Letter to Shareholders



To Our Shareholders:

We are pleased to report that we made substantial progress in 2016 as we continue to position The Providence Service Corporation for long-term, sustainable growth and superior returns on capital.

Our 2016 achievements are part of a multi-year strategy to sharpen our focus, which started in late 2015 following a period of rapid expansion, primarily via acquisition.

Providence’s global growth started in 2014 with two significant acquisitions, both of which continued our rich heritage in providing people-centered services. Providence was able to leverage our historically solid operating cash flow and favorable balance sheet to acquire both Ingeus and Matrix Medical Network (“Matrix”) for approximately $485 million. Each of these acquisitions provided new capabilities in the health and social sectors with differing business models and financial characteristics, while contributing to Providence’s overall strategy of improving outcomes and promoting healthy and productive communities.

In late 2015, Providence recognized that underlying this dramatically larger organization were network platforms where technology and scale could drive competitive advantages, improve outcomes and lower costs for our clients. This recognition led to a refinement of sharpened focus on businesses with these characteristics and, as a result, the sale of Providence Human Services for $200 million.

In 2016, we maintained a strong sense of mission within our businesses. We focused on our strategic objective to deliver attractive risk-adjusted returns to our investors and, to support this objective, honed our holding company tactics to target excellence in both capital allocation and operations.

Following our sale of Providence Human Services, our recent capital allocation highlights include the sale of 53.2% of Matrix to Frazier Healthcare Partners for an after-tax gain of $109.4 million in 2016 and the return of $122.3 million to shareholders in the form of share repurchases from the fourth quarter of 2015 through May 9, 2017. While our M&A activity since 2015 has been focused on opportunistically monetizing certain ownership stakes, we continue to actively identify and evaluate acquisitions and partnerships to take advantage of our valuable networks and position in the US healthcare sector. Looking forward, in the absence of attractive acquisitions, we anticipate continuing to return capital to shareholders in an appropriate manner.

In pursuit of our operational goals, we launched multiple value enhancement initiatives in 2016 to bolster the scale and effectiveness of our network platforms, and improve the profitability outlook for our Workforce Development Services segment (“WD Services”). More specifically, we have started to revitalize sales growth, ensure appropriate cost controls where absent and reduce our capital exposure to business models that do not meet our strategic objectives.

This strategy of seeking excellence in both capital allocation and operational leadership is challenging to attain and it is what makes Providence unique. In our current environment of historically high valuations, this unique skill set is valuable as we believe we can increase intrinsic value per share without, for example, relying significantly on acquisitions.

From our M&A professionals and across our many dedicated teams who deliver point-of-service excellence to millions of people in need every day, great teams are at the center of our strategic pursuit. Our colleagues come to work every day with purpose, drive and integrity. We are grateful to all of them and the support of their families for this dedication.

We are pleased to report to you in this letter the strategic events and accomplishments achieved by our colleagues at The Providence Service Corporation in 2016.

2016 Financial Overview

In 2016, we reported $89.8 million of net income or $5.07 per diluted share on continuing revenues of $1.6 billion. Our profitability was largely driven by our US healthcare services businesses, including the sale of a 53.2% stake in Matrix. Operating cash flow was $41.5 million, which included a $22 million tax payment associated with the sale of Providence Human Services. While we continue to focus on simplification in many ways across Providence, our financials remain complex and so we encourage you to review our Annual Report on Form 10-K and our other filings with the SEC for additional financial results and disclosures.

Finally, GAAP results are important, but please keep in mind that our financial priority is to build intrinsic value on a per share basis. To reach this objective, we make investments that may reduce our quarterly or annual earnings in the short-term to maximize the present value of our cash flow streams on a per share basis. In other words, although our financial results and operational performance may diverge in the short run, we believe, if executed correctly, they will ultimately align over the long term.

Strengthening our Network Platforms

Providence’s primary US businesses are chiefly engaged in providing healthcare services for public and private sector entities seeking to control costs and promote positive outcomes and consist of the following:

  1. Non-Emergency Transportation Services (“NET Services”) – A nationwide provider of non-emergency medical transportation programs for state governments and managed care organizations (“MCOs”).
  2. Matrix Investment – Minority interest in a nationwide provider of in-home care optimization and management solutions, including comprehensive health assessments, to members of MCOs.

More details on each are provided below.

Non-Emergency Transportation Services Segment

Acquired in 2007, NET Services, also known as LogistiCare, is the largest coordinator of non-emergency medical transportation in the United States. The scale of its network remains second to none, with operations in 39 states and the District of Columbia and a managed population of approximately 26 million lives. LogistiCare’s scale provides strength, through both cost advantage and our ability to offer large-scale network management of a fragmented transportation industry for our government and MCO clients.

In 2016, LogistiCare generated $1.2 billion in revenue and $77.1 million of operating income. This included $12.4 million of depreciation and amortization, and $2.9 million of costs associated with LogistiCare’s former CEO’s departure, as well as third-party consulting and implementation costs related to a member experience and value enhancement initiative. 2016 revenue growth of 14.0% was primarily due to the net positive impact of membership and rate changes associated with existing contracts as well as the impact of new contracts.

Last year, we forecasted changes in the non-emergency transportation industry, which are materializing. In anticipation, we promised a strategic response focused on innovative technology and process improvements, both to lower costs and improve service levels.

As a reminder, LogistiCare does not provide rides with its own vehicles, but rather it coordinates rides via a network of external transportation providers, including rides from growing on-demand transportation provider networks. On the transportation front, we are investing in our revitalized proprietary technology platform to improve on-time and on-demand performance, provide real time information and analytics, minimize cancellations and better allow for the scale required to provide an effective, nationwide service with our partners.

On the process improvement front, we are successfully implementing industry-leading call center technologies and practices to realize the full potential of our operations centers.

We view LogistiCare as a valuable network platform for investors, clients and our transportation providers. As a result, we are rigorously evaluating additional mobility management services that can leverage the immense scale and network management abilities that may emanate from acquisitions or partnerships. As we evaluate additional mobility-focused services, we intend to maintain our “asset lite” model and expand where our value-added capabilities are clearly defined.

Matrix Investment

In late 2014, Providence acquired Matrix Medical Network for approximately $393 million with recurring revenues, a valuable network platform and an asset lite model. This acquisition added a leading provider of health assessment services for Medicare Advantage plans to our portfolio.

Providence partnered with Matrix management in 2015 to accelerate three key value-enhancing strategies designed to leverage our network of nurse practitioners and thus increase our return on capital.

  1. First, we expanded our sales capabilities during 2016. Matrix’s 2016 revenue of $207.7 million did not reflect this effort, but as we enter 2017, the Matrix sales pipeline is significant.
  2. Second, our focus on continuous operational improvement resulted in favorable margins and operating income of $17.8 million in 2016. This included $27.5 million of depreciation and amortization, and $8.7 million of expenses related to Matrix management transaction bonuses, the write-off of deferred financing fees and other transaction expenses. We are pleased to report that profit margins were ahead of Providence’s initial margin assessment upon completion of the acquisition in October of 2014.
  3. Finally, we worked towards the acceleration of our Care Direct initiatives, designed to leverage our network and generate an additional source of revenue. While this was the most challenging aspect for the business in 2016, interest among clients remains high in improving outcomes and lowering costs for some of their most in-need populations.

As previously mentioned, we formed a strategic partnership with Frazier Healthcare Partners in October 2016, which provided capital to Providence and better positions Matrix for both organic and inorganic growth. We look forward to reporting the innovations that our new partnership provides to Matrix Medical Network.

Workforce Development Services Segment Highlights

The 2014 $92 million acquisition of Ingeus added a global leader in providing social and employment services to our portfolio. Ingeus operates in 11 countries, expanding the geographic footprint and scale of Providence under a shared vision of improving people’s quality of life with transformative, community-based solutions.

In 2016, WD Services, largely comprised of Ingeus, generated $344.4 million in revenue and a $39.5 million operating loss, which included $13.8 million of depreciation and amortization, an asset impairment charge of $19.6 million and an $8.5 million loss from our Mission Providence joint venture in Australia.

The 2016 financial performance reflected mixed results, including a challenging employment services environment in many geographies, start-up challenges in France and a major new contract in the UK, partially offset by strength in smaller UK programs and operations outside of France. In response to these challenges, Ingeus significantly increased its rigor around lowering cost structures in the UK, France and Mission Providence while rebuilding the foundation for future growth. This revised approach resulted in $11.5 million in restructuring charges, largely comprised of redundancy and consulting costs. Despite this financial performance, the Ingeus leadership team, many of whom were appointed in late 2015 and 2016, are managing the business well with effective cost controls, developing new analytical capabilities and staying disciplined in an undisciplined competitive environment.

In 2017, we have three strategic priorities for WD Services.

  1. First, we are working with the Ministry of Justice in the UK to improve the prospects for the Reducing Reoffending Partnership. This partnership is a joint venture formed by Ingeus’ management team to transform an existing, largely face-to-face, probationary model operating under the UK’s Ministry of Justice to a multi-faceted, technology-enabled service, analogous to other Ingeus delivery model transformations. The transition has been a challenge for the industry, including our competitors, intensifying the need for all parties to improve the outlook.
  2. Second, we expect to substantially complete the Ingeus Futures program during the first half of 2017. The Ingeus Futures program includes both a significant reduction of costs in Ingeus’ UK operations and the decentralization of our organization to enhance accountability in our programs, deploy resources closer to our clients and enhance our business development capabilities.
  3. Third, while we remain optimistic on the long-term trends in the workforce development and government outsourcing industries, we are cognizant of the challenges of the industry, partially emanating from those who have grown without the discipline incorporated into our practices. Until we witness increased discipline in our markets, our enhanced business development resources are focusing on our niche strengths. Growth areas include our UK youth and health programs, certain long-standing countries and also contiguous areas to existing operations, such as our expansion from South Korea into Singapore

Capital Allocation Highlights

As both investors and operators, we are fortunate to have multiple capital allocation levers to maximize intrinsic value per share. We continuously evaluate capital deployment opportunities from both an operating and investment lens, which at any time may include such areas as capital expenditures, returning capital to our shareholders or acquisitions. And while our primary objective is to ensure our capital is earning the most attractive returns over the long-term, a key responsibility of ours is to ensure our businesses have the best foundation for the long-term. An increasing emphasis of this foundation is equipping our businesses with technological leadership to use across their large-scale networks.

Beyond information technology in 2016, our next most promising area of capital allocation was in our share repurchase program, where we have deployed $122.3 million from the fourth quarter of 2015 through May 9, 2017. In addition to the share repurchase program and to demonstrate their support for and dedication to Providence’s success, several members of your executive management team have continued to acquire shares in 2016. An important final note to share with you is that we reduced debt by $305 million during 2016 primarily with the proceeds of the Matrix transaction, which enhanced our financial flexibility for additional share repurchases or acquisitions. Currently we have no long-term debt, and $82.9 million of cash as of March 31, 2017.

Our acquisition focus was active in both the healthcare services sector and adjacent business models with similar characteristics to Matrix and LogistiCare, most notably asset lite, economies of scale and favorable network effects. Despite our effort in M&A, we are reticent to chase historically high acquisition valuations. We expect our acquisition effort to remain high over the next year as we see an ample amount of opportunities that may leverage our healthcare services networks and where our value enhancement programs can help companies reach their full potential. Again, in the absence of attractive investments, we expect to continue our focus on value enhancement initiatives and anticipate continuing to return capital to shareholders in an appropriate manner.

We look forward to updating you on our progress throughout the year. On behalf of Providence’s board of directors and our colleagues across the globe, thank you for your continued support and confidence.

James Lindstrom
Chief Executive Officer

Chris Shackelton
Chairman of the Board