e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2008
OR
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File Number: 0-50194
HMS HOLDINGS CORP.
(Exact name of registrant as specified in its charter)
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New York
(State or other jurisdiction of
incorporation or organization)
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11-3656261
(I.R.S. Employer)
Identification No.) |
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401 Park Avenue South, New York, New York
(Address of principal executive offices)
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10016
(Zip Code) |
(212) 725-7965
(Registrants telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o | Accelerated filer þ | Non-accelerated filer o (Do not check if a smaller reporting company) | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act).
Yes o No þ
The number of shares common stock, $.01 par value, outstanding as of November 3, 2008 was
25,154,029.
HMS HOLDINGS CORP. AND SUBSIDIARIES
QUARTERLY REPORT ON FORM 10-Q
TABLE OF CONTENTS
2
HMS HOLDINGS CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)
(unaudited)
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September 30, |
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December 31, |
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2008 |
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2007 |
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Assets |
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Current assets: |
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Cash and cash equivalents |
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$ |
31,598 |
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$ |
21,275 |
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Accounts receivable, net of allowance of $662 at September 30, 2008
and December 31, 2007 |
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48,004 |
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39,704 |
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Prepaid expenses |
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2,328 |
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3,266 |
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Other current assets, including deferred tax assets of $1,263 and $657 at
September 30, 2008 and December 31, 2007, respectively |
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1,291 |
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704 |
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83,221 |
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64,949 |
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Property and equipment, net |
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16,492 |
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16,496 |
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Goodwill, net |
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82,350 |
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80,242 |
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Deferred income taxes, net |
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3,145 |
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3,111 |
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Intangible assets, net |
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20,855 |
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22,495 |
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Other assets |
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682 |
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807 |
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Total assets |
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$ |
206,745 |
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$ |
188,100 |
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Liabilities and Shareholders Equity |
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Current liabilities: |
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Accounts payable, accrued expenses and other liabilities |
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$ |
19,415 |
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$ |
21,539 |
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Current portion of long-term debt |
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6,300 |
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6,300 |
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Total current liabilities |
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25,715 |
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27,839 |
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Long-term liabilities: |
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Long-term debt |
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12,600 |
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17,325 |
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Accrued deferred rent |
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3,302 |
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3,378 |
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Other liabilities |
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765 |
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809 |
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Total long-term liabilities |
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16,667 |
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21,512 |
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Total liabilities |
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42,382 |
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49,351 |
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Commitments and contingencies
Shareholders equity: |
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Preferred stock $.01 par value; 5,000,000 shares authorized; none issued |
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Common stock $.01 par value; 45,000,000 shares authorized;
26,816,875 shares issued and 25,154,029 shares outstanding at September 30, 2008;
26,409,035 shares issued and 24,746,189 shares outstanding at December 31, 2007 |
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268 |
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264 |
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Capital in excess of par value |
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139,132 |
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127,887 |
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Retained earnings |
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34,504 |
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20,187 |
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Treasury stock, at cost; 1,662,846 shares at September 30, 2008 and
December 31, 2007 |
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(9,397 |
) |
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(9,397 |
) |
Accumulated other comprehensive loss |
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(144 |
) |
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(192 |
) |
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Total shareholders equity |
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164,363 |
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138,749 |
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Total liabilities and shareholders equity |
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$ |
206,745 |
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$ |
188,100 |
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See accompanying notes to consolidated financial statements.
3
HMS HOLDINGS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
For the Three and Nine-Month Periods Ended September 30, 2008 and 2007
(in thousands, except per share amounts)
(unaudited)
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Three months ended September 30, |
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Nine months ended September 30, |
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2008 |
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2007 |
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2008 |
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2007 |
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Revenue |
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$ |
48,965 |
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$ |
37,684 |
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$ |
132,091 |
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$ |
104,983 |
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Cost of services: |
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Compensation |
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19,297 |
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14,422 |
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53,122 |
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40,882 |
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Data processing |
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3,059 |
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2,628 |
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8,796 |
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7,110 |
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Occupancy |
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2,763 |
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2,172 |
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7,987 |
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6,446 |
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Direct project costs |
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7,310 |
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5,711 |
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19,749 |
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16,368 |
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Other operating costs |
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4,560 |
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3,928 |
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13,605 |
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9,973 |
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Amortization of acquisition related
software and intangibles |
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1,205 |
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1,154 |
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3,530 |
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3,480 |
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Total cost of services |
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38,194 |
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30,015 |
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106,789 |
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84,259 |
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Operating income |
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10,771 |
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7,669 |
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25,302 |
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20,724 |
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Interest expense |
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(371 |
) |
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(492 |
) |
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(1,137 |
) |
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(1,743 |
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Interest income |
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191 |
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166 |
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520 |
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382 |
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Income before income taxes |
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10,591 |
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7,343 |
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24,685 |
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19,363 |
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Income taxes |
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4,448 |
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3,202 |
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10,368 |
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8,443 |
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Net income |
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$ |
6,143 |
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$ |
4,141 |
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$ |
14,317 |
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$ |
10,920 |
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Basic income per share data: |
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Net income per basic share |
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$ |
0.24 |
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$ |
0.17 |
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$ |
0.57 |
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$ |
0.46 |
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Weighted average common shares
outstanding, basic |
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25,083 |
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24,028 |
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24,965 |
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23,713 |
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Diluted income per share data: |
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Net income per diluted share |
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$ |
0.23 |
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$ |
0.16 |
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$ |
0.53 |
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$ |
0.42 |
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Weighted average common shares,
diluted |
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26,794 |
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26,254 |
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26,778 |
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26,077 |
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See accompanying notes to consolidated financial statements.
4
HMS HOLDINGS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY AND COMPREHENSIVE INCOME
(in thousands, except share amounts)
(unaudited)
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Retained |
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Accumulated |
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Common Stock |
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Capital In |
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Earnings/ |
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Other |
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Total |
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# of Shares |
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Par |
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Excess Of |
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Accumulated |
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Comprehensive |
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Treasury Stock |
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Shareholders |
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Issued |
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Value |
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Par Value |
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Deficit |
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Income/(Loss) |
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# of Shares |
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Amount |
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Equity |
|
Balance at December
31, 2007 |
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|
26,409,035 |
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|
$ |
264 |
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|
$ |
127,887 |
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|
$ |
20,187 |
|
|
$ |
(192 |
) |
|
|
1,662,846 |
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|
$ |
(9,397 |
) |
|
$ |
138,749 |
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Comprehensive
income: |
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Net income |
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14,317 |
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14,317 |
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Unrealized gain
on derivative
instrument,
net of tax of $30 |
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|
48 |
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48 |
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Total
comprehensive
income |
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|
|
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|
14,365 |
|
Share-based
compensation
cost |
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|
|
|
|
|
|
|
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|
2,351 |
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|
|
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|
2,351 |
|
Exercise of
stock options |
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407,840 |
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4 |
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|
1,643 |
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1,647 |
|
Disqualifying
dispositions |
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7,251 |
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7,251 |
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Balance at
September 30, 2008 |
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26,816,875 |
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|
$ |
268 |
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|
$ |
139,132 |
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|
$ |
34,504 |
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|
$ |
(144 |
) |
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|
1,662,846 |
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|
$ |
(9,397 |
) |
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$ |
164,363 |
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|
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See accompanying notes to consolidated financial statements.
5
HMS HOLDINGS CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine-Month Periods Ended September 30, 2008 and 2007
(in thousands)
(unaudited)
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Nine months ended September 30, |
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2008 |
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|
2007 |
|
Operating activities: |
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|
|
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Net income |
|
$ |
14,317 |
|
|
$ |
10,920 |
|
Adjustments to reconcile net income to net cash provided by
operating activities: |
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Loss on disposal of fixed assets |
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|
53 |
|
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|
80 |
|
Depreciation and amortization |
|
|
8,834 |
|
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|
7,698 |
|
(Increase)/decrease in deferred tax asset |
|
|
(640 |
) |
|
|
2,873 |
|
Share-based compensation expense |
|
|
2,351 |
|
|
|
1,420 |
|
Changes in assets and liabilities: |
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|
|
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|
Increase in accounts receivable |
|
|
(7,380 |
) |
|
|
(8,625 |
) |
(Increase)/decrease in prepaid expenses and
other current assets |
|
|
985 |
|
|
|
(135 |
) |
Increase in other assets |
|
|
(18 |
) |
|
|
(171 |
) |
Decrease in accounts payable, accrued expenses
and other liabilities |
|
|
(2,679 |
) |
|
|
(267 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities |
|
|
15,823 |
|
|
|
13,793 |
|
|
|
|
|
|
|
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|
|
|
|
|
|
|
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Investing activities: |
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Purchases of property and equipment |
|
|
(4,908 |
) |
|
|
(6,772 |
) |
Acquisition of BSPA |
|
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|
|
|
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(15,000 |
) |
Acquisition of Prudent Rx |
|
|
(4,030 |
) |
|
|
|
|
Investment in software |
|
|
(735 |
) |
|
|
(473 |
) |
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(9,673 |
) |
|
|
(22,245 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financing activities: |
|
|
|
|
|
|
|
|
Proceeds from exercise of stock options |
|
|
1,647 |
|
|
|
3,840 |
|
Tax benefit of disqualifying dispositions |
|
|
7,251 |
|
|
|
5,108 |
|
Repayment of long-term debt |
|
|
(4,725 |
) |
|
|
(6,300 |
) |
|
|
|
|
|
|
|
Net cash provided by financing activities |
|
|
4,173 |
|
|
|
2,648 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase/(decrease) in cash and cash equivalents |
|
|
10,323 |
|
|
|
(5,804 |
) |
|
|
|
|
|
|
|
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|
Cash and cash equivalents at beginning of period |
|
|
21,275 |
|
|
|
12,527 |
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Cash and cash equivalents at end of period |
|
$ |
31,598 |
|
|
$ |
6,723 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of cash flow information: |
|
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|
|
|
|
|
|
Cash paid for income taxes |
|
$ |
1,813 |
|
|
$ |
47 |
|
|
|
|
|
|
|
|
Cash paid for interest |
|
$ |
979 |
|
|
$ |
1,458 |
|
|
|
|
|
|
|
|
Supplemental disclosure of noncash investing activities: |
|
|
|
|
|
|
|
|
Accrued purchase price relating to PrudentRx acquisition |
|
$ |
466 |
|
|
$ |
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
6
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2008
(unaudited)
1. Unaudited Interim Financial Information
The management of HMS Holdings Corp. (Holdings or the Company) is responsible for the
accompanying unaudited interim financial statements and the related information included in the
notes to the financial statements. In the opinion of management, the unaudited interim financial
statements reflect all adjustments, including normal recurring adjustments necessary for the fair
presentation of the Companys financial position and results of operations and cash flows for the
periods presented. Results of operations for interim periods are not necessarily indicative of the
results to be expected for the entire year.
The Company is managed and operated as one business, with a single management team that
reports to the chief executive officer. The Company does not operate separate lines of business
with respect to any of its product lines. Accordingly, the Company does not prepare discrete
financial information with respect to separate product lines or by location and does not have
separately reportable segments.
These unaudited interim financial statements should be read in conjunction with the audited
consolidated financial statements of the Company as of and for the year ended December 31, 2007
included in the Companys Annual Report on Form 10-K for such year, as filed with the Securities
and Exchange Commission (SEC).
2. Basis of Presentation and Principles of Consolidation
|
(a) |
|
Organization and Business |
The Company provides a variety of cost containment and payment accuracy services relating to
government healthcare programs. These services are in general designed to help our clients recover
amounts due from liable third parties, reduce costs, and ensure regulatory compliance.
|
(b) |
|
Principles of Consolidation |
The consolidated financial statements include the accounts of the Company and its wholly-owned
subsidiaries. All significant intercompany balances and transactions have been eliminated in
consolidation.
|
(b) |
|
Recent Accounting Pronouncement |
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (SFAS 157). SFAS 157
defines fair value, establishes a framework for measuring fair value, and expands disclosures about
fair value measurements. SFAS 157 does not require any new fair value measurements, but rather
eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS 157
is effective for fiscal years beginning after November 15, 2007, with the exception of the
application of the statement to the determination of fair value of nonfinancial assets and
liabilities that are recognized or disclosed on a nonrecurring basis, which is effective for fiscal
years beginning after November 15, 2008.
SFAS 157 establishes a valuation hierarchy for disclosure of the inputs to valuation used to
measure fair value. This hierarchy prioritizes the inputs into three broad levels as follows. Level
1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities.
Level 2 inputs are quoted prices for similar assets and liabilities in active markets or inputs
that are observable for the asset or liability, either directly or indirectly through market
corroboration, for substantially the full term of the financial instrument. Level 3 inputs are
unobservable inputs based on our own assumptions used to measure assets and liabilities at
7
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2008
(unaudited)
fair value. A financial asset or liabilitys classification within the hierarchy is determined
based on the lowest level input that is significant to the fair value measurement.
Effective January 1, 2008, we partially adopted SFAS No. 157 and have applied its provisions
to financial assets and liabilities that are recognized or disclosed at fair value on a recurring
basis (at least annually). We have not yet adopted SFAS 157 for non-financial assets and
liabilities, in accordance with FASB staff position 157-2, which is effective for fiscal years
beginning after November 15, 2008.
At September 30, 2008, our interest rate swap contract (see note 8) was being carried at fair
value and measured on a recurring basis. Fair value is determined through the use of models that
consider various assumptions, including time value, yield curves, as well as other relevant
economic measures, which are inputs that are classified as Level 2 in the valuation hierarchy.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets
and Financial Liabilities Including an amendment of FASB Statement No. 115 (SFAS 159), which is
effective for fiscal years beginning after November 15, 2007. This statement permits entities to
choose to measure many financial instruments and certain other items at fair value. This statement
also establishes presentation and disclosure requirements designed to facilitate comparisons
between entities that choose different measurement attributes for similar types of assets and
liabilities. Unrealized gains and losses on items for which the fair value option is elected would
be reported in earnings. We have adopted SFAS 159 and have elected not to measure any additional
financial instruments and other items at fair value.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations (SFAS
141(R)), which replaces SFAS No. 141, Business Combinations. SFAS 141(R) retains the underlying
concepts of SFAS 141 in that all business combinations are still required to be accounted for at
fair value under the acquisition method of accounting but SFAS 141(R) changed the method of
applying the acquisition method in a number of significant aspects. Acquisition costs will
generally be expensed as incurred; noncontrolling interests will be valued at fair value at the
acquisition date; in-process research and development will be recorded at fair value as an
indefinite-lived intangible asset at the acquisition date; restructuring costs associated with a
business combination will generally be expensed subsequent to the acquisition date; and changes in
deferred tax asset valuation allowances and income tax uncertainties after the acquisition date
generally will affect income tax expense. SFAS 141(R) is effective on a prospective basis for all
business combinations for which the acquisition date is on or after the beginning of the first
annual period subsequent to December 15, 2008, with the exception of the accounting for valuation
allowances on deferred taxes and acquired tax contingencies. SFAS 141(R) amends SFAS 109 such that
adjustments made to valuation allowances on deferred taxes and acquired tax contingencies
associated with acquisitions that closed prior to the effective date of SFAS 141(R) would also
apply the provisions of SFAS 141(R). Early adoption is prohibited. Therefore, the impact of the
implementation of this pronouncement cannot be determined until the transactions occur.
In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161,
Disclosures about Derivative Instruments and Hedging Activitiesan amendment of FASB Statement No.
133 (SFAS No. 161). SFAS No. 161 requires enhanced disclosures about an entitys derivative and
hedging activities. Entities will be required to provide enhanced disclosures about how and why an
entity uses derivative instruments, how these instruments are accounted for, and how they affect
the entitys financial position, financial performance and cash flows. This new standard is
effective for our Company as of January 1, 2009 and we are currently evaluating the impact on
disclosures associated with our derivative and hedging activities.
In April 2008, the FASB issued FSP No. FAS 142-3, Determination of the Useful Life of
Intangible Assets. This FSP amends the factors that should be considered in developing renewal or
extension
8
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2008
(unaudited)
assumptions used to determine the useful life of a recognized intangible asset under SFAS No. 142,
Goodwill and Other Intangible Assets (SFAS 142). The objective of this FSP is to improve the
consistency between the useful life of a recognized intangible asset under SFAS 142 and the period
of expected cash flows used to measure the fair value of the asset under SFAS 141(R), and other
generally accepted accounting principles (GAAP). This FSP applies prospectively to all intangible
assets acquired after the effective date in fiscal 2009, whether acquired in a business combination
or otherwise. Early adoption is prohibited. Therefore, the impact of the implementation of this
pronouncement cannot be determined until the transactions occur.
The preparation of the consolidated financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of the consolidated
financial statements and the reported amounts of revenue and expenses during the reported period.
The actual results could differ from those estimates.
Certain reclassifications were made to prior year and prior quarter amounts to conform to the
current presentation. Non-material reclassifications were made between other operating cost and
direct project cost to properly classify temporary staffing-related expenses. In conjunction with
these reclassifications, there was no impact on total cost of services, operating income and net
income for the periods adjusted.
3. Stock-based Compensation
Presented below is a summary of the Companys option activity for the nine months ended
September 30, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
Aggregate |
|
|
|
|
|
|
|
Weighted |
|
|
average |
|
|
intrinsic |
|
|
|
Options |
|
|
average |
|
|
remaining |
|
|
value |
|
|
|
(in |
|
|
exercise |
|
|
contractual |
|
|
(in |
|
Options (in thousands) |
|
thousands) |
|
|
price |
|
|
terms (in years) |
|
|
thousands) |
|
Outstanding at |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
January 1, 2008 |
|
|
4,246 |
|
|
$ |
9.23 |
|
|
|
|
|
|
|
|
|
Granted |
|
|
29 |
|
|
|
25.92 |
|
|
|
|
|
|
|
|
|
Exercised |
|
|
(408 |
) |
|
|
4.04 |
|
|
|
|
|
|
|
|
|
Forfeited |
|
|
(15 |
) |
|
|
14.04 |
|
|
|
|
|
|
|
|
|
Expired |
|
|
(34 |
) |
|
|
6.46 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding
at September 30, 2008 |
|
|
3,818 |
|
|
$ |
9.93 |
|
|
|
5.40 |
|
|
$ |
55,442 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Vested or expected to vest
at September 30, 2008 |
|
|
3,725 |
|
|
$ |
9.68 |
|
|
|
0.47 |
|
|
$ |
54,958 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at September 30, 2008 |
|
|
2,587 |
|
|
$ |
5.78 |
|
|
|
4.93 |
|
|
$ |
47,853 |
|
|
The fair value of each option grant was estimated using the Black-Scholes option pricing
model. Expected volatilities are calculated based on the historical volatility of the Companys
stock. Management monitors share option exercise and employee termination patterns to estimate
forfeiture rates within the valuation model. Separate groups of employees that have similar
historical exercise behavior are considered separately for valuation purposes. The expected
holding period of options represents the period of time that options granted are expected to be
outstanding. The risk-free interest rate for periods within the contractual life of the option is
based on the interest rate of a 5-year U.S. Treasury note in effect on the date of the grant. There
were 25,000 stock option grants during the three months ended September 30, 2008 and 29,000 options
granted during the nine month period ended September 30, 2008. The fair value of options granted
for the three months ended September 30, 2008 was $0.2 million, and for the nine month period ended
September 30, 2008 was $0.3 million.
9
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2008
(unaudited)
As of September 30, 2008, there was approximately $6.6 million of total unrecognized
compensation cost related to stock options outstanding. That cost is expected to be recognized over
a weighted-average period of 1.6 years. No compensation cost related to stock options was
capitalized for the nine months ended September 30, 2008.
The following table summarizes the weighted average assumptions utilized in developing the
Black-Scholes pricing model:
|
|
|
|
|
|
|
|
|
|
|
Nine months ended |
|
|
September 30, |
|
|
2008 |
|
2007 |
Expected dividend yield |
|
|
0 |
% |
|
|
0 |
% |
Risk-free interest rate |
|
|
2.6 |
% |
|
|
4.7 |
% |
Expected volatility |
|
|
39.7 |
% |
|
|
38.6 |
% |
Expected life |
|
5.0 years |
|
5.0 years |
4. Acquisition
On September 16, 2008, the Company purchased the net assets of Prudent Rx, Inc., an
independent pharmacy audit and cost containment company based in Culver City, California. With
this acquisition, the Company further expanded its portfolio of program integrity service offerings
for government healthcare programs and managed care organizations, particularly in the pharmacy
arena. Prudent Rxs key products and services include audit programs, program design and benefit
management, as well as general and pharmacy systems consulting.
The purchase price of Prudent Rxs net assets, inclusive of the acquisition cost, was
approximately $4.5 million and was accounted for under the asset purchase accounting model.
Additional future payments of $2.3 million ($1.150 million for each of the years ending December
31, 2009 and 2010) will be made contingent upon Prudent Rx meeting certain financial performance
milestones and will be recorded as additional Goodwill upon meeting the milestones.
The acquisition of Prudent Rx will not have a material effect on the Companys fiscal year
2008 earnings or liquidity.
The allocation of the purchase price was based upon estimates of the assets and liabilities
acquired in accordance with SFAS No. 141 Business Combinations. The acquisition of Prudent Rx
was based on managements consideration of past and expected future performance as well as the
potential strategic fit with the long-term goals of the Company. The expected long-term growth,
market position and expected synergies to be generated by Prudent Rx were the primary factors which
gave rise to an acquisition price which resulted in the recognition of goodwill.
10
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2008
(unaudited)
The allocation of the aggregate purchase price of this acquisition is as follows:
|
|
|
|
|
Goodwill |
|
$ |
2,108 |
|
Identifiable intangible assets |
|
|
1,432 |
|
Net assets acquired |
|
|
955 |
|
|
|
|
|
|
|
|
|
|
Total Purchase Price |
|
$ |
4,495 |
|
|
|
|
|
Identifiable intangible assets principally include customer relationships and Prudent Rxs
trade name.
5. Income Taxes
The Company and its subsidiaries file income tax returns with the U.S. Federal government and
various state jurisdictions. The Company is no longer subject to U.S. Federal income tax
examinations by tax authorities for years before 2005. The Company operates in a number of state
and local jurisdictions, substantially all of which have never audited the Company. Accordingly,
the Company is subject to state and local income tax examinations based upon the various statutes
of limitations in each jurisdiction.
At September 30, 2008, the Company had approximately $0.5 million of tax positions for which
there is uncertainty about the allocation and apportionment of state tax deductions. If recognized,
all of this balance would impact the effective tax rate; however the Company does not expect any
significant change in unrecognized tax benefits during the next twelve months. The Company
recognizes interest accrued related to unrecognized tax benefits in interest expense and penalties
in operating expense. At September 30, 2008, the Company had accrued liabilities related to
uncertain tax positions of approximately $92,000.
At September 30, 2008, the Company had a Federal net operating loss (NOLs) carry forward of
$22.6 million from disqualifying dispositions. These tax benefits reduce the Companys income tax
payable and will be included in additional paid-in capital when recognized. The amount by which
these tax benefits will reduce income tax payable and increase additional paid-in capital when
recognized is approximately $9.5 million. Additionally, the amortization of intangible assets has
reduced current taxable income. The principal difference between the statutory rate and the
Companys effective rate is state income taxes.
At September 30, 2008, the Company had a valuation allowance of $2.7 million. The sale of the
Companys Accordis Inc. (Accordis) subsidiary in 2005 resulted in a capital loss of $6.0 million,
which can be carried forward for five years and produced a deferred tax asset of $2.5 million. The
Company believes the available objective evidence, principally the capital loss carryforward being
utilizable to offset only future capital gains, creates sufficient uncertainty regarding the
realizability of its capital loss carryforward that it is more likely than not, that substantially
all of the capital loss carryforward is not realizable. The remaining valuation allowance of $0.2
million relates to certain state NOLs where the Company doesnt currently operate
and there is sufficient doubt about the Companys ability to utilize these NOLs that it is
more likely than not that this portion of the state NOLs are not realizable.
6. Earnings Per Share
Basic income per share is calculated by dividing net income by the weighted average number of
common shares outstanding during the period. Diluted income per share is calculated by dividing
net income
11
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2008
(unaudited)
by the weighted average number of common shares and dilutive common share equivalents
outstanding during the period. The Companys common share equivalents consist of stock options.
The following reconciles the basic to diluted weighted average shares outstanding:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ending |
|
Nine months ending |
|
|
September 30, |
|
September 30, |
(Shares in thousands) |
|
2008 |
|
2007 |
|
2008 |
|
2007 |
Weighted average shares outstanding basic |
|
|
25,083 |
|
|
|
24,028 |
|
|
|
24,965 |
|
|
|
23,713 |
|
Potential shares exercisable under stock option plans |
|
|
1,711 |
|
|
|
2,226 |
|
|
|
1,813 |
|
|
|
2,364 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding diluted |
|
|
26,794 |
|
|
|
26,254 |
|
|
|
26,778 |
|
|
|
26,077 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three-month and nine-month periods ended September 30, 2008, 639,000 and 599,000 stock
options, respectively, were not included in the diluted earnings per share calculation because the
effect would have been antidilutive. For the three-month and nine-month periods ended September 30,
2007, 149,000 and 76,000 thousand stock options, respectively, were not included in the diluted
earnings per share calculation because the effect would have been antidilutive.
7. Debt
The Company has a credit agreement (the Credit Agreement) among the Company, the several banks
and other financial institutions or entities from time to time parties thereto, and JPMorgan Chase
Bank, N.A. (JPMCB), as administrative agent, which was utilized to fund a portion of the purchase
price for the Companys 2006 acquisition of the Benefits Solutions Practice Area (BSPA) assets from
Public Consulting Group, Inc. The Credit Agreement provides for a term loan of $40 million (the
Term Loan) and revolving credit loans of up to $25 million (the Revolving Loan). Borrowings under
the Credit Agreement mature on September 13, 2011. The loans are secured by a security interest in
favor of the lenders covering the assets of the Company and its subsidiaries. Interest on
borrowings under the Credit Agreement is calculated, at the Companys option, at either (i) LIBOR,
including statutory reserves, plus a variable margin based on the Companys leverage ratio, or (ii)
the higher of (a) the prime lending rate of JPMCB, and (b) the Federal Funds Effective Rate plus
0.50%, in each case plus a variable margin based on the Companys leverage ratio. In connection
with the Revolving Loan, the Company agreed to pay a commitment fee, payable quarterly in arrears,
at a variable rate based on the Companys leverage ratio, on the unused portion of the Revolving
Loan.
Commitments under the Credit Agreement will be reduced and borrowings are required to be
repaid with the net proceeds of, among other things, sales or issuances of equity (excluding equity
issued under employee benefit plans and equity issued to sellers as consideration in acquisitions),
sales of assets by the Company and any incurrence of indebtedness by the Company, subject, in each
case, to limited exceptions. The obligations of the Company under the Credit Agreement may be
accelerated upon the occurrence of an event of default under the Credit Agreement, which
encompasses customary events of default including, without limitation, payment defaults, defaults
in the performance of affirmative and negative covenants, the inaccuracy
of representations or warranties, bankruptcy and insolvency related defaults, defaults
relating to such matters as ERISA, uninsured judgments and the failure to pay certain indebtedness,
and a change of control default.
In addition, the Credit Agreement contains affirmative, negative and financial covenants
customary for financings of this type. The negative covenants include restrictions on indebtedness,
liens, fundamental changes, dispositions of property, investments, dividends and other restricted
payments. The financial covenants include a consolidated fixed charge coverage ratio, as defined,
of not less than 1.75 to 1.0 and a consolidated leverage ratio as defined not to exceed 3.0 to 1.0,
through September 30, 2008. The Company is in full compliance with these covenants.
12
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2008
(unaudited)
The Term Loan requires quarterly repayments of $1.575 million, which amount is adjusted each
time the Company makes an additional repayment. There have been no borrowings under the Revolving
Loan, however, we had outstanding a $4.6 million irrevocable standby letter of credit which relates
to contingent, default payment obligations required by a contractual arrangement with a client. As
a result of the letter of credit issued, the amount available under the Revolving Loan was reduced
by $4.6 million at September 30, 2008. Fees and expenses related to the Credit Agreement of $0.9
million have been recorded as Deferred Financing Costs (included in other assets, non-current) and
are amortized to interest expense over the five-year life of the credit facilities using the
effective interest method.
Long-term debt consists of the following at September 30, 2008:
|
|
|
|
|
|
|
September 30, |
(in thousands except percentages) |
|
2008 |
|
|
|
|
|
Borrowings under the Credit Agreement: |
|
|
|
|
$40 million Term Loan, interest at 3.75% |
|
$ |
18,900 |
|
$25 million Revolving Loan |
|
|
|
|
|
|
|
|
Total long-term debt |
|
|
18,900 |
|
|
|
|
|
|
Less current portion of long-term debt |
|
|
6,300 |
|
|
|
|
|
Long-term debt, net of current portion |
|
$ |
12,600 |
|
|
|
|
|
8. Derivative Contract
The Company has an interest rate swap agreement to hedge the fluctuations in variable interest
rates and does not use derivative instruments for speculative purposes.
In December 2006, the Company entered into a three-year interest rate swap agreement, which is
accounted for as a cash flow hedge. This agreement effectively converted $12.0 million of the
Companys variable rate debt to fixed-rate debt, reducing the Companys exposure to changes in
interest rates. Under this swap agreement, the Company received an average LIBOR variable rate of
3.75% and paid an average LIBOR fixed rate of 5.295% for the period from December 31, 2007 to
September 30, 2008. The LIBOR interest rates exclude the Companys applicable interest rate spread
under the Companys Credit Agreement. The Company has recognized, net of tax, an unrealized gain
of 48,000 for the nine-months ended September 30, 2008 and an
unrealized loss of $144,000 as of September 30, 2008 relating to the change in the
instruments fair value. These amount have been included in accumulated other comprehensive
income.
The variable to fixed interest rate swap is designated as and is effective as a cash-flow
hedge. The fair value of this swap, a liability of $243,000 at September 30, 2008, is recorded on
the Consolidated Balance Sheets as an Other Current Liability, with changes in its fair value
included in accumulated other comprehensive income (OCI). Derivative gains and losses included in
OCI are reclassified into earnings at the time the related interest expense is recognized or the
settlement of the related commitment occurs.
13
HMS HOLDINGS CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2008
(unaudited)
9. Subsequent Events
(a) Stock Option Grant
On October 1, 2008, the Compensation Committee of the Board of Directors approved 610,000
stock option awards to officers, executives, management and board members at the exercise price of
$23.99 per share, the average of the high and low trading prices for the Companys common stock on
the date of the grant. A portion of this stock option grant will be vested over a three-year
period, while the balance will vest upon the Companys achievement of certain predefined
performance-based criteria.
14
Special Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended. For this purpose any statements contained herein that are not statements
of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing,
the words believes, anticipates, plans, expects and similar expressions are intended to
identify forward-looking statements. These statements involve unknown risks, uncertainties and
other factors, which may cause our actual results to differ materially from those implied by the
forward looking statements. Among the important factors that could cause actual results to differ
materially from those indicated by such forward-looking statements include those risks identified
in Item 1A-Risk Factors and other risks identified in our Form 10-K for the year ended December
31, 2007 and presented elsewhere by management from time to time. There have been no material
changes from the risk factors previously disclosed in our Form 10-K for the year ended December 31,
2007. Such forward-looking statements represent managements current expectations and are
inherently uncertain. Readers are cautioned that actual results may differ from managements
expectations.
|
|
|
Item 2. |
|
Managements Discussion and Analysis of Financial Condition and Results of Operations |
Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations is based on
our consolidated financial statements, which have been prepared in accordance with United States
generally accepted accounting principles, or U.S. GAAP.
In addition to the information provided below, you should refer to the items disclosed as our
critical accounting policies in the Part II, Item 7. Managements Discussion and Analysis of
Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the
year ended December 31, 2007.
Expense Classifications: The Companys cost of services in its statement of operations
is presented in the six categories noted below. All revenue and cost are reported under one
operating segment. A description of the primary costs included in each category being presented is
provided in the table below:
|
|
|
Line item Caption |
|
Description of Costs |
Compensation
|
|
Salary, fringe benefit, bonus and stock based
compensation costs |
|
|
|
Data processing
|
|
Hardware, software and data communication cost |
|
|
|
Occupancy
|
|
Rent, utilities, depreciation, office
equipment, repair and maintenance costs |
|
|
|
Direct project costs
|
|
Variable costs incurred from third party
providers that are directly associated with
specific revenue generating projects |
|
|
|
Other operating costs
|
|
Professional fees, temporary staffing, travel
and entertainment, insurance and local and
property tax costs |
|
|
|
Amortization of intangibles
|
|
Amortization cost of acquisition-related
software and intangible assets |
15
Current Overview
We provide a variety of cost management services for government-sponsored health and human
services programs. These services help customers recover amounts due from third parties, avoid and
reduce costs, and ensure regulatory compliance.
Our customers are State Medicaid agencies, government-sponsored managed care plans, child
support agencies, the Veterans Health Administration, the Centers for Medicare & Medicaid Services
and other public programs. We help these programs contain healthcare costs by identifying third
party insurance coverage and recovering expenditures that were the responsibility of the third
party, or that were paid in error. The identification of other insurance coverage also helps these
programs avoid future expenditures.
Our non-acquisition related revenue has grown at an average rate of approximately 17% per year
for the last five years. We anticipate that in 2008 our revenue will approximate $181 million. Our
growth has been partly attributable to the growth in Medicaid costs, which has historically
averaged approximately 7% annually. State governments also have increased their use of vendors for
coordination of benefits and other cost containment functions, and we have been able to increase
our revenue through these initiatives. Leveraging our work on behalf of state Medicaid fee for
service programs, we have begun to penetrate the Medicaid managed care market, into which more
Medicaid lives are being shifted. As of September 30, 2008, we counted 80 Medicaid managed care
plans including many of the largest in the nation as our clients. Additionally, we have
leveraged our client relationships to grow program integrity related revenue a product area
which focuses on payment accuracy services.
It should be noted that the nature of our business sometimes leads to significant variations
in revenue flow. For example, since we receive contingency fees for a significant portion of our
services, we recognize revenue only after our clients have received payment from a third party. In
addition, much of our work occurs on an annual or project-specific basis, and does not necessarily
recur monthly or quarterly, as do our operating expenses.
Three Months Ended September 30, 2008 Compared to Three Months Ended September 30, 2007
The following table sets forth, for the periods indicated, certain items in our consolidated
statements of operations expressed as a percentage of revenue:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
2008 |
|
2007 |
|
|
|
|
|
|
|
|
|
Revenue |
|
|
100.0 |
% |
|
|
100.0 |
% |
Cost of services: |
|
|
|
|
|
|
|
|
Compensation |
|
|
39.4 |
% |
|
|
38.2 |
% |
Data processing |
|
|
6.2 |
% |
|
|
7.0 |
% |
Occupancy |
|
|
5.6 |
% |
|
|
5.8 |
% |
Direct project costs |
|
|
14.9 |
% |
|
|
15.2 |
% |
Other operating costs |
|
|
9.3 |
% |
|
|
10.4 |
% |
Amortization of acquisition related intangibles |
|
|
2.5 |
% |
|
|
3.1 |
% |
|
|
|
|
|
|
|
|
|
Total cost of services |
|
|
78.0 |
% |
|
|
79.6 |
% |
|
|
|
|
|
|
|
|
|
Operating income |
|
|
22.0 |
% |
|
|
20.4 |
% |
Interest expense |
|
|
-0.8 |
% |
|
|
-1.3 |
% |
Interest income |
|
|
0.4 |
% |
|
|
0.4 |
% |
|
|
|
|
|
|
|
|
|
Income before income taxes |
|
|
21.6 |
% |
|
|
19.5 |
% |
Income taxes |
|
|
-9.1 |
% |
|
|
-8.5 |
% |
|
|
|
|
|
|
|
|
|
Net income |
|
|
12.5 |
% |
|
|
11.0 |
% |
|
|
|
|
|
|
|
|
|
16
Revenue for the three months ended September 30, 2008 was $49.0 million, an increase of $11.3
million or 29.9% compared to revenue of $37.7 million in the prior year quarter. The revenue
increase reflects the addition of new clients, changes in the yields and scope of client projects,
and differences in the timing of when client projects were completed in the current year compared
to the prior year.
Compensation expense as a percentage of revenue was 39.4% for the three months ended September
30, 2008 compared to 38.2% for the three months ended September 30, 2007 and for the current
quarter was $19.3 million, a $4.9 million or 33.8% increase over the prior year quarter expense of
$14.4 million. During the quarter ended September 30, 2008, we averaged 864 employees, a 29.9%
increase over our average of 665 employees during the quarter ended September 30, 2007. Increases
in compensation expense are partially a result of our acquisition of the business of Peer Review
Systems, Inc., doing business as Permedion (Permedion), during the fourth quarter of 2007 and the
addition of staff in the areas of customer support, operations, marketing, government relations and
administration during 2008.
Data processing expense as a percentage of revenue was 6.2% for the three months ended
September 30, 2008 compared to 7.0% for the three months ended September 30, 2007 and for the
current quarter was $3.1 million, an increase of $0.5 million or 16.4% over the prior year quarter
expense of $2.6 million. The increase resulted from a $0.2 million increase in software expense
associated with mainframe and network upgrades, a $0.2 million increase in hardware costs, and a
$0.1 million increase in computer related supplies.
Occupancy expense as a percentage of revenue was 5.6% for the three months ended September 30,
2008 compared to 5.8% for the three months ended September 30, 2007 and for the current quarter was
$2.8 million, a $0.6 million or 27.2% increase compared to the prior year quarter expense of $2.2
million. This increase reflected approximately $0.2 million of additional rent expense, $0.2
million of additional depreciation of leasehold improvements, furniture and fixtures and telephone
systems, and $0.1 million increase in each for utilities expense and loss on disposal of fixed
assets.
Direct project expense as a percentage of revenue was 14.9% for the three months ended
September 30, 2008 compared to 15.2% for the three months ended September 30, 2007 and for the
current quarter was $7.3 million, a $1.6 million or 28.0% increase compared to prior year quarter
expense of $5.7 million. This increase resulted from higher transaction volumes during the current
quarter.
Other operating costs as a percentage of revenue were 9.3% for the three months ended
September 30, 2008 compared to 10.4% for the three months ended September 30, 2007 and for the
current quarter were $4.6 million, an increase of $0.7 million or 16.1% compared to the prior year
quarter expense of $3.9 million. This increase resulted primarily from increases of $0.2 million
for travel expenses, $0.1 million for additional temporary help and consulting fees, and $0.1
million each for legal expenses and postage and delivery costs.
Amortization of acquisition-related software and intangibles as a percentage of revenue was
2.5% for the three months ended September 30, 2008 compared to 3.1% for the three months ended
September 30, 2007 and for the current quarter was $1.2 million, equivalent to prior year quarter
expense of $1.2 million.
Operating income for the three months ended September 30, 2008 was $10.8 million, an increase
of $3.1 million or 40.4%, compared to $7.7 million for the three months ended September 30, 2007
primarily due to increased revenue partially offset by incremental operating cost incurred during
the quarter ended September 30, 2008.
17
Interest expense was $0.4 million for the three months ended September 30, 2008 compared to
$0.5 million for the prior year quarter. In both periods, interest expense was attributable to
borrowings under the Term Loan and amortization of deferred financing costs. The decrease in
interest expense is due to both lower variable interest rates and a reduction in the principal
balance in the current period compared to the prior period. Interest income was $0.2 million for
the three months ended September 30, 2008, equivalent to prior year period interest income of $0.2
million.
Income tax expense of $4.4 million was recorded in the quarter ended September 30, 2008
compared to $3.2 million for the three months ended September 30, 2007, an increase of $1.2
million. Our effective tax rate decreased to 42.0% in 2008 from 43.6% for the year ended December
31, 2007 primarily due to a change in state apportionments. The Companys tax provision in 2008 is
principally a deferred provision as Federal income taxes payable have been offset by the benefit of
net operating loss carryforward from disqualifying dispositions recognized in additional paid in
capital. Additionally, the amortization of intangible assets has reduced current taxable income.
The principal difference between the statutory rate and the Companys effective rate is state
taxes.
Net income of $6.1 million in the current quarter represents an increase of $2.0 million, or
48.8%, compared to net income of $4.1 million in the prior year quarter.
Nine Months Ended September 30, 2008 Compared to Nine Months Ended September 30, 2007
The following table sets forth, for the periods indicated, certain items in our consolidated
statements of operations expressed as a percentage of revenue:
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
2008 |
|
2007 |
|
|
|
|
|
|
|
|
|
Revenue |
|
|
100.0 |
% |
|
|
100.0 |
% |
Cost of services: |
|
|
|
|
|
|
|
|
Compensation |
|
|
40.2 |
% |
|
|
38.9 |
% |
Data processing |
|
|
6.7 |
% |
|
|
6.8 |
% |
Occupancy |
|
|
6.0 |
% |
|
|
6.1 |
% |
Direct project costs |
|
|
14.9 |
% |
|
|
15.7 |
% |
Other operating costs |
|
|
10.3 |
% |
|
|
9.5 |
% |
Amortization of acquisition related intangibles |
|
|
2.7 |
% |
|
|
3.3 |
% |
|
|
|
|
|
|
|
|
|
Total cost of services |
|
|
80.8 |
% |
|
|
80.3 |
% |
|
|
|
|
|
|
|
|
|
Operating income |
|
|
19.2 |
% |
|
|
19.7 |
% |
Interest expense |
|
|
-0.9 |
% |
|
|
-1.7 |
% |
Interest income |
|
|
0.4 |
% |
|
|
0.4 |
% |
|
|
|
|
|
|
|
|
|
Income before income taxes |
|
|
18.7 |
% |
|
|
18.4 |
% |
Income taxes |
|
|
-7.9 |
% |
|
|
-8.0 |
% |
|
|
|
|
|
|
|
|
|
Net income |
|
|
10.8 |
% |
|
|
10.4 |
% |
|
|
|
|
|
|
|
|
|
Revenue for the nine months ended September 30, 2008 was $132.1 million, an increase of $27.1
million or 25.8% compared to revenue of $105.0 million in the prior year period. The revenue
increase reflects organic growth in existing client accounts, the addition of new clients, changes
in the yields and scope of client projects, and differences in the timing of when client projects
were completed in the current year compared to the prior year.
18
Compensation expense as a percentage of revenue was 40.2% for the nine months ended September
30, 2008 compared to 38.9% for the nine months ended September 30, 2007 and for the current period
was $53.1 million, a $12.2 million or 29.9% increase over the prior year period expense of $40.9
million. During the nine-month period ended September 30, 2008, we averaged 824 employees, a 29.4%
increase over our average of 637 employees during the period ended September 30, 2007. Increases
in compensation expense are partially a result of our acquisition of Permedion during the fourth
quarter of 2007 and added staff in the areas of customer support, operations, marketing, government
relations and administration during 2008.
Data processing expense as a percentage of revenue was 6.7% for the nine months ended
September 30, 2008 compared to 6.8% for the nine-months ended September 30, 2007 and for the
current period was $8.8 million, an increase of $1.7 million or 23.7% over the prior year period
expense of $7.1 million. The increase resulted from a $0.8 million increase in software expense
associated with mainframe and network upgrades, a $0.5 million increase in hardware costs, $0.2
million for network communication expenses resulting from our increased number of field offices,
and a $0.2 million increase in computer related supplies.
Occupancy expense as a percentage of revenue was 6.0% for the nine months ended September 30,
2008 compared to 6.1% for the nine months ended September 30, 2007 and for the current period was
$8.0 million, a $1.6 million or 23.9% increase compared to the prior year period expense of $6.4
million. This increase resulted primarily from increases in $0.7 million in additional depreciation
for leasehold improvements, furniture and fixtures and telephone systems, $0.5 million for
additional rent, $0.2 million for additional utilities costs, and $0.1 million each for higher
building services costs and moving expenses.
Direct project expense as a percentage of revenue was 14.9% for the nine months ended
September 30, 2008 compared to 15.7% for the nine months ended September 30, 2007 and for the
current period was $19.8 million, a $3.4 million or 20.7% increase compared to prior year period
expense of $16.4 million. This increase resulted from higher transaction volumes during the current
period.
Other operating costs as a percentage of revenue were 10.3% for the nine months ended
September 30, 2008 compared to 9.5% for the nine months ended September 30, 2007 and for the
current period were $13.6 million, an increase of $3.6 million or 36.4% compared to the prior year
period expense of $10.0 million. This increase resulted primarily from increases of $1.3 million
for additional temporary help and consulting fees, $0.7 million for travel expenses, $0.3 million
each for staff relocation expenses and legal expenses, and $0.2 million each for supplies and
printing expenses, marketing expenses, and postage and delivery costs.
Amortization of acquisition-related software and intangibles as a percentage of revenue was
2.7% for the nine months ended September 30, 2008 compared to 3.3% for the nine months ended
September 30, 2007 and for the current period was $3.5 million, equivalent to prior year period
expense of $3.5 million.
Operating income for the nine months ended September 30, 2008 was $25.3 million, an increase
of $4.6 million or 22.1%, compared to $20.7 million for the nine months ended September 30, 2007
primarily due to increased revenue partially offset by incremental operating cost incurred during
the period ended September 30, 2008.
Interest expense was $1.1 million for the nine months ended September 30, 2008 compared to
$1.7 million for the prior year period. In both periods, interest expense was attributable to
borrowings under the Term Loan and amortization of deferred financing costs. The decrease in
interest expense is due to both lower variable interest rates and a reduction in the principal
balance in the current period compared to the prior period. Interest income was $0.5 million for
the nine months ended September 30, 2008 compared to interest income of $0.4 million for the nine
months ended September 30, 2007, principally due to higher cash balances partially offset by lower
interest rates.
19
Income tax expense of $10.4 million was recorded in the period ended September 30, 2008
compared to $8.4 million for the period ended September 30, 2007, an increase of $2.0 million. Our
effective tax rate decreased to 42.0% in 2008 from 43.6% for the year ended December 31, 2007
primarily due to a change in state apportionments. The Companys tax provision in 2008 is
principally a deferred provision as Federal income taxes payable have been offset by the benefit of
net operating loss carryforward from disqualifying dispositions recognized in additional paid in
capital. Additionally, the amortization of intangible assets has reduced current taxable income.
The principal difference between the statutory rate and the Companys effective rate is state
taxes.
Net income of $14.3 million in the current period represents an increase of $3.4 million, or
31.1%, compared to net income of $10.9 million in the prior year period.
Off-Balance Sheet Financing Arrangements
We do not have any off-balance sheet financing arrangements, other than our irrevocable
standby letter of credit previously discussed, and the operating leases discussed below.
Liquidity and Capital Resources
Historically, our principal source of funds has been operations and we have had cash, cash
equivalents and short-term investments significantly in excess of our operating needs. At
September 30, 2008, our cash and cash equivalents and net working capital were $31.6 million and
$57.5 million, respectively. During the current quarter, we utilized approximately $4.0 million of
our existing cash to fund the Prudent Rx. acquisition. Although we expect that operating cash flows
will continue to be a primary source of liquidity for our operating needs, we also have a $25.0
million Revolving Credit facility available for future cash flow needs. There have been no
borrowings under the Revolving Loan, however, we have outstanding a $4.6 million irrevocable
standby letter of credit which relates to contingent, default payment obligations required by a
contractual arrangement with a client. In addition, at September 30, 2008, we had $18.9 million of
debt outstanding from the $40.0 million Term Loan originally borrowed to fund the acquisition of
BSPA in September 2006. The Term Loan requires us to make quarterly repayments of $1.575 million.
Operating cash flows could be adversely affected by a decrease in demand for our services.
The majority of our client relationships have been in place for several years, and as a result, we
do not expect any decrease in the demand for our services in the near term.
For the nine months ended September 30, 2008, cash provided by operations was $15.8 million
compared to $13.8 million in the prior year period. The current year periods difference between
net income of $14.3 million and cash provided by operations of $15.8 million was principally due to
an increase in accounts receivable of $7.4 million and a decrease in accounts payable, accrued
expenses and other liabilities of $2.7 million. These were partially offset by non-cash charges,
including depreciation and amortization expense of $8.8 million, share-based compensation expense
of $2.4 million, a decrease in prepaid expenses of $1.0 million, and an increase in our deferred
tax asset of $0.6 million. During the current year period, cash used in investing activities was
$9.7 million, reflecting $5.6 million in
investments in property, equipment and software development and the $4.0 million purchase
price paid for the acquisition of Prudent Rx. Cash provided by financing activities of $4.2 million
consisted of a $7.3 million tax benefit from disqualifying dispositions, and $1.6 million received
from stock option exercises partially offset by $4.7 million of principal payments on the Term
Loan. We anticipate that our existing cash balances and funds generated by operations will be
sufficient for all our 2008 cash needs.
20
The number of days sales outstanding (DSO) at September 30, 2008 decreased to 88 days compared
to 91 days at June 30, 2008. A substantial portion of the decrease in the current quarters DSO
levels resulted from the timing of the monthly distribution of revenue during the quarter.
At September 30, 2008, our primary contractual obligations, which consist principally of
amounts due under future lease payments and payments of principal and interest on long-term debt,
are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Primary Contractual Payments due by period |
|
|
|
|
|
|
Less than |
|
|
|
|
|
|
|
|
|
More than |
Contractual obligations |
|
Total |
|
1 year |
|
2-3 years |
|
4-5 years |
|
5 years |
|
Operating leases |
|
$ |
27,694 |
|
|
$ |
6,641 |
|
|
$ |
12,236 |
|
|
$ |
8,272 |
|
|
$ |
545 |
|
Long-term debt |
|
|
18,900 |
|
|
|
6,300 |
|
|
|
12,600 |
|
|
|
|
|
|
|
|
|
Interest expense (1) |
|
|
1,526 |
|
|
|
833 |
|
|
|
693 |
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
48,120 |
|
|
$ |
13,774 |
|
|
$ |
25,529 |
|
|
$ |
8,272 |
|
|
$ |
545 |
|
|
|
|
|
|
|
(1) |
|
Future interest payments are estimates of amounts due on our long-term debt and
credit facility at current interest rates and is based on scheduled repayments of principal. |
We have entered into sublease arrangements for some of our facility obligations and expect to
receive the following rental receipts (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than |
|
|
|
|
|
|
|
|
|
More than |
Total |
|
1 Year |
|
2-3 Years |
|
4-5 Years |
|
5 years |
$2,775 |
|
$ |
550 |
|
|
$ |
1,194 |
|
|
$ |
965 |
|
|
$ |
66 |
|
On May 28, 1997, the Board of Directors authorized us to repurchase such number of shares of
our common stock that have an aggregate purchase price not in excess of $10 million. On February
24, 2006, the Board of Directors increased the authorized aggregate purchase price by $10 million
to an amount not to exceed $20 million. During the nine months ended September 30, 2008, we made no
repurchases. Cumulatively since the inception of the repurchase program, we have repurchased
1,662,846 shares having an aggregate purchase price of $9.4 million.
Recent Accounting Pronouncements
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (SFAS 157). SFAS 157
defines fair value, establishes a framework for measuring fair value, and expands disclosures about
fair value measurements. SFAS 157 does not require any new fair value measurements, but rather
eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS 157
is effective for fiscal years beginning after November 15, 2007, with the exception of the
application of the statement to the determination of fair value of non-financial assets and
liabilities that are recognized or disclosed on a nonrecurring basis, which is effective for fiscal
years beginning after November 15, 2008.
21
SFAS 157 establishes a valuation hierarchy for disclosure of the inputs to valuation used to
measure fair value. This hierarchy prioritizes the inputs into three broad levels as follows. Level
1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities.
Level 2 inputs are quoted prices for similar assets and liabilities in active markets or inputs
that are observable for the asset or liability, either directly or indirectly through market
corroboration, for substantially the full term of the financial instrument. Level 3 inputs are
unobservable inputs based on our own assumptions used to measure assets and liabilities at fair
value. A financial asset or liabilitys classification within the hierarchy is determined based on
the lowest level input that is significant to the fair value measurement.
Effective January 1, 2008, we partially adopted SFAS No. 157 and have applied its provisions
to financial assets and liabilities that are recognized or disclosed at fair value on a recurring
basis (at least annually). We have not yet adopted SFAS 157 for non-financial assets and
liabilities, in accordance with FASB staff position 157-2, which is effective for fiscal years
beginning after November 15, 2008.
At September 30, 2008, our interest rate swap contract (see note 8 of the Notes to
Consolidated Financial Statements) was being carried at fair value and measured on a recurring
basis. Fair value is determined through the use of models that consider various assumptions,
including time value, yield curves, as well as other relevant economic measures, which are inputs
that are classified as Level 2 in the valuation hierarchy.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets
and Financial Liabilities Including an amendment of FASB Statement No. 115 (SFAS 159), which is
effective for fiscal years beginning after November 15, 2007. This statement permits entities to
choose to measure many financial instruments and certain other items at fair value. This statement
also establishes presentation and disclosure requirements designed to facilitate comparisons
between entities that choose different measurement attributes for similar types of assets and
liabilities. Unrealized gains and losses on items for which the fair value option is elected would
be reported in earnings. We have adopted SFAS 159 and have elected not to measure any additional
financial instruments and other items at fair value.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations (SFAS
141(R)), which replaces SFAS No. 141, Business Combinations. SFAS 141(R) retains the underlying
concepts of SFAS 141 in that all business combinations are still required to be accounted for at
fair value under the acquisition method of accounting but SFAS 141(R) changed the method of
applying the acquisition method in a number of significant aspects. Acquisition costs will
generally be expensed as incurred; noncontrolling interests will be valued at fair value at the
acquisition date; in-process research and development will be recorded at fair value as an
indefinite-lived intangible asset at the acquisition date; restructuring costs associated with a
business combination will generally be expensed subsequent to the acquisition date; and changes in
deferred tax asset valuation allowances and income tax uncertainties after the acquisition date
generally will affect income tax expense. SFAS 141(R) is effective on a prospective basis for all
business combinations for which the acquisition date is on or after the beginning of the first
annual period subsequent to December 15, 2008, with the exception of the accounting for valuation
allowances on deferred taxes and acquired tax contingencies. SFAS 141(R) amends SFAS 109 such that
adjustments made to valuation allowances on deferred taxes and acquired tax contingencies
associated with acquisitions that closed prior to the effective date of SFAS 141(R) would also
apply the provisions of SFAS 141(R). Early adoption is prohibited. Therefore, the impact of the
implementation of this pronouncement cannot be determined until the transactions occur.
In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161,
Disclosures about Derivative Instruments and Hedging Activitiesan amendment of FASB Statement No.
133 (SFAS No. 161). SFAS No. 161 requires enhanced disclosures about an entitys derivative and
hedging activities. Entities will be required to provide enhanced disclosures about how and why an
entity uses derivative instruments, how these instruments are accounted for, and how they affect
the entitys financial position, financial performance and cash flows. This new standard is
effective for our Company
22
as of January 1, 2009 and we are currently evaluating the impact on disclosures associated
with our derivative and hedging activities.
In April 2008, the FASB issued FSP No. FAS 142-3, Determination of the Useful Life of
Intangible Assets. This FSP amends the factors that should be considered in developing renewal or
extension assumptions used to determine the useful life of a recognized intangible asset under SFAS
No. 142, Goodwill and Other Intangible Assets (SFAS 142). The objective of this FSP is to improve
the consistency between the useful life of a recognized intangible asset under SFAS 142 and the
period of expected cash flows used to measure the fair value of the asset under SFAS 141(R), and
other GAAP. This FSP applies prospectively to all intangible assets acquired after the effective
date in fiscal 2009, whether acquired in a business combination or otherwise. Early adoption is
prohibited. Therefore, the impact of the implementation of this pronouncement cannot be determined
until the transactions occur.
Item 3. Quantitative and Qualitative Disclosures About Market Risks
We are exposed to changes in interest rates, primarily from our Term Loan, and use an interest
rate swap agreement to fix the interest rate on a portion of this variable debt and reduce certain
exposures to interest rate fluctuations. Since entering into this swap agreement, interest rates
have declined and the required payments exceed those based on current market rates on the long-term
debt. Our risk management objective in entering into such contracts and agreements is only to
reduce our exposure to the effects of interest rate fluctuations and not for speculative
investment. At September 30, 2008, we had total bank debt of $18.9 million. Our interest rate swap
effectively converted $12.0 million of this variable rate debt to fixed rate debt, leaving
approximately $6.9 million of the total long-term debt exposed to interest rate risk. If the
effective interest rate for all of our variable rate debt were to increase by 100 basis points
(1%), our annual interest expense would increase by a maximum of $69,000 based on the balances
outstanding at September 30, 2008.
Item 4. Controls and Procedures
Based on managements evaluation (with the participation of our Chief Executive Officer (CEO)
and Chief Financial Officer (CFO)), as of the end of the period covered by this report, our CEO and
CFO have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act)), are
effective to provide reasonable assurance that information required to be disclosed by us in
reports that we file or submit under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in Securities and Exchange Commission rules and forms
and is accumulated and communicated to management, including our principal executive officer and
principal financial officer, as appropriate to allow timely decisions regarding required
disclosure.
There have been no changes in our internal control over financial reporting (as defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by
this report that have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting.
23
PART II OTHER INFORMATION
Item 1A. Risk Factors
There have been no material changes from the risk factors previously disclosed in our Annual
Report on Form 10-K for the year ended December 31, 2007. In addition to the other information set
forth in this report, you should carefully consider the risk factors discussed in Part I, Item 1A.
Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2007, which could
materially affect our business, financial condition or future results. The risks described in our
Annual Report on Form 10-K, are not the only risks facing our Company. Additional risks and
uncertainties not currently known to us, or that we currently deem to be immaterial, may also
materially adversely affect our business, financial condition and/or operating results.
Item 6. Exhibits
|
|
|
31.1
|
|
Certification pursuant to Item 601(b)(31) of Regulation S-K, as
adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002,
executed by Robert M. Holster, Chief Executive Officer of HMS
Holdings Corp. |
|
|
|
31.2
|
|
Certification pursuant to Item 601(b)(31) of Regulation S-K, as
adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002,
executed by Walter D. Hosp, Chief Financial Officer of HMS Holdings
Corp. |
|
|
|
32.1
|
|
Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002, executed by Robert
M. Holster, Chief Executive Officer of HMS Holdings Corp. |
|
|
|
32.2
|
|
Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002, executed by Walter
D. Hosp, Chief Financial Officer of HMS Holdings Corp. |
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned thereunto duly authorized.
|
|
|
|
|
Date: November 7, 2008 |
HMS HOLDINGS CORP.
(Registrant)
|
|
|
By: |
/s/ Robert M. Holster
|
|
|
|
Robert M. Holster |
|
|
|
Chief Executive Officer
(Principal Executive Officer) |
|
|
|
|
|
|
|
By: |
/s/ Walter D. Hosp
|
|
|
|
Walter D. Hosp |
|
|
|
Chief Financial Officer (Principal
Financial Officer and Accounting Officer) |
|
25
Exhibit Index
|
|
|
Exhibit |
|
|
Number |
|
Description |
|
31.1
|
|
Certification pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002, executed by Robert M. Holster, Chief Executive Officer of HMS Holdings Corp. |
|
|
|
31.2
|
|
Certification pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002, executed by Walter D. Hosp, Chief Financial Officer of HMS Holdings Corp. |
|
|
|
32.1
|
|
Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002, executed by Robert M. Holster, Chief Executive Officer of HMS Holdings Corp. |
|
|
|
32.2
|
|
Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002, executed by Walter D. Hosp, Chief Financial Officer of HMS Holdings Corp. |
26