that should be released by those government clients within six months.

The second bucket is then called proposals and preparation. Essentially once a bid hits the street our proposal operations team gets the bid, we’re already working on what the bid strategy is and so proposal pending are those bids that have been released and we’re actively working on it that’s snap, shot and time when we report pipeline.

The third bucket within our pipeline numbers is called proposal submitted. Those would be bid where we have submitted our bid to the government entity and we’re simply awaiting decision on.

Carl McDonald - Citi

And then in terms of how that’s calculated, is it probability weighted at all or if you are tracking an RFP that $500 million -- it's $500 million that goes into the pipeline?

Lisa Miles

That’s a great question. So it is not probability weighted but it only does capture the base contract. So often times in the federal world we see base contracts that are one year in nature with nine one year options thereafter. So our pipeline will only reflect that single base year. If the contract is a three year base and two year options it will only capture the three year base.

Carl McDonald - Citi

And then the other question is, if you have a renewal -- a contract that’s up for renewal, how does that flow into the pipeline? Is that in the pipeline or do you exclude it because it’s an interesting contract?

Lisa Miles

That is in the pipeline as well and so when you look at the composition of our existing pipelines based at the numbers at December 31st, we have talked about the fact that this is a light rebid year on a $2.0 billion pipeline. The composition therefore is heavily weighted towards new work.

Carl McDonald - Citi

And so lot of background to get to the actual question for you, which is, so you signed contracts the 1.4 billion to 1.9 billion over the last three years. I think right now you have got 350 million signed and almost 50 million that you have signed or so very close to being done. Is the target for this year still to get to something around 1.4 billion a 1.9 billion in signed contracts, or whereas because of the lighter rebid year, we’re likely to come in below that?

Rich Montoni

I lean towards the later situation, we actually -- we came out from a slightly different angle as oppose to and what we do as we target new ACV and we focus on new annual contract value, our model is around where, a bit of it as we sell this year what’s going to be next year’s growth, it’s great to have long-term sales cycle and typically you’ll have a partial year in the year that you win and launch something. So it sets up a full year over a partial year, so they’ve got some goodness going in here.

So what we do as we take all of these opportunities probability effect on whether there would be rebid work, and sometimes rebid work the scope increases naturally, so gives them some organic lift. And then the new work opportunities as well. So what we do as we take all of that and roll it into our forecasted guidance. So the target is more of the guidance number, in terms of the revenue number and a result in obviously earnings per share number Carl.

So I think when I look at the pipeline situation and where we’re I do think one of the key sell outs is that I do expect that this is going to be because it’s a light year for rebids and rebids are feathered into our sales wins. That it’s going to be relatively light year relative to the prior year. But that being said I still think we have sufficient new wins to keep that organic growth number up there in line with the guidance we have out there.

Carl McDonald - Citi

You commented a couple of quarters ago that if this year is light rebid 2015 $1 billion in contract coming up for renewal you have talked something about how Australia is a major part of that rebid. So I guess the first question is if you can just run through the various contracts you have got in Australia that are for bid versus those that are not maybe they are a lot.

Rich Montoni

Glad to do that, we have one large contract in Australia which really encompasses the majority of the work that we do. Then we have other programs that we have picked up additional work, but the job services Australia contract is by enlarge the largest one. That contract is the one that we referred to as being up for rebid in fiscal ’15. We have said that the rebid situation or the rebid situation of fiscal ’15 we think will be over $1 billion. Keep in mind that government’s now there tends to be a movement towards extending contracts, such that the rebid can easily go away.

In fact this one particular job, it was up for rebid in 2012 and the government decided simply to extend it for those providers that were doing an acceptable or acceptable plus job, MAXIMUS being one of those firms, so. And although we had originally thought this is going to come up for rebid in ’12 it was extended so now we’re looking at a ’15 rebid. It is possible they may decide again not to go to market with a rebid and simply extend it so bear that in mind. It is the lion’s share, I’d say it’s probably 80% of the work that we do is that a fair split?

Lisa Miles

125 million in annual contract.

Rich Montoni

That’s right, about $125 million annual contract value it’ll be five years up for bids so you’ll see that’s going to be north of $600 million up for rebid.

Carl McDonald - Citi

And so can we probably say so, I think it’s important to introducing it’s not $1 billion in 2015 revenues, it’s a $1 billion of contract value.

Rich Montoni

TCV, what w call TCV, Total Contract Value.

Carl McDonald - Citi

I think that’s an important point that a lot of people have potentially -- I think people look at it and say the $2 billion company revenue and half of it is up for renewal, so that would make anybody nervous now wouldn’t it?

Rich Montoni

Sure. No it’s total contract value and that’s what we report, that’s what we measure, it’s $125 million approximate annual contract value, so that’s a very large contract even by our standards, we certainly would not want to lose it and I’ll talk a little bit about what we’re doing so you have a high degree of confidence that we’ll continue to do that work. But the good news about MAXIMUS is we move to the point where we’re not a so concentrated on one contract such that it would be disastrous if we were not to win that contract. They’re important but we now a portfolio management company as oppose to a single contract company.

So as it relates to Australia on closing note or two, it’s an interesting contract, it’s an interesting government, I believe I hold it in highest regard in terms of how they manage these functions inside the Australian government. Of all the countries that we deal with it seems to be the one that has the highest propensity to outsource or what we call PTO, it has, it started in the 90s, they moved away from the centralized government where these functions were run exclusively by unionized government workers to partner with firms like MAXIMUS that provide these on an outcomes based arrangement. They don’t bid price, they tell you what they will pay for you to get the job done which I think is a very smart thing for them to do, I think it helps them maximize the outcomes that are available to them and maximize placements and maximize release to their welfare system.

They do re-award work based upon a quality star rating, up to five stars, if you perform, if you have an office that performs below three stars is serious risk that that they’ll reassign your work to another provider, we’ve picked up work significant work over the years because we’ve over performed three star plus. And that’s our strategy in Australia, to deliver, to get solid star ratings and that’s the number one thing in this industry, when government’s award work or re-award work service is most important to them. Price is important but price typically gets weighted in the vicinity of 30%, in the case of Australia where they give you the price, price isn’t even a factor in the award, it’s 100% performance, how has this vendor done historically and MAXIMUS has and will continue to perform above average, that gives me a very degree of confidence that we should continue to do that work and win our rebid fair share and maybe even a little bit more.

Carl McDonald - Citi

And then from the bidding process to the extent that it gets to a bid can you just talk about switching costs in Australia, so what’s involved from their perspective if they did want to limit number of vendors whether it’s you or some other competitors and wanted to narrow out some of the market shares that they -- giving obvious benefits to them for doing that?

Rich Montoni

Not to them because most of the switching cost is absorbed by the providers, it’s mostly an outcomes based program, you get paid when you find somebody a job, you get paid when they stay in that job, there’s a bit of a retention fee and there’s some other ancillary services we got it funded by the government but they don’t -- they will not absorb your startup cost, your operating cost, your recruiting cost, your lease up costs, you’re equipping of the space so that goes to the provider.

And it really depends if you’re picking up work and you’re absorbing it into an existing location, there’s no switching costs, if you’re not providing services in that geography and you have to go lease space and build it out and equip it and hire and train staff and climb a learning curve then your switching cost could be quite substantial and again those are borne by the provider.

Carl McDonald - Citi

So changing topics, just interested on the health exchange call center business, any recent trends that you’ve seen there, either in terms of the volume of calls or the type of calls that you’re getting. So it seems like in general with the website working better but not quite as much as hysteria as there was, it seems like the call center volume is broadly and maybe coming down a little bit, or at least the length of the calls and the questions they have are not quite as complex?

Rich Montoni

Yes, I think that’s right, and I think that when we launched our state-based exchanges we, the routine would be we’d sit down with our client, we’d map out with our client by week. Let’s talk about what we expect to happen here in terms of activity. When you’re going to launch your health insurance exchange inside the state? When did your outreach program begin? When do you expect that applications will come in? And what sort of calls do you expect that we’ll receive? And we’d worked with our clients to map out, schedule out the volume of calls and what the average talk time would be, what the responses would be the average handle-time, the abandonment rate, what a client would expect in terms of an abandonment rate and the average speed to answer is always a very important metric. So we originally laid those out and we’re already in the fall for these launches and then as technology did not step up and do, what it was supposed to do as you would expect Carl basically that put pressure on our citizen services centers.

The customers asked us to come up with work rounds to handle some applications on a paper basis or try to work with citizens and walk them through the technology to try to get them through the whole process. And we did in fact experience an increase in the demand for what we do as a result of the technology full pause that was one of the major factors in the December results. I think some of that will continue into the March quarter and then I think the technology -- the impact of the technology I think will abate and come back down. I don’t think it’s realistic to expect that to last forever.

And I think that’s part of the reason. So what’s going to happen as we will see an abatement, we will see an uptick in the appeals that what we are responsible for doing. And I think we’ll start to see a kick in as it relates to how do you handle these qualified life events and people having to manage through the system in that regard.

And then I think that will bring us back into the fall season where we get into reenrollment. We will have to staff up again to handle the reenrollment. That really kind of sets the table for what I think is a shift in the seasonality of our business. It had historically been strongest Q3 and Q4 which are our June and September quarters. I think all that’s going to shifted to be stronger quarters; strongest quarter as being a December and the March quarter so Q1 and Q2.

Carl McDonald - Citi

And last question for the last four minutes here. The Phase 2 of ACA that you mentioned, what do you think the timing on that looks like. My perspective it looks like not likely to see too many states that are in federal exchange or state exchanges right now, so is it right to think about this probably in more of the 2016 and beyond implementation?

Rich Montoni

When I think about it I think there is several pieces to the Affordable Care Act phase 2. One of which is, those states that would like to and are likely to move off the federal exchange and establish their own state-based exchange. And I really do believe that these exchanges are best at the state level and I think states have a high sense of pride and really like to put their own touch including their own name on their state health insurance exchanges. So that being said, I do think the technology pickups that where experienced have caused the states that otherwise would have want to do that sooner to think twice.

So I think it puts a damper on that situation. We know of three states now that are still taking it seriously. We know there is a June 15th deadline for those states that want to move forward and ’15 with the transition they’re going to have to notify CMS by that deadline. And I do agree with you. I think it’s more likely to be a multiyear situation. And if something happened in ’15, it will be isolated maybe up to three then I think ’16 and ’17 more likely to be the more frosty years with states coming up the federal exchange going into their own state-based exchanges.

And don’t’ forget the other components of the Affordable Care Act 2.0, we think there is some great opportunities helping states and the federal government fair it out. Okay, those folks are now getting benefits under the Affordable Care Act who shouldn’t be, so we think there is some fraud, waste, and abuse opportunities in that regard. We also think there is some elder care program that really will gain traction over the next few years. And I think that will be some pretty significant and frankly I view those as the next around of catalyst.

Carl McDonald - Citi

Okay, I appreciate it. Thank you, guys.

Rich Montoni

Thank you, Carl and thank you folks for sitting in.

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