Performant Financial's CEO Discusses Q4 2013 Results - Earnings Call Transcript

Feb.28.14 | About: Performant Financial (PFMT)

Performant Financial Corporation (NASDAQ:PFMT)

Q4 2013 Results Earnings Conference Call

February 27, 2014; 05:00 p.m. ET

Executives

Lisa Im - Chief Executive Officer

Hakan Orvell - Chief Financial Officer

Analysts

Edward Caso - Wells Fargo Securities

Suzy Stein - Morgan Stanley

Michael Tarkan - Compass Point

Andrew Jeffrey – Suntrust

Brian Doyle - William Blair

Richard Close - Avondale Partners

Toby Wann - Obsidian Research Group

Anj Singh - Credit Suisse

Operator

Good afternoon ladies and gentlemen, thank you for standing by. Welcome to the Performant Financial Corporation’s 2013 fourth quarter and fiscal year earnings conference call.

During today’s presentation all parties will be in a listen-only mode. Following the presentation the conference will be open for questions. (Operator Instructions). As a reminder, this conference is being recorded today, Thursday, 27 of February 2014.

I would now like to turn the conference over to Rich Zubek with Investor Relations. Please go ahead.

Rich Zubek

Thank you, operator. Good afternoon everyone. By now you should have received a copy of the earnings release for the company’s fourth quarter and full year 2013 results. If you have not, a copy is available on our website, www.performant.com.

Today’s speakers are Lisa Im, Chief Executive Officer; and Hakan Orvell, Chief Financial Officer.

Before we begin, I would like to remind you that some of the comments made on today's call including our financial guidance are forward-looking statements. These statements are subject to the risks and uncertainties as described in the company’s filings with the SEC. Actual results may differ materially from those described during the call.

In addition, all forward-looking statements are made as of today and the company does not undertake to update any forward-looking statements based on new circumstances or revised expectations. Also, non-GAAP financial measures discussed during this call are reconciled to the most directly comparable GAAP measures in the tables attached to our press release.

I would now like to turn the call over to Lisa Im. Lisa.

Lisa Im

Thank you, Rich. Good afternoon everyone and thank you for joining us for our earnings call. Today I’m going to provide you with an overview of our operational results for the fourth quarter and 2013. Then after Hakan walks you through the financials, I’ll discuss some of the near term challenges that we’ve encountered and the overall impact to operations that we expect to see in 2014.

With that we overcame strong revenue and EBITDA growth during 2013 of 22% and 29% respectively. This performance is a reflection of our technological capabilities, all of the employees best performance and the hard work they put in on a daily basis, whom I want to thank for their dedication. I also want to thank our clients who have given us the opportunity once more to service them in the past year.

In our core markets, as we look specifically at our Q market, our fourth quarter Student Lending revenue of $42 million benefited primarily from the $1.7 billion of placements that we received during the first quarter of 2013. Overall in 2013 we had total loan placement volume in excess of $6.6 billion and we generated nearly $154 million in revenue or 2.5% of our placement volume.

Turning to our Medicare payment integrity contract; despite the challenges we faced in our healthcare market during 2013 such as work stoppages, limitations on who and what we could audit and even a little bit of Mother Nature, we still grew revenue by 23.4% compared to 2012. In fact at the end of 2013 our Recovery Audit Vendor Effectiveness, which is our total recovery after adjusting for the size of the region and our inability to audit PIP providers, is the second highest among the four current prime vendors.

Although Medicare Recovery Audit revenue in Q4 of 2013 was $10.9 million, down 30% compared to Q4, 2012 we are confident in our ability to achieve the covering of areas even with the current inscriptions. Overall the Recovery Audit Program has been a very successful program and we believe that CMS will continue to strongly support this great accountable public policy program.

The most recent, certain reports state that at 10.1% Medicare fee-for-service error rate is the highest of all federal programs, amounting to more than $36 billion in annual improper payments.

As it relates to revenue in our other markets, which grew 5.2% year-over-year, we continue to look for long-term opportunities in both the government and commercial markets, such as the State Tax Amnesty programs that we ran during the fourth quarter.

As we mentioned last quarter, we are in the process of ramping up on a number of exciting opportunities and expect them to be more meaningful to our operational results during 2014 and beyond.

During the year we entered into numerous new contracts, several of which were Master Servicing Agreements with multiple contract opportunities. We did this with four of the six largest commercial healthcare payers in the U.S. We estimate that the U.S. market for revenue optimization and post-payment review of healthcare claims is over $5 billion per year. Of this, the fourth of six largest payers who are our clients, payout approximately $1.7 billion in fees for their services.

For one share point that we gain in each of these four clients, the revenue will be approximately $17 million per year. These contracts are still an early implementation, but we anticipate that they will contribute between $5 million to $15 million in revenue in 2014, which will be a ramp up year, with more significant contributions into 2015.

Lastly we have a strong balance sheet and we are actively pursuing a range of business development opportunities that would enhance our technological platform and further diversify our business.

I’ll discuss 2014 and its impact of some of the recent news in more detail shortly. But now, I’d like to turn the call over to Hakan to walk you through the financials.

Hakan Orvell

Thank you, Lisa and good afternoon everyone. We were very pleased with our financial results for the fourth quarter and full year. Today we are reporting our revenues of approximately $60 million in the fourth quarter and $255 million for the full year increases of 7% and 22% respectively year-over-year.

Student revenue continues to represent the largest component of our revenue mix and grew by $7.8 million or 22.9% compared to the fourth quarter of last year. Fourth quarter placements were $1.5 billion, which represents year-over-year and sequential declines of 32.4% and 31.5% respectively. As a reminder, we received catch-up placements from the Department of Education in Q4, 2012 and Q3, 2013, that is causing the unfavorable respective comparisons.

Revenue as a percentage of placement volume in the fourth quarter was 2.5% compared to 1.6% in the prior year period. Full year revenues and placements were $163.7 million and $6.6 billion respectively; increases of 23.6% and 14.5% over 2012.

Our ability to successfully leverage and executive on the increased loan placements we received during the second half of 2012 was a large driver of our strong revenue performance in 2013. The second largest component of our revenue mix, healthcare, decreased $4.7 million or 30.3% to $10.9 million, compared to the fourth quarter of last year.

The decrease in healthcare revenues was primarily due to contract and patient constraints. Net claim recovery volume decreased by $41.9 million or 30.2% to $96.5 million. Our claim recovery fee was unchanged at 11.3% compared to the prior year period. In 2013 total healthcare revenues grew 23.4% to $67.5 million compared to $54.7 million in 2012.

Revenues from other markets: Revenues from other markets in the fourth quarter were $7 million compared to $6.1 million in the prior year period. As Lisa mentioned, we completed the State Tax Amnesty program that contributed to the year-on-year improvement. Overall, in 2013 revenues from this market totaled $24.1 million compared to $22.9 million in 2012.

As Lisa noted, a number of factors disrupted our operations and impacted our results in the fourth quarter and full year. However despite all of these temporary interruptions we still reported strong growth across all of our business lines. This success is the result of our flexible business model and strong technology platform that has proven capable of being adaptive across multiple industries.

Moving to our expenses. Salaries and benefits expense in the fourth quarter was $23.8 million, a slight increase of 1% as compared to $23.6 million in the prior-year period. Other operating expense for the quarter was $20.4 million, an increase of $2.1 million, primarily due to increased sub-contractor spend and the utilization of contact entries.

For the fourth quarter of 2013 our reported net income was $7.9 million or $0.16 per diluted share, compared to net income of $6 million or $0.12 per diluted share in the prior-year period. Net income for the full year was $36.3 million or $0.74 per diluted share.

Adjusted net income for the fourth quarter was $9.1 million or $0.18 per diluted share compared to $7.2 million or $0.15 per diluted share in prior year period. Fully diluted average outstanding shares increased to $49.6 million in the fourth quarter of 2013. For the full year adjusted net income grew 39.6% to $42.8 million or $0.87 per diluted share.

Our adjusted EBITDA in the fourth quarter grew 11.7% to $19.4 million compared to $17.4 million in the 2012 period, when adjusted EBITDA margin was 32.4% compared to 31.1% in the prior year period.

Our adjusted EBITDA for the full year 2013 grew 28.5% to $89.4 million and our adjusted EBITDA margin was 35%. Our effective tax rate for 2013 was 40.7%, cash flows from operating activates in 2013 were $61.2 million compared to $37 million in 2012.

Turning to our balance sheet, as of December 31, 2013 we have cash and cash equivalent of $81.9 million. Our total outstanding debt as of December 31, 2013 was $133.3 million. The sequential decrease in outstanding debt of $14.5 million reflects scheduled payments on a long-term debt.

Let me now turn the call back to Lisa for some concluding remarks.

Lisa Im

Thanks Hakan. As we move ahead we are planning for 2014 to be in a nominal transactional year that provides for continued strong future growth. Mid to long term trends look positive and we are excited about the opportunity that we see on the horizon.

However there are a couple of near-term issues that will cause higher than normal volatility in our results in 2014. I would like to share our thoughts with you on these topics, so that you can understand the long-term value that we place in our contract with the department of education and CMS, and why we compete so vigorously for them.

With respect to our student lending market there are two key open items. First, the Depart of Education contract is inhabiting process and it is our understanding that the Department of Education anticipates awarding the new contract in Q2, 2014.

We remain confident that we will receive one of these new contract awards based on our effective performance over more than 20 years and four consecutive contracts. Given our extensive experience we expect the transaction process to the new contracts to be business as usual and not business interrupting.

Second, following language in the federal budget asset reduces the compensation of guarantee agency received for rehabilitating a loan. There is uncertainty surrounding what the potential revenue impact will be to perform it. Just a reminder, as it relates to the guarantee agency compensation structure, any potential change won’t be implemented until July 1, 2014 and at this point we don’t how our guarantee agency clients will react. However we believe that it’s possible that our 2014 revenue and adjusted EBITDA could be impacted by approximately $5 million to $15 million due to this change.

Turning to our Healthcare market, as you’re all aware, the CMS recovery audit contract renewal process has been underway since February 2013. CMS recently released five revised RFQ’s that we have now responded to. We are confident that our past performance will reflect positively on performance and will help us get awarded at lease one of the regions under the new contract.

Although we would prefer to see a near term award, it has come to our attention that multiple protests have been filed regarding these revised RFQ’s, which we believe will likely delay the award of the contract.

Also regarding the current contact, CMS recently communicated to the recovery auditors that February 21 was the last day a recovery auditor could send providers additional documentation request and that February 28 is the last day a MAC may send prepayment ADR’s. Furthermore CMS has identified June 1 as the last day a recovery auditor may send improper payment files to the MAC for adjustment on this current contract.

An important point to remember is that we have an existing pipeline of medical records that we are in process of working through. In addition, we submitted document requests through February 21 that our still to be received. We will thus have audit activity to be performed through May of this year and revenue will be recognized according through Q2 and Q3. Beyond this we do have any additional information regarding the awards of the new contact.

Although the timing of the contact rearwards is delayed from the original schedule, we should not overlook the long-term value of this program and how successful this RAC program has been in reducing government waste.

During 2013 this program returned over $4 billion back to the government and for the past two years nearly $6.8 billion had been reimburse to CMS. After being on this contact for the past five years and continuing to refine our expertise, we believe that under normal operating conditions, this contact continues to be a good public policy program that has strong future value.

In addition to timing delays, CMS also announced changes to the contact including which providers could be audited, what issues we could focus on and what percent of our request could be a single issue. An example of this, CMS’s decision to implement the two midnight in-patient care policy. We believe the intent was to help hospitals more easily determine that the treatment was medically necessary and therefore determining of the higher reimbursement level under Medicare part A.

That said, this decision impacts performance and the other recovery auditors, as it initially precluded us from auditing this specific billing condition until December 31, 2013. Moreover this initial deadline was subsequently extended to March 31, 2014 and amended again on January 31, 2014 to September 30, 2014. We believe CMS will complete implementation of this new policy change by the end of September of this year.

I want to stress that while there has been much discretion around the issue of short-stay claims or those lasting less than till midnight, our business is not solely dependent on the inclusion on this one claim type. We currently have 720 issues that have been approved by CMS, which we will be able to audit, and we have already begun to shift our focus towards other areas of payment errors, to replace those associated with the two midnight rules.

Under normal operating conditions our visibility and ability to accurately forecast our business results is quite high. However 2014 is not expected to be a typical year for performance, but rather a bit more transitional in nature.

After taking into consideration the one-time higher margin delayed revenue we recognized in 2013, including revenues related to PIP providers, as well as the uncertainties that I’ve just discussed. We believe that full year revenues in 2014 will be in the range of $200 million to $240 million and adjusted EBITDA to be between $47 million and $55 million.

As we obtained more definitive information surrounding any of our open issues, we hope and expect that the couple of uncertainties that we are current faced with will be resolved by the time we report earnings for Q1, which will allow us to update guidance at that time. Further we expect and remain confident in the outlook of our business for 2015 and beyond, as we continue to grow our commercial contracts.

With that I’d like to open up the call for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Thank you. Our first question comes from the line of Edward Caso with Wells Fargo. Please proceed with your question.

Edward Caso - Wells Fargo Securities

Hi, great. Congrats on finishing the year strong here. Hakan, you finished, it looks like with a good DSO. What number was it?

Hakan Orvell

Our DSO was approximately 38 days and we had some favorable timing of payments at the end of the year, that drove that lower than what we normally see. So within the normalized basis we expect to be around 40 days.

Edward Caso - Wells Fargo Securities

It looked like your salary and benefits line came in much better than we have thought in the fourth quarter. Have you already started the process of dialing back some of the workforce and some of the expenses or whether some comp-accrual reversals that were in the quarter.

Hakan Orvell

There has been some attrition of staff primarily related to the RAC contracts that we have not replaced for the timbering. So there is some benefit of that part. You may have also seen that our other expenses went up a little bit more. What that relates to is us utilizing subcontractors to a larger extent than what we have in the past.

Edward Caso - Wells Fargo Securities

And the placement rate it the quarter was particularly high. Is that just going to be a volatile number quarter-to-quarter or will that eventually shake out here.

Hakan Orvell

It should shake out once we get into a normal pattern of placements from the Department of Education. As you may recall, last quarter we had a pretty significant placement from the Department of Education and was over $1 billion, which represented some catch-up. So that drover the placement number that was lower and then this quarter, I would say more of a normalized level of placements from the Department of Education. But due to the timing of revenues report, I think looking at it from a year-to-date perspective is going to be more indicative of where we’re at and on a year-to-date basis we’re looking at about 2.5%.

Edward Caso - Wells Fargo Securities

Okay. And the last question, just looking at the old RAC contractor or the current one that’s sort of wrapping up now, can you give us some sense of seasonality how that would flow? I assume again ignoring the new one coming on, does it sort of march down Q1, Q2, Q3 and then nothing in Q4?

Hakan Orvell

That would be correct. So Q1 and Q2 will continue to have revenues as we work through and the backlog of documents that we have and the new documents we’re going to be receiving in. Q3 will be significantly soft based on the timing perspective, but the first half of the year we’ll continue to generate revenue.

Edward Caso - Wells Fargo Securities

Great, thank you.

Operator

Thank you. Our next question comes from the line of Suzy Stein with Morgan Stanley. Please proceed with your question.

Suzy Stein - Morgan Stanley

Hi, can you give a little more color on the range that you gave for revenue in terms of what that includes? Is that kind of a worse case scenario on what may happen on the healthcare side? I mean does that include a ramp up of the new contract at all or does that just assume the wind down of the first RAC contract. And then similarly on the Student Lending side, what’s assumed in that range of 200 to 240?

Lisa Im

Sure, Suzy. So as we look at Student Lending, we have assumed as Lisa mentioned earlier that we’re going to have a guarantee agency impact of between $5 million to $50 million in revenue in 2014. So that’s the range, from low to high that we’re looking at there.

And on the RAC contract, which is the more material range, we had assumed that there’s going to be again a ramp down of this current contract and there will be a ramp up on the new contract, although from the revenue standpoint we are not in the range that we’re looking at, we’re not anticipating a material amount of revenue on the new contract for this year. A lot of that is obviously going to be dependant on timing of the new contract start up, so as soon as the new contract starts up, obviously the more material revenue we would see in 2014.

Lisa Im

With that said, with a new contract award you can see the impact of investing in that contract as a start up, so we would obviously get fully staffed and start to gain momentum on that contract, so that’s part of what your seeing. So, all of those effects have been built into the range.

Suzy Stein - Morgan Stanley

Okay, you made a comment when you were talking about your balance sheet, that you’re exploring a range of opportunities. What did you mean by that? I mean were you just talking about – is CapEx going to be higher, are you looking at acquisitions, how should we interpret what your comments were about that?

Lisa Im

Sure. We expect CapEx to be pretty much in line with what our investment has been historically and again, as you know we spend, we invest in our technology capability in a way to continue to improve our quality and service, and differentiation in the market. We’re aggressively looking at acquisition opportunities that will help accelerate share build in healthcare, in the commercial healthcare market, as well as maybe accelerate some of the development of newer capabilities in that market as well.

Suzy Stein - Morgan Stanley

And then just maybe one more; on the healthcare revenue number for this quarter, was there anything in there that’s related to timing of, I don’t know, revenue that should have been in last quarter or something that maybe should be recognized, that would have been recognized next quarter or is there any timing issues there?

Hakan Orvell

No timing issues there. So what we were dealing with in prior quarters was the backlog of PIP revenue, but that was all recognized in Q2 and Q3.

Lisa Im

So if you look at Q4 revenue that was impacted, if you go back to 2013. If you remember we had a work stoppage for the month of July, so the Q4 revenue that we just reported would have actually been impacted by that July gap.

Suzy Stein - Morgan Stanley

Okay, got it. Okay, thanks for taking my questions.

Operator

Thank you. Our next question comes from the line of Michael Tarkan with Compass Point. Please proceed with your question.

Michael Tarkan - Compass Point

Thanks. On the education side, can you just be a little more specific in terms of what the placement for this quarter from Ed versus guarantee agencies.

Hakan Orvell

Sure. So as we look at the Department of Education, our placement in the quarter was about $600 million and the other $800 million was guarantee agencies.

Michael Tarkan - Compass Point

How do you see those trending? You said the $600 million is sort of more of a normalized level. Do you expect sort of normalized placements from here on out from Ed and to grow sort of with overall delinquency and default rates?

Hakan Orvell

I would say so, yes. So I mean as you look at the placements that we have gotten this year, its average around $600 million a quarter, the $2.5 billion that we have received from the Department of Education this year. So we would expect that’s going to continue to grow, would be increase in volume overall.

Michael Tarkan - Compass Point

The $5 million to $15 million impact on the guarantee agency fee cuts, does that contemplate any potential offset from income based repayment rehabilitations?

Hakan Orvell

Not for this year, so that’s going to start. Again based on the new regulation it’s going to go into effect later this year in July and we’ll see that benefit primarily in 2015.

Michael Tarkan - Compass Point

And just to clarify, you said the revenue as a percentage of placement volume should shake out in that 250 basis point range. I guess I was just a little surprised to hear that, given that we are getting the cuts to the GA’s later in the year, so 250 is the number that we should be thinking about?

Hakan Orvell

250 is what we’re looking at this point, but it has been year-to-date, so as we look at the impact of IBR and whatever the outcome is here of the guarantee agency adjustments, that would obviously have an impact there. So we’re not giving guidance on that percentage at this point. But as we see this guarantee agency situation unfold, we'll be able to frame that a lot better.

Michael Tarkan - Compass Point

Okay, and then just one quick one, the state MST program, can you tell us how much that added in this quarter?

Hakan Orvell

It was – when you’re looking at the other line there, its approximately – it was not a significant number. I believe it was somewhere in the definitive, about $1 million.

Michael Tarkan - Compass Point

Thank you.

Operator

Thank you. Our next question comes from the line of Andrew Jeffrey with Suntrust. Please proceed with your question.

Andrew Jeffrey – Suntrust

Hi, thanks for taking the question. Hakan just to be clear, the guidance range that you gave us, the revenue guidance range does or does not include the potential GA fee reduction?

Hakan Orvell

It does include an impact of the GA reduction, a fee reduction in the magnitude of between $5 million to $15 million.

Andrew Jeffrey – Suntrust

Okay, but your 250 basis point yield assumption doesn’t seem to incorporate that fee reduction, is that right?

Hakan Orvell

That is correct. So the 2.5%, that’s where we are year-to-date, so, as I stated earlier, that is more indicative of a normalized quarter as we look at it based on the revenue that we have seen and the placements that we have seen during 2015.

Andrew Jeffrey – Suntrust

So in other words, anticipate a reduction in the yield at such point that you have a better sense of what the magnitude of the GA fee reduction actually is?

Hakan Orvell

That’s accurate, yes.

Andrew Jeffrey – Suntrust

Okay, and perhaps modestly offset or partially offset by IBR revenue?

Hakan Orvell

That’s correct.

Andrew Jeffrey – Suntrust

All right, that helps, thanks. Lisa and I know this is conjecture in light of what’s happened with the timing on CMS. If you kind of probability weight timing on a new CMS rack and assume that the region looks about the same, the performance as it is now. How long do you think – for how many quarters do you think performance might essentially have no healthcare revenue.

Is it the back half or the fourth quarter of ’14 and then it starts to pick up in ’15 and I realize it’s a difficult question to ask, but I’m sure you’ve kind of looked at potential timing outcomes internally. I guess what’s the ramp up period that we might expect on a new CMS rack?

Lisa Im

Well let’s assume for the sake of this discussion from an illustration standpoint, lets assume we get the same region. Four of our old states are moving into a different region and we’re getting four new states. So in those four states where we have to do outreach, we expect a little bit longer timeframe in terms of ramp up. But the states that would be consistent we would be able to start pretty quickly, and it is – and geo port is conjecture, but based on all of the indications and statements that CMS has relieved. It is their desire and their objective to re-award these contracts pretty quickly.

From their public announcements on the CMS website, we believe that they are going to – it appears that they are going to try to make the award here in the, I would say fairly near term. So again, we’re hopeful that the award will be made and our best-case scenario is clearly something that happens in early Q2 and that we’re able to start pretty quickly. If it does gets delayed for protest or some other issues, of course then we’ll build in that into the low end of the range.

Andrew Jeffrey – Suntrust

Okay. And when you talk about the EBITDA guidance range, I think you said it was 47 to 55. If I just contemplate the mid point of the range and the sort of run rate of expenses that we saw in the fourth quarter, it seems pretty conservative. I mean is there anything else really to think about there?

Lisa Im

Well I think just the – and again, the start up of the recovery audit contract requires us to invest in the workforce, so you will see ,as I mentioned we see 2014 really kind of – a bit of a transitional year and that we do expect to invest in workforces to ramp up the RAC contract.

As you know a contractor can win up-to two regions and our anticipation is that even with one we expect to have some expense that we have to invest early on in order to get a very good momentum into the back part of the year and into 2015. So you will see a bit of investment this year that is transitional and not long term in nature.

Andrew Jeffrey – Suntrust

Okay, I understand. So we should anticipate the performer with scale, those investments as we get out into ’15 and the Medicare, the RAC contract volume rates.

Lisa Im

Yes.

Andrew Jeffrey – Suntrust

Okay great, thank you.

Operator

Thank you. Our next question comes from the line of Brian Doyle with William Blair. Please proceed with your question.

Brian Doyle - William Blair

Good afternoon. A question on the EBITDA guidance and actually expenses. Using the midpoint of the range of both EBITDA and revenues, it turns out to be at 23%. I know you said your investing for the new contracts and what not, but I guess with the even longer term, do you think your long term EBITDA margin should be – I mean historically its been kind of right in that low 30’s. Do you feel comfortable getting back to that range?

Lisa Im

Yes, I think Brian as we look at what we see sort of mid and long term, once we are ramped on the contract, our investment will scale to the revenue that we’re driving and so as we look longer term we definitely expect to be back at the sort of what we have defined as low 30’s.

Brian Doyle - William Blair

Okay. And then as the new commercial plans kind of ramp up and there’s this air pocket with the Medicare RAC contract, do you anticipate moving some of your skilled nurses over to working on the commercial. What are you doing? Like do you have a contingent plan for those air pockets and with your Medicare RAC with your workforce?

Lisa Im

Yes, we have some reallocation of workforce and then of course with commercial contracts, just the specialty needs that we have filled separately. So there is some transferability and there is also some non-transferability. So we’re staffing appropriately. We do not anticipate there to be as Hakan mentioned, anticipating there to be not a big gap between contract production and start up. We’ve already seen a reduction in workforce in the Medicare Recovery Audit Program and so we’re very carefully managing those expenses and the resources.

Brian Doyle - William Blair

Okay. Did you mention that they were already processes on the RFQ’s or is that incorrect?

Lisa Im

Yes, in a couple of the RFQ’s. So this unlike last 2013 procurement, this RFQ was not one, it was multiple and so there are protests on a couple of them.

Brian Doyle - William Blair

How long do you anticipate that delaying awards?

Lisa Im

Well on the RFQ’s that were protested, because not all have been protested at this time. There is a 100-day decision period by the GAO, which if we look back at the first should be over close to the end of Q1 or early Q2.

Brian Doyle - William Blair

Okay, and do you anticipate them awarding all contracts at the same time then, is that it?

Lisa Im

I don’t know Brian. If I had a crystal ball like that I would tell you what I see in it, but I actually don’t know. As they certainly have released them separately, they could award them separately or they could award them all at once and we just can’t tell.

Brian Doyle - William Blair

Okay, and then you said that you mentioned that you can run two regions. Is that region A and B or I don’t know if you changed it to one, two and three and four now, but…

Lisa Im

Yes, they’ve used numbers this time instead of letters and there are five recovery audit contract; regions one, two, three, four and five and five is the national dermal medical equipment home health and hospital contract. So it is possible for a recovery auditor to win up to two, but no more.

Brian Doyle - William Blair

So that can be one and two or one and five or one and whatever it maybe.

Lisa Im

We don’t know what the award structure will look like. Its of the least the current incumbent vendors that have probably been on all of the regions, because they can, but I don’t think we can guess what the award structure will look like.

Brian Doyle - William Blair

Okay, and then a quick clarification question in case I heard you correctly. You said you had four commercial healthcare contracts. Is that…

Lisa Im

Four of the six largest commercial insurers in the U.S. So we have signed master servicing agreements, which allow us to develop multiple contracts with each of our clients. So it isn’t one contract, but multiple contracts under each of the master servicing agreements.

Brian Doyle - William Blair

And is one of those – are all of those up and running right now or is that just kind of the ramp up?

Lisa Im

We have a couple of contracts that are starting to run in the early stages and there are a handful that we have completed statements of work and we’re starting to ramp up on those, so its still pretty early.

Brian Doyle - William Blair

That’s it from me for right now. Thanks.

Operator

Thank you. Our next question comes from the line of Brian Hoffman with Avondale Partners. Please proceed with your question.

Richard Close - Avondale Partners

Hi, its actually Richard Close here. I got on the call late, but Hakan I was wondering if you could walk us through the $5 million to $15 million impact from the GA impact that your factoring in. Can you just go through some of the assumptions that got you to those numbers please?

Hakan Orvell

Sure. So what we have – in calculating this range, we have looked at the guarantee agency revenue that we have with our existing clients, but we have looked at the rehabilitation revenue associated with the cases that we’re doing and then we have applied a low end and a high end of the potential outcomes of this change.

So as we look at the range of $5 million to $15 million, we have assumed that that range is also going to fall to about a $9 million in EBITDA, so its – you know if I can just see them in both the top line and bottom line.

And again, we’d like to see how this plays out. We have not had any indications from our – as we look at our top clients on what the fee reduction may be. So just building in a range of potential outcomes here and we’re looking at it right now.

Richard Close - Avondale Partners

Okay. So and that’s a six month sort of impact, right. I mean that’s July 1 through December 31, correct.

Hakan Orvell

That’s right. It’s a six month impact and then as you look at 2015 we will as we indicated earlier, we’ll have the positive impact of IBR to take into account there as well.

Richard Close - Avondale Partners

Is there any type of I guess gas or assumption you could say that the IBR offset? In terms of, does it fully contemplate for that $5 million to $15 million?

Hakan Orvell

At this point I think what we’ll do is we’ll see how this plays out and as we look at our next quarter call, we expect to better be able to address again what the impact is on any GA, key impact and also on IBR.

Richard Close - Avondale Partners

And a final question on the GA impact here. Is this based on any discussions or conversations that you’ve had since I guess the new language or new rule came out.

Hakan Orvell

No, at this point we have not had discussions with our key clients in regards to what the potential seek out maybe.

Richard Close - Avondale Partners

Okay. With respect to or moving on to the RAC side of things, on the EBITDA impact, indicative impact on EBITDA associated with the RAC, it sounds based on your commentary that its really more related to the ramp up of a potential new contract rather than any changes to the existing program or ramp down of the existing program. Is that correct?

Hakan Orvell

That is correct, yes.

Richard Close - Avondale Partners

Okay. So really – I’m sorry.

Hakan Orvell

Yes, that’s the primary reason, that’s correct.

Richard Close - Avondale Partners

Okay. So as we think about I guess versus our estimates and maybe street estimates and the changes that need to be made to the EBITDA for 2014, primarily speaking, most of the impacts are going to be in the second half of the year.

Hakan Orvell

To some extent yes, although I mean you need to take into consideration current volume of business on the RAC side. As you look at earlier in 2013 we had the positive impact of recognizing PIP revenue as we talked before about it, so there is current constraints that we’re operating on there under the current contract. So you need to kind of take that into consideration as you ramp in ’14.

Lisa Im

But definitely on the investment side and on the revenue side we ensure that is correct, so that we would see more of that impact probably in the back part of the year, because we did take a little bit of punch here to get fully ramped up on these contracts as you know.

Hakan Orvell

Maybe I’ll add one comment. As we look at the first quarter of 2014, we expect that revenue and EBIDA for Q1 will be higher than Q1 of 2013. Its slightly below what we saw in Q4 of last year. So hopefully that will kind of help frame it out for you.

Richard Close - Avondale Partners

Okay. And then Lisa just go back on your comments. I think you said resolution or maybe that wasn’t the right word, but you used near term and just – I’m sure your thoughts in terms of I guess the next couple of months on the RAC decision, what makes you think that there’s going to be something resolved in the near term and what exactly would be resolved?

Lisa Im

Well whatever the issues that are being protested, there is a process timeline of 100 days that the GAO will use in order to, or the agency will use in order to resolve the protest with GAO and with the protestor. So that 100-day mark is going to happen over the next couple of months and from prior experience we believe that these issues will come to some sort of resolution.

So other than that, I don’t have an indication of the federal agency. I just have watched the process in other types of contracts and then also from the one that was protested last year. So the 100 day mark is really the way I’m gauging that I think the resolutions will appear, but that’s – again that’s speculation on our part, but its just given the…

Richard Close - Avondale Partners

That’s not related to anything like CMS stepping in and taking a corrective batch or anything like that.

Lisa Im

Right. If CMS kind of steps in and takes the corrective action, then that issue will resolve before that.

Richard Close - Avondale Partners

Okay, and I guess my final question would be, the reason of the protest I guess is because of the timeframe in terms of the appeals and not being able to potentially I guess collect the money until after the second level of appeals. How is performance in terms of our company with respect to the financial standing of the company? Is it impacted at all or put at a disadvantage at all versus maybe some of the other bidders on the contract based on if there was no corrective action regarding the appeals.

Hakan Orvell

Our balance sheet is very strong and we have a cash position that is very positive to be able to weather any potential delays in payments. Again, as we look at this, I mean this is, these are fused on to protest and we have to see how well this shakes out, but to the extent that we had a disadvantage in this area, not at all. I mean our balance sheet is very strong.

Richard Close - Avondale Partners

Okay, great. Thank you very much. I appreciation the questions.

Operator

Thank you. Our next question comes from the like of Toby Wann with Obsidian Research Group. Please proceed with your questions.

Toby Wann - Obsidian Research Group

Hey guys, thanks for taking the question. Real quickly, if we look at fourth quarter healthcare revenue and back out the $10 million, on a sequential basis you back out the $10 million that was there in the third quarter, so you kind of get to a annual regular, I guess a regular run rate about $18 million. What led to the big sequential fall off other than the July air pocket? I mean $18.3 million down to $10.9 million; I know there is a July air pocket. Is the balance of that related to the moratorium on short stay inpatient audits and can we quantify what that impact actually is?

Lisa Im

Its actually. So the July work GAAP was obviously a chunk of that and then the other thing in Q4 you could keep in mind that even though the PIP automated processing fix was in place, we were still precluded from auditing any tests.

When you look at the revenues that you just mentioned, if you look at Q4, its really artificially depressed, because PIP’s surprised 20% of our providers and almost 30% of Medicare spending in the region and so you have to – on a normalized contract going forward, you have to build that back in.

And so if you look at the Q4, yes that does include it. If we’re looking at revenue, we were not able to audit obviously from October 1, not able to audit any of the short stays, but that is not – from our standpoint while it takes a certain class of audit out, we have so many other issues that we have been able to identify and work through, we don’t see that as being a deterrent to the full value of the contract.

Toby Wann - Obsidian Research Group

Okay. No, that’s helpful, thank you, because I’m totally safe on the PIP audit issue. And then as it relates to the rebid, I know we are kind of going through the process or CMS is going through the process, you guys have all already submitted your bids. But yet my understanding is that the statement of work for the RAC contract is relatively vague at this point.

Do you guys have an opportunity to revise your bid as a statement of work becomes a little at a more specific. I know that keeping us has changed the program pretty significantly over the past three or four months with different moratoriums on what you can audit, can’t audit, the timing of when those audits can take place, appeals, all of those sorts of things. I mean do you guys have a chance to go back and revise you – I mean its a fixed bid on a contingency basis, but you guys have a chance to go back and revise that at all or would that have to be a addressed under a protest situation?

Lisa Im

I think we are speculating at this point about that. I do think though that – and again there’s a lot of misinformation and information that’s out in the public. So some of its real, some of its not real, but we do continue to believe that CMS supports this program.

Its a very good integrity program. It brings back actual dollars into the Medicare trust fund and they have, its gone both ways. Sometimes it makes changes statement of work and have been very helpful and so I think they remain very open to working a contract that is good for the program, as well as addressing some of the provider concerns and needs and I think we are very, as a group of companies, I think we are very committed to making this a successful program and working with CMS, so that the outcome is a positive one for the program, for obviously the providers as well.

I mean to the extent that obviously nobody likes to be audited, that’s just a given, but a good program that adheres to Medicare policy rules and regulations is a good program. It captures errors and it’s a significant value to CMS and to the federal government, to tax payers.

Toby Wann - Obsidian Research Group

Okay. Thanks for taking the question and congrats on the quarter.

Operator

Thank you. Our next question comes from the like of Anj Singh with Credit Suisse. Please proceed with your question.

Anj Singh - Credit Suisse

Hi, thanks for taking my questions. My first question, I just wanted to see if you can give any color as to what sort of trajectory you might anticipate for a new contract ramp. I realize that there are a lot of moving pieces and its tough to do that, but provided that a new contract has been awarded and the volume is normal, what sort of trajectory is it? Is it going to take several quarters to come in? Will that be a one or two quarter issue and then what sort of issues if any, do you anticipate flexing up your staff to meet that volume when it does come?

Hakan Orvell

Sure. So I mean if we look at a new contract, clearly as Lisa mentioned earlier, the start-up of the contract is a key issue and then also if in fact we are awarded our current region, that will facilitate a quicker ramp-up on the contract as we would have done in the outreach and so forth on the large part of our current region.

So as you look at it, and again from a timing perspective, if you would have a new contract being awarded in the end of Q2, lets say we’ll start to see revenue at the end of Q3, Q4 timeframe.

Anj Singh - Credit Suisse

Okay and then on my second question, would you anticipated any issues with flexing up your staff to meet that kind of demand?

Lisa Im

No. We’ve flexed up staff obviously in the past on these contracts and we do not anticipate there to be any more of a challenge than what we face and we’ve definitely been able to very adeptly staff up.

Anj Singh - Credit Suisse

Okay, all right, that’s helpful. And then the second question; you guys had won a contract with the DOE, I think it was about a year ago. Could you tell us what sort of revenue that might be generating at this point?

Lisa Im

Sure. We actually went into that contact with participation from DOE on how we wanted to structure that program. To be just barely honest with you, that contract really resulted in very little revenue, partly because of the way the records were kept. It was not as smooth of a data transition and process as we would have liked and we actually terminated the contact with DOE.

Anj Singh - Credit Suisse

Okay, and then I guess this leads into my next question. What gives you the confidence on the new contracts that you mentioned, the master servicing agreements? What sort of gives you the confidence that these might result in pretty material new revenue, $5 million to $15 million I believe was your guide. If you can just give us some guidance as to how you came up with that range.

Lisa Im

Sure, these are actually healthcare audit recovery contracts and so its really in our suite spot of capability. The Department of Education one was a payment, accounts payable type of audit. The Department of Education was technologically just not prepared to take on kind of a massive information transfer of that nature. We tried to work with the clients, but it was just a new program for them.

The contract that we have with our commercial payers, these are contracts that are very much well known quantities in terms of expectations. The clients are definitely capable of handing their side of the work that’s required. As I mentioned, these are healthcare audited recovery contracts. They are right up our alley. They are in our wheelhouse of capability. So our confidence level is very high that these are known quantity types of work and capability, both on the client side and on our side.

Anj Singh - Credit Suisse

Okay. All right, that helps. Thank you.

Operator

Thank you. (Operator Instructions) Our next question comes from the like of Michael Tarkan with Compass Point. Please proceed with your question.

Michael Tarkan - Compass Point

Just a quick follow-up on the new contracts, the new commercial contracts. Besides the $15 million, you mentioned it should be more significant in 2015. How should we think about that? Is it possible for that range to essentially double in 2015, just any kind of color around that would be helpful? Thanks.

Lisa Im

Sure, obviously you know our business objective at large would be to get that into the multiple range of what we think a ramp-up year should look like. As I mentioned, we’ve done market research and work around this space and the four payers who have become our clients’ control $1.7 billion of service fees for these kinds of payment integrity programs.

And so when we look at those four clients, we look at one share point equaling $17 million of revenue and of course our objective would be to have more than one share point as we ramp up on these, and so we are very excited about the fact that again these contracts and the statements of work will be within our wheelhouse of capability. We believe we can aggregate a value to these clients. They are fully prepared and capable and ready to work with us. So our objective will be multiples of what we’re going to see in a ramp-up year.

Michael Tarkan - Compass Point

Thank you.

Operator

Thank you. We have no further questions in queue at this time. I would like to return the floor back over to Lisa Im for closing comments.

Lisa Im

Thank you. So just in closing, as I mentioned we see 2014 as a transitional year that provides for our continued strong future growth. We are very excited as we ramp-up our commercial contracts and believe that our mid to long-term growth trends look very positive.

And with that what we’d like to do is thank you very much for your interest and your participation on the call. Thank you.

Operator

This concludes today's teleconference. You may disconnect your lines at this time and thank you for your participation.

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