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Anticipating huge growth from the new health-care law, an auditor of overpayments boosts its capital expenditures.
David M. Katz, CFO.com | US
December 30, 2010
In times of slow growth like the present, efficiency itself can be a growth industry. Few finance chiefs are in a better position to understand the need to make the most out of their companies' operations than Bob Lee, CFO of PRGX Global.
There are two main reasons for this. One is that PRGX is in the business of auditing the transactions of retailers, other corporate clients, and governmental agencies to help them recover overpayments. The second reason is that the company has a history of fruitful rightsizing. By 2005, after more than a decade of acquisition-fueled growth, PRGX found its cash flow sputtering and its revenue declining. That led to a massive round of cost-cutting from 2005 through 2007, during which time the company trimmed about $50 million of its overhead. The cuts more than matched a $25 million decline in revenue, helping the company to transform its cash-flow status from negative to positive.
Efficiency, however, has its limits. Such shrinkage "was not sustainable," says Lee, because it didn't account for PRGX's need to at least maintain market leadership. Thus, the company changed its strategy and has been investing in capital expenditures and the expansion of its sales and business-development staff. Certain provisions of the health-care law signed by President Obama last year are also sparking high hopes for growth at the company.
In a recent interview with CFO, Lee expressed excitement about the company's efforts to meet an April 2011 deadline for submitting requests for proposal to provide recovery services for state Medicare and Medicaid services. An edited version of the interview follows.
How do you find your clients' overpayments?
Once we've executed a contract with a client, who might be a CFO for a major retailer, for example, we'll send in our data-acquisition specialist and talk to the company's buyers and merchandisers and fully examine its entire procure-to-pay process to identify the exact data we need. We will tell the CIO how to best give us that data.
The data comes from deal sheets and purchasing, receiving, and disbursement records. Nowadays we also get point-of-sale records because there's a lot of allowances and deals made around that data. Most recently, we're started to get the buyers' e-mail data, because we have tools to examine that e-mail for deals made. At any given time, we have about 4 million gigabytes of data in our systems. We typically look at about 1.5 trillion transactions a year. On average we've recovered about $1 billion a year for our clients for the past five years.
How does PRGX earn its keep?
We work on a pure contingency basis, and get paid percentage fees based on what we find. If we don't add money to our clients' bottom lines, then we don't get paid.
In the old days, the audit-recovery business focused on duplicate payments; that is, the client paid an invoice twice as a result of keying errors or simple misspellings. That was the original business model. Those types of errors are now less than 5% [of the total found], because of upgrades in the types of errors we find. What we now find is closer to the contract-compliance area: missed allowances, missed discounts, missed inclusion of certain families of products that should have been included.
We also monitor such things as daily vendor price changes. For the $100 billion global retailers, you're talking about pricing changes in millions and millions of stock-keeping units from hundreds of thousands of vendors. We're finding that 99.9% of the time they get it right — retailers and grocers have error rates of about 0.1%. But when you're talking about the kind of spending that they do, that's hundreds of millions of dollars that can go back into their bank accounts.
What led to the company's change of strategy from cost-cutting to growth?
In spite of the extremely successful turnaround that started in 2005, the company's top line was still declining. It was not a sustainable strategy to continue cutting cost in line with the revenue declines. No investment was being made in growth. About a year ago, we started reinvesting in growth. Our capex during those turnaround years was less than 2% of revenues, which is something that a company that uses technology and data just can't do. In 2009 we were up to about 3% of revenue in capex and this year we're at about 4%. We're upgrading our technology and systems so that we can stay current and still lead.
The other hangover from the very deep cuts was a lack of business-development resources, which is also unsustainable. So beginning in 2009 and then more significantly in 2010, we added sales force and business-development people. The returns from those investments probably won't come until late next year. Our free cash flow and EBITDA [earnings before interest, taxes, depreciation, and amortization] are less than they were last year. But our investors have recognized the importance of what we're doing in making those investments.
What opportunities have the new health-care law and other laws created for the company?
In 2003 the Medicare Modernization Act mandated that the Recovery Audit Contractor program be applied to Medicare spending in all 50 states. [The RAC program was created to identify and recover improper Medicare payments to health-care providers.] Those audits are currently under way, and we recognized revenue from contracts we had with states under the program last quarter.
The health-care law enacted [last] year mandated that RAC program auditing be applied to state Medicaid spending. The Medicare spending to which it applies is about $300 billion a year, while the Medicaid spending is about $400 billion a year. The states are already undergoing RFP processes to engage RAC contractors. And we're very excited about getting our share of that business.
What job worries keep you up at night?
Data-security issues. We are extremely cognizant of the importance of the security of our clients' data. The Centers for Medicare & Medicaid Services would not trust us with health-care data, and the global retailers would not trust us with their most valuable data, if they didn't have confidence that we knew how to take care of that data. But if you don't worry about something happening, then something will happen.