Item 1. Business
Founded in 1974, HMS is a leading provider of cost containment solutions in the U.S. healthcare marketplace. We
use innovative technology, extensive data services and powerful analytics, to deliver coordination of benefits, payment integrity
and health management and engagement solutions to help healthcare payers improve performance and outcomes. We provide coordination
of benefits services to government and commercial healthcare payers and sponsors to ensure that the responsible party pays healthcare
claims. Our payment integrity services ensure healthcare claims billed are accurate and appropriate; and our care management technology
helps risk-bearing organizations manage the care delivered to their members. Together these various services help customers recover
amounts from liable third parties; prevent future improper payments; reduce fraud, waste and abuse; better manage the care that
members receive; and ensure regulatory compliance.
HMS began its operations as Health
Management Systems, Inc., which became our wholly owned subsidiary in March 2003 when we assumed its business in connection with
the adoption of a holding company structure. Since then HMS has grown both organically and through targeted acquisitions of businesses
that helped expand our product suite, including IntegriGuard, LLC (2009), HealthDataInsights, Inc.(“HDI”) (2011),
Essette, Inc. (2016), Eliza Holding Corp. (2017) and others.
We were originally incorporated in the
State of New York in October 2002 and reincorporated in the State of Delaware in July 2013. Our principal executive offices are
located 5615 High Point Drive, Irving, Texas 75038 and our telephone number is (214) 453-3000.
We operate as one business segment with
a single management team that reports to the Chief Executive Officer.
Our Solutions
Our coordination of benefits services draw
principally upon proprietary information management and data mining techniques designed to ensure that the correct party pays a
healthcare claim. Our payment integrity services are designed to ensure that healthcare billings and/or payments are accurate and
appropriate. As a result of these services, customers received billions of dollars in cash recoveries in 2016, and saved billions
more through the prevention of erroneous payments. In addition, our care management solutions help risk-bearing organizations manage
the care delivered to their members with a focus on improving outcomes and patient engagement.
Our services are applicable to federal,
state and commercial health plans and prevent and address errors across the payment continuum, from an individual’s enrollment
in a program before any medical service is rendered, to pre-payment review of a claim by a payer, through recovery where discovery
of an improper payment is made via audit. Our services address a wide spectrum of payment errors, from eligibility and coordination
of benefits errors, to the identification and investigation of potential fraud, and extend to most claim types. Our services also
assist customers in managing quality, risk, cost and compliance across all lines of business.
In general, our range of services includes
the following:
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Coordination of benefits
services
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We provide cost avoidance
services, which include providing validated insurance coverage information that is used by government-sponsored payers to coordinate
benefits properly for future claims. With validated insurance information, Medicaid payers can avoid unnecessary costs by ensuring
that they pay only after all other benefits available have been exhausted, thereby complying with federal regulations that require
Medicaid to be the payer of last resort. Nevertheless, due to a variety of factors, some Medicaid claims are paid even when there
is a known responsible third party. Our government-sponsored program customers rely on us to identify those claims that were paid
in error and recover these payments from the liable third party. Further, we also provide services to assist customers in identifying
other third-party insurance and recovering medical expenses where a member is involved in a casualty or tort incident. Lastly,
for Medicaid agencies exclusively, we provide estate recovery services to identify and recover Medicaid expenditures from the
estates of deceased Medicaid members in accordance with state policies. For the years ended December 31, 2016, 2015 and 2014,
our coordination of benefits services represented 72.3%, 71.2% and 70.5% of our total revenue, respectively.
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Payment integrity services
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Our payment integrity
services are applicable to all markets that HMS serves, including the federal and state governments, commercial health plans and
other at-risk entities. Our solutions are designed to verify that medical services are utilized, billed and paid appropriately.
Our services combine data analytics, clinical expertise and proprietary technology to identify improper payments on both a pre-payment
and post-payment basis; identify and recover overpayments/underpayments; detect and prevent fraud, waste and abuse; and identify
process improvements. For the years ended December 31, 2016, 2015 and 2014, our payment integrity services represented 24.3%,
24.5% and 24.5% of our total revenue, respectively.
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Care management and
member analytics technologies
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We offer a web-based care management
platform which helps risk-bearing healthcare organizations identify, engage, and manage at-risk patient populations to improve
outcomes while managing costs.
Customers
For each of the years ended December 31,
2016, 2015 and 2014 no one individual Company customer accounted for more than 10% of our total revenue.
The composition of our 10 largest
customers changes periodically. For the years ended December 31, 2016, 2015 and 2014, our 10 largest customers represented
40.6%, 44.0% and 40.1% of our total revenue, respectively. The current terms of our agreements with these customers have expiration
dates ranging between 2017 and 2020. Several of our contracts, including those with some of our largest customers, may be terminated
for convenience. The early termination of a contract with one of our significant customers may have an adverse effect on our financial
condition, results of operations and cash flows.
We provide products and services under
contracts (or sub-contracts) that contain various revenue structures, including contingent revenue and fixed-fee arrangements.
Most of our contracts have terms ranging from three to five years, including renewal terms at the option of the customer. In many
instances, we provide our services pursuant to agreements that are subject to periodic reprocurements. Because we provide our services
pursuant to agreements that are open to competition from various businesses in the U.S. healthcare insurance benefit cost containment
marketplace, we cannot provide assurance that our contracts, including those with our largest customers, will not be terminated
for convenience, awarded to other parties, or renewed. Additionally, we cannot provide assurance that our contracts, if renewed,
will have the same fee structures or otherwise be on satisfactory terms.
Industry Trends and
Opportunities
U.S. healthcare expenditures continue to
escalate and consume a large proportion of our GDP, presenting challenges for payers who wish to contain and reduce costs while
also promoting quality healthcare outcomes. These aims are the same across all at-risk entities, including commercial health plans
and government healthcare programs, such as Medicaid and Medicare.
Within the commercial market, health plans sell policies directly to individuals (on the open market or via health
insurance exchanges), contract with employers to underwrite their employees’ care, or contract with self-insured employers
to oversee benefit administration to their employees. This market also includes a growing number of risk bearing provider-sponsored
plans that operate and market health plan benefits. According to CMS NHE projections, private health insurance covered 195 million
individuals in 2016 at a cost of $1.09 trillion.
Several commercial health plans also offer
government-sponsored lines of business, including partnering with Medicare, Medicaid and CHIP to oversee care delivery for beneficiaries
enrolled in those programs. Government managed care grew out of pressures to contain the growth of state and federal program spending
and to address general concerns about healthcare access. Commercial health plan-related partnerships with government programs include
the following:
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Within the Medicaid program, 38 states and the District of Columbia presently contract with managed care organizations
to provide care to some or all of their Medicaid beneficiaries. In addition, many states have expanded the use of managed care
organizations to new regions or to serve beneficiaries with more complex conditions. Of the 32 states and the District of Columbia
that opted to expand Medicaid eligibility levels pursuant to the ACA, all except 5 use Medicaid managed care organizations. The
majority of new lives that have entered the Medicaid program as a result of the ACA are enrolled in managed care plans. It is unclear
at this time how, if at all, efforts in Congress to “repeal and replace” the ACA could affect any of the state expansions
or future growth of Medicaid lives and expenditures.
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Similarly, managed care health plans also continue to assume risk for Medicare lives, with the Kaiser Family Foundation
estimating that in 2016, nearly one-third of all Medicare recipients were enrolled in a Medicare Advantage plan.
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HMS also continues to serve government-sponsored
agencies’ legacy fee-for-service programs at the state and federal level. These plans are generally reliant on and susceptible
to the government appropriations process that determines their budget and governs the number of beneficiaries they serve.
According to the CMS NHE projections, Medicare programs in 2016 covered approximately 56 million people at
a cost of approximately $681 billion and Medicaid/CHIP covered approximately 77 million people, costing approximately $593 billion.
Altogether, it is projected that the government programs we serve covered approximately 130 million people at a total cost
of approximately $1.3 trillion in 2016. Based on the CMS NHE Projections, Medicare spending
is projected to grow 5.8% in 2017 over 2016, and CMS projects Medicaid enrollment will grow by 1.7% in 2017 over 2016. Total Medicaid
spending is projected to increase at a rate of 4.8% in 2017 over 2016.
As commercial and government health plans
continue to focus on strategies to contain costs across their different lines of business, we will continue to focus on serving
them and meeting their evolving needs. Regardless of the program, coordinating benefits among a growing number of healthcare payers
and ensuring that claims are paid appropriately represents an enormous challenge for our customers and an ongoing opportunity for
us.
Regulatory Environment
The market for cost containment solutions is large
and growing, driven by increasing healthcare costs and payment complexities. For 2017, Medicare and Medicaid are projected to
pay approximately 45.9% of the nation’s healthcare expenditures and serve over 130 million beneficiaries. Many of
these beneficiaries are enrolled in managed care plans, which have the responsibility for both patient care and claim
adjudications. Since 1985, we have provided state Medicaid agencies with services to identify third parties with primary
liability for Medicaid claims, and since 2005, we have provided similar services to Medicaid managed care plans.
In 2006, Congress enacted the DRA and created the Medicaid
Integrity Program under the Social Security Act to increase the government’s capacity to prevent, detect and address fraud,
waste and abuse in the Medicaid program. Later that year, Congress passed the Tax Relief and Health Care Act of 2006, which established
the Medicare RAC program. HDI was awarded one of the first contracts under the program. In October 2016, CMS made a new round
of awards and we again were awarded a region.
These measures, at both the federal and
state level, have strengthened our ability to identify and recover erroneous payments on behalf of our customers.
The ACA was signed into law in 2010. It included many provisions impacting healthcare delivery and payment
programs, including employer-sponsored health coverage, expansion of the Medicaid program, health insurance exchanges with premium
subsidies, and payment integrity efforts. Following the 2016 Presidential and Congressional elections, some or all of the ACA provisions
may be revised or repealed, although the scope and timing of such Congressional efforts are yet to be defined. Options that have
been discussed include issuing block grants or establishing per capita caps for state Medicaid populations, and looking at program
design alternatives for future enrollment criteria. We will monitor ACA-related changes as they develop and assess their potential
impact, as well as any opportunities they may present for our customers and for us.
Competition
The U.S. healthcare insurance benefit cost
containment marketplace is a dynamic industry with a range of businesses currently able to offer cost containment services, both
directly or indirectly (through sub-contracting), to some or all of the various healthcare payers. In addition, with improvements
in technology and the growth in healthcare spending, new businesses are incentivized to enter this marketplace. Many healthcare
payers also have the ability to perform some or all of these cost containment services themselves and choose to exercise that option.
Competition is therefore robust as customers have many alternatives available to them in their effort to contain healthcare costs.
We compete based on a variety of factors, including our ability to perform a wide range of coordination of
benefits and payment integrity related functions; proven results to maximize recoveries and cost avoidance; our in-depth government
healthcare program experience; clinical staff expertise; extensive insurance eligibility database; proprietary systems and processes;
existing relationships with various customer and other industry shareholders; and our ability to provide customers with actionable
intelligence to improve outcomes and patient engagement.
Within our core coordination of benefits
services, we compete primarily with large business outsourcing and technology firms, claims processors and PBMs, clearinghouses,
healthcare consulting firms, smaller regional vendors and other TPL service providers. In addition, we frequently work with customers
who may elect to perform some or all of their recovery and cost avoidance functions in-house. The competitive environment for payment
integrity services includes some of the same companies that provide coordination of benefits services. Within the care management
and risk analytics sector, we compete primarily with vendors who provide these and other population health management technology
services. Companies with whom we compete across our product offerings include:
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ChangeHealthcare
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Experian Health
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Verscend Technologies
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Cotiviti
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IBM/Truven
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CaseNet
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HP
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LexisNexis
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MedHok
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Optum, Inc.
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Performant Financial Corp.
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Trizetto
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Xerox
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SCIO Health Analytics
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ZeOmega
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Business Strategy
We believe that the steadily increasing
enrollment and rising expenditures for Medicare and Medicaid, with most new enrollees entering managed care plans; an aging U.S.
population with an increasing concentration of individuals with high cost chronic conditions; and the overall complexity of the
healthcare claims payment system in the U.S. all combine to create substantial growth opportunities for the suite of cost containment
solutions which we offer. We also believe that these factors similarly present growth opportunities for our care management solutions.
We expect to grow our business over the course of 2017 and beyond, both organically and inorganically, by leveraging existing key
assets (e.g., our data, analytics and in-house expertise, and distribution channel) and pursuing a number of strategic objectives
or initiatives, including:
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Expanding
the scope of our relationship with existing customers
– by selling additional products
and services.
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Adding
new customers
–
by
marketing to commercial health plans, including Medicaid managed care and Medicare Advantage
plans, at-risk group and individual health lines of business and ASO; government healthcare
payers, including Medicaid agencies, state employee health benefit plans and CHIP; at-risk
provider organizations and ACOs; and commercial employers.
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Introducing
new “homegrown” products and services
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through internal development initiatives designed to enhance or expand our existing suite
of cost containment products.
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Utilizing
big data
– to create a more nimble operating
environment and to identify new revenue opportunities within our current service delivery
models.
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Promoting
automation and innovation to improve the efficiency and effectiveness of our services
– by continuing to implement new technology
and process improvements designed to increase recovery yields and increase customer satisfaction.
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Building
out our new health management and member engagement technology platform
–
by establishing a broad foundation of technology
and service solutions to help customers better manage quality, cost and compliance across
all lines of business. Our first step in this strategy was the acquisition of Essette
Inc., a care management platform, in September 2016. More recently, we acquired Eliza
Holding Corp., which provides comprehensive and personalized outreach and health engagement
solutions, in April 2017.
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Continuing
opportunistic growth via acquisition
–
by selectively seeking assets to complement our core cost-containment expertise; build care management and
care coordination adjacencies to complement the Essette and Eliza acquisitions; and expand our data analytics capabilities. Our
focus is on acquisitions that have long-term growth potential; target high-growth areas; are accretive to earnings; and fill a
strategic need in our business portfolio as we seek to provide increasingly comprehensive solutions to our customers.
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Employees
As of December 31, 2016, we had 2,315
employees, of which 2,287 were full-time. Of our total employees, 253 support SG&A activities.
Intellectual Property
Our ability to develop and
maintain the proprietary aspects of our technology and operate without infringing the proprietary rights of others are important
to our business and competitive position. We establish and protect our proprietary technology and intellectual property through
a combination of patents, patent applications, trademarks, copyrights, domain names, trade secrets, including know-how, confidentiality
and invention assignment agreements, security measures, non-disclosure agreements with third parties, and other contractual rights.
As a result of acquiring Eliza Holding Corp. on April 17, 2017, we now own a patent portfolio comprised of approximately 55 domestic
and international patents and patent applications. We do not believe that any one individual technology is essential to our business.
Available Information
Additional information about HMS is available
on our website at www.hms.com. The content on our website, or any website referred to in this Annual Report on Form 10-K, is not
incorporated by reference into this Annual Report, unless expressly noted.
Copies of our recent Annual Reports on
Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and Proxy Statements, as well as amendments
to these reports or statements, are available free of charge on our website through the Investor Relations page, as soon as reasonably
practicable after we electronically file them with, or furnish them to, the SEC. These materials, as well as similar materials
for SEC registrants, may be obtained directly from the SEC through their website at www.sec.gov. You may also read and copy any
materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street NE, Washington, D.C. 20549. Information
on the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330.
Item 1A. Risk Factors
Our business is subject to significant
risks, including the risks and uncertainties described below. You should carefully consider these risks, as well as the other
information in this 2016 Form 10-K, including our Consolidated Financial Statements and the related Notes. The occurrence of any
of these risks could adversely affect our business, financial condition, results of operations, and cash flows in a material way.
Risks Relating to
Our Company
Our ability to expand
our business will be adversely affected if we fail to implement our growth strategy.
The size and the scope of our business
operations have expanded over the past several years, and we currently intend to continue to grow and expand into new areas within
the government and commercial healthcare space; however, such growth and expansion carries costs and risks that, if not properly
managed, could adversely affect our business. Our future growth will depend, among other things, on our ability to successfully
execute our business plans and continued efforts to improve our operations, all while remaining competitive. We must also be flexible
and responsive to our customers’ needs and to changes in the political, economic and regulatory environment in which we operate.
The greater size and complexity of our expanding business puts additional strain on our administrative, operational and financial
resources and can make optimal resource allocation more difficult to determine. We may not be able to maintain or accelerate our
growth. A failure to anticipate or properly address the demands and challenges that our growth strategy and potential diversification
may have on our resources and existing infrastructure may result in unanticipated costs and inefficiencies and could negatively
impact our ability to execute on our business plans and growth goals, which could have a material adverse effect on our business,
financial condition, results of operations and cash flows.
If we fail to innovate
and develop new or enhanced solutions and services, or if these solutions and services are not adopted by our customers, it could
have a material adverse effect on our business, financial condition, results of operations and cash flows.
Part of our growth strategy depends on
our ability to respond to the evolving healthcare landscape with new and enhanced solutions and services that our existing and
potential customers are willing to adopt. The development, marketing and implementation of these solutions and services may require
that we make substantial financial and resource investments. We face risks that our new or modified solutions and services may
not be responsive to customer preferences or industry changes, and that the solution and service development initiatives that we
prioritize may not yield the gains that we anticipate, if any. If we are unable to predict market preferences or healthcare industry
changes, or if we are unable to develop or adapt solutions and services that are responsive to existing and potential customers’
needs, we may fail to expand our business, which could constrain our future revenue growth and materially adversely affect our
business, financial condition, results of operations and cash flows.
Our acquisition strategy may subject us
to considerable business and financial risk.
Historically, to achieve
our strategic goals, we have made a significant number of acquisitions that have expanded the solutions and services we offer,
provided a presence in complementary business lines, or expanded our geographic presence and/or customer base. For example, we
acquired IntegriGuard, LLC in September 2009; Verify Solutions, Inc. in December 2009; Allied Management Group-Special Investigation
Unit in June 2010; Chapman Kelly, Inc. in August 2010; HDI in December 2011; MedRecovery Management, LLC in December 2012; Essette,
Inc. in September 2016; and Eliza Holding Corp. in April 2017.
We intend to pursue future acquisitions that will continue to expand and diversify our business and to periodically
engage in discussions regarding such possible acquisitions. We are subject to risks and uncertainties relating to our ability to
identify suitable potential acquisition candidates, to consummate additional acquisitions that will be advantageous to us, and
to successfully integrate future acquisitions. Future and potential business acquisitions involve a number of risk factors that
could affect our operations, including, but not limited to:
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diversion
of management’s attention and other resources;
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our
ability to integrate operational, accounting and technology functions, policies, processes,
systems and controls, and to implement these functions, policies, processes, systems
and controls, without incurring substantial expenses, delays or other issues;
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our
ability to integrate personnel and human resource systems as well as the cultures of
the acquired business;
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our
ability to retain or replace the key personnel of the acquired business;
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our
ability to maintain relationships with the customers of the acquired business and further
develop the acquired business;
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our
ability to cross-sell our solutions and services and the solutions and services of the
acquired business to our respective customers;
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customer
dissatisfaction or performance problems with the acquired business;
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our
ability to comply with regulatory requirements and avoid potential conflicts of interest
in markets that we serve;
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the
misuse of intellectual property by the personnel of the acquired business;
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our
ability to successfully enter into unfamiliar markets;
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assumption
of unanticipated legal or financial liabilities and/or negative publicity related to
prior acts by the acquired business;
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we
may become subject to litigation or other claims in connection with the acquired business,
including claims from terminated employees, customers, former shareholders or third parties;
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we
may become significantly leveraged as a result of incurring debt to finance an acquisition;
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we
may encounter unanticipated operating, accounting or management difficulties in connection
with the acquired business;
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the
acquired business may not perform as projected which could negatively impact earnings
or contingent consideration;
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we
may suffer impairment of goodwill and other acquired intangible assets; and
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we
may suffer dilution to our earnings per share.
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If we fail to adequately address these
risks, or to successfully integrate the businesses that we acquire, we may not realize cost efficiencies, synergies or other benefits
that we anticipated when selecting our acquisition candidates, and our reputation, business, financial condition, results of operations
and cash flows could be materially adversely affected.
You will not be able
to rely on our operating results in any particular period as an indication of our future performance because they are subject to
significant fluctuation which may cause the market price of our common stock to decrease significantly.
Our operating results may fail to match
our past or projected performance. We have experienced significant variations in our revenue between reporting periods due to the
timing of periodic revenue recovery projects, the timing and delays in third party payers’ claim adjudication and ultimate
payment to our customers where our revenue is contingent upon such collections and delays in receiving payment for our services.
Our revenue and operating results have also been impacted from period to period as a result of a number of factors, some of which
are outside of our control, including, but not limited to:
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fluctuations
in sales activity given our sales cycle;
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the
commencement, completion or termination of contracts during any particular quarter;
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expenses
related to certain contracts which may be incurred in periods prior to revenue being
recognized;
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the
timing of government contract awards;
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the
time required to resolve bid protests;
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contract
renewal discussions, which result in delayed payments for services already performed;
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technological
and operational issues affecting our customers, including delays in payment receipt for
previously recognized revenue due to delays in certain customers processing our findings
through their systems;
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adjustments
to age/quality of receivables and accruals as a result of delays involving contract limitations
and changes or sub-contractor performance deficiencies or internal managerial decision
not to pursue identified claim revenue from customers; and
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regulatory
changes or general economic conditions as they affect healthcare providers and payers.
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Occasionally our state and federal customers
are requested by third party payers to refund payments that we previously recovered for our customers. If our state and federal
customers choose to refund money in response to these requests, regardless of whether an error actually occurred in connection
with the payments, we may also be required to return contingent revenue which we were previously paid associated with such refunded
payments. We also typically face a long implementation period with a new customer or a new contract with an existing customer and
may not be able to estimate with certainty the period in which implementation may be completed.
We cannot predict the extent to which future
variations could occur due to these or other factors. Although we have experienced some seasonal trends in our operational volume,
we do not consider our operations to be seasonal to any material degree. Consequently, our operating results are subject to significant
fluctuation for any particular quarter, fiscal year, or other period, and may not be indicative of future periods. Significant
fluctuations in our operating results may cause the market price of our common stock to decrease significantly.
We face challenges
associated with forecasting the revenue under our contracts and solutions, and any failure to accurately forecast such revenue
could have a material adverse effect on our business, financial condition, results of operations and cash flows.
We may not be able to accurately estimate
the factors upon which we base our contract pricing, or the costs and timing for implementing and completing contracts. For a majority
of our customer contracts, the payment of our fee is contingent upon the recoveries received by our customers. We also have cost-plus
or time-and-material based contracts with the federal government where our revenue is recognized based on costs incurred plus an
estimate of the negotiated fee earned. Our ability to earn a profit on these contracts requires that we accurately estimate the
costs involved with these contracts and assess the probability of achieving certain outcomes or milestones within the contracted
time period. In addition, we cannot predict with certainty the costs or the period in which implementation or contracts may be
completed when we introduce new solutions or services into the marketplace. We may also face a long implementation period with
a new customer or a new contract, making it difficult to reliably forecast revenue under those contracts. If we do not accurately
estimate the costs and timing for completing projects, or if we encounter increased or unexpected costs, delays, failures, liabilities
or risks, including those outside of our control, our contracts could prove unprofitable for us or yield lower profit margins than
anticipated. Although we believe that we have recorded adequate provisions in our financial statements for losses on our fixed-price
and cost-plus contracts where applicable, as required under U.S. GAAP, our contract loss provisions may not be adequate to cover
all actual future losses.
System interruptions
or failures could expose us to liability and harm our business.
Our data and operation centers are essential
to our business and our operations depend on our ability to maintain and protect our information systems. We attempt to mitigate
the potential adverse effects of a disruption, relocation or change in operating environment; however, the situations we plan for
and the amount of insurance coverage that we maintain may not be adequate in every case. Despite systems redundancy and security
measures, our systems and operations are vulnerable to damage or interruption from, among other sources:
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power
loss, transmission cable cuts and telecommunications failures;
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damage
or interruption caused by fire, earthquake and other natural disasters;
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cyber
security breaches; and
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physical
break-ins, sabotage, intentional acts of vandalism, terrorist attacks and other events
beyond our control.
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In addition, while there are backup systems
in many of our operating facilities, an extended outage of utility or network services supplied by third party IT vendors or providers
may delay or disrupt the delivery or performance of the solutions and services we provide for our customers. If we encounter a
business interruption, or in the event our business continuity plans and business interruption insurance coverage are not adequate
or fail to compensate us on a timely basis, we could suffer operational disruptions, disputes with customers, civil or criminal
penalties, regulatory problems, increases in administrative expenses, loss of our ability to produce timely and accurate financial
and other reports or other adverse consequences, any of which could have a material adverse effect on our business, financial condition,
results of operations and cash flows.
Our systems and networks
and those of third parties on which we rely may be subject to cyber security breaches and other disruptions that could compromise
our information and harm our business.
In the ordinary course of our business, we rely heavily upon our technology systems and networks to input,
maintain and communicate the confidential and proprietary data we receive on behalf of our customers, as well as third-party products
and services. In addition, sub-contractors, teaming partners or other third-party vendors may receive or utilize this information
on our behalf. The secure processing and maintenance of this information is critical to our operations
and business strategy. Our security measures or those of third parties on which we rely could be compromised or breached as a result
of computer hacking, acts of vandalism or theft, malware, computer viruses, employee error or malfeasance, catastrophes or other
unforeseen events. As a result, our data, customers’ data, information technology or infrastructure could be accessed improperly,
made unavailable, improperly modified, or corrupted or we could suffer system disruptions, shutdowns and denials of service. The
occurrence of any of these events could cause our solutions and services to be perceived as vulnerable, cause our customers to
lose confidence in our solutions and services, negatively affect our ability to attract new customers, cause existing customers
to terminate or not renew our solutions and services and damage our reputation, all of which could reduce our revenue, increase
our expenses and expose us to legal claims and regulatory actions. Similarly, we could be materially adversely affected by the
loss of proprietary, trade secret or confidential technical and financial data if our internal networks are compromised. We may
be unable to implement adequate preventive measures to protect against such compromises. We could also be forced to expend significant
resources in response to a cyber-security breach, including repairing system damage, increasing cyber security protection costs
by deploying additional personnel and protection technologies, paying regulatory fines and litigating and resolving legal claims
and regulatory actions, all of which could increase our expenses, divert the attention of our management and key personnel away
from our business operations and materially adversely affect our results of operations.
If we are unable
to protect our proprietary technology, information, processes, know-how, and other intellectual property and intellectual property
rights, or become subject to claims of infringing or misappropriating the intellectual property of third parties, the value of
our solutions and services may be diminished and our business may be materially adversely affected.
Our success as a company depends in part
upon our ability to protect our core technology and intellectual property. Our expanding operations and efforts to develop new
solutions and services also make protection of our intellectual property more critical. We seek to protect trade secrets and other
proprietary information through confidentiality agreements and invention assignment agreements with employees, consultants and
other third parties, as well as through the terms of our agreements with customers and vendors, and other security measures. However,
the steps we have taken to deter misappropriation of intellectual property may be insufficient to protect our proprietary information.
Misappropriation of our intellectual property by third parties, or any disclosure or dissemination of our confidential and proprietary
business intelligence, queries, algorithms and other similar information by any means, could undermine any competitive advantage
we currently derive or may derive from that intellectual property. For example, our current or former employees, consultants or
other third parties may unintentionally or willfully disclose our trade secrets, know-how or other confidential and proprietary
information to competitors. Competitors have also attempted to use state open records and/or federal Freedom of Information Act
laws to obtain our proposal responses and other documents we provide to our government customers. We cannot be certain that our
efforts to protect the confidential and proprietary trade secret information or intellectual property in these proposals or other
documents will always be successful, due to the many factors underlying the various state and federal decisions to release information
in response to open records requests (even in spite of our objections and efforts to protection information). On the other hand,
third parties may claim that we are infringing upon or misappropriating their intellectual property. Our exposure to risks related
to the use of intellectual property may also increase as a result of acquisitions because third parties may make infringement and
similar or related claims after we have acquired technology. Any of these situations could cause us to expend significant time
and resources and to incur substantial costs associated with litigation or legal proceedings that may be necessary to defend ourselves
or to enforce our intellectual property rights, in which we may not ultimately prevail, and could result in our being prevented
from furnishing certain solutions and services. If the protection of our proprietary rights is inadequate to prevent unauthorized
use or appropriation by third parties or our employees, the value of our brand and other intangible assets may be diminished and
others may be able to more effectively compete with our business by offering solutions or concepts that are substantially similar
to ours, which could have a material adverse effect on our business, financial condition, results of operations and cash flows.
We face significant
competition for our solutions and services and we expect competition to increase, which could materially adversely affect our business,
financial condition, results of operations and cash flows.
The market for healthcare cost containment
solutions and services is intensely competitive, driven by rapidly changing technologies, evolving industry standards and customer
demands to become more efficient. Our competitors range in size from large, diversified national companies to small, specialized
firms, and could include current or former sub-contractors or teaming partners seeking to establish direct relationships with our
customers in order to perform similar services as the prime contractor, as well as current and prospective customers that elect
to perform recovery and cost avoidance functions in-house or to develop in-house capacities for solutions and services that we
provide or hope to provide. Consolidation among vendors and healthcare providers, as well as the merging of some of our competitors
or formation of business alliances with other competitors, have contributed to the increasingly competitive environment. For example,
certain state customers have combined or “bundled” TPL services under large-scale IT procurements, allowing MMIS vendors
to partner with less experienced TPL identification vendors based on preferred relationships or favorable pricing. In addition,
companies that have invested in proprietary technology different from our own solution and service offerings, such as front-end
analytics, have emerged as new competitors due to the rapidly evolving healthcare landscape. There is also increasing sophistication
in the solutions and services that our competitors are developing that may become more efficient or appealing to our customers.
In order to remain competitive, we may need to quickly develop and market new and enhanced solutions and services responsive to
emerging technologies and changes in the healthcare industry, which may require that we make substantial financial and resource
investments.
We may not be able to compete successfully
against our existing or future competitors. Some of these competitors have significantly greater financial and technical resources
and market recognition than we do. They may be able to (i) offer lower prices or negotiate fee reductions on our current solutions
and services, (ii) respond more quickly than we can to new and emerging technologies and changing customer requirements, (iii)
devote greater resources to the sale of their solutions and services and the development and implementation of new and improved
systems, solutions and services for customers that we serve, and (iv) pursue various acquisitions that allow them to rapidly amass
a wide array of capabilities. We may be forced to lower our pricing, unexpectedly increase or enhance our technological or data
capabilities, or modify our solution or service offerings. Notwithstanding any changes we make in response to increased competition,
the demand for our solutions and services may decrease as a result of increased competition. A failure to be responsive to our
existing and potential customers’ needs or the changing industry landscape could hinder our ability to maintain or expand
our customer base, hire and retain new employees, pursue new business opportunities, complete future acquisitions and operate our
business effectively. Any inability to compete effectively could materially adversely affect our business, financial condition,
results of operations and cash flows.
Our business could
be materially adversely affected if we fail to maintain a high level of customer retention, if our customers elect to reduce the
scope of our contracts or terminate them before their scheduled expiration dates or if we fail to meet performance standards under
our customer contracts.
We historically have derived and expect
to continue to generate a significant portion of our revenue from a limited number of large customers at the federal and state
level. Our contracts with these customers are subject to periodic renewal and some permit them to terminate their contracts on
short notice, with or without cause. If a customer is dissatisfied with the quality of our work or if we fail to meet performance
standards under our contracts, or if our solutions, technical infrastructure or services do not comply with the provisions of our
contractual agreements or applicable regulatory requirements, customers might seek to reduce the scope of the services we perform
or prematurely terminate their agreements with us, or we could incur additional costs that may impair the profitability of a contract
and damage our ability to obtain additional work from that customer, or other current or prospective customers. For example, some
of our contracts contain liquidated damages provisions and financial penalties related to performance failures, which if triggered,
could materially adversely affect our reputation, business, financial condition, results of operations and cash flows. We also
may be required to disclose such liquidated damages or other financial penalties assessed against us in connection with future
bids for services with other customers.
In addition, government customers are subject
to financial pressures or pressure from stakeholders that may cause them to terminate contracts for our services that may be regarded
as non-essential or to redefine or reduce the scope of our contracts by, for example, significantly reducing the volume of data
that we are permitted to audit. Despite our right to prompt and full payment under the terms of our contracts, we could face challenges
in obtaining timely or full payments for our properly provided services from our customers. If there is a substantial reduction
in the scope of our services under, or a termination of, any of our key contracts with our major customers, or if we are exposed
to significant costs, liabilities or negative publicity, our ability to compete for new contracts with current or prospective customers
could be damaged and our business, financial condition, reputation, results of operations and cash flows could be materially adversely
affected.
Any failure to maintain
effective information processing systems and the integrity of the data in, and operations of, those systems could materially adversely
affect our business, financial condition, results of operations and cash flows.
Our ability to conduct our operations and
accurately report our financial results depends on the integrity of the data in our information systems and the processes performed
by those systems. These information systems and applications require continual maintenance, upgrading and enhancement to meet our
operational needs, satisfy customer requests and handle our expansion and growth. Despite our testing and quality control measures,
we cannot be certain that errors or system deficiencies will not be found and that remediation can be done in a timeframe that
is acceptable to our customers, or that customer relationships will not be impaired by the occurrence of errors or the need for
remediation. In addition, implementation of upgrades and enhancements may cost more, take longer or require more testing than originally
expected. Given the large amount of data we collect and manage, it is possible that hardware failures or errors or technical deficiencies
in our systems could result in data loss or corruption or cause the information that we collect, utilize or disseminate to be incomplete
or contain inaccuracies that our customers regard as significant. Situations may also arise in which the accuracy of our data analysis
or the content and quality of our work product is central to the disposition of claims, controversies or litigation between our
customers and third parties that would require us to allocate significant resources to fulfilling our contractual obligations to
provide our customers with full and complete access to records, analysis and back-up documentation of our work. Assuring our capacity
to fulfill these obligations as well as actually fulfilling them could impose significant burdens on our infrastructure for data
storage, maintenance and processing, and require us to incur increased costs to supplement our personnel, data storage and computing
resources, which could materially and negatively impact other business operations.
We depend on many
different entities to supply information and an inability to successfully manage our relationships with a number of these suppliers
may harm the quality and availability of our solutions and services.
We obtain the data used in our solutions and services from many sources, including commercial health insurance
plans, financial institutions, managed care organizations, government entities and non-government entities. From time to time,
challenges arise in managing and maintaining our relationships with data sources that are not our customers and that furnish information
to us pursuant to a combination of voluntary cooperation and legal obligations under laws and regulations that are often subject
to differing interpretation. For example, data suppliers could seek to limit or end our access to and use of their data if they
determine that certain uses of data for our customers are not permitted by our agreements, or such suppliers may make errors in
compiling, transmitting or accurately characterizing data or have technological limitations that interfere with our receipt or
use of the data we rely on them to provide. If a number of our information sources become unable or unwilling to provide us with
certain data under terms of use that are acceptable to us and our customers, or if laws and regulations for use and protection
of this data changes in a way that disincentivizes our suppliers, or imposes unacceptable or unreasonable conditions or risks on
us, we may not be able to obtain new or favorable agreements with alternative data suppliers. In addition, our ability to normalize
and fully utilize the information we have received from various data sources in order to enhance and improve current solutions
for our customers is an important component of our growth strategy. Although we believe that we have the legal and contractual
rights necessary to normalize and use the data we have obtained from these sources for potential or contemplated solution and service
offerings, we cannot provide assurance that these entities will permit the use of their data for
these purposes. If we lose a number of our data sources or access to certain data and are unable to identify and reach the requisite
agreements with suitable alternative suppliers or fail to successfully integrate them into our solution and service offerings,
or if there is a lack of integrity in the data that current or future suppliers provide, we could experience service disruptions,
increased costs, reduced quality of our solutions and services, or performance penalties under our customer contracts, which could
have a material adverse effect on our business, financial condition, results of operations and cash flows.
We may rely on sub-contractors
and other third party providers to provide customers with a single-source solution or service or we may serve as a sub-contractor
to a third party prime contractor. If these parties fail to satisfy their obligations to us or if we are unable to maintain these
relationships, our business, financial condition, results of operations and cash flows could be materially adversely affected.
In some areas of our business we may engage
sub-contractors, teaming partners, vendors or other third party providers to provide our customers with a single-source solution
or service for a broader range of service needs. These third parties include software vendors, utility and network providers and
other information technology service providers. Our ability to deliver and implement solutions and serve our customers effectively
depends on our ability to obtain permissions from our customers, when necessary, to use these third party sub-contractors, or on
these third parties meeting our service standards in both timeliness and quality. Similarly, we are and may in the future be engaged
as a sub-contractor to a third party prime contractor. Sub-contracting arrangements where we are not the prime contractor pose
unique risks to us because we do not have control over the customer relationship, and our ability to generate revenue under such
sub-contracts is dependent on the prime contractor, its performance and relationship with the customer, and its relationship with
us. While we believe that we perform appropriate due diligence on these parties and take adequate measures to ensure that they
comply with the appropriate laws and regulations, we cannot guarantee that they will comply with the terms set forth in their agreements
with us or in the case of a prime contractor, their agreement with the customer or that they will provide adequate and timely services,
construe their contractual rights and obligations in a reasonable way, act appropriately in dealing with us or customers, and remain
in compliance with the relevant laws, rules or regulations. As a result, we may have disputes with these parties arising from these
or other matters. Performance deficiencies or misconduct by our prime contractors or sub-contractors may be perceived as inadequacies
in our solutions or services or cause us to fail to fulfill our contractual obligations to our customers, which could materially
adversely affect our customer relationships and reputation, result in termination of a customer contract or the sub-contractor
or partner, and subject us to a dispute with our customer or such third party. In addition, if our third party service providers
terminate or refuse to renew their relationships with us or offer their products to us in the future on less advantageous terms,
we may not be able to perform or deliver solutions or services for existing customers as expected. Likewise, we could suffer losses
in the event a prime contract, under which we serve as a sub-contractor, is terminated, whether for non-performance by the prime
contractor or otherwise. Upon any such termination of the prime contract, our sub-contract will similarly terminate, and the resulting
contract loss could materially adversely affect our business, financial condition, results of operations and cash flows.
We obtain a significant
portion of our business through competitive bidding in response to government requests for proposals. Reprocurements and future
contracts may not be awarded through this process on the same level or our contract awards may be challenged by interested parties
which could materially adversely affect our business, financial condition, results of operations and cash flows.
In order to market our solutions and services
and compete for contracts with existing and potential state and federal customers, we are often required to respond to government-issued
RFPs. These RFP responses typically require us to assemble and submit a large volume of information within a rigid timetable, and
to accurately estimate our cost structure for servicing the proposed contract, the time required to establish operations and the
likely terms of any proposals submitted by our competitors. We may also be required to disclose the occurrence of any negative
events suffered by our business, such as customer disputes, a government inquiry or an adverse judgment or settlement in litigation
or a legal proceeding, which could impair our ability to win the contract at issue or have a material adverse effect on our reputation
in the industry.
Even if we win these contracts, we
may fail to secure favorable contract terms and conditions, or a government’s determination to award us the contract may
be challenged by an interested party. Under the state and federal laws and regulations governing procurements of goods and services,
challenges and award protests may be filed even if there are no valid legal grounds on which to base the protest. The filing of
such challenges could potentially delay the start or implementation of the contract if the government agency determines to withhold
a contract award or suspend contract performance while the protest is being considered, or to take corrective action on its own,
such as soliciting new bids or terminating the contract award or current procurement. In the event of irregularities, we perceive
or learn of in the award or bidding process, we also may be forced to file protests in response to RFP awards to other bidders.
Resolution of a protest, even in our favor, could force us to expend considerable funds in disputing the potential award or to
incur additional expenses to maintain our ability to timely start implementation, which may cause our actual results to differ
materially and adversely from those anticipated. In addition, if we are unable to win reprocurements or protests of particular
contracts, we may be precluded from entering certain customer markets for the term of the contract awarded to another party. Any
failure to continue to obtain contracts in response to government RFPs, to design proposals that result in profitable contracts,
to win new contracts or re-procure current contracts after they expire or to prevail in protests or challenges of contract awards
could have a material adverse effect on our business, financial condition, results of operations and cash flows.
Adverse judgments
or settlements in legal proceedings could materially harm our business, financial condition, operating results and cash flows.
We are subject and may be a party to lawsuits
and other claims that arise from time to time in the ordinary course of our business, which may include those related to, for example,
contracts, sub-contracts, teaming agreements, protection of confidential information or trade secrets, adversary proceedings arising
from customer bankruptcies, employment of our workforce and immigration requirements or compliance with any of a wide array of
state and federal statutes, rules and regulations that pertain to different aspects of our business. We may also be required to
initiate expensive litigation or other proceedings to protect our business interests. There is a risk that we will not be successful
or otherwise be able to satisfactorily resolve any pending or future litigation. In addition, litigation and other legal claims
are subject to inherent uncertainties and management’s view of currently pending legal matters may change in the future.
Those uncertainties include, but are not limited to, litigation costs and attorneys’ fees, unpredictable judicial or jury
decisions and the differing laws and judicial proclivities regarding damage awards among the states in which we operate. Unexpected
outcomes in such legal proceedings, or changes in management’s evaluation or predictions of the likely outcomes of such proceedings
(possibly resulting in changes in established reserves), could have a material adverse effect on our business, financial condition,
results of operations and cash flows.
We may not be able to deliver our solutions
and services efficiently if we are unable to attract and retain qualified employees.
Our successful delivery of services and
solutions is dependent upon our ability to recruit, employ, train and retain skilled personnel. Our ability to maintain our productivity
and profitability is limited by our ability to attract and retain the skilled personnel necessary to sustain our business and operations.
The success of recruitment and retention strategies depend on a number of factors, including the competitive demands for employees
having the skills we need and the level of compensation required to hire and retain such employees. As our business expands and
undergoes change, we may also find it difficult to preserve our corporate culture, which could reduce our ability to innovate and
operate effectively or result in a loss of experienced personnel. In addition, our customers or competitors may hire away our qualified
employees. We may not be able to recruit the appropriate personnel or maintain the personnel necessary to efficiently operate and
support our business, and even if our recruitment and retention strategies are successful, our labor costs may increase significantly.
Our inability to hire sufficient personnel on a timely basis without significantly increasing our labor costs could materially
adversely affect our business, financial condition, results of operations and cash flows.
Our future success
depends, in part, on the continued service of members of our management team.
Our ability to execute on our business
plans and future success requires that we attract, develop, motivate and retain experienced and innovative executive officers and
senior managers who have successfully managed, designed or implemented government services programs or information technology projects,
or have relevant experience in other sectors of data management or the healthcare industry. These individuals are in great demand
and are likely to remain a limited resource in our industry. The loss of services of one or more members of our management team
could materially adversely affect our business, financial condition, results of operations and cash flows. In addition, to the
extent we lose an executive officer or senior manager, we may incur increased expenses in connection with the hiring, promotion
or replacement of these individuals and the transition of leadership and critical knowledge.
Our outstanding indebtedness
could materially adversely affect our financial condition and our ability to operate our business, and we may not be able to generate
sufficient cash flows to meet our debt service obligations.
As of December 31, 2016, the outstanding
principal balance due under our Credit Agreement was $197.8 million. Our outstanding indebtedness and any additional indebtedness
we incur may have important consequences for us, including, without limitation, that: (i) we may be required to use a substantial
portion of our cash flow to pay the principal of and interest on our indebtedness; (ii) our indebtedness and leverage may increase
our vulnerability to adverse changes in general economic and industry conditions, as well as to competitive pressures; (iii) our
ability to obtain additional financing for working capital, capital expenditures, acquisitions and for general corporate and other
purposes may be limited; and (iv) our flexibility in planning for, or reacting to, changes in our business and our industry may
be limited.
In addition, our ability to make payments
of principal and interest on our outstanding revolving credit facility depends upon our future performance and our ability to generate
cash flows. Under the terms of the Credit Agreement, we are required to comply with specified financial and operating covenants,
which may limit our ability to operate our business as we otherwise might operate it. For example, our obligations may be accelerated
upon the occurrence of an event of default, including, without limitation, payment defaults, failure to perform affirmative covenants,
failure to refrain from actions or omissions prohibited by negative covenants, the inaccuracy of representations or warranties,
cross-defaults, bankruptcy and insolvency related defaults, defaults relating to judgments, defaults due to certain ERISA related
events and a change of control default. If not cured, an event of default would result in any amounts outstanding, including any
accrued interest and unpaid fees, becoming immediately due and payable, which would require us to, among other things: seek additional
financing in the debt or equity markets, refinance or restructure all or a portion of our indebtedness, sell selected assets, and/or
reduce or delay planned capital or operating expenditures. Such measures might not be sufficient to enable us to service our debt,
and any such financing or refinancing might not be available on economically favorable terms or at all. If we are not able to generate
sufficient cash flows to meet our debt service obligations or are forced to take additional measures to be able to service our
indebtedness, our business, financial condition and results of operations could be materially and adversely affected.
Changes in, or interpretations
of, tax rules and regulations may materially adversely affect our effective tax rates.
We are a United States-based company subject
to various federal, state and local tax laws and regulations in multiple U.S. jurisdictions that govern numerous aspects of our
business. As we expand our business, we may perform services for new customers located outside of the United States or in a U.S.
Territory, which may subject us to foreign tax laws and regulations that could increase our exposure to additional tax liabilities.
Unanticipated changes in our tax rates could affect our future results of operations. Our future effective tax rates could be unfavorably
affected by changes in the tax rates in jurisdictions where our income is earned and taxed, by changes in, or our interpretation
of, tax rules and regulations in the jurisdictions in which we do business, by providing services in new jurisdictions, by increases
in expenses not deductible for tax purposes including impairments of goodwill, by changes in U.S. GAAP or by changes in the valuation
of our deferred tax assets and liabilities. Furthermore, the results of the 2016 elections create uncertainty regarding future
potential tax law reform.
In addition, we are subject to the continual
examination of our income tax returns by the IRS and other domestic tax authorities. We regularly assess the likelihood of outcomes
resulting from these examinations to determine the adequacy of our provision for income taxes and have reserved for potential adjustments
that may result. The final determination of any of these examinations could have a material adverse effect on our business, financial
condition, results of operations and cash flows.
Our health insurance
coverage and self-insurance reserves may not cover future claims, which could materially adversely affect our business, financial
condition, results of operations and cash flows.
We maintain various insurance policies
for company employee health, workers’ compensation, general liability and property damage. We are self-insured for our health
plans, and have purchased a fully-insured stop loss policy to help offset our liability for both individual and aggregate claim
costs. We are also responsible for losses up to a certain limit for workers’ compensation, general liability and property
damage insurance.
For policies under which we are responsible
for losses, we record a liability that represents our estimated cost of claims incurred and unpaid as of the balance sheet date.
Our estimated liability is not discounted and is based on a number of assumptions and factors, including historical trends, actuarial
assumptions and economic conditions, and is closely monitored and adjusted when warranted by changing circumstances. Our prior
growth could affect the accuracy of estimates based on historical experience. Should a greater amount of claims occur compared
to what was estimated or medical costs increase beyond what was expected, our accrued liabilities might not be sufficient and we
may be required to record additional expense. Unanticipated changes may also produce materially different amounts of expense than
reported under these programs, which could materially adversely affect our business, financial condition, results of operations
and cash flows.
We
identified material weaknesses in our internal control over financial reporting, and if we fail to remedy
them or other material weaknesses that we may identify in the future, our financial statements could be materially misstated.
Our management is responsible for
establishing and maintaining adequate internal control over our financial reporting, as defined in Rule 13a-15(f) under the Exchange
Act. As described in Part II, Item 9A of this Annual Report on Form 10-K, management identified material weaknesses in our internal
control over financial reporting as of December 31, 2016 related to the calculation of the estimated liability for appeals balance
in connection with our CMS reserve and the valuation of our accounts receivable allowance. These material weaknesses resulted
in an immaterial reclassification error in revenue and selling, general and administrative expenses that was corrected prior to
issuance of the consolidated financial statements. Until remediated, these material weaknesses could
result in misstatements of account balances or disclosures that would result in a material misstatement to the annual or interim
consolidated financial statements that will not be prevented or detected on a timely basis.
We are actively revising and supplementing
our control environment and our risk assessment process and the design of our process level controls in order to remediate these
material weaknesses, including a set of compensating controls in the near term. We are enhancing and revising the design of controls
and procedures to ensure the calculations of the CMS reserve and the accounts receivable allowance properly utilize historical
information to derive the period-end balances. Additionally, management will be supplementing the review controls over the CMS
reserve and the accounts receivable allowance, and controls over the completeness and accuracy of the data used to calculate the
balances, with additional levels of review involving senior members of our accounting department and will assess the need for
additional remediation steps.
We cannot predict the outcome of
our assessment and that of our independent registered public accounting firm in future periods. If our remedial measures are insufficient
to address the material weaknesses, or if additional material weaknesses or significant deficiencies in our internal controls
are discovered or occur in the future, we may fail to meet our future reporting obligations on a timely basis, our financial statements
may contain material misstatements, our operating results or financial condition may be negatively impacted, and we may be subject
to litigation and regulatory actions, causing investor perceptions to be adversely affected and potentially resulting in a decline
in the market price of our common stock.
Risks Relating to
Our Industry
Our business could
be materially adversely affected by changes in the U.S. healthcare environment or in laws relating to healthcare programs and policies,
particularly as they relate to the ACA and the Medicare and Medicaid programs.
The healthcare industry in the United States
is subject to changing political, economic and regulatory influences that may affect the procurement practices and operations of
federal, state and commercial healthcare organizations and agencies. The ACA’s emphasis on program integrity and cost containment,
along with its expansion of Medicaid, created new opportunities to grow our business and our service offerings. However, due to
a wide range of factors contributing to uncertainty of the healthcare landscape, including, among other factors, the results of
the 2016 elections, Congressional activity to repeal the ACA, and the numerous, varying ACA replace measures that may encompass
Medicaid, Medicare and commercial insurance, it is difficult to predict its full impact and influence on future changes to healthcare
policy. Policies that fundamentally change the financial structure of the Medicaid program, currently funded jointly by the states
and the U.S. Federal Government, could result in early termination or non-renewal of our contracts with certain state government
customers. Federal changes may also reduce reimbursement rates to states, establish new payment models, increase or decrease government
involvement in healthcare, decrease the Medicare RAC Program, or otherwise change the operating environment for our customers.
Healthcare organizations may react to such changed circumstances and financial pressures by taking actions to ramp up, curtail
or defer their retention of cost containment providers like us, which could impact the demand for our solutions and services. While
certain changes may present new opportunities to us, our business, financial condition, results of operations and cash flows could
be materially adversely affected if efforts to waive, modify or otherwise change the ACA, in whole or in part, are successful,
if we are unable to adapt our solutions and services to meet changing requirements or expand service delivery into new areas, or
if the demand for our solutions and services is reduced.
Healthcare spending
fluctuations, simplification of the healthcare payment process or other aspects of the healthcare financing system, budgetary pressures
and/or programmatic changes diminishing the scope of program benefits, or limiting payment integrity initiatives, could reduce
the need for and the price of our solutions and services, which would have a material adverse effect on our business, financial
condition, results of operations and cash flows.
Our projections and expectations are premised,
in part, upon consistent growth rates in spending in the Medicare and Medicaid programs, the current healthcare financing system
and the need for our solutions and services within that existing framework. Our success as a company is based on offering solutions
and services that improve the ability of our customers to identify and recover revenue that would otherwise be lost often as a
result of procedural inefficiencies and complexities in that system. However, the need for our solutions and services, the price
customers are willing to pay for them or the scope and profitability of our contracts could be negatively affected by a number
of factors, including a lower than projected growth in Medicare and Medicaid programs due to developments such as the possible
repeal of or modification to the ACA, and any action taken to reduce eligibility or services, or reform Medicaid spending. The
absence of near-term compliance deadlines effected by the ACA and other legislation could additionally cause our revenue to decline.
There can be no certainty that additional incentives will be created in regard to our solutions and services, or that any legislation
or regulations that may be adopted would favorably impact our business.
Modifications in provider billing behavior
and habits, often in response to the success of our solutions and services or to changes that reduce healthcare spending, could
also reduce the profitability of our contracts and reduce the need for our solutions and services. Compounding this are budgetary
pressures that may drive changes at the state level. The demand for our solutions and services could also be impacted by other
changes in government healthcare programs or in the level of government spending, such as:
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the
simplification of the healthcare benefit and payment system through legislative or regulatory
changes at the federal or state level (for example, legislative changes impacting the
scope of mandatory audits; limiting or reducing the amount of reviewable claims and/or
the look-back period for review in areas where we conduct audits);
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unanticipated
reductions in the scope of program benefits (such as, for example, state decisions to
eliminate coverage of optional Medicaid populations or services or shifting lives into
managed care plans); or
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limits
placed on ongoing program integrity initiatives.
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For example, during 2014 and 2015, our recovery audit services
under HDI’s existing Medicare RAC contract were limited because of significant delays in procurement activities for the
new Medicare RAC contract awards, resulting from, in part, the cancellation of the original and second procurements following
the denial of pre-award protests and ongoing litigation regarding certain payment terms proposed by CMS as part of the new Medicare
RAC proposals. In October 2016, CMS announced the new awards, including the award of RAC Region 4 to our wholly owned subsidiary.
These new Medicare RAC contracts are currently being implemented and we currently expect that audits will begin in Q2 2017. Our
existing Medicare RAC contract ends on January 31, 2018, and we are required to maintain certain reserves related to pending appeals
for this contract through at least this date. In addition, CMS has shifted the responsibility for initial medical reviews of short
inpatient stays from the Medicare RACs to Quality Improvement Organizations, further restricting the Medicare RACs review to a
small subset of claims for potential payment inaccuracies. CMS has also implemented new ADR limits for inpatient providers that
reduces the ADR requirement to 0.5% under the new contract, down from the 2.0% ADR requirement under the prior contract. This
change significantly impacts the volumes of claims Medicare RACs are permitted to review for inpatient providers and reduces their
ability to identify overpayments and underpayments under their Medicare RAC contracts. For the new contract, CMS has continued
to maintain the previously established ADR limits for institutional providers, originally established in January 2016, which reduced
the ADR requirement to 0.5%. In April 2016, CMS instituted a new policy adjusting ADR limits based on provider denial rate after
three (3) 45-day ADR cycles. This change significantly impacts the volumes of claims Medicare RACs are permitted to review for
inpatient providers, and reduces their ability to identify overpayments and underpayments under their Medicare RAC contracts in
the near term, pending the adjustment of ADR limits based on provider denial rates established following the first three (3) cycles
of RAC reviews.
Further, in August 2014, CMS announced it would settle
with hospitals willing to withdraw inpatient status claims currently pending in the RAC appeals process by offering to pay
hospitals 68% for all eligible claims they had billed to Medicare. In June 2015, CMS notified HDI that based on the initial
lists of finalized settlements, HDI owed CMS approximately $28.6 million due to adjustments in contingency fees under our
existing Medicare RAC contract. HDI previously advised CMS that it disagrees with CMS’ interpretation of the contract
and that CMS does not have the contractual right, among other things, to require repayment of fees already paid. The amount
ultimately payable to CMS by HDI remains uncertain. In addition, in September 2016, CMS announced that it would extend an
opportunity for another round of settlements for hospitals that were eligible for but did not choose to participate in the
2014 settlement, with CMS offering to pay 66% for all eligible claims they had billed to Medicare. We believe this settlement
will be processed and evaluated by CMS over the course of 2017, and the number and amount of claims that will be subject to
the 2016 settlement remains uncertain. There could be a material negative impact on our future revenue to the extent that (i)
any final determination of amounts owed by us to CMS under the current Medicare RAC contract materially exceeds our
accrued reserves for such appeals, (ii) we are required to increase or decrease our contractually required reserves with
respect to pending appeals due to changes in appeal performance, changes in data provided to us from other entities in the
RAC process, or other related factors, (iii) we are required to repay a portion of prior fees associated with the hospital
settlement program, (iv) we are unable to obtain full payments for properly provided services, or (v) future fees payable to
us by CMS are reduced. Although we do not anticipate our Medicare RAC contract will represent a significant portion of our
business going forward, our Medicare RAC contract still represents a future business opportunity for us and any of these
factors or other changes to the Medicare RAC program that materially reduce our revenue or profitability with such program
could have a material adverse effect on our business, financial condition, results of operations and cash flows.
A failure to comply with the laws and
regulations that apply to companies in our industry regarding individual privacy and information security could subject us to legal
actions, fines and penalties and negatively impact our reputation and operations.
As a service provider, we often receive,
process, transmit and store sensitive data, including PHI and personally identifiable information of individuals, as well as other
financial, confidential and proprietary information belonging to our customers, subsidiaries, data supplies and other third parties
from which we obtain information. The use and disclosure of that information is regulated at the federal, state, international
and industry levels and we are also obligated by our contractual requirements with customers. For example, we are subject to federal
regulation under HIPAA, as amended by the HITECH Act, the Final Omnibus Privacy, Security, Breach Notification, and Enforcement
Rule, which modified and supplemented many of the standards and regulations under HIPAA and the HITECH Act, and various state laws.
HIPAA also imposes standards and requirements on our business associates as defined under HIPAA.
Even though we take measures to comply
with all applicable regulations and to ensure our business associates and sub-contractors comply with these laws, regulations and
rules, we have less than complete control over our business associates’ and sub-contractors’ actions and practices.
We may be exposed to data breach risk if there is unauthorized access to one of our or our sub-contractors’ secure facilities
or from lost or stolen laptops, other portable media from current or former employee theft of data containing PHI, from misdirected
mailings containing PHI, or other forms of administrative or operational error. If we or our sub-contractors fail to comply with
applicable laws; if unauthorized parties gain physical access to one of our facilities and steals or misuses confidential information;
if we erroneously use or disclose data in a way that is inconsistent with our granted rights; or if such information is misdirected,
lost or stolen during transmission or transport, we may suffer damage to our reputation, potential loss of existing customers and
difficulty attracting new customers. We could also be exposed to, among other things, unfavorable publicity, governmental inquiry
and oversight, allegations by our customers that we have not performed our contractual obligations, costs to provide notifications
to affected individuals, or litigation by affected parties and possible financial obligations for damages or indemnification obligations
related to the theft or misuse of such information, any of which could have a material adverse effect on our business, financial
condition, results of operations and cash flows.
In addition, laws, rules and regulations
concerning the protection of personal information are subject to frequent change by legislation, regulatory issuances or administrative
interpretation. As regulatory focus on privacy issues continues to increase and these laws and regulations continue to expand and
become more complex, these potential risks to our business could intensify. Changes in laws or regulations associated with the
enhanced protection of certain types of sensitive data, such as healthcare data or other personally identifiable information, along
with increased customer demands for enhanced data security infrastructure, could greatly increase our cost of providing our solutions
and services.
We are subject to
extensive government regulation, including government audits and investigations relating to our compliance with the laws and regulations
applicable to companies in our industry, and a negative finding or other adverse determination could have a material adverse effect
on our reputation, business, financial condition, results of operations and cash flows.
Much of our business is regulated by the
federal government and the states in which we operate. The laws and regulations governing our operations are generally intended
to benefit and protect individual citizens, including government program beneficiaries, health plan members and providers, rather
than shareholders, and the government agencies administering these laws and regulations have broad latitude to enforce them. As
such, we are subject, on an ongoing basis, to various governmental reviews, audits and investigations to verify our compliance
with our contracts and applicable laws and regulations, as well as legal actions and enforcement proceedings. For example, because
we receive payments from federal and state governmental agencies, we are subject to various laws, including the Federal Acquisition
Regulations, the Foreign Corrupt Practices Act, federal and state employment, equal opportunity and affirmative action laws, federal
and state prompt pay statutes. We are also subject to Federal False Claims Act and similar state statutes, which permit government
law enforcement agencies to institute suits against us for violations and, in some cases, to seek double or treble damages, penalties
and assessments. In addition, private citizens, acting as whistleblowers, can sue on behalf of the government under the “
qui
tam
” provisions of the Federal False Claims Act and similar statutory provisions in many states.
The expansion of our operations into new
solutions and services may further expose us to requirements and potential liabilities under additional statutes and legislative
schemes that have previously not been relevant to our business, such as banking and credit reporting statutes, that may both increase
demands on our resources for compliance activities and subject us to potential penalties for noncompliance with statutory and regulatory
standards. Increased involvement in analytic or audit work that can have an impact on the eligibility of individuals for medical
coverage or specific benefits, or payments made by our customers to providers, could increase the likelihood and incidence of our
being subjected to scrutiny or legal actions by parties other than our customers, based on alleged mistakes or deficiencies in
our work, with significant resulting costs and strain on our resources.
These laws and regulations, along with
the terms of our government contracts, regulate how we do business, what solutions and services we offer and how we interact with
our customers, providers, other healthcare payers and the public. If the government discovers improper or illegal activities in
the course of audits or investigations, we may be subject to various civil and criminal penalties and administrative sanctions,
which may include termination of contracts, forfeiture of profits, suspension of payments, fines and suspensions and debarment
from doing business with the government. Similarly, if our customers assert that we have failed to properly perform or comply with
our contractual obligations, or if the carriers to which we send billings assert that we have failed to properly comply with applicable
federal or state billing rules and regulations, we may be required to provide refunds or make payments to resolve such issues.
The risks to which we are subject, particularly under the Federal False Claims Act and similar state fraud statutes, have also
increased in recent years due to legislative changes that have (among other amendments) expanded the definition of a false claim
to include, potentially, any unreimbursed overpayment received from, or other monetary debt owed to, a government agency. This
subjects us to potential liability for a false claim, for example, where we may be overcharged for services by a sub-contractor
and may pass that charge on to a government customer, or where we may have a good faith disagreement with a government agency’s
view of whether an overpayment has occurred. If we are found to be in violation of any applicable law or regulation, or if we receive
an adverse review, audit or investigation, any resulting negative publicity, penalties or sanctions could have an adverse effect
on our reputation in the industry, impair our ability to compete for new contracts or bid in response to RFPs in one or more jurisdictions
and have a material adverse effect on our business, financial condition, results of operations and cash flows.
Federal and state
governments may limit or prohibit outsourcing of certain programs or functions, refuse to grant consents or waivers necessary to
permit private entities to perform such work, or impose other limitations on outsourcing or certain vendors that may obstruct cost-effective
performance of our contracts.
The federal government or a state could
limit or prohibit private contractors like us from operating or performing elements of certain government functions or programs.
State or local governments could be required to operate such programs with government employees as a condition of receiving federal
funding. Moreover, under current law, in order to privatize certain functions of government programs, the federal government must
grant a consent and/or waiver to the petitioning state or local agency. If the federal government does not grant a necessary consent
or waiver, the state or local agency will be unable to outsource that function to a commercial entity. Such a situation could eliminate
a contracting opportunity or reduce the value of an existing contract.
Similarly, other state or federal limitations
on outsourcing certain types of work to vendors that supplement our own workforce could make it more difficult for us to fulfill
our contracts in a cost-effective manner. Certain segments of our operations use or involve vendor or sub-contractor personnel
located outside of the United States, who may (under carefully controlled circumstances) access certain PHI in the course of assisting
us with various elements of the services we provide to our customers. There is, however, increasing pressure from an expanding
number of sources to prohibit the use of off-shore labor, particularly on government contracts. The federal government and a number
of states have considered laws or issued rules, regulations, and orders that would limit, restrict or wholly prohibit the use of
off-shore labor in performance of government contracts, or impose sanctions for the use of such resources. Some of our customers
have already chosen to contractually limit or restrict our ability to use off-shore resources. Intensified restrictions of this
type or associated penalties could raise our costs of doing business, expose us to unexpected fines or penalties, increase the
prices we must charge to customers to realize a profit and eliminate or significantly reduce the value of existing contracts or
potential contract opportunities, any of which could have a material adverse effect on our business, financial condition, results
of operations and cash flows.
We may be precluded
from bidding on or performing certain work due to work we currently perform, which could materially adversely affect our business,
financial condition, results of operations and cash flows.
Various laws, regulations and administrative
policies prohibit companies from performing work for government agencies in capacities that might be viewed to create an actual
or perceived conflict of interest. In particular, CMS has stringent conflict of interest rules, which can limit our bidding for
specific work for CMS, or for other contracts that might conflict, or be perceived by CMS to conflict, with contractual work for
CMS. State governments and managed care organizations also have conflict of interest restrictions that could limit our ability
to bid for certain work and impede our overall sales strategy. As we continue to expand and diversify our business operations,
the likelihood that customers or potential customers will perceive conflicts of interest between our various subsidiaries, solutions,
services, activities and customer relationships may increase. Such conflicts, whether real or perceived, could result in a loss
of contracts or additional internal structural barriers that delay operational efficiency, or may require that we divest ourselves
of certain existing businesses or reorganize our current management and personnel structure, as well as our corporate organization
and entity structure, in order to qualify for new contract awards or to appropriately mitigate conflicts and otherwise accommodate
the needs as a company that is expanding in complexity. Our failure to devote sufficient care, attention and resources to managing
these adjustments may result in technical or administrative errors that could expose us to potential liability or adverse regulatory
action. In addition, conflict of interest rules and standards change frequently, and are subject to varying interpretations and
varying degrees and consistency of enforcement at the federal, state and municipal levels, and we may not be successful in navigating
these restrictions. If we are prevented from expanding our business or are unable to effectively implement our strategic initiatives
due to real or perceived conflicts of interest, our business, financial condition, results of operations and cash flows could be
materially adversely affected.
Risks Related to Our
Common Stock
The market price
of our common stock may be volatile, and fluctuations in the price of our common stock may materially adversely affect our business,
financial condition, results of operations and cash flows and materially adversely affect our shareholders.
The market price of our common stock
has fluctuated widely and may continue to do so. During the 52-week period ended May 31, 2017, the closing price of our common
stock on the NASDAQ Global Select market ranged from a high of $23.46 per share, to a low of $16.18 per share. Our stock price
is subject to fluctuation as a result of a variety of factors, including factors beyond our control including the risk factors
described above and those which are related to:
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changes
in estimates of our performance or recommendations by securities analysts and operating
and stock price performance of other companies that investors deem comparable to our
company;
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news
reports relating to trends, concerns and other issues in the healthcare industry, including
perceptions in the marketplace regarding us and our competitors;
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the
financial projections we publicly provide and any changes in or failure to meet those
projections;
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future
sales of shares of common stock in the public market by our executive officers or directors;
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any
other changes in the amount of our outstanding shares, including as a result of share
repurchases;
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the
public’s response to our press releases, or other public announcements, including
our filings with the SEC;
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securities
class actions, shareholder lawsuits or other litigation; and
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market
conditions in the industry and the economy as a whole.
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In addition, the stock market often experiences
significant price and volume fluctuations. These fluctuations are often unrelated to the operating performance of particular companies.
These broad market fluctuations may materially adversely affect the market price of our common stock. When the market price of
a company’s stock drops significantly, shareholders may institute securities class action litigation against that company.
Any litigation against us could cause us to incur substantial costs, divert the time and attention of our management and other
resources or otherwise harm our business.
Because we do not
intend to pay dividends, you will benefit from an investment in our common stock only if it appreciates in value.
We have paid no cash dividends on any of
our capital stock to date and currently intend to retain our future earnings, if any, to fund the development and growth of our
business. As a result, we do not expect to pay any cash dividends in the foreseeable future. The success of your investment in
our common stock will likely depend entirely upon any future appreciation. There is no guarantee that our common stock will appreciate
in value or even maintain the price at which you purchased your shares.
Certain provisions
of our certificate of incorporation and bylaws could discourage unsolicited takeover attempts, which could depress the market price
of our common stock.
Our certificate of incorporation authorizes
the issuance of up to 5,000,000 shares of “blank check” preferred stock with such designations, rights and preferences
as may be determined by our Board of Directors. Accordingly, our Board of Directors is empowered, without shareholder approval,
to issue preferred stock with dividend, liquidation, conversion, voting or other rights, that could adversely affect the voting
power or other rights of holders of our common stock. In the event of issuance, preferred stock could be utilized, under certain
circumstances, as a method of discouraging, delaying, or preventing a change in control. Although we have no present intention
to issue any shares of preferred stock, it is possible that we will do so in the future. In addition, our bylaws provide for a
classified Board of Directors, require advance notice of shareholder proposals for business to be conducted at meetings of our
shareholders and for nominations of candidates for election to our Board of Directors and provide for Delaware as an exclusive
forum for certain disputes with our shareholders, all of which could also have the effect of discouraging a change of control.