Richard Zubek - IR Lisa Im - CEO Hakan Orvell - CFO.

Michael Tarkan - Compass Point.

Welcome to the Performant Financial First Quarter 2017 Earnings Conference Call. As a reminder, all participants are in a listen-only mode and the conference is being recorded. After the presentation, there will be an opportunity to ask questions. [Operator Instruction]. I would now like to turn the conference over to Richard Zubek, Investor Relations.

Please go ahead, Mr. Zubek..

Thank you, operator. Good afternoon, everyone. By now, you should have received a copy of the earnings release for the company's first quarter 2017 results. If you have not, a copy is available on our website, www.performantcorp.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 risks and uncertainties including those 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 table attached to our press release. I would now like to turn the call over to Lisa Im.

Lisa?.

Thank you, Rich. Good afternoon, everyone, and thank you for joining us for our earnings call. We are off to a solid start during a pivotal year, as we continue to focus on our diversification of revenue, continuous improvements in productivity and management of expenses. We are in a very early start-up stage of the IRS and CMS contract.

Our commercial healthcare KPIs are growing according to plan. Our customer care business continued to grow above plan. And student loan business, excluding the Department of Education, is growing, as we gained share with a couple of large Guaranty Agency clients. Q1 revenue in EBITDA, were $33.1 million and $2.8 million, respectively.

With this, we are reiterating our guidance for 2017 revenue and EBITDA in the ranges of $125 million to $145 million, and $10 million to $13 million, respectively.

Overall Q1 revenue declined $5.2 million versus prior year, largely due to the wind down of placements from the Department of Education contract, and to a lesser extent, the gap between wind down of the old CMS Region A and start-up of the new Region 1 and Region 5 contract. Operating expenses were lower than prior year by $600,000 or about 2%.

As we look specifically at the key markets, total student lending revenues were $24.5 million, which is down $5.1 million versus prior year. We had moderate growth from other clients of $600,000 but this was offset by the ED run-off.

Healthcare revenues of $1.6 million is down versus prior year by $1.1 million, due to the prior recovery audit contract end. Revenues from other operations was $6.9 million, up $1 million from prior year and $2.8 million, sequentially.

As we stated in our Q4 earnings call, we are encouraged by the continued growth in this business as we progress in 2017. With that, I'd like to turn the call over to Hakan to walk you through the financials.

Hakan?.

Thank you, Lisa, and good afternoon, everyone. Today we're reporting results for the first quarter with revenues of $33.1 million, net loss of $3 million, or $0.06 per share and adjusted EBITDA of $2.8 million. Beginning with our student lending business.

Revenues totaled $24.5 million, a decrease of $5.1 million compared to the first quarter of last year. During the quarter, the Department of Education accounted for $1.7 million of revenues, while Guaranty Agencies generated $22.9 million.

These amounts represent declines of $5.7 million and an increase of $0.6 million, respectively, when compared to the first quarter of 2016.

The decrease in our student lending revenues is largely a reflection of the company not being a primary vendor on the Department of Education contract and that we haven't received new student loan placements from the Department since April 2016.

As it relates to our protest of the Department of Education contract award, the GAO issued its decision in late March sustaining both of our protest. It is still unclear what remedial action the DOE will take that the GAO determined that the process was fraud [ph] and recommended that the DOE, at a minimum reevaluate RFP process.

Regardless even with a very near-term contract award, we would not anticipate this contract to have a material impact on our 2017 results. With respect to our Guaranty Agency results, we benefited primarily from strong placement volumes that were received in the middle of last year.

Student loan placements during the first quarter of 2017 totaled $0.7 billion, up from $0.6 billion in the first quarter of 2016. Our healthcare revenues in the first quarter were $1.6 million compared to $2.7 million in the first quarter of last year.

Revenue from our work with the Centers of Medicare and Medicaid was $0.1 million, down from $1.2 million in the prior year period. And our commercial healthcare business generated revenues of $1.6 million, an increase from the first quarter of 2016, where we generated $1.5 million.

Lastly our other markets generated revenue of $6.9 million in the first quarter compared to $5.9 million in the prior year period. Both our CMS contracts, as well as the contract with IRS, are still in the early stages of implementation. We expect that the audience scope would initially be limited on these contracts.

However longer term, we believe that these three contracts will contribute materially to our overall results. Moving to our expenses. Salaries and benefit expense in the first quarter was $20.7 million, a decrease of 3% compared to $21.3 million in the prior year period.

Other operating expense for the quarter was $13.4 million, a decrease of 6.4% compared to the first quarter of 2016, primarily due to reduction in volume-related costs and other completed cost reduction initiatives.

We remain committed to improving our productivity, executing on our business development initiatives and thoughtfully engaging in expense restructuring. For the first quarter 2017, our reported net loss was $3 million or $0.06 per diluted share, compared to a net loss of $0.1 million or $0.00 per diluted share in the prior year period.

Adjusted net loss in the first quarter was $1.9 million or $0.04 per diluted share, compared to an adjusted net income of $2 million, or $0.04 per share in the prior year period. Fully diluted weighted average outstanding shares were 50.3 million shares in the first quarter of 2017.

Our adjusted EBITDA in the first quarter was $2.8 million compared to $7.4 million in the same period last year. Adjusted EBITDA margin was 15.1%. Our effective income tax rate changed to negative 12.3% for the three months ended March 31, 2017, from 47.7% for the three months ended March 31, 2016.

Our effective tax rate is largely impacted by the company being closer to breakeven and the impact of permanent differences and state taxes, which creates the fluctuations we are seeing over the past quarters. Cash flows from operating activities in the first quarter were $0.4 million. Turning to the balance sheet.

As of March 31, 2017, we had cash and cash equivalents of $27 million and our total outstanding debt was $51.8 million, reflecting our continued focus on paying down our long-term debt.

Lastly, as we mentioned last quarter, the company initiated a process of evaluating our options as it relates to the refinancing of our debt that becomes due in March of 2018.

As we do not yet have anything to announce in this regard, we have entered into a 90-day extension of our current facility, which extends the loan maturity to June 2018 and we have also paid down an additional $7.5 million on our outstanding loan balance. This extension provides us additional flexibility to pursue the best available options.

Now I'll turn the call back to Lisa for some concluding remarks..

Thanks Hakan. Our strong performance for our student loan clients allowed us to gain market share, which resulted in strong Q1 placements of $683 million, which is up 17% versus Q1 of 2016. This will benefit the latter part of 2017 and early 2018. We also won a recomplete of the Treasury contract.

It's a five-year term broken into annual renewal similar to most other federal contracts. We are the only vendor to assert on this contract since its inception in 1997. We also completed preparations for, and in April, began the start-up of the IRS recovery contracts and both Region 1 and region 5 CMS recovery audit contracts.

While in very early stages, we believe these will be strong long-term programs. And in a time when Federal Government Agencies are looking for ways to reduce expenses, these programs achieve that objective through generating returns with a success fee based structure.

The IRS program is a pay for in the Highway Transportation Bill, which targets a $2.4 billion return to the government within a 10-year timeframe.

With regard to the CMS contract, we continue to be cautiously optimistic that a methodical restart can be a platform to higher audit limit, given the estimated 11% error rates for total Medicare spending and 46.3% error rate with Durable Medical Equipment according to the CMS report.

Operationally we continue to make progress on enhancing productivity across all of our businesses. Our healthcare operational KPIs are on plan target, and in addition to launching the CMS RAC operation, we also launched 10 new healthcare audit programs with current customers.

For the balance of 2017, our focus will be to accelerate commercial client implementation, further operationalize and expand RAC audit scope and launch several new products in the current customer base.

In our customer care operation, we will continue to execute on the existing contracts but we are also working toward increasing our customer base from the commercial market. As you know, the GAO sustained our protest on the Department of Education contract.

Since then other companies have filed suit against the Department of Education related to the old contract and to the procurement process. The court issued a preliminary injunction which runs through close of business on May 22, 2017, at which time there should be some kind of progress update. With that, I'd like to open up the call for questions..

Thank you. We will now begin the question-and-answer session. [Operator Instructions]. We will pause for a moment while callers join the queue. The first question is from Michael Tarkan of Compass Point. Please go ahead..

Thank you. Just regarding the CMS RAC contracts and IRS contract. I know that you have the expense build up coming on now.

But at what point do we - should we expect revenues to start kicking in on those two contracts more meaningful? Hello?.

Pardon me. I had muted the presenters' line. My apologies. One moment please, standby. Thank you for your patience. My sincere apologies regard to open your line backup. Please go ahead..

Thank you. I'm not sure if my actual question went through. But just regarding the IRS on CMS RAC contracts, I'm just wondering when we can expect revenues to start picking up? I know the expenses are coming on now but just when those revenue going to start picking up more meaningfully? Thanks..

Yes. Hi Mike. Before we respond to your question, just wanted to make two corrections from my opening remarks. First our adjusted EBITDA percentage was stated as 15.1%. The correct number is 8.6%. Secondly we stated that operating expenses decreased by $600,000 or 2%. The actual decrease is $1.5 million or 4%, so just wanted to state that first..

With respect to when we should start seeing revenue, Mike.

We obviously had - we are just in the early stages but we should start seeing revenue for both contracts materialize as we head into the latter part of third quarter and certainly fourth quarter, keeping in mind that there is - at least for the CMS RAC contracts, there is going to be five to six month delay in revenue recognition.

So the revenues for this year are softer than obviously as we roll into 2018. With the IRS, we just started. So they started with very low volume and want to make sure the program is right, but the intent is, assuming all goes well, that there will be materially increases in the folks who more or less contract over the next few months.

So we should certainly learn more as we get through this quarter and we can provide more information about how we think that's shaping up as we move through the first few months of both contracts. But we do expect revenue in the fourth quarter of this year..

Okay, thanks. And then just a follow-up on the RAC side.

I know it's early but any sense for the magnitude of the revenues coming through maybe in 2018? Are we talking about looking back at 2016 at $6 million or so from CMS, or how quickly can we get back to something more material than that?.

Well, I think we have to think about them as two entirely separate contracts. So if you think about the landscape of complex care auditing for regular regions, again it just depends - our expectation for revenue will depend on how quickly CMS ramps up our ability to audit the percentage of provider claims.

If you look at the national durable medical equipment and home, health and hospice contract, the entities that we are auditing are actually not providers. They are suppliers.

So we are currently in the process of trying to work with CMS to understand how quickly we can ramp on that particular contract, which we think is very different from clearly auditing hospitals and healthcare facilities. So at this time, we are still working with them.

But if you look back on the old recovery audit contract, keeping in mind, those audits medical equipments and home health and hospice design includes short-day issue [ph], which was an issue in the old contract. So this is a bit, I would say, quite simpler form of audit.

And in the old contract, I think without a lot of effort, there was probably close to 15-plus - maybe $20 million or so in revenues per year. So we are obviously - we can't give you an estimate of what we think 2018 is.

But we do think that they are two very different contracts and the combination will be something that we look to assess as we walk down the path here..

Okay.

On expenses, how much flexibility do you have to still limit the expense growth? And in conjunction with that, do you have the ability to preserve adjusted EBITDA or EBITDA being positive while you ramp these contracts on a quarterly basis?.

Yes. Mike, we are being very mindful. As you know, as we've been in the past as well, in being very careful as we ramp up costs associated with new contracts and really look to align them to the extent possible with the revenue coming in.

So that's definitely our target as we look at things going forward to again control the costs to the extent possible there..

Okay.

I guess just more specifically, do you expect EBITDA to stay positive as we move through '17 on a quarterly basis and even into '18, assuming no changes to the Ed collection contract?.

As we are looking at it right now, yes..

Okay. And then, I guess, my last question is, I know the trend with the Department of Education is certainly encouraging. I guess, how much - and I know you're trying to be patient here, but how long can you afford to wait on the Department of Education before really starting to look at maybe strategic alternatives for the company? Thank you..

Well, I think as we stated, we actually should know probably a lot more in the very near future.

You've been following - I'm sure you've read through all the different court arguments and where the protests are, and Department of Education from what we had understood from publicly reported sources are supposed to come up with a mitigation or a remediation plan by May 22.

So I think we are going to have - we obviously want to wait and see what that is. But at the board level, we are always discussing what the strategy for the company should be relative to capital structure. So as with many other public companies, it is an ongoing discussion that we have at board level..

Fair enough..

[Operator Instructions]. There appear to be no further questions. I'll turn the call back over to management for closing remarks..

Thank you. As we've actually discussed in the past that our company culture, we've building on intense client focus and we do strive to provide our best value performance to our clients. You can see some of that evidenced in the share gains that we've had in quarter one.

And as we think about the go-forward strategy on IRS and other contracts, it's also very important for us to engage constructively with consumers, which we think is a part of a very healthy program. Through these efforts, we believe we can continue to strengthen our competitive advantage.

As we go through this year, we'll continue to focus on innovation and technology, people and process, and of course compliance, in order to continue to build our business across all of our practices.

And before we go, I want to again thank our clients for letting us serve you, and thank our employees for bringing your best efforts to our organization. And thank you for being with us today..

Ladies and gentlemen, this concludes today's conference call. You may disconnect your lines. Thank you for participating and have a pleasant day..