NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2020 and 2019
(unaudited)
1. Business and Summary of Significant Accounting Policies
(a) Business
The terms “HMS,” “Company,” “we,” “us,” and “our” refer to HMS Holdings Corp. and its consolidated subsidiaries unless the context clearly indicates otherwise. HMS is an industry-leading provider of cost containment and analytical solutions in the healthcare marketplace. Our mission is to make healthcare work better for everyone. We use data, technology and analytics to deliver payment accuracy and population health management solutions that help healthcare organizations reduce costs, improve health outcomes and enhance consumer experiences. We currently operate as one business segment with a single management team that reports to the Chief Executive Officer.
The Consolidated Financial Statements and accompanying Notes in this Form 10-Q are unaudited. Accordingly, they do not include all of the information and notes required by generally accepted accounting principles (“U.S. GAAP”) for complete financial statements. The results reported in these unaudited Consolidated Financial Statements are not necessarily indicative of the results that may be expected for any subsequent interim period or the entire year. These unaudited Consolidated Financial Statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 (“2019 Form 10-K”). The consolidated balance sheet as of December 31, 2019 included herein was derived from audited financial statements, but does not include all disclosures required by U.S. GAAP.
The preparation of the Company’s unaudited Consolidated Financial Statements requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent liabilities at the date of the unaudited Consolidated Financial Statements and the reported amounts of revenue and expenses during the reporting periods. Actual results could differ from those estimates. These estimates and assumptions were considered and made in context with the information reasonably available to the Company and the unknown future impacts of the novel coronavirus (COVID-19) as of September 30, 2020 and through the date of this Form 10-Q. The statements include all adjustments (which include only normal recurring adjustments, except as disclosed) that management considers necessary to present a fair statement of the Company’s results for such interim periods.
These unaudited Consolidated Financial Statements include HMS accounts and transactions and those of the Company’s wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.
(b) Summary of Significant Accounting Policies
There have been no material changes to the Company’s significant accounting policies that are referenced in the 2019 Form 10-K.
Recently Adopted Accounting Pronouncements
In June 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2016-13, Financial Instruments – Credit Losses (“ASU 2016-13”). ASU 2016-13 introduces the current expected credit losses methodology for estimating allowances for credit losses. ASU 2016-13 applies to all financial instruments carried at amortized cost and off-balance-sheet credit exposures not accounted for as insurance, including loan commitments, standby letters of credit, and financial guarantees. The new accounting standard does not apply to trading assets, loans held for sale, financial assets for which the fair value option has been elected, or loans and receivables between entities under common control. ASU 2016-13 is effective for public entities for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company adopted this guidance on January 1, 2020. When developing an estimate of the Company's expected credit losses, the Company considers all relevant information regarding the collectability of cash flows including historical information, customers' credit history and current financial conditions, industry trends and reasonable and supportable forecasts of future economic conditions over the contractual life of the receivable. The adoption of this guidance did not have a material effect on the Company’s consolidated financial statements.
In August 2018, the FASB issued ASU 2018-15, Intangibles - Goodwill and Other - Internal Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract ("ASU 2018-15"). The standard aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal use software. ASU 2018-15 is effective for public business entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. The Company adopted this guidance on January 1, 2020. The adoption of this guidance did not have a material effect on the Company’s consolidated financial statements.
In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurements ("ASU 2018-13"). The objective of the ASU is to improve the disclosures related to fair value measurement by removing, modifying, or adding disclosure requirements related to recurring and non-recurring fair value measurements. ASU 2018-13 is effective for public business entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. The Company adopted this guidance on January 1, 2020. The adoption of this guidance did not have a material effect on the Company’s consolidated financial statements.
Recently Issued Accounting Pronouncements Not Yet Adopted
In December 2019, the FASB issued ASU No. 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes ("ASU 2019-12"). The guidance eliminates certain exceptions related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period, and the recognition of deferred tax liabilities for outside basis differences related to changes in ownership of equity method investments and foreign subsidiaries. The guidance also simplifies aspects of accounting for franchise taxes and enacted
changes in tax laws or rates, and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill. ASU 2019-12 is effective for public business entities for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years. Early adoption is permitted, including adoption in any interim period for which financial statements have not been issued. This guidance is not expected to have a material impact on the Company’s financial position, results of operations or internal control framework.
In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting ("ASU 2020-04"). The objective of ASU 2020-04 is to provide optional expedients and exceptions for applying U.S. GAAP to contracts, hedging relationships and other transactions that reference LIBOR or another reference rate expected to be discontinued because of reference rate reform. The guidance is effective for all entities as of March 12, 2020 through December 31, 2022. The Company is evaluating the impact, but does not expect this guidance to have a material impact on the Company’s consolidated financial statements.
2. Revenue Recognition
The Company’s revenue disaggregated by solution for the three and nine months ended September 30, 2020 and 2019 was as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
Nine Months Ended
September 30,
|
|
2020
|
|
2019
|
2020
|
|
2019
|
Coordination of Benefits
|
$
|
113,870
|
|
|
$
|
94,619
|
|
$
|
338,661
|
|
|
$
|
305,564
|
|
Payment Integrity
|
37,987
|
|
|
37,016
|
|
101,704
|
|
|
113,863
|
|
Population Health Management
|
13,379
|
|
|
15,180
|
|
38,937
|
|
|
43,523
|
|
Total
|
$
|
165,236
|
|
|
$
|
146,815
|
|
$
|
479,302
|
|
|
$
|
462,950
|
|
Coordination of benefits revenue is derived from contracts with state governments, Medicaid managed care plans, and commercial entities that can span years with the option to renew. Types of service contracts could include: (a) the identification of erroneously paid claims; (b) the delivery of verified commercial insurance coverage information; (c) the identification of paid claims where another third party is liable; and (d) the identification and enrollment of Medicaid members who have access to employer insurance. Most of these types of service contracts contain multiple promises, all of which are not distinct within the context of the contract. Therefore, the promises represent a single, distinct performance obligation for the types of services we offer. Revenue derived from these performance obligations is largely based on variable consideration where, based on the number of claims or amount of findings the Company identified, a contingent or fixed transaction price/recovery percentage is allocated to each distinct performance obligation. The Company utilizes the expected value method to estimate the variable consideration related to the transaction price for its service contracts. Key inputs and assumptions in determining variable consideration include identified pricing and expected recoveries and/or savings. The expected recoveries and/or savings are based on historical experience of information received from our customers. Revenue is primarily recognized at a point in time when our customers realize economic benefits from our services when our services are completed. However, we have a limited number of fixed fee arrangements where revenue is recognized over time as performance obligations are satisfied within one to three years. Generally, coordination of benefit contract payment terms are not standardized
within the respective contract; however, payment is typically due on demand and there is a clear and distinct history of customers making consistent payments.
Payment integrity services revenue is derived from contracts with federal and state governments, commercial health plans and other at-risk entities that can span years with the option to renew. Types of service contracts could include: (a) services designed to ensure that healthcare payments are accurate and appropriate; and (b) the identification of over/under payments or inaccurate charges based on a review of medical records. Most of these types of service contracts contain multiple promises, all of which are not distinct within the context of the contract. Therefore, the promises represent a single, distinct performance obligation for the types of services we offer. Revenue derived from these performance obligations is largely based on variable consideration where, based on the amount of recovery findings the Company identifies, a contingent or fixed transaction price/recovery percentage is allocated to each distinct performance obligation. The Company utilizes the expected value method to estimate the variable consideration related to the transaction price for its service contracts. Key inputs and assumptions in determining variable consideration include identified pricing and expected recoveries and/or savings. The expected recoveries and/or savings are based on historical experience of information received from our customers. Revenue is primarily recognized at a point in time when our customers realize economic benefits from our services when our services are completed. However, we have a limited number of fixed fee arrangements where revenue is recognized over time as performance obligations are satisfied within one to three years. Generally, payment integrity contract payment terms are not standardized within the respective contract; however, invoice payment is typically due on demand and there is a clear and distinct history of customers making consistent payments.
Payment accuracy revenue consists of revenue for our coordination of benefits and payment integrity services.
Population health management revenue is derived from contracts with health plans and other risk-bearing entities that can span years with the option to renew. Types of service contracts could include: (a) programs designed to improve member engagement; and (b) outreach services designed to improve clinical outcomes. Most of these types of service contracts contain multiple promises, all of which are not distinct within the context of the contract. Therefore, the promises represent a single, distinct performance obligation for the types of services we offer. Revenue derived from these services is largely based on consideration associated with prices per order/transfer and PMPM/PMPY fees. The Company believes the output method is a reasonable measure of progress for the satisfaction of our performance obligations, which are satisfied over time, as it provides a faithful depiction of (1) our performance toward complete satisfaction of the performance obligation under the contract and (2) the value transferred to the customer of the services performed under the contract. The Company has elected the right to invoice practical expedient for recognition of revenue related to its performance obligations when the amount we have the right to invoice the customer corresponds directly with the value to the customer. Additionally, we have a limited number of fixed fee arrangements where revenue is recognized over time as performance obligations are satisfied within one to three years. Generally, population health management contract payment terms are stated within the contract and are due within an explicitly stated time period (e.g., 30, 45, 60 days) from the date of invoice. A portion of the payment received may relate to future performance obligations and will result in an increase to deferred revenue until the obligation has been met.
The Company's accounts receivable balance is net of estimated variable consideration of $16.6 million and $17.1 million as of September 30, 2020 and December 31, 2019, respectively, related to revenue recognized based on expected recoveries and/or savings.
The Company’s revenue disaggregated by market for the three and nine months ended September 30, 2020 and 2019 was as follows (in thousands):
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
Nine Months Ended
September 30,
|
|
2020
|
|
2019
|
2020
|
|
2019
|
Commercial
|
$
|
87,001
|
|
|
$
|
69,711
|
|
$
|
250,064
|
|
|
$
|
225,014
|
|
State
|
62,233
|
|
|
62,830
|
|
195,046
|
|
|
189,752
|
|
Federal
|
16,002
|
|
|
14,274
|
|
34,192
|
|
|
48,184
|
|
Total
|
$
|
165,236
|
|
|
$
|
146,815
|
|
$
|
479,302
|
|
|
$
|
462,950
|
|
A portion of the Company’s services are deferred and revenue is recognized at a later time. Deferred revenue was approximately $6.9 million and $4.2 million as of September 30, 2020 and December 31, 2019, respectively, and is included in Accounts payable, accrued expenses and other liabilities in the Consolidated Balance Sheets. Approximately $3.1 million of the December 31, 2019 balance was recognized in revenue during the nine months ended September 30, 2020.
Contract modifications are routine in nature and often done to account for changes in the contract specifications or requirements. In most instances, contract modifications are for services that are not distinct, and, therefore, modifications are accounted for as part of the existing contract. The Company has elected to use the practical expedient to expense the incremental costs of obtaining a contract if the amortization period of the asset that the Company would have otherwise recognized is one year or less.
In connection with coordination of benefits and certain payment integrity services, lockboxes and their associated bank accounts are set up to support recoveries and remittances. Generally, these bank accounts are for the benefit of the Company’s customers. Customer cash held in Company bank accounts for the benefit of the customer was approximately $19.4 million and $21.9 million as of September 30, 2020 and December 31, 2019, respectively. This amount is included in cash and cash equivalents and other current liabilities on the accompanying Consolidated Balance Sheet.
3. Acquisitions
(a)Accent
On December 23, 2019, HMS acquired West Claims Recovery Services, LLC (“Accent”), a payment accuracy and cost containment business, for aggregate consideration of cash in the amount of $157.6 million, net of post-closing adjustments, which was funded through cash on hand. Estimates and assumptions for which the Company is still obtaining or evaluating information are subject to change up to one year from the acquisition date as additional information becomes available and adjustments may require a change in the amounts allocated to goodwill during the periods in which the adjustments are determined. As of September 30, 2020, HMS has not finalized the determination of fair values allocated to various assets and liabilities, including, but not limited to: receivables; accounts payable; and goodwill.
The intangible assets are valued using various methods which require several judgments, including growth rates, discount rates, customer attrition rates, and expected levels of revenues, earnings, cash flows and tax rates. The intangible assets are amortized over their estimated useful lives on a straight-line basis. Goodwill was determined based on the difference between the purchase price and the fair values of the tangible and intangible assets acquired. Goodwill recognized from the acquisition was the result of synergies to be realized from future revenue growth. Goodwill is deductible for tax purposes, has an indefinite useful life and will be included in the Company’s annual impairment testing or between annual tests if an indicator of impairment exists.
The preliminary allocation of the purchase price to the fair value of the assets acquired and the liabilities assumed as of December 23, 2019, the effective date of the acquisition, as adjusted during the nine months ended September 30, 2020, is as follows (in thousands):
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
9,916
|
|
Accounts receivable
|
11,485
|
|
Prepaid expenses
|
129
|
|
Property and equipment
|
2,878
|
|
Intangible assets
|
68,400
|
|
Goodwill
|
76,755
|
|
Other assets
|
489
|
|
Accounts payable and accrued liabilities
|
(12,431)
|
|
|
|
|
|
Total purchase price
|
$
|
157,621
|
|
As of the nine months ended September 30, 2020, the Company made refinements to the December 23, 2019 preliminary purchase price allocation as reported at December 31, 2019. These refinements, primarily related to working capital, resulted in an increase in accounts receivable of $2.3 million, an increase in cash and cash equivalents of $0.5 million, a decrease in accounts payable and accrued liabilities of $1.0 million, a decrease in goodwill of approximately $4.8 million and an overall decrease in the total consideration paid due to post-closing adjustments of $1.0 million. Substantially all the receivables acquired are expected to be collectible.
The purchase price allocated to the intangible assets acquired was as follows (in thousands, except for useful life):
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|
|
|
|
|
|
|
|
|
|
|
|
Useful Life
(in years)
|
|
|
Customer relationships
|
12
|
|
$
|
67,000
|
|
|
|
|
|
Trade name
|
3
|
|
1,400
|
|
|
|
|
|
Fair value of intangibles acquired
|
|
|
$
|
68,400
|
|
We incurred $2.1 million of acquisition related costs related to the Accent acquisition for the year ended December 31, 2019. The costs include consulting, legal and transaction costs, and have been recorded in selling, general and administrative expenses.
The financial results of Accent's operations since the date of acquisition have been included in the Company’s consolidated financial statements. For the three and nine months ended September 30, 2020, Accent contributed approximately $10.8 million and $32.4 million in revenue to HMS's results of operations, respectively.
(b) VitreosHealth
On September 16, 2019, HMS acquired VitreosHealth, Inc. ("VitreosHealth"), a company that offers predictive and prescriptive health insights utilized by population risk models, for aggregate consideration of $36.6 million, which was funded with cash on hand. The purchase price was subject to certain post-closing purchase price adjustments and the initial purchase price allocation as of the date of acquisition was based on a preliminary valuation.
The Company's allocation of consideration exchanged to the net tangible and intangible assets acquired and liabilities assumed in the acquisition is based on estimated fair values as of September 16, 2019. The Company allocated the purchase price, net of cash acquired, to the following significant assets: intellectual property subject to amortization of $6.0 million, and goodwill of $30.2 million which represents the excess purchase price over the net identifiable tangible and intangible assets. There were no additional material allocations to assets and liabilities. The intangible assets are valued using various methods which require several judgments, including growth rates, discount rates, expected levels of revenues, earnings, cash flows and tax rates. The intangible assets are amortized over their estimated useful lives on a straight-line basis and are not expected to be deductible for tax purposes. The goodwill recognized from the acquisition was a result of expected synergies to be realized from future revenue growth, is not expected to be deductible for tax purposes, has an indefinite useful life and will be included in the Company’s annual impairment testing.
The results of VitreosHealth's operations since the date of acquisition have been included in the Company's consolidated financial statements and are not considered material.
4. Intangible Assets, Goodwill and Other Assets
(a) Intangible Assets
Intangible assets consisted of the following (in thousands, except for weighted average amortization period):
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross Carrying Amount
|
|
Accumulated
Amortization
|
|
Net Carrying Amount
|
|
Weighted Average Amortization Period in Years
|
September 30, 2020
|
|
|
|
|
|
|
|
Customer relationships
|
$
|
125,423
|
|
|
$
|
(18,968)
|
|
|
$
|
106,455
|
|
|
11.3
|
Trade names
|
1,400
|
|
|
(361)
|
|
|
1,039
|
|
|
2.2
|
Intellectual property
|
27,700
|
|
|
(14,439)
|
|
|
13,261
|
|
|
3.5
|
Total
|
$
|
154,523
|
|
|
$
|
(33,768)
|
|
|
$
|
120,755
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross Carrying Amount
|
|
Accumulated
Amortization
|
|
Net Carrying Amount
|
|
Weighted Average Amortization Period in Years
|
December 31, 2019
|
|
|
|
|
|
|
|
Customer relationships
|
$
|
135,290
|
|
|
$
|
(21,637)
|
|
|
$
|
113,653
|
|
|
12.1
|
Trade names
|
1,536
|
|
|
(147)
|
|
|
1,389
|
|
|
3.0
|
Intellectual property
|
27,700
|
|
|
(10,893)
|
|
|
16,807
|
|
|
3.7
|
Total
|
$
|
164,526
|
|
|
$
|
(32,677)
|
|
|
$
|
131,849
|
|
|
|
Amortization expense of intangible assets is expected to approximate the following (in thousands):
|
|
|
|
|
|
Year ending December 31,
|
Amortization
|
2020 (excluding the nine months ended September 30, 2020)
|
$
|
3,562
|
|
2021
|
14,247
|
|
2022
|
14,235
|
|
2023
|
11,405
|
|
2024
|
10,330
|
|
Thereafter
|
66,976
|
|
Total
|
$
|
120,755
|
|
For the three months ended September 30, 2020 and 2019, amortization expense related to intangible assets was $3.7 million and $2.3 million, respectively.
For the nine months ended September 30, 2020 and 2019, amortization expense related to intangible assets was $11.1 million and $7.0 million, respectively.
(b) Goodwill
As a result of adjustments relating to the Accent acquisition, the changes in the carrying amount of goodwill were as follows (in thousands):
|
|
|
|
|
|
|
|
Balance at December 31, 2019
|
$
|
599,351
|
|
Accent acquisition - Adjustment
|
(4,790)
|
|
Balance at September 30, 2020
|
$
|
594,561
|
|
(c) Other Assets
Included in Other assets is a Level 1 investment in equity securities with a cost basis of $7.4 million. As of September 30, 2020 and December 31, 2019, the fair value measurement of the equity instrument was $9.6 million and $7.9 million, respectively. There were no sales, settlements issuances or transfers related to this level 1 instrument.
The Company recorded a net unrealized loss of $1.2 million and an unrealized gain of $1.7 million for the three and nine months ended September 30, 2020, respectively. There were no realized or unrealized gains in the three and nine months ended September 30, 2019. These gains and losses are reflected as a component of Other (expense)/income in the accompanying Consolidated Statements of Income.
During the three months ended September 30, 2019, a third party acquired one hundred percent of the outstanding stock of InstaMed Holdings, Inc. ("InstaMed") including the Company's cost based investment in Instamed of $2.1 million. As a result, the Company received proceeds of $9.8 million from the sale of the investment and recognized a $7.7 million gain in other income for the three and nine months ended September 30, 2019.
5. Accounts Payable, Accrued Expenses and Other Liabilities
Accounts payable, accrued expenses and other liabilities consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30,
2020
|
|
December 31,
2019
|
Accounts payable, trade
|
$
|
18,190
|
|
|
$
|
12,246
|
|
Accrued compensation and other
|
27,261
|
|
|
36,827
|
|
Accrued operating expenses
|
42,035
|
|
|
42,045
|
|
Current portion of lease liabilities
|
6,470
|
|
|
6,629
|
|
Total accounts payable, accrued expenses and other liabilities
|
$
|
93,956
|
|
|
$
|
97,747
|
|
6. Income Taxes
The Company’s effective tax rate increased to 20.8% for the nine months ended September 30, 2020 from 12.6% for the nine months ended September 30, 2019. The effective tax rate for the nine months ended September 30, 2020 includes discrete tax benefits primarily related to a prior year R&D credit true-up and net equity compensation deductions. For the nine months ended September 30, 2020, the differences between the federal statutory rate and our effective tax rate are tax expense items related to state taxes, equity compensation impacts, unrecognized tax benefits, including interest, officer compensation deduction limits, research and development tax credits, and other permanent differences. The Company has current period foreign income tax expense and includes global intangible low-taxed income as current period income tax expense, both of which are not material to the overall financial statements.
Included in Other liabilities on the Consolidated Balance Sheets, are the total amount of unrecognized tax benefits (net of the federal benefit for state issues) of approximately $5.3 million and $4.2 million, as of September 30, 2020 and December 31, 2019, respectively, that, if recognized, would favorably affect the Company’s future effective tax rate. Also included in Other liabilities on the Consolidated Balance Sheets, are accrued liabilities for interest expense and penalties related to unrecognized tax benefits of $0.9 million and $0.7 million as of September 30, 2020 and December 31, 2019, respectively. HMS includes interest expense and penalties in the provision for income taxes in the unaudited Consolidated Statements of Income. The amount of interest expense (net of federal and state income tax benefits) and penalties in the unaudited Consolidated Statements of Income for the nine months ended September 30,
2020 and 2019 was $0.2 million and $0.03 million, respectively. The Company believes it is reasonably possible that the amount of unrecognized tax benefits may decrease by $1.6 million over the next twelve months, due to the expiration of the statute of limitations in federal and various state jurisdictions.
HMS files income tax returns with the U.S. Federal government and various state and local jurisdictions and will file income tax returns in certain foreign jurisdictions in future periods as a result of its acquisition of VitreosHealth. HMS is generally no longer subject to U.S. Federal income tax examinations for years before 2016. HMS operates in a number of state, local and foreign jurisdictions. Accordingly, HMS is subject to state, local and foreign income tax examinations based on the various statutes of limitations in each jurisdiction.
On March 27, 2020, the Coronavirus Aid, Relief and Economic Security Act ("CARES Act") was enacted in response to the COVID-19 pandemic. The CARES Act includes numerous provisions relating to, among other things, refundable payroll tax credits, deferment of the employer portion of certain payroll taxes, net operating loss amounts and carryback periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitations and technical corrections to tax depreciation methods for qualified improvement property. The Company continues to analyze the potential impacts of this legislation on its financial position and results of operations.
7. Liability For Appeals
Under the Company’s contracts with certain commercial health plan customers and its Medicare Recovery Audit Contractor (“RAC”) contract with the Centers for Medicare & Medicaid Services (“CMS”) (included within the Company’s payment integrity services revenue), providers have the right to appeal HMS claim findings and to pursue additional appeals if the initial appeal is found in favor of HMS’s customer. To the extent the amount to be returned to providers following a successful appeal exceeds or is less than the amount recorded, revenue in the applicable period would be reduced or increased by such amount. The liability for appeals balance was approximately $5.2 million and $3.6 million as of September 30, 2020 and December 31, 2019, respectively.
8. Credit Agreement
In May 2013, we entered into a credit agreement (as amended and restated, the "Credit Agreement") with certain lenders and Citibank, N.A. as administrative agent. The Credit Agreement originally provided for an initial $500 million five-year revolving credit facility maturing on May 3, 2018.
On December 19, 2017, the Company entered into an amendment to the Credit Agreement, which, among other things, extended the maturity of its then existing $500 million revolving credit facility by five years to December 2022 (the "Amended Revolving Facility").The availability of funds under the Amended Revolving Facility includes sublimits for (a) up to $50 million for the issuance of letters of credit and (b) up to $25 million for swingline loans. In addition, the Company may increase the commitments under the Amended Revolving Facility and/or add one or more incremental term loan facilities, provided that such incremental facilities do not exceed in the aggregate the sum of (i) the greater of $120 million and 100% of Consolidated EBITDA (as defined in the Credit Agreement) and (ii) an additional amount so long as our first lien leverage ratio (as defined in the Credit Agreement) on a pro forma basis is not greater than 3.00:1.00, subject to obtaining commitments from the lenders and meeting certain other conditions.
As of September 30, 2020 and December 31, 2019, the outstanding principal balance due on the Amended Revolving Facility was $240 million. No principal payments were made against the Amended Revolving Facility during the nine months ended September 30, 2020.
Borrowings under the Amended Revolving Facility bear interest at a rate equal to, at the Company’s election (except with respect to swingline borrowings, which will accrue interest based only at the base rate), either:
▪a base rate determined by reference to the greatest of (a) the prime or base commercial lending rate of the administrative agent as in effect on the relevant date, (b) the federal funds effective rate plus 0.50% and (c) the one-month London Interbank Offered Rate (or any successor rate determined in accordance with the Credit Agreement) (“LIBO Rate”) plus 1.00%, plus an interest margin ranging from 0.50% to 1.00% based on the Company’s consolidated leverage ratio for the applicable period; or
▪an adjusted LIBO Rate, equal to the LIBO Rate for the applicable interest period multiplied by the statutory reserve rate (equal to (x) one divided by (y) one minus the aggregate of the maximum reserve percentage (including any marginal, special, emergency or supplemental reserves) established by the Board of Governors of the Federal Reserve System of the United States), plus an interest margin ranging from 1.50% to 2.00% based on the Company’s consolidated leverage ratio for the applicable period.
In addition to paying interest on the outstanding principal, the Company is required to pay unused commitment fees on the Amended Revolving Facility during the term of the Credit Agreement ranging from 0.375% to 0.250% per annum based on the Company’s consolidated leverage ratio and letter of credit fees equal to 0.125% per annum on the aggregate face amount of each letter of credit, as well as customary agency fees. As part of a contractual agreement with a customer, the Company has an outstanding irrevocable letter of credit for $6.5 million, which is issued against the Amended Revolving Facility and expires June 30, 2021.
The Amended Revolving Facility is secured, subject to certain customary carve-outs and exceptions, by a first priority lien and security interest in substantially all tangible and intangible assets of the Company and certain subsidiaries of the Company. The Amended Revolving Facility contains certain restrictive covenants, which affect, among other things, the ability of the Company and its subsidiaries to incur indebtedness, create liens, make investments, sell or otherwise dispose of assets, engage in mergers or consolidations with other entities, and pay dividends or repurchase stock. The Company is also required to comply, on a quarterly basis, with two financial covenants: (i) a minimum interest coverage ratio of 3:00:1:00, and (ii) a maximum consolidated leverage ratio of 4.25:1.00 from and after January 2020. The consolidated leverage ratio is subject to a step-up to 5.25:1.00 for four full consecutive fiscal quarters following a permitted acquisition or similar investment. As of September 30, 2020, the Company was in compliance with all terms of the Credit Agreement.
Interest expense and the commitment fees on the unused portion of the Company’s Amended Revolving Facility were as follows (in thousands):
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
Nine Months Ended
September 30,
|
|
2020
|
|
2019
|
2020
|
|
2019
|
Interest expense
|
$
|
1,594
|
|
|
$
|
2,342
|
|
$
|
5,111
|
|
|
$
|
7,392
|
|
Commitment fees
|
162
|
|
|
157
|
|
482
|
|
|
473
|
|
As of September 30, 2020 and December 31, 2019, the unamortized balance of deferred origination fees and debt issuance costs was $1.3 million and $1.7 million, respectively. For the nine month periods ended September 30, 2020 and 2019, HMS amortized $0.4 million and $0.4 million, respectively, of interest expense related to the Company’s deferred origination fees and debt issue costs.
9. Earnings Per Share
The following table reconciles the basic to diluted weighted average common shares outstanding using the treasury stock method (in thousands, except per share amounts):
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|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
Nine Months Ended
September 30,
|
|
2020
|
|
2019
|
2020
|
|
2019
|
Net income
|
$
|
18,035
|
|
|
$
|
21,136
|
|
$
|
37,330
|
|
|
$
|
69,878
|
|
|
|
|
|
|
|
|
Weighted average common shares outstanding-basic
|
88,531
|
|
|
86,324
|
|
88,397
|
|
|
88,190
|
|
Plus: net effect of dilutive stock options and restricted stock units
|
1,697
|
|
|
2,000
|
|
1,579
|
|
|
2,251
|
|
Weighted average common shares outstanding-diluted
|
90,228
|
|
|
88,324
|
|
89,976
|
|
|
90,441
|
|
Net income per common share -- basic
|
$
|
0.20
|
|
|
$
|
0.24
|
|
$
|
0.42
|
|
|
$
|
0.79
|
|
Net income per common share -- diluted
|
$
|
0.20
|
|
|
$
|
0.24
|
|
$
|
0.42
|
|
|
$
|
0.77
|
|
For the three months ended September 30, 2020 and 2019, (i) 1,227,140 and 625,573 stock options, respectively, and (ii) restricted stock units representing 807 and 1,693 shares of the Company's common stock, respectively, were not included in the diluted earnings per share calculation because the effect would have been anti-dilutive.
For the nine months ended September 30, 2020 and 2019, (i) 1,126,976 and 472,627 stock options, respectively, and (ii) restricted stock units representing 2,297 and 2,791 shares of common stock, respectively, were not included in the diluted earnings per share calculation because the effect would have been anti-dilutive.
10. Stock-Based Compensation
(a) Long-Term Incentive Award Plans
The Company grants stock options and restricted stock units to HMS employees and non-employee directors of the Company under the HMS Holdings Corp. 2019 Omnibus Incentive Plan (the “2019 Omnibus Plan”), as approved by the Company’s shareholders on May 22, 2019. The 2019 Omnibus Plan replaces and supersedes the HMS Holdings Corp. 2016 Omnibus Incentive Plan.
(b) Stock-Based Compensation Expense
Total stock-based compensation expense in the Company’s unaudited Consolidated Statements of Income related to the Company’s long-term incentive award plans was as follows (in thousands):
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
Nine Months Ended
September 30,
|
|
2020
|
|
2019
|
2020
|
|
2019
|
Cost of services-compensation
|
$
|
922
|
|
|
$
|
982
|
|
$
|
5,897
|
|
|
$
|
7,825
|
|
Selling, general and administrative
|
2,211
|
|
|
1,952
|
|
15,186
|
|
|
10,890
|
|
Total
|
$
|
3,133
|
|
|
$
|
2,934
|
|
$
|
21,083
|
|
|
$
|
18,715
|
|
(c) Stock Options
For the three months ended September 30, 2020 and 2019, stock-based compensation expense related to stock options was approximately $1.0 million and $0.9 million, respectively. For the nine months ended September 30, 2020 and 2019, stock-based compensation expense related to stock options was approximately $8.0 million and $7.8 million, respectively.
Presented below is a summary of stock option activity for the nine months ended September 30, 2020 (in thousands, except for weighted average exercise price and weighted average remaining contractual terms):
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|
|
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|
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|
|
|
|
|
|
|
|
|
|
|
|
Number of Options
|
|
Weighted
Average
Exercise
Price
|
|
Weighted
Average-
Remaining
Contractual
Terms
|
|
Aggregate
Intrinsic
Value
|
Outstanding balance at December 31, 2019
|
2,411
|
|
|
$
|
23.43
|
|
|
|
|
|
Granted
|
1,073
|
|
|
27.47
|
|
|
|
|
|
Exercised
|
(120)
|
|
|
17.88
|
|
|
|
|
|
Forfeitures
|
(47)
|
|
|
28.06
|
|
|
|
|
|
Expired
|
(6)
|
|
|
29.24
|
|
|
|
|
|
Outstanding balance at September 30, 2020
|
3,311
|
|
|
$
|
24.88
|
|
|
7.51
|
|
$
|
9,564
|
|
Expected to vest at September 30, 2020
|
1,303
|
|
|
$
|
28.85
|
|
|
8.92
|
|
$
|
832
|
|
Exercisable at September 30, 2020
|
1,579
|
|
|
$
|
20.69
|
|
|
6.04
|
|
$
|
8,376
|
|
During the three months ended September 30, 2020 and 2019, the Company received proceeds of $0.5 million and $12.2 million, respectively, for the issuance of 28,402 and 740,748 shares of common stock upon the exercise of outstanding stock options, respectively. The total intrinsic value of stock options exercised during the three months ended September 30, 2020 and 2019 was $0.3 million and $16.0 million, respectively. During the nine months ended September 30, 2020 and 2019, the Company received proceeds of $2.1 million and $39.2 million, respectively, for the issuance of 119,991 and 2,427,156 shares of common stock upon the exercise of outstanding stock options, respectively. The total intrinsic value of stock options exercised during the nine months ended September 30, 2020 and 2019 was $1.2 million and $45.5 million, respectively.
As of September 30, 2020, there was approximately $5.6 million of total unrecognized compensation cost related to stock options outstanding, which is expected to be recognized over a weighted average period of 1.2 years.
The weighted-average grant date fair value per share of the stock options granted during the nine months ended September 30, 2020 and 2019 was $9.06 and $13.87, respectively. HMS estimated the fair value of each stock option grant on the date of grant using a Black-Scholes option pricing model and weighted–average assumptions set forth in the following table:
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|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
September 30,
|
|
2020
|
|
2019
|
Expected dividend yield
|
0
|
%
|
|
0
|
%
|
Risk-free interest rate
|
1.1
|
%
|
|
2.5
|
%
|
Expected volatility
|
41.1
|
%
|
|
40.9
|
%
|
Expected life (years)
|
6.3
|
|
6.4
|
The total tax benefits recognized on stock-based compensation related to stock options for the nine months ended September 30, 2020 and 2019 was $3.2 million and $16.1 million, respectively.
(d) Restricted Stock Units
For the three months ended September 30, 2020 and 2019, stock-based compensation expense related to restricted stock units was approximately $2.1 million and $1.9 million, respectively. For the nine months ended September 30, 2020 and 2019, stock-based compensation expense related to restricted stock units was approximately $13.1 million and $10.9 million, respectively.
Presented below is a summary of restricted stock units activity for the nine months ended September 30, 2020 (in thousands, except for weighted average grant date fair value per unit):
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|
|
|
|
|
|
|
|
|
|
|
Number of
Units
|
|
Weighted Average
Grant Date Fair
Value per Unit
|
Outstanding balance at December 31, 2019
|
1,239
|
|
|
$
|
21.37
|
|
Granted
|
747
|
|
|
24.22
|
|
Vesting of restricted stock units, net of units withheld for taxes
|
(321)
|
|
|
23.47
|
|
Units withheld for taxes
|
(147)
|
|
|
23.47
|
|
Forfeitures
|
(63)
|
|
|
24.41
|
|
Outstanding balance at September 30, 2020
|
1,455
|
|
|
$
|
25.41
|
|
For the three months ended September 30, 2020 and 2019, HMS granted 7,538 and 12,687 restricted stock units, respectively, with an aggregate fair market value of $0.2 million and $0.5 million, respectively. For the nine months ended September 30, 2020 and 2019, HMS granted 746,502 and 474,520 restricted stock units, respectively, with an aggregate fair market value of $18.1 million and $16.2 million, respectively.
As of September 30, 2020, 1,147,469 restricted stock units remained unvested and there was approximately $13.3 million of unrecognized compensation cost related to restricted stock units, which is expected to be recognized over a weighted average vesting period of 1.1 years.
11. Commitments and Contingencies
In February 2018, the Company received a Civil Investigative Demand (“CID”) from the Texas Attorney General, purporting to investigate possible unspecified violations of the Texas Medicaid Fraud Prevention Act. In March 2018, the Company provided certain documents and information in response to the CID. HMS has not received any further requests from the government in connection with this CID.
In September 2018, a former employee filed an action in the New York County Supreme Court entitled Christopher Frey v. Health Management Systems, Inc. alleging retaliation under New York law. The complaint seeks recovery of an unspecified amount of monetary damages, including back pay and other compensatory and equitable relief. In May 2019, the Court heard oral arguments on the Company's motion to dismiss the complaint, and in July 2020, the Court granted the motion to dismiss the complaint in its entirety. On August 26, 2020, the plaintiff filed a notice of appeal with the New York Supreme Court Appellate Division, First Judicial Department.
From time to time, HMS may be subject to investigations, legal proceedings and other disputes arising in the ordinary course of the Company’s business, including but not limited to regulatory audits, billing and contractual disputes, employment-related matters and post-closing disputes related to acquisitions. Due to the Company’s contractual relationships, including those with federal and state government entities, HMS’s operations, billing and business practices are subject to scrutiny and audit by those entities and other multiple agencies and levels of government, as well as to frequent transitions and changes in the personnel responsible for oversight of the Company’s contractual performance. HMS may have contractual disputes with its customers arising from differing interpretations of contractual provisions that define the Company’s rights, obligations, scope of work or terms of payment, and with associated claims of
liability for inaccurate or improper billing for reimbursement of contract fees, or for sanctions or damages for alleged performance deficiencies. Resolution of such disputes may involve litigation or may require that HMS accept some amount of loss or liability in order to avoid customer abrasion, negative marketplace perceptions and other disadvantageous results that could affect the Company’s business, financial condition, results of operations and cash flows.
HMS records accruals for outstanding legal matters when it believes it is probable that a loss will be incurred and the amount can be reasonably estimated. The Company evaluates, on a quarterly basis, developments in legal matters that could affect the amount of any accrual and developments that would make a loss contingency both probable and reasonably estimable. If a loss contingency is not both probable and estimable, HMS does not establish an accrued liability.
12. Subsequent Events
In connection with the preparation of these unaudited Consolidated Financial Statements, an evaluation of subsequent events was performed through the date of filing and there were no events that have occurred that would require adjustments to the financial statements or disclosures.