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EX-32.1 - EXHIBIT 32.1 - PRGX GLOBAL, INC.ex321201710k.htm
EX-31.2 - EXHIBIT 31.2 - PRGX GLOBAL, INC.ex312201710k.htm
EX-31.1 - EXHIBIT 31.1 - PRGX GLOBAL, INC.ex311201710k.htm
EX-23.1 - EXHIBIT 23.1 - PRGX GLOBAL, INC.ex231201710k.htm
EX-21.1 - EXHIBIT 21.1 - PRGX GLOBAL, INC.ex211201710k.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
________________________________________
FORM 10-K 
________________________________________
(Mark One)
ý
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2017
OR 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     
Commission File Number 0-28000
 PRGX Global, Inc.
(Exact name of registrant as specified in its charter) 
Georgia
 
58-2213805
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
 
 
 
600 Galleria Parkway
 
30339-5986
Suite 100
 
(Zip Code)
Atlanta, Georgia
 
 
(Address of principal executive offices)
 
 
Registrants telephone number, including area code: (770) 779-3900
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Name of each exchange on which registered

Common Stock, No Par Value

The NASDAQ Stock Market LLC (The Nasdaq Global Select Market)

Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities
Act.   Yes  ¨    No  ý
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.   Yes  ¨    No  ý
Note – Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Exchange Act from their obligations under those Sections.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check One):
¨  Large accelerated filer
ý
Accelerated filer
¨
Non-accelerated filer
¨
Smaller reporting company
 
 
 
 
 
 
¨

Emerging Growth Company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  ý
The aggregate market value, as of June 30, 2017, of common shares of the registrant held by non-affiliates of the registrant was approximately $130.1 million, based upon the last sales price reported that date on The Nasdaq Global Select Market of $6.50 per share. (Aggregate market value is estimated solely for the purposes of this report and shall not be construed as an admission for the purposes of determining affiliate status.)

Common shares of the registrant outstanding at February 28, 2018 were 22,401,917.
Documents Incorporated by Reference
Part III: Portions of Registrant’s Proxy Statement relating to the Company’s 2018 Annual Meeting of Shareholders.
 
 
 
 
 



PRGX GLOBAL, INC.
FORM 10-K
December 31, 2017
INDEX
 
 
Page No.
Part I
 
 
 
Part II
 
Part III
 
Part IV
 



Cautionary Statement Regarding Forward-Looking Statements
The following discussion includes “forward-looking” statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are at times identified by words such as “plans,” “intends,” “expects,” or “anticipates” and words of similar effect and include statements regarding the Company’s financial and operating plans and goals. These forward-looking statements include any statements that cannot be assessed until the occurrence of a future event or events. Except as otherwise indicated or unless the context otherwise requires, “PRGX,” “we,” “us,” “our” and the “Company” refer to PRGX Global, Inc. and its subsidiaries.
These forward-looking statements are subject to risks, uncertainties and other factors, including but not limited to those discussed herein and below under Item 1A “Risk Factors.” Many of these risks are outside of our control and could cause actual results to differ materially from the results discussed in the forward-looking statements. Factors that could lead to material changes in our performance may include, but are not limited to:
our ability to successfully execute our recovery audit growth strategy;
our continued dependence on our largest clients for significant revenue;
the use of internal recovery audit groups by our clients, reducing the amount of recoveries available to us;
commoditization of our services and the effects of rate reductions;
the significant control that our clients have over assertion or acceptance of recovery audit claims against their suppliers and the corresponding impact on our revenue;
changes to Medicare and Medicaid recovery audit contractor (“RAC”) programs administered by the Centers for Medicare and Medicaid Services (“CMS”) and other government agencies, and our role in the national Medicare RAC program, the results of operations of which are reported in our discontinued operations;
revenue that does not meet expectations or justify costs incurred;
our ability to develop material sources of new revenue in addition to revenue from our core accounts payable recovery audit services;
changes in the market for our services;
client and vendor bankruptcies and financial difficulties;
our ability to retain and attract qualified personnel and effectively manage our global workforce;
our ability to protect and maintain the competitive advantage of our proprietary technology and intellectual property rights;
our reliance on operations outside the U.S. for a significant portion of our revenue;
our ability to effectively manage foreign currency fluctuations;
the highly competitive environments in which our recovery audit services and Adjacent Services businesses operate and the resulting pricing pressure on those businesses;
our ability to integrate recent and future acquisitions;
our ability to realize operational cost savings and the transformation severance and related expenses we may incur to generate these savings;
uncertainty in the global credit markets;
our ability to maintain compliance with the financial and non-financial covenants in our financing arrangements;
our tax positions and other factors, including the enactment of the Tax Cuts and Jobs Act in December 2017, that could affect our effective income tax rate or our ability to use our existing deferred tax assets;
our ability to operate in compliance with changing data privacy requirements;
our ability to comply with a variety of foreign laws and regulations, such as those relating to data protection and employment, as well as U.S. laws affecting operations outside of the United States;
a cyber-security incident involving the misappropriation, loss or unauthorized disclosure or use of client data or other confidential information of our clients;
effects of changes in accounting policies, standards, guidelines or principles;
terrorist acts, acts of war and other factors over which we have little or no control; or
our ability to effectively develop, maintain, operate and improve our proprietary technology platforms and applications.

i


Any forward-looking statement speaks only as of the date on which such statement is made, and, except as required by law, we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of unanticipated events. New factors emerge from time to time and it is not possible for management to predict all such factors.

ii


PART I
ITEM 1. Business
PRGX Global, Inc., together with its subsidiaries, is a global leader in recovery audit and spend analytics services, providing services within our clients' Source-to-Pay ("S2P") business processes. Our services include recovery audit, spend analytics and supplier information management ("SIM") services. We are based in the United States of America (“U.S.”) and serve clients in more than 30 countries. PRGX Global, Inc. was incorporated in the State of Georgia in 1996. At the heart of our client services portfolio is the core capability of mining client data to deliver “actionable insights.” Actionable insights allow our clients to improve their financial performance by reducing costs, improving business processes, managing risks and increasing profitability.
The vast majority of our revenue comes from recovery audit, a service based on the mining of a tremendous amount of our clients’ purchasing-related data, looking for overpayments made to their third-party suppliers. PRGX is the world's leading provider of accounts payable recovery audit services principally to large businesses and government agencies with high volumes of transactions and complex pricing arrangements with vendors. We provide services to 75% of the top 20 global retailers and over 30% of the top 50 companies in the Fortune 500. We earn the largest portion of our revenue from our retail clients. Recovery audit in the retail industry is a mature service offering and we have been serving a number of our clients for decades. Pricing of merchandise for resale in the retail industry is extremely complex due to the high volume of promotions, allowances and rebates provided by suppliers. The second largest portion of our business is referred to within the recovery audit business as “commercial.” Commercial recovery auditing is the delivery of recovery audit services to industries other than retail, such as telecommunications, automotive and industrial manufacturing, resources, financial services, and transportation. Recovery audit in the industries represented within commercial is typically less complex in terms of vendor pricing structure, scope of purchase transactions made available for audit and depth of audit programs within individual companies. “Contract compliance” auditing is a specific type of recovery auditing which is more heavily utilized by commercial clients and is expected to be a growing part of our business. This service offering focuses on auditing complex supplier billings against large services, construction and licensing contracts, and is relevant to a large portion of our client base. We continue to innovate through technological advances, new enhancements to our proprietary technology audit tools and expanded service offerings, including spend analytics and SIM services. These services target client functional and process areas where we have established expertise, enabling us to provide services to finance, merchandising and procurement executives to improve working capital, optimize purchasing leverage in vendor pricing negotiations, improve insight into product margin and true cost of goods for resale, identify and manage risks associated with vendor compliance, improve quality of vendor master data and improve visibility and diagnostics of direct and indirect spend. These service offerings are increasingly important to our business and are applicable to clients in both retail and commercial industries.
PRGX is unique in that we are a global recovery audit services provider, serving clients in over 30 countries across a multitude of industries. We conduct our operations through three reportable segments: Recovery Audit Services - Americas, Recovery Audit Services - Europe/Asia-Pacific and Adjacent Services. The Recovery Audit Services - Americas segment represents recovery audit services we provide in the U.S., Canada and Latin America and is our largest segment in terms of clients served and revenue generated. The Recovery Audit Services - Europe/Asia-Pacific segment represents recovery audit services we provide in Europe, Asia and the Pacific region and is responsible for a significant portion of our revenue. Our Adjacent Services segment includes services provided to our clients in any country. We report the unallocated portion of corporate selling, general and administrative expenses not specifically attributable to the three reportable segments in Corporate Support. For additional financial information relating to our reporting segments, see Note 2 - Operating Segments and Related Information of our Consolidated Financial Statements included in Item 8 of this Form 10-K.
In October 2016, we announced that we had entered into agreements to acquire Cost & Compliance Associates, LLC and Cost & Cost Compliance Associates Limited (together, “C&CA"), a commercial recovery audit and contract compliance firm with operations in the U.S. and the U.K., and Lavante, Inc. (“Lavante”), a Software-as-a-Service ("SaaS")-based SIM and recovery audit services firm based in San Jose, California. The Lavante acquisition closed in October 2016 and the C&CA acquisition closed in February 2017.
As of December 31, 2015, the Company discontinued its Healthcare Claims Recovery Audit ("HCRA") business. PRGX has entered into agreements with third parties to fulfill its Medicare recovery audit contractor ("RAC") program subcontract obligations to audit Medicare payments and provide support for claims appeals and assigned its remaining Medicaid contract to another party. The Company will continue to incur certain expenses while the current Medicare RAC contracts are still in effect.

1


The Recovery Audit Industry and PRGX
Many businesses and government agencies generate substantial volumes of payment transactions involving multiple vendors, numerous discounts and allowances, fluctuating prices and complex pricing arrangements or rate structures. Although these entities correctly process the vast majority of payment transactions, errors occur in a small percentage of transactions. These errors include, but are not limited to, missed or inaccurate discounts, allowances and rebates, vendor pricing errors, erroneous coding and duplicate payments. Many factors contribute to the errors, including communication failures between the purchasing and accounts payable departments, complex pricing arrangements or rate structures, personnel turnover and changes in information and accounting systems. In the aggregate, these transaction errors can represent meaningful amounts of reduced cash flow and lost profits for these entities. Recovery auditing is a business service focused on finding overpayments created by these errors. These audits are either accounts payable audits or contract compliance audits and entail comprehensive and customized data acquisition from the client, frequently including purchasing, receiving, point-of-sale, pricing and deal documentation, emails, and payment data.
PRGX, like most companies in the recovery audit services industry, generates the majority of its revenue through contingent fee arrangements, sharing a pre-determined percentage of successful claims or “recoveries” generated from an audit. There are certain recovery audit services or types of audits that are billed as a fixed fee or on a time and materials basis, but the vast majority of our revenue is generated through contingent fee contracts.
Recovery audit clients generally recover claims by either (a) taking credits against outstanding payables or future purchases from the involved vendors or service providers, or (b) receiving refund checks directly from those vendors or service providers. Industry practice generally dictates the manner in which a client receives the benefit for a recovery audit claim. In many cases, we must satisfy client-specific procedural guidelines before we can submit recovery audit claims for client approval.
Contracts with recovery audit clients generally vary in length from one year to three years, with some being evergreen. Most of our recovery audit contracts provide that the client may terminate the contract without cause prior to the completion of the term of the agreement by providing relatively short prior written notice of termination.
As businesses have evolved, PRGX and the recovery audit industry have evolved with them, innovating processes, error identification tools, and claim types to maximize recoveries. The following are a number of factors impacting recovery auditing:
Data Capture and Availability. Businesses increasingly are using technology to manage complex procurement and accounts payable systems in an effort to realize greater operating efficiencies. Many businesses worldwide communicate with vendors electronically - whether by Electronic Data Interchange (“EDI”) or the Internet - to exchange inventory and sales data, transmit purchase orders, submit invoices, forward shipping and receiving information and remit payments. These systems capture more detailed data, which should further inform transactional reviews by recovery auditors.
Increased Role of Email Documentation in Client Transaction Data. Clients and vendors increasingly document transaction terms in email correspondence that is not integrated into their financial or merchant deal systems, which increases opportunities for errors. To efficiently identify these errors, recovery audit firms must use sophisticated technology-based tools that are able to ingest and search through massive volumes of emails to identify potential errors that then are investigated by the auditors. A comprehensive recovery audit requires the effective use of technology-based email search tools and techniques.
Increasing Number of Auditable Claim Categories. Traditionally, the focus of a recovery audit was on a simple, or “disbursement,” claim type, such as the duplicate payment of invoices. Enhancements to accounts payable software, particularly large enterprise software solutions used by many large companies, have reduced the extent to which these companies make simple disbursement errors. However, the introduction of creative vendor discount programs, complex pricing arrangements and activity-based incentives has led to an increase in auditable transactions and potential sources of error. These transactions are complicated to audit, as the underlying transaction data is difficult to access and recognizing mistakes can be complex. Recovery audit firms such as PRGX with significant industry-specific expertise and sophisticated technology are best equipped to audit these complicated claim categories.
Globalization. As the operations of business enterprises become increasingly multi-national, they often seek service providers with a global reach. Sophistication in systems and processes varies markedly across the global network of suppliers which further drives the need for our services. PRGX serves clients in more than 30 countries and we believe we are the recovery audit service provider best suited to deliver multi-national audits.
Significant Promotional Activity. Trade promotion spending is substantial within the retail trade and significant sums are being spent in categories with numerous transactions and a high potential for errors, such as scan downs, or discounts at the point of sale. Because of the high volume of trade promotion within retail, there are significant opportunities for mistakes and, therefore, auditable claims.

2


Technology Platform. The ability to efficiently and cost effectively ingest large volumes of structured and unstructured data is critical to providing best in class recovery audit services. We believe we have developed the most sophisticated and highest performing large data processing infrastructure system in our industry. This system is based on the Hadoop open source technology standard and allows us to effectively process and manage our clients’ data in large scale volumes and at superior speeds. We are achieving significant acceleration in data processing speeds for both structured and unstructured data sets, which supports our efforts to accelerate audit results and transform our core audit processes.
We expect the evolution of the recovery audit industry to continue. In particular, we expect that the industry will continue to move towards the electronic capture and presentation of data, more automated, centralized processing and auditing closer to the time of the payment transaction.
Adjacent Services
Our Adjacent Services business, targets client functional and process areas where we have established expertise, enabling us to provide services to our clients' finance, merchandising and procurement functions to improve working capital, optimize purchasing leverage in vendor pricing negotiations, improve insight into product margin and true cost of goods for resale, identify and manage risks associated with vendor compliance, improve quality of vendor master data and improve visibility and diagnostics of direct and indirect spend. Our Adjacent Services include our global PRGX OPTIXTM analytics solution and our Lavante SIMTM services offering, which also includes the CIPS Sustainability Index ("CSI") offered in the United Kingdom through our strategic alliance with the Chartered Institute of Purchasing & Supply ("CIPS"). As our clients’ supplier base, data volumes and complexity levels continue to grow, we are using our deep data management experience to develop new actionable insight solutions, compliance-related tools, analytics solutions and data transformation services. Taken together, our deep understanding of our clients’ S2P data and our Adjacent Services solutions provide multiple routes to help our clients achieve greater profitability.
Clients
PRGX provides its services principally to large businesses and government agencies having a tremendous volume of payment transactions and complex procurement environments. Retailers continue to constitute the largest part of our client and revenue base. Our five largest clients contributed to our revenue from continuing operations by approximately 36.6% in 2017, 37.3% in 2016 and 34.5% in 2015. We have one client, The Kroger Co., that accounted for approximately 12% of our revenue from continuing operations in 2017 and approximately 11% of our revenue from continuing operations in 2016, while no client accounted for 10% or more of our revenue from continuing operations in 2015.
Some organizations (primarily large retailers) maintain internal recovery audit departments to recover certain types of payment errors and identify opportunities to reduce costs. Despite having such internal resources, many companies also retain independent recovery audit firms, such as PRGX, due to their specialized knowledge, capabilities and focused technologies. In the U.S., Canada, the United Kingdom, France, Mexico, Brazil, and Australia, large retailers routinely engage independent recovery audit firms as a standard business practice. It is typical in the retail industry for large firms to engage a primary audit firm at one contingency fee rate and a secondary firm to audit behind the primary at a higher rate. Our commercial recovery audit clients are typically Fortune 1000 companies in industries other than retail and with multi-billion dollars of purchase transactions to be audited. These clients range from large multi-national manufacturing and resource companies, to large regional or national telecommunications and financial services institutions to global high tech software organizations. The audit specialty practice of contract compliance is a specific type of recovery auditing which is more heavily utilized by commercial clients and is expected to be a growing part of our business. This service offering focuses on auditing complex supplier billings against large services, construction and licensing contracts, and is relevant to a large portion of our client base.

3



The PRGX Strategy
PRGX is a global leader in recovery audit and spend analytics services. We provide recovery audit and other S2P services, including, spend analytics and SIM services. We principally offer these services to large businesses and government agencies having a tremendous volume of payment transactions and complex procurement environments. We plan to achieve revenue growth and higher profitability through the following strategy:
1.Grow and improve our core recovery audit business;
2.Differentiate our service offerings and capabilities;
3.Create adjacent service offerings, including SaaS solutions; and
4.Expand into new high potential industries and geographies.
Grow and improve our core recovery audit business
We continue to be the industry leader by introducing innovative concepts and audit processes. In addition, we are deploying global best practices and rolling out world class enhancements to our proprietary technology audit tools to drive deeper recoveries and enable next generation audit concepts. We expect to achieve our objectives through process redesign coupled with investing in our technology infrastructure and aggressively rolling out new technologies across our global audits.
Differentiate our service offerings and capabilities
We plan to differentiate our service offerings and capabilities through enhancing our current services and implementing innovations such as:
Audit acceleration. Our clients are constantly seeking to accelerate the audit process to deliver audit results closer to the time of the transaction to increase recovery yields, provide a greater opportunity to address process errors, and reduce supplier abrasion. We believe that our deep and broad business process experience across thousands of audits, together with our enhanced and new technology initiatives will put us in a unique position to achieve superior results for our clients.
Global audit best practice programs. Our global programs take advantage of our operations that span over 30 countries to provide true global audit capabilities to multi-national companies. This unique perspective gives our clients visibility to their business practice variations around the world and creates value for our clients by allowing them to see their data in new ways.
Create adjacent and high value service offerings
We will continue to focus on new service offerings that complement our existing services and provide increased value to our customers.
Our Adjacent Services offerings, including PRGX OPTIX and Lavante SIM services, target client functional and process areas where we have established expertise, enabling us to provide services to support our clients' finance, merchandising and procurement functions. These services can be project-based (advisory services), which are typically billed on a rates and hours basis, or subscription-based (typically SaaS offerings), which are billed on a monthly basis. The Adjacent Services offerings assist our clients in improving many aspects of their businesses, including working capital, optimization of purchasing leverage in vendor pricing negotiations, improved insight into product margin and true cost of goods for resale, identification and management of risks associated with vendor compliance, improved quality of vendor master data and improved visibility and diagnostics of direct and indirect spend.
Expand into new high potential industries and geographies
Our plans include continuing to build our commercial recovery audit practice, which serves industries outside of retail in order to reduce our industry concentration. We have organized the commercial recovery audit practice into industry verticals such as resources, telecommunications, financial services and manufacturing, and are building focused practice areas with targeted service offerings for each industry.

4


Technology
PRGX uses advanced, proprietary information systems and processes and a large-scale technology infrastructure to conduct its audits of clients’ payment transactions. The ability to efficiently and cost effectively ingest large volumes of structured and unstructured data is critical to providing best in class recovery audit and spend analytics services. We believe we have developed the most sophisticated and highest performing large data processing infrastructure system in the recovery audit industry. This system is based on the Hadoop open source technology standard and allows us to effectively process and manage our clients’ data. We are achieving significant acceleration in data processing speeds for both structured and unstructured data sets, which supports our efforts to accelerate audit results, transform core audit processes and deliver actionable spend analytics insights.
We believe that our proprietary technology and processes serve as important competitive advantages over both our principal competitors and our clients’ internal recovery audit functions. To sustain these competitive advantages, we continually invest in technology initiatives to deliver innovative solutions that improve both the effectiveness and efficiency of our services.
We design our data acquisition, data processing and data management processes with the objectives of maximizing efficiencies and productivity and maintaining the highest standards of transaction auditing and spend analytics accuracy. We also maintain sophisticated and highly reliable security standards and tools to protect all data under our control. At the beginning of a typical recovery audit or spend analytics engagement, we use a dedicated staff of data acquisition specialists and proprietary tools to acquire a wide array of transaction data from the client for the time period under review. We typically receive this data by secured electronic transmissions, digital media or paper. For paper-based data, we use a custom, proprietary imaging technology to scan the paper into electronic format. Upon receipt of the data, we secure, catalog, back up and convert it into standard, readable formats using third party and proprietary audit technology.
Our technology professionals clean and map massive volumes of structured and unstructured client data, primarily using high performance database and storage technologies, into standardized layouts at one of our secure data processing facilities. We also generate statistical reports to verify the completeness and accuracy of the data.
We then process the data using proprietary algorithms (business rules) leveraging our decades of experience to help uncover patterns or potential problems in clients’ various transactions or transactional streams. We deliver this processed data to our auditors who, using our proprietary audit software, sort, filter and search the data to validate and identify actual transaction errors. We also maintain a secure database of audit information with the ability to query on multiple variables, including claim categories, industry codes, vendors and audit years, to facilitate the identification of additional recovery opportunities and provide recommendations for process improvements to clients.
Once we identify and validate transaction errors, we present the information to clients for approval and submission to vendors as “claims.” We offer a proprietary web-based claim presentation and collaboration tool to help the client view, approve and submit claims to vendors.
In providing our spend analytics services, we use proprietary algorithms and technologies to clean and classify a client’s vendor spend data down to the line item level. We then are able to present this information to the client as a multi-dimensional data cube over a web-based interface. We believe these proprietary algorithms and technologies provide us with a competitive advantage over many of our competitors.
As part of our Adjacent Services we offer the PRGX OPTIX suite of analytics tools. The PRGX OPTIX suite facilitates S2P business decisions through actionable, data-enabled insights that are delivered through four primary modules - Product, Payment, Spend and Supplier.  Each of these modules is powered by the core PRGX OPTIX platform that provides the ability to process and visualize S2P data delivered via a SaaS interface. In addition to the PRGX OPTIX suite, we offer SIM services through our proprietary Lavante SIM platform. The Lavante SIM platform is designed to enable supplier master data harmonization, on-boarding, compliance with regulatory and client specified standards and requirements, as well as an enterprise level view of supplier performance. Lavante SIM is offered as a SaaS-based technology solution.

5


Competition
Accounts Payable Recovery Audit Services
We believe that the principal providers of domestic and international accounts payable recovery audit services in major markets worldwide consist of PRGX, two substantial competitors, and numerous other smaller competitors. The smaller recovery audit firms generally do not possess multi-country service capabilities and advanced technology infrastructure necessary to support our clients' large and complex purchasing and accounts payable operations. In addition, many of these firms have limited resources and may lack the experience and knowledge of national promotions, seasonal allowances and current recovery audit practices. As a result, we believe that compared to most other firms providing accounts payable recovery audit services, PRGX has competitive advantages based on its domestic and international presence, well-trained and experienced professionals, and advanced technology.
While we believe that PRGX has the greatest depth and breadth of audit expertise, data and technology capabilities, scale and global presence in the industry, we face competition from the following:
Client Internal Recovery Audit Departments. A number of large retailers (particularly those in the discount, grocery and drug store sectors) have developed an internal recovery audit process to review transactions prior to turning them over to external recovery audit firms. The scale and scope of these client internal organizations varies by client based on their level of in-house expertise and investment in required tools and technologies. Regardless of the level of recoveries made by internal recovery audit departments, virtually all large retail clients retain at least one (primary), and frequently two (primary and secondary), external recovery audit firms to capture errors not identified by their internal recovery audit departments.
Other Accounts Payable Recovery Audit Firms. The competitive landscape in the recovery audit industry is comprised of:
Full-service accounts payable recovery audit firms. We believe that only two companies other than PRGX offer a full suite of U.S. and international recovery audit services;
A large number of smaller accounts payable recovery firms which have a limited client base and which use less sophisticated tools to mine disbursement claim categories at low contingency rates. These firms are most common in the U.S. and U.K. markets. Competition in most international markets, if any, typically comes from small niche providers;
Firms, including one of our two substantial competitors, that offer a hybrid of audit software tools and training for use by internal audit departments, or general accounts payable process improvement enablers; and
Firms with specialized skills focused on recovery audit services for discrete sectors such as sales and use tax, telecom, freight or real estate.
Other Providers of Recovery Audit Services. The major international accounting firms provide recovery audit services; however, we believe their practices tend to be primarily focused on tax-related services.
Adjacent Services
Our Adjacent Services business faces competition from global and regional consulting firms; well-known ERP software vendors; procurement-specific software and SaaS providers and smaller, very specialized analytics providers. These competitors generally compete on the basis of the breadth of services, market reputations and integration with other services. We believe that we differentiate ourselves from our competitors through our in-depth knowledge of our clients’ data, systems, and purchasing processes, along with advanced and specialized technology tools.
Hiring, Training and Compensation of Personnel
Many of our auditors and other professionals formerly held finance-related management positions in the industries we serve. Training primarily is provided in the field by our experienced professionals enabling newly hired personnel to develop and refine their skills and improve productivity. We also use various other training materials such as process manuals and documented policies and procedures to supplement the field training provided by our experienced professionals. We periodically upgrade our training programs based on feedback from auditors and changing industry protocols. Many of our professionals participate in one of our incentive compensation plans that link their compensation to the financial performance of their service offering(s).

6


Proprietary Rights
From time to time, we develop new software and methodologies that replace or enhance existing proprietary software and methodologies. We rely primarily on trade secret and copyright protection for our proprietary software and other proprietary information. We capitalize the costs incurred for the development of computer software that will be sold, leased, or otherwise marketed or that will be used in our operations beginning when technological feasibility has been established. We consider the costs associated with developing or replacing methodologies to be research and development costs and we expense them as incurred. Research and development costs, including the amortization of amounts previously capitalized, were approximately $2.2 million in 2017, $3.5 million in 2016 and $3.0 million in 2015.
We own or have rights to various trademarks, trade names and copyrights, including U.S. and foreign registered trademarks and trade names and U.S. registered copyrights, that are valuable assets and important to our business. We monitor the status of our copyright and trademark registrations to maintain them in force and renew them as appropriate. The duration of our active trademark registrations varies based upon the relevant statutes in the applicable jurisdiction, but generally endure for as long as they are used. The duration of our active copyright registrations similarly varies based on the relevant statutes in the applicable jurisdiction, but generally endure for the full statutory period. Our trademarks and trade names are of significant importance and include, but are not limited to, the following: PRGX®, Thrive in the Data™, Discover Your Hidden Profits®, Profit Discovery™,  Lavante®, Lavante SIM™,  PRGX OPTIX™, PRGX MailTrax™, PRGX MerchTrax™, PRGX APTrax™, PRGX AuditTrax™, PRGX ClaimTrax™,  PRGX SpendTrax™, GET™, and imDex™.
Regulation
Various aspects of our business, including, without limitation, our data flows and our data acquisition, processing and reporting protocols, are subject to extensive and frequently changing governmental regulation in the U.S. and the numerous other countries around the world where we operate. These regulations include extensive data protection and privacy requirements. In the U.S., we are subject to the provisions of the Health Insurance Portability and Accountability Act of 1996 (“HIPAA”) with respect to information regarding our employees, as well as our discontinued HCRA business. Internationally, we must comply with the European data protection requirements including the newly adopted General Data Protection Regulation ("GDPR"), which goes into effect in May 2018, as well as with data protection laws that exist in many of the other countries where we serve clients. Failure to comply with such regulations may, depending on the nature of the noncompliance, result in the termination or loss of contracts, the imposition of contractual damages, civil sanctions, and damage to our reputation or in certain circumstances, criminal penalties.
Employees
As of December 31, 2017, PRGX had approximately 1,500 employees, of whom approximately 600 were in the U.S. The majority of our employees are involved in our recovery audit business.
Website
PRGX makes available free of charge on its website, www.prgx.com, its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports. PRGX makes all filings with the Securities and Exchange Commission ("SEC") available on its website no later than the close of business on the date the filing was made. In addition, investors can access our filings with the Securities and Exchange Commission at www.sec.gov.
We also post certain corporate governance materials, including our Board of Directors committee charters and our Code of Conduct and Code of Ethics For Senior Financial Officers, on our website under the heading “Corporate Governance” on the “Investors” page. From time to time, we may update the corporate governance materials on our website as necessary to comply with rules issued by the SEC or NASDAQ, or as desirable to further the continued effective and efficient governance of our Company.

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ITEM 1A. Risk Factors
We must successfully execute our growth strategy in order to increase our revenue, and must control our costs in order to maintain profitability.
Over time, our clients tend to resolve recurring transaction processing deficiencies. In addition, many of our clients have an internal staff that audits the transactions before we do. As the skills, experience and resources of our clients' internal recovery audit staffs improve, they will identify many overpayments themselves and reduce some of our audit recovery opportunities. In addition, our revenues are potentially impacted by competitive rate pressures, our dependency on clients to approve our claims on a timely basis, changes in audit scope by our clients and occasional loss of clients or movement from primary to secondary position. We must continually innovate new audit concepts, improve audit execution, develop new clients and successfully execute our own growth strategy in order to increase our revenue and avoid losses in our business.
We depend on our largest clients for significant revenue, so losing a major client could adversely affect our revenue and liquidity.
We generate a significant portion of our revenue from our largest clients. Our five largest clients collectively accounted for 36.6% of our revenue from continuing operations in 2017, 37.3% of our revenue from continuing operations in 2016 and 34.5% of our revenue from continuing operations in 2015. We have one client, The Kroger Co., that accounted for approximately 12% of our revenue from continuing operations in 2017 and approximately 11% of our revenue from continuing operations in 2016. No client accounted for 10% or more of our revenue from continuing operations in 2015. If we lose any of our major clients, our results of operations and liquidity could be materially and adversely affected.
Although we continually seek to diversify our client base, we may be unable to offset the effects of an adverse change in one of our key client relationships. For example, if our existing clients elect not to renew their contracts with us at the expiration of the current terms of those contracts, or reduce the services they purchase thereunder, our recurring revenue base will be reduced, which could have a material adverse effect on our business, financial position, results of operations, and cash flows. In addition, we could lose clients if: (i) they cancel their agreements with us; (ii) we fail to win a competitive bid at the time of contract renewal; (iii) the financial condition of any of our clients deteriorates; or (iv) our clients are acquired by, or acquire, companies with which we do not have contracts. Any of these could materially and adversely affect our business, financial position, results of operations, and cash flows.
Our strategy may not be successful.
As discussed in Item 1 “The PRGX Strategy,” our objectives are to achieve revenue growth and higher profitability by growing and improving our core recovery audit business, differentiating our service offerings and capabilities, creating adjacent service offerings (including SaaS solutions) and expanding into new high potential industries and geographies. These efforts are ongoing, and the results of our efforts will not be known until sometime in the future. Successful execution of our strategy requires sustained management focus, innovation, organization and coordination over time, as well as success in building relationships with third parties. If we are unable to execute our strategy successfully, our business, financial position, results of operations and cash flows could be adversely affected. In addition, execution of our strategy will require material investments and additional costs that may not yield incremental revenue and improved financial performance as planned.
Our acquisitions, investments, partnerships and strategic alliances may require significant resources and/or result in significant unanticipated losses, costs or liabilities.
Acquisitions have contributed and are expected to continue to contribute to our revenue. Although we cannot predict our rate of growth as the result of acquisitions with complete accuracy, we believe that additional acquisitions, investments and strategic alliances will be important to our growth strategy.
We may finance future acquisitions by issuing additional equity and/or debt. The issuance of additional equity in connection with any such transaction could be substantially dilutive to existing shareholders. The issuance of additional debt could increase our leverage substantially. In addition, announcement or implementation of future transactions by us or others could have a material effect on the price of our common stock. We could face financial risks associated with incurring significant debt. Additional debt may reduce our liquidity, curtail our access to financing markets, impact our standing with credit agencies and increase the cash flow required for debt service. Any incremental debt incurred to finance an acquisition could also place significant constraints on the operation of our business.
Furthermore, any future acquisitions of businesses or facilities could entail a number of additional risks, including:
problems with effective integration of acquired operations;
the inability to maintain key pre-acquisition business relationships;
increased operating costs;
the diversion of our management team from our other operations;

8


problems with regulatory agencies;
exposure to unanticipated liabilities;
difficulties in realizing projected efficiencies, synergies and cost savings; and
changes in our credit rating and financing costs.
The terms of our credit facility place restrictions on us, which create risks of default and reduce our flexibility.
Our current credit facility contains a number of affirmative, negative, and financial covenants that may limit our ability to take certain actions and require us to comply with specified financial ratios and other performance covenants. No assurance can be provided that we will not violate the covenants of our secured credit facility in the future. If we are unable to comply with our financial covenants in the future, our lenders could pursue their contractual remedies under the credit facility, including requiring the immediate repayment in full of all amounts outstanding, if any. Additionally, we cannot be certain that, if the lenders demanded immediate repayment of any amounts outstanding, we would be able to secure adequate or timely replacement financing on acceptable terms or at all.
Our ability to make payments due on debt we may have outstanding will depend upon our future operating performance, which is subject to general economic and competitive conditions and to financial, business and other factors, many of which we cannot control. If the cash flow from our operating activities is insufficient to make these payments, we may take actions such as delaying or reducing capital expenditures, attempting to restructure or refinance our debt, selling assets or operations or seeking additional equity capital. Some or all of these actions may not be sufficient to allow us to service our debt obligations and we could be required to file for bankruptcy. Further, we may be unable to take any of these actions on satisfactory terms, in a timely manner or at all. In addition, our credit agreements may limit our ability to take several of these actions. Our failure to generate sufficient funds to pay our debts or to undertake any of these actions successfully could materially and adversely affect our business, financial position, results of operations and cash flows.
We have incurred and will continue to incur significant costs in connection with our discontinued HCRA services business.
As of December 31, 2015, we discontinued the HCRA services business, but will continue to incur significant costs as it winds down. There are complex regulations governing many healthcare payments and recoupments, including a multi-layered scheme for provider appeals of overpayment determinations under the Medicare RAC program. These regulations, the terms of the Company’s contracts and the complexity of Medicare and other healthcare data, systems and processes, generally make it more difficult and costly to exit this portion of our business. Finally, while we maintain reserves on our balance sheet, any appeals settlements which require us to repay a significant portion of our historical fees could materially and adversely impact our results of operations and cash flow.
We may be unable to protect and maintain the competitive advantage of our proprietary technology and intellectual property rights.
Our operations could be materially and adversely affected if we are not able to protect our proprietary software, audit techniques and methodologies, and other proprietary intellectual property rights. We generally rely on a combination of trade secret and copyright laws, nondisclosure and other contractual arrangements and technical measures to protect our proprietary rights. Although we presently hold U.S. registered copyrights on certain of our proprietary technology and certain U.S. and foreign registered trademarks, we may be unable to obtain similar protection on our other intellectual property. In addition, our foreign registered trademarks may not receive the same enforcement protection as our U.S. registered trademarks.
Additionally, to protect our confidential and trade secret information, we generally enter into nondisclosure agreements with our employees, consultants, clients and potential clients. We also limit access to, and distribution of, our proprietary information. Nevertheless, we may be unable to deter misappropriation or unauthorized dissemination of our proprietary information, detect unauthorized use and take appropriate steps to enforce our intellectual property rights. In spite of the level of care taken to protect our intellectual property, there is no guarantee that our sensitive proprietary information will not be improperly accessed or that our competitors will not independently develop technologies that are substantially equivalent or superior to our technology.
We could be subjected to claims of intellectual property infringement.
Although we are not aware of any infringement of our services and products on the intellectual property rights of others, the potential for intellectual property infringement claims continually increases as the universe of intellectual property continues to rapidly expand, and we are subject to the risk that someone else will assert a claim against us for violating their intellectual property rights. Any claim for intellectual property infringement, even if not meritorious, could be expensive to defend. If we were held liable for infringing third party intellectual property rights, we could incur substantial damage awards, and potentially be required to cease using the technology, produce non-infringing technology or obtain a license to use such technology. Such potential liabilities or increased costs could be material to us.

9


Cyber-security incidents, including data security breaches or computer viruses, could harm our business by disrupting our delivery of services, damaging our reputation or exposing us to liability.
We receive, process, store and transmit, often electronically, the confidential data of our clients and others. Unauthorized access to our computer systems or stored data could result in the theft or improper disclosure of confidential information, the deletion or modification of records or could cause interruptions in our operations. These cyber-security risks increase when we transmit information from one location to another, including transmissions over the Internet or other electronic networks. Despite implemented security measures, our facilities, systems and procedures, and those of our third-party service providers, may be vulnerable to security breaches, acts of vandalism, software viruses, misplaced or lost data, programming and/or human errors or other similar events which may disrupt our delivery of services or expose the confidential information of our clients and others. Any security breach involving the misappropriation, loss or other unauthorized disclosure or use of confidential information of our clients or others, whether by us or a third party, could (i) subject us to civil and criminal penalties, (ii) have a negative impact on our reputation, (iii) expose us to liability to our clients, third parties or government authorities, (iv) cause our present and potential clients to choose another service provider, and (v) cause us to incur significant remediation costs. Any of these developments could have a material adverse effect on our business, results of operations, financial position, and cash flows.
Our ability to deliver our SaaS solutions is dependent on the development and maintenance of the infrastructure of the Internet by third parties.
The infrastructure of the Internet consists of multiple fragmented networks. Multiple third-party organizations run this infrastructure together under the governance of the Internet Corporation for Assigned Numbers and Names (ICANN) and the Internet Assigned Numbers Authority under the stewardship of ICANN. The Internet has experienced outages and other delays resulting from damage to portions of infrastructure, denial-of-service attacks or related cyber incidents, and the Internet could face outages and delays in the future. These outages and delays could reduce the level of Internet usage or result in fragmentation of the Internet, resulting in multiple separate networks lacking interconnection. These scenarios are outside of our control and could impair the delivery of our SaaS solutions to our clients. Resulting interruptions in our SaaS solutions or the ability of our clients to access our SaaS solutions could result in a loss of potential or existing clients and harm our business.
Our software and SaaS solutions may not be error-free and could result in claims of breach of contract and liabilities.
Our software and SaaS solutions are very complex and may not be error-free, especially when first released. Although we perform extensive testing, the failure of any solution to operate in accordance with its specifications, documentation or applicable license agreement could require us to correct the deficiency. If such deficiency cannot be corrected in accordance with the relevant contract for services, the deficiency could constitute a material breach of the contract allowing for the contract’s termination and possibly subjecting us to liability. Also, we sometimes indemnify our clients against third-party infringement claims and certain other losses. If such claims for indemnification are made, even if they are without merit, they could be expensive to resolve. A significant judgment against us could have a material adverse impact on us.
Operational failures in our data processing facilities could harm our business and reputation.
An interruption of our SaaS hosting facilities or other data processing services, including an interruption caused by damage or destruction of communication lines or physical facilities or a failure of data processing equipment, could result in a loss of clients, difficulties in obtaining new clients and a reduction in revenue. In addition, we also may be liable to third parties or our clients because of such interruption. These risks would increase with longer service interruptions. Despite any disaster recovery and business continuity plans and precautions we have implemented (including insurance) to protect against the effects of service delivery interruptions, such interruptions could result in a material adverse effect on our business, results of operations, financial position, and cash flows.
Our investment of substantial capital in information technology systems, and a failure to successfully implement such systems could adversely affect our business.
We have invested and continue to invest substantial amounts in the development and implementation of information technology systems. Although investments are carefully planned, there can be no assurance that such systems will justify the related investments. If we fail to realize the benefits expected from our information technology system investments, or if we fail to do so within the envisioned time frame, it could have an adverse effect on our results of operations, financial position, and cash flows.

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Client and vendor bankruptcies and financial difficulties could reduce our earnings.
Our clients generally operate in intensely competitive environments and, accordingly, bankruptcy filings by our clients are not uncommon. Bankruptcy filings by our large clients or the significant vendors who supply them or unexpectedly large vendor claim chargebacks lodged against one or more of our larger clients could have a materially adverse effect on our financial condition, results of operations, and cash flows. Similarly, our inability to collect our accounts receivable due to other financial difficulties of one or more of our large clients could adversely affect our financial position, results of operations, and cash flows.
Economic conditions which adversely impact our clients and their vendors in the retail industry in the United Kingdom and Europe may continue to have a negative impact on our revenue. Specifically, client liquidity and the liquidity of client vendors can have a significant impact on claim production, the claim approval process, and the ability of clients to offset or otherwise make recoveries from their vendors.
If a client files for bankruptcy, we could be subject to an action to recover certain payments received in the 90 days prior to the bankruptcy filing known as “preference payments.” If we are unsuccessful in defending against such claims, we would be required to make unbudgeted cash payments which could strain our financial liquidity, and our earnings would be reduced.
Our failure to retain the services of key members of our management team and highly skilled personnel could adversely impact our operations and financial performance.
Our future success depends largely on the efforts and skills of our management team, including our executive officers and other key employees. As such, we have entered into employment agreements with key members of our management team. While these employment agreements include limits on the ability of key employees to directly compete with us in the future, nothing prevents them from leaving our Company. We also do not maintain “key person” life insurance policies on any of our executive officers or other key employees. Thus, we may have to incur costs to replace such employees if we were to lose their services, and our ability to execute our business strategy could be impaired if we are unable to replace such employees in a timely manner.
In addition, it is especially challenging to attract and retain highly qualified skilled auditors and other professionals in an industry where competition for skilled personnel is intense. Accordingly, our future performance also depends, in part, on the ability of our management team to work together effectively, manage our workforce, and retain highly qualified personnel.
We rely on operations outside the U.S. for a significant portion of our revenue and are increasingly dependent on operations outside the U.S. for supporting our operations globally.
Operations outside the U.S. generated 42.2% of our annual revenue from continuing operations in 2017, 42.6% in 2016 and 41.8% in 2015. These international operations are subject to numerous risks, including:
greater exposure to the possibility of economic instability, the disruption of operations from labor and political disturbances, expropriation or war in the international markets we serve;
difficulties in staffing and managing foreign operations and in collecting accounts receivable;
fluctuations in currency exchange rates, particularly weaknesses in the British pound, the euro, the Canadian dollar, the Mexican peso, the Brazilian real, the Australian dollar, the Indian rupee and other currencies of countries in which we transact business, which could result in currency translations that materially reduce our revenue and earnings;
costs associated with adapting our services to our foreign clients’ needs;
unexpected changes in regulatory requirements and laws;
expenses and legal restrictions associated with transferring earnings from our foreign subsidiaries to us;
difficulties in complying with a variety of foreign laws and regulations, such as those relating to data protection and employment, as well as U.S. laws affecting operations outside of the United States;
business interruptions due to widespread disease, actual or potential terrorist activities, or other catastrophes;
reduced or limited protection of our intellectual property rights;
longer accounts receivable cycles; and
competition with large or state-owned enterprises or regulations that effectively limit our operations and favor local competitors.
Because we expect a significant portion of our revenue to continue to come from operations outside the U.S., and expect to continue transitioning certain of our operations to locations outside the U.S., the occurrence of any of these events could materially and adversely affect our business, financial position, results of operations, and cash flows.

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In 2017, our European operations accounted for 20.4% of our consolidated revenue from continuing operations. There have been continuing concerns and uncertainties regarding the stability of certain European economies. A continued decline in the economic conditions in Europe may materially and adversely affect our operations both in Europe and on a consolidated basis.
Furthermore, in 2010 we began transitioning certain of our core data processing and other functions to locations outside the U.S., including India, where approximately 20% of our employees were located on December 31, 2017. While our operations in India have been key to serving clients more efficiently and cost-effectively under our improved service delivery model, India has from time to time experienced instances of civil unrest and hostilities with neighboring countries. Geopolitical conflicts, military activity, terrorist attacks, or other political uncertainties in the future could adversely affect the Indian economy by disrupting communications and making business operations and travel more difficult, which may have a material adverse effect on our ability to deliver services from India. Disruption of our Indian operations could materially and adversely affect our profitability and our ability to execute our growth strategy.
Our business operates in highly competitive environments and is subject to pricing pressure.
The environments in which our business operates are highly competitive, with numerous other recovery audit firms and other service providers. In addition, many of our recovery audit clients have developed their own internal recovery audit capabilities. As a result of competition among the providers of these services and the availability of certain recovery audit services from clients’ internal audit departments, our business is subject to intense rate pressure. Our Adjacent Services business also has numerous competitors varying in size, market strength and specialization, many of whom have established and well-known franchises and brands. Intense price competition faced by all of our service lines could negatively impact our profit margins and have a potential adverse effect on our business, financial position, results of operations, and cash flows.
Our client contracts generally contain provisions under which the client may terminate our services prior to the completion of the agreement.
Many of our client contracts provide that the client may terminate the contract without cause prior to the end of the term of the agreement by providing us with relatively short prior written notice of the termination. As a result, the existence of contractual relationships with our clients is not an assurance that we will continue to provide services for our clients through the entire term of their respective agreements. If clients representing a significant portion of our revenue terminated their agreements unexpectedly, we may not, in the short-term, be able to replace the revenue and income from such contracts and this would have a material adverse effect on our business, financial condition, results of operations and cash flows. In addition, client contract terminations also could harm our reputation within the industry which could negatively impact our ability to obtain new clients.
Our charges to earnings resulting from acquisition, restructuring and integration costs may materially adversely affect the market value of our common stock.
We account for the completion of our acquisitions using the purchase method of accounting. We allocate the total estimated purchase prices to net tangible assets, amortizable intangible assets and indefinite-lived intangible assets, and based on their fair values as of the date of completion of the acquisitions, record the excess of the purchase price over those fair values as goodwill. Our financial results, including earnings per share, could be adversely affected by a number of financial adjustments required in purchase accounting including the following:
we will incur additional amortization expense over the estimated useful lives of certain of the intangible assets acquired in connection with acquisitions during such estimated useful lives;
we will incur additional depreciation expense as a result of recording purchased tangible assets; and
to the extent the value of goodwill or intangible assets becomes impaired, we may be required to incur material charges relating to the impairment of those assets.

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Our failure to comply with applicable governmental privacy laws and regulations in the U.S. and internationally could substantially impact our business, operations, financial position, and cash flows. Additionally, compliance with the laws and regulations relating to the handing of personal data may impede our ability to provide services in certain jurisdictions and may result in increased costs.
We are subject to extensive and evolving federal, state and foreign privacy laws and regulations. Changes in privacy laws or regulations or new interpretations of existing laws or regulations could have a substantial effect on our business, financial condition and results of operations. Failure to comply with such regulations could result in the termination or loss of contracts, the imposition of contractual damages, civil sanctions, damage to the Company’s reputation, or in certain circumstances, criminal penalties, any of which could have a material adverse effect on our results of operations, financial position, cash flows, business and prospects. Determining compliance with such regulations is complicated by the fact that the interpretations of these laws and regulations by governing regulatory authorities and the courts evolve over time, and many of the provisions of such laws and regulations are open to a wide range of interpretations. There can be no assurance that we are or have been in compliance with all applicable existing laws and regulations or that we will be able to comply with new laws or regulations.
With respect to trans-border data flows from the European Economic Area, or EEA, we are certified under the U.S.-European Union Privacy Shield Framework, as agreed to by the U.S. Department of Commerce and the European Union (“EU”), as a means to legally transfer European personal information from Europe to the United States; however, it is possible that the U.S.-European Union Privacy Shield Framework may be challenged in EU courts and there is some uncertainty regarding its future validity and our ability to rely on it for EU to U.S. data transfers. In addition, despite our Privacy Shield certification and extensive efforts to maintain the privacy, integrity and controlled use of confidential information, including personally identifiable information, through a combination of hardware, software, and physical security, coupled with strong internal data security processes, procedures and controls that we believe meet or exceed relevant laws, regulations and industry best practices, we may experience hesitancy, reluctance, or refusal by European or multi-national clients to use our services due to the potential risk exposure they may face as a result of their data being transferred outside of the European Union.
Further, in 2016, the EU adopted a new law governing data protection practices and privacy called the General Data Protection Regulation (“GDPR”), which becomes effective in May 2018. GDPR is a redesign of the European Data Protection Directive 95/46/EC and is intended to boost the online and offline privacy rights of individuals. GDPR will implement more stringent operational requirements for processors and controllers of personal data, including, for example, expanded disclosures about how personal information is to be used, limitations on retention of information, increased requirements to correct or erase an individual’s information upon request, mandatory data breach notification requirements and higher standards for data controllers to demonstrate that they have obtained valid consent for certain data processing activities. The GDPR will also significantly increase penalties for non-compliance.
Laws are also increasingly aimed at the use of personal information for marketing purposes, such as the EU’s e-Privacy Directive, and the country-specific regulations that implement that directive. Such laws and regulations are also subject to new and differing interpretations and may be inconsistent among jurisdictions.
The EU’s e-Privacy Directive, the EU-U.S. Privacy Shield Framework, the GDPR and other regulations could reduce demand for our services or restrict our ability to store and process data or, in some cases, impact our ability to offer our services in certain locations or our customers' ability to deploy our solutions globally. Failure to provide adequate privacy protections and maintain compliance with the new data privacy laws, including the EU-U.S. Privacy Shield framework and the GDPR, could have a material adverse effect on our financial condition and results of operations.
Federal tax reform in the United States could adversely affect our business and financial condition.
On December 22, 2017, the Tax Cuts and Jobs Act (the “Tax Act”) was enacted in the United States. The Company is still in the process of analyzing the Tax Act and its possible effects on the Company. The Tax Act includes a number of provisions, including the lowering of the U.S. corporate tax rate from 35% to 21%, the elimination of U.S. tax on foreign earnings (subject to certain exceptions), one-time taxation of offshore earnings at reduced rates regardless of whether they are repatriated, limitation of the tax deduction for interest expense, immediate deductions for certain new investments instead of deductions for depreciation expense over time, and modifying or repealing many business deductions and credits. While there are benefits, there is also substantial uncertainty regarding the overall impact and details of the Tax Act. The intended and unintended consequences of the Tax Act on our business and on holders of our common stock is uncertain and could be adverse. The Company anticipates that the impact of the Tax Act may be material to our business, financial condition and results of operations.

13


Certain ownership changes may limit our ability to use our net operating losses.
We have substantial tax loss and credit carry-forwards for U.S. federal income tax purposes. On December 30, 2016, the Company experienced an ownership change as defined under Section 382 of the Internal Revenue Code (“IRC”). This ownership change resulted in an annual IRC Section 382 limitation that limits the use of certain tax attribute carry-forwards and also resulted in the write-off of certain deferred tax assets and the related valuation allowances that the Company recorded in. The Company has performed its assessment and has determined that $87.3 million of the gross federal net operating losses and $62.9 million of gross state net operating losses outstanding as of December 30, 2016 will be available for use going forward. If a future ownership change occurs and limits our ability to use our historical net operating loss carryforwards, it could have a material adverse impact on our business, financial position and results of operations by increasing our future tax obligations.
Certain of our tax positions may be subject to challenge by the Internal Revenue Service and other tax authorities, and if successful, these challenges could increase our future tax liabilities and expense.
For U.S. federal income tax purposes, as well as local country tax purposes in the jurisdictions where we operate, from time to time we take positions under provisions of applicable tax law that are subject to varying interpretations. Certain of our tax positions may be subject to challenge by the applicable taxing authorities, including, in the U.S., the Internal Revenue Service. If our tax positions are successfully challenged, our future tax liabilities and expense could significantly increase.
While we believe that our tax positions are proper based on applicable law and we believe that it is more likely than not that we would prevail with respect to challenges to these positions, we can make no assurances that we would prevail if our positions are challenged or that business economics would justify the mounting of a legal defense against such challenges. If our tax positions are successfully challenged by the U.S. or non-U.S. taxing authorities, it could increase our future tax liabilities and expense and have a material adverse impact on our financial position, results of operations and cash flows.
We may have exposure to additional income tax liabilities or additional costs if the U.S. government changes certain U.S. tax rules or other tax laws applicable to U.S. corporations doing business in foreign jurisdictions.
We are a U.S. corporation that conducts business both in the U.S. and in foreign jurisdictions. From time to time, proposals for changes to tax and other laws are made that may negatively impact U.S. corporations doing business in foreign jurisdictions, including proposals for tax reform. While the scope of future changes remains unclear, proposed changes might include limiting the ability of U.S. corporations to deduct certain expenses attributable to offshore earnings, modifying the foreign tax credit rules and taxing currently certain transfers of intangible assets offshore or imposing other economic disincentives to doing business outside of the U.S. The enactment of some or all of these proposals could increase the Company’s effective tax rate or otherwise adversely affect our profitability.
Future impairment of goodwill, other intangible assets and long-lived assets would reduce our future earnings.
As of December 31, 2017, the Company’s goodwill and other intangible assets totaled $36.1 million. We must perform periodic assessments to determine whether some portion, or all, of our goodwill, intangible assets and other long-lived assets are impaired. Our most recent assessment showed no impairment to our goodwill, intangible assets and other long-lived assets, but future impairment testing could result in a determination that our goodwill, other intangible assets or our other long-lived assets have been impaired. Future adverse changes in the business environment or in our ability to perform audits successfully and compete effectively in our markets or the discontinuation of our use of certain of our intangible or other long-lived assets could result in impairment which could materially adversely impact future earnings.
Our articles of incorporation, bylaws and Georgia law may inhibit a change of control that shareholders may favor.
Our articles of incorporation, bylaws and Georgia law contain provisions that may delay, deter or inhibit a future acquisition of PRGX that is not approved by our Board of Directors. This could occur even if our shareholders receive attractive offers for their shares or if a substantial number, or even a majority, of our shareholders believe the takeover is in their best interest. These provisions are intended to encourage any person interested in acquiring us to negotiate with and obtain the approval of our Board of Directors in connection with the transaction. Provisions that could delay, deter or inhibit a future acquisition include the following:
a classified Board of Directors;
the requirement that our shareholders may only remove directors for cause;
specified requirements for calling special meetings of shareholders;
the ability of the Board of Directors to consider the interests of various constituencies, including our employees, clients and creditors and the local community, in making decisions; and
the ability of the Board of Directors to issue shares of preferred stock with such designations, powers, preferences and rights as it determines, without any further vote or action by our shareholders.

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Our stock price has been and may continue to be volatile.
Our common stock is currently traded on The Nasdaq Global Select Market. The trading price of our common stock has been and may continue to be subject to large fluctuations. For example, for the year ended December 31, 2017, our stock traded as high as $7.90 per share and as low as $5.35 per share. Our stock price may increase or decrease in response to a number of events and factors, including:
future announcements concerning us, key clients or competitors;
variations in operating results and liquidity;
changes in financial estimates and recommendations by securities analysts;
developments with respect to technology or litigation;
changes in applicable laws and regulations;
the operating and stock price performance of other companies that investors may deem comparable to our
Company;
acquisitions and financings; and
sales and purchases of our stock by insiders.
Fluctuations in the stock market, generally, also impact the volatility of our stock price. Finally, general economic conditions and stock market movements may adversely affect the price of our common stock, regardless of our operating performance.
ITEM 1B. Unresolved Staff Comments
None.
ITEM 2. Properties
Our principal executive offices are located in approximately 58,000 square feet of office space in Atlanta, Georgia. We have subleased approximately 3,000 square feet of our principal executive office space to independent third parties. In January 2014, we amended the lease for our principal executive offices to extend the term through December 31, 2021, reduce the lease payment for 2014, and reduce the space under lease to approximately 58,000 square feet effective January 1, 2015. This space is used by our Recovery Audit Services - Americas and Adjacent Services segments and is the primary location of our Corporate Support personnel. Our various operating units lease numerous other parcels of operating space elsewhere in the U.S. and in the various other countries in which we currently conduct our business.
Excluding the lease for our principal executive offices, the majority of our real property leases are individually less than five years in duration. See Contractual Obligations and Other Commitments in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in Part II, Item 7 of this Form 10-K and Note 6 of “Notes to Consolidated Financial Statements” included in Part II, Item 8 of this Form 10-K for a discussion of costs we may incur in the future to the extent we (i) reduce our office space capacity or (ii) commit to, or occupy, new properties in the locations in which we operate.
ITEM 3. Legal Proceedings
We are party to a variety of legal proceedings arising in the normal course of business. While the results of these proceedings cannot be predicted with certainty, management believes that the final outcome of these proceedings will not have a material adverse effect on our financial position, results of operations or cash flows.
ITEM 4. Mine Safety Disclosures
Not applicable.

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PART II
ITEM 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our common stock is traded under the symbol “PRGX” on The Nasdaq Global Select Market (Nasdaq). The Company has not paid cash dividends on its common stock since it became a public company in 1996 and does not intend to pay cash dividends in the foreseeable future. Moreover, restrictive covenants included in our secured credit facility specifically prohibit payment of cash dividends. As of February 28, 2018, there were 104 holders of record of our common stock and management believes there are approximately 2,165 beneficial holders of our common stock. The following table sets forth, for the quarters indicated, the range of high and low sales prices for the Company’s common stock as reported by Nasdaq during 2017 and 2016.
2017 Calendar Quarter
 
High
 
Low
1st Quarter
 
$
6.59

 
$
5.35

2nd Quarter
 
7.25

 
5.90

3rd Quarter
 
7.30

 
5.40

4th Quarter
 
7.90

 
6.62

 
 


 


2016 Calendar Quarter
 
High
 
Low
1st Quarter
 
$
4.90

 
$
3.04

2nd Quarter
 
5.81

 
4.56

3rd Quarter
 
5.50

 
4.58

4th Quarter
 
6.20

 
4.25

Issuer Purchases of Equity Securities
There were no purchases of the Company's equity securities made by or on behalf of the Company or any affiliated purchaser (as defined in Exchange Act Rule 10b-18) during the three-month period ended December 31, 2017.



16


Performance Graph
Set forth below is a line graph presentation comparing the cumulative shareholder return on our common stock, on an indexed basis, against cumulative total returns of The Nasdaq Composite Index and the RDG Technology Composite Index. The graph assumes that the value of the investment in the common stock in each index was $100 on December 31, 2012 and shows total return on investment for the period beginning December 31, 2012 through December 31, 2017, assuming reinvestment of any dividends. Notwithstanding anything to the contrary set forth in any of the Company’s filings under the Securities Act of 1933 or the Securities Exchange Act of 1934 that might incorporate future filings, including this Annual Report on Form 10-K, in whole or in part, the Performance Graph presented below shall not be incorporated by reference into any such filings.
chart-7933cd58b3d25f82be3a01.jpg
Cumulative Total Return
 
 
12/12
 
12/13
 
12/14
 
12/15
 
12/16
 
12/17
PRGX Global, Inc.
 
100.00

 
104.19

 
88.68

 
57.67

 
91.47

 
110.08

NASDAQ Composite
 
100.00

 
141.63

 
162.09

 
173.33

 
187.19

 
242.29

RDG Technology Composite
 
100.00

 
132.51

 
155.05

 
161.00

 
181.12

 
247.79


17


ITEM 6. Selected Financial Data
The following table sets forth selected financial data from continuing operations for the Company as of and for each of the five years in the period ended December 31, 2017. The following data reflects the business acquisitions that we have completed through December 31, 2017. We have included the results of operations for these acquired businesses in our results of operations since the date of their acquisitions. We have derived this historical consolidated financial data from our Consolidated Financial Statements and Notes thereto, which have been audited by our Independent Registered Public Accounting Firm. The Consolidated Balance Sheets as of December 31, 2017 and 2016, and the related Consolidated Statements of Operations, Comprehensive Income (Loss), Shareholders’ Equity and Cash Flows for each of the years in the three-year period ended December 31, 2017 and the report of the Independent Registered Public Accounting Firm thereon are included in Item 8 of this Form 10-K.
The data presented below should be read in conjunction with the Consolidated Financial Statements and Notes thereto included elsewhere in this Form 10-K and other financial information appearing elsewhere in this Form 10-K, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Certain reclassifications have been made to the prior periods to conform to the current period presentation.
 
 
Years Ended December 31, (1)
 
 
2017
 
2016
 
2015
 
2014
 
2013

 
(In thousands, except per share data)
Revenue, net
 
$
161,620

 
$
140,844

 
$
138,302

 
$
161,552

 
$
178,268

Operating expenses:
 
 
 
 
 
 
 
 
 
 
Cost of revenue
 
102,052

 
91,299

 
93,169

 
110,890

 
112,853

Selling, general and administrative expenses
 
46,941

 
39,399

 
32,284

 
38,581

 
46,143

Depreciation of property and equipment
 
4,569

 
5,033

 
5,317

 
6,025

 
6,783

Amortization of intangible assets
 
3,634

 
1,832

 
2,458

 
3,531

 
4,997

Acquisition-related adjustments
 
(2,283
)
 

 

 

 

Impairment charges
 

 

 

 

 
2,773

Total operating expenses
 
154,913

 
137,563

 
133,228

 
159,027

 
173,549

Operating income from continuing operations
 
6,707

 
3,281

 
5,074

 
2,525

 
4,719

Foreign currency transaction (gains) losses on short-term intercompany balances
 
(2,190
)
 
84

 
2,165

 
2,003

 
(13
)
Interest expense (income), net
 
1,539

 
(153
)
 
(190
)
 
(77
)
 
(77
)
Other (income) loss
 
(160
)
 
(121
)
 
1,191

 
57

 

Net income from continuing operations before income tax
 
7,518

 
3,471

 
1,908

 
542

 
4,809

Income tax expense (2)
 
2,962

 
1,242

 
369

 
3,241

 
2,755

Net income (loss) from continuing operations
 
$
4,556

 
$
2,229

 
$
1,539

 
$
(2,699
)
 
$
2,054

Basic earnings (loss) per common share
 
$
0.21

 
$
0.10

 
$
0.06

 
$
(0.09
)
 
$
0.07

Diluted earnings (loss) per common share
 
$
0.21

 
$
0.10

 
$
0.06

 
$
(0.09
)
 
$
0.07




18


 
 
December 31,
 
 
2017
 
2016
 
2015
 
2014
 
2013
Balance Sheet Data (consolidated): (3)
 
(In thousands)
Cash and cash equivalents
 
$
18,823

 
$
15,723

 
$
15,122

 
$
25,735

 
$
43,700

Working capital
 
24,070

 
16,706

 
21,641

 
36,006

 
50,506

Total assets
 
120,218

 
93,474

 
80,391

 
102,782

 
132,829

Long-term debt, excluding current installments
 
13,526

 

 

 

 

Total shareholders' equity
 
$
60,314

 
$
52,390

 
$
52,415

 
$
70,986

 
$
93,828


(1)
Data for all years prior to 2015 has been restated in order to reflect only continuing operations.
(2)
The taxes recorded for 2014 were primarily related to the recording of a valuation allowance on the future use of net losses in our U.K. operations. The high effective tax rate relative to the U.S. federal statutory rate in 2013 is due to taxes on income of foreign subsidiaries with no benefit recognized for losses incurred in the U.S. due to the Company having a deferred tax asset valuation allowance. See Note 1 (i) and Note 7 of “Notes to Consolidated Financial Statements” included in Item 8 of this Form 10-K.
(3)
Data in this table reflects the balance sheet amounts for both continuing and discontinued operations.




19


ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Introduction
PRGX Global, Inc. is a global leader in recovery audit and spend analytics, providing services within our clients' Source-to-Pay ("S2P") business processes. At the heart of our client services portfolio is the core capability of mining client data to deliver "actionable insights." Actionable insights allow our clients to improve their cash flow and profitability by reducing costs, improving business processes and managing risks.
Our services include recovery audit, spend analytics and supplier information management ("SIM") services. We serve clients in more than 30 countries and conduct our operations through three reportable segments: Recovery Audit Services - Americas, Recovery Audit Services - Europe/Asia-Pacific and Adjacent Services. The Recovery Audit Services - Americas segment represents recovery audit services we provide in the U.S., Canada and Latin America. The Recovery Audit Services - Europe/Asia-Pacific segment represents recovery audit services we provide in Europe, Asia and the Pacific region. The Adjacent Services segment includes advisory, analytics and SIM services, as well as our PRGX OPTIX suite of analytics tools. We include the unallocated portion of corporate selling, general and administrative expenses not specifically attributable to the three reportable segments in Corporate Support.
Recovery auditing is a business service focused on finding overpayments created by errors in payment transactions, such as missed or inaccurate discounts, allowances and rebates, vendor pricing errors, erroneous coding and duplicate payments. Recovery audit services are part of the broader S2P services market space, focused on the payment side of the S2P market.
Generally, we earn our recovery audit revenue on a contingent fee basis by identifying overpayments made by our clients, assisting our clients in recovering the overpayments from their vendors, and collecting a specified percentage of the recoveries from our clients as our fee. The fee percentage we earn is based on specific contracts with our clients that generally also specify: (a) time periods covered by the audit; (b) the nature and extent of services we are to provide; and (c) the client’s responsibilities to assist and cooperate with us. Clients generally recover claims by either taking credits against outstanding payables or future purchases from the relevant vendors, or receiving refund checks directly from those vendors. The manner in which a claim is recovered by a client is often dictated by industry practice. In addition, many clients establish client-specific procedural guidelines that we must satisfy prior to submitting claims for client approval. Our recovery audit business also includes contract compliance services which focus on auditing complex supplier billings against large services, construction and licensing contracts, and is relevant to a large portion of our client base. Such services include verification of the accuracy of third party reporting, appropriateness of allocations and other charges in cost or revenue sharing types of arrangements, adherence to contract covenants and other risk mitigation requirements and numerous other reviews and procedures to assist our clients with proper monitoring and enforcement of the obligations of their contractors. Services in our Adjacent Services segment can be project-based (advisory services), which are typically billed on a rates and hours basis, or subscription-based (typically SaaS offerings), which are billed on a monthly basis.
We earn the vast majority of our recovery audit revenue from clients in the retail industry due to many factors, including the high volume of transactions and the complicated pricing and allowance programs typical in this industry. Changes in consumer spending associated with economic fluctuations generally impact our recovery audit revenue to a lesser degree than they affect individual retailers due to several factors, including:

Diverse client base - our clients include a diverse mix of discounters, grocery, pharmacy, department and other stores that tend to be impacted to varying degrees by general economic fluctuations, and even in opposite directions from each other depending on their position in the market and their market segment;
Motivation - when our clients experience a downturn, they frequently are more motivated to use our services to recover prior overpayments to make up for relatively weaker financial performance in their own business operations;
Nature of claims - the relationship between the dollar amount of recovery audit claims identified and client purchases is non-linear. Claim volumes are generally impacted by purchase volumes, but a number of other factors may have an even more significant impact on claim volumes, including new items being purchased, changes in discount, rebate, marketing allowance and similar programs offered by vendors and changes in a client’s or a vendor’s information processing systems; and
Timing - the client purchase data on which we perform our recovery audit services is historical data that typically reflects transactions between our clients and their vendors that took place 3 to 15 months prior to the data being provided to us for audit. As a result, we generally experience a delayed impact from economic changes that varies by client and the impact may be positive or negative depending on the individual clients’ circumstances.


20


We have processes in place to mitigate the financial impact arising from fluctuations in our businesses. These processes include reviewing and monitoring financial and operational results through our internal reporting, devoting substantial efforts to develop an improved service delivery model to enable us to more cost effectively serve our clients, and maintaining the flexibility to control the compensation-related portions of our cost structure.

While the net impact of the economic environment on our recovery audit revenue is difficult to determine or predict, we believe that for the foreseeable future, our revenue will remain at a level that will allow us to continue investing in our growth strategy. Included in our growth strategy are our investments in developing and enhancing our technology platforms and improved operational processes within our recovery audit business. In addition, we continue to pursue the expansion of our business beyond retail recovery audit services by growing the portion of our business that provides recovery audit services to enterprises other than retailers; growing our contract compliance service offerings; expanding into new industry verticals, such as telecommunications, manufacturing and resources; and growing our Adjacent Services which includes our global PRGX OPTIX analytics solutions and our SIM services offering. We believe that our recovery audit business uniquely positions us to create value for clients and gives us a competitive advantage over other players in the broader S2P market for four fundamental reasons:

We already have the clients' spend data - we serve a large and impressive list of very large, multinational companies in our core recovery audit business, which requires access to and processing of these clients' detailed S2P data on a daily, weekly or at least periodic basis;
We know the clients' spend data and underlying processes - the work we do in recovery audit requires that we fully understand our clients’ systems, buying practices, receiving and payment procedures, as well as their suppliers’ contracting, performance and billing practices;
We take a different perspective in analyzing the clients' spend data - we look horizontally across our clients' processes and organizational structures versus vertically, which is how most companies are organized and enterprise resource planning systems are designed; and
Our contingent fee recovery audit value proposition minimizes our clients' cost of entry and truly aligns us with our clients.

As our clients’ data volumes and complexity levels continue to grow, we are using our deep data management experience to develop new actionable insight solutions, as well as to develop custom analytics and data transformation services. Taken together, our deep understanding of our clients’ S2P data and our technology-based solutions provide multiple routes to help our clients achieve greater profitability. Our Adjacent Services business targets client functional and process areas where we have established expertise, enabling us to provide services to finance, merchandising and procurement executives to improve working capital, reduce supplier discrepancies, optimize purchasing leverage in vendor pricing negotiations, improve insight into product margin and true cost of goods for resale, identify and manage risks associated with vendor compliance, improve quality of vendor master data and improve visibility and diagnostics of direct and indirect spend.
In an effort to accelerate our growth and expand our technology offerings within Adjacent Services, during the fourth quarter of 2016, we acquired Lavante, Inc. ("Lavante"), a SaaS-based SIM and recovery audit services firm based in San Jose, California. We have included the results of Lavante from the date of acquisition through December 31, 2017 in our Consolidated Statement of Operations.
In the first quarter of 2017, we completed the acquisition of substantially all of the assets of Cost & Compliance Associates, LLC and Cost & Compliance Associates Limited (collectively, "C&CA"), a commercial recovery audit and contract compliance firm with operations in the U.S. and the UK. The C&CA acquisition was immediately accretive to our profitability, significantly increased our market share within the commercial industry and brought a rich set of global clients and a skilled and experienced workforce. We have included the results of C&CA from the date of acquisition through December 31, 2017 in our Consolidated Statement of Operations.
In 2017, we continued to enhance our PRGX OPTIX suite of analytics tools with multiple improvements to the features and functionality. The PRGX OPTIX suite facilitates S2P business decisions through actionable, data-enabled insights that are delivered through four primary modules - Product, Payment, Spend and Supplier. Each of these modules is powered by the core PRGX OPTIX platform that provides the ability to process and visualize S2P data delivered via a SaaS interface.
In the fourth quarter of 2017, we announced a multi-year SaaS technology and managed services contract based on our Lavante SIM platform, which we refer to as our Deduction Management solution. We believe this solution highlights our competitive advantage resulting from integrating recovery audit data and knowledge with market leading technology applications to deliver expanded client value.


21



Discontinued Operations
As of December 31, 2015, the Company discontinued its HCRA business. PRGX entered into agreements with third parties to fulfill its Medicare RAC program subcontract obligations to audit Medicare payments and provide support for claims appeals and assigned its remaining Medicaid contract to another party. The Company will continue to incur certain expenses while the current Medicare RAC contracts are still in effect.
Results from Continuing Operations
The discussions and financial results in the Item 7 reflect our continuing operations.
The following table sets forth the percentage of revenue represented by certain items in our Consolidated Statements of Operations for the periods indicated: 
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Revenue, net
 
100.0
 %
 
100.0
 %
 
100.0
 %
Operating expenses:
 
 
 
 
 
 
Cost of revenue
 
63.1

 
64.8

 
67.4

Selling, general and administrative expenses
 
29.0

 
28.0

 
23.3

Depreciation of property and equipment
 
2.8

 
3.6

 
3.8

Amortization of intangible assets
 
2.3

 
1.3

 
1.8

Acquisition-related adjustments
 
(1.4
)
 

 

Total operating expenses
 
95.8

 
97.7

 
96.3

Operating income from continuing operations
 
4.2

 
2.3

 
3.7

 
 
 
 
 
 
 
Foreign currency transaction (gains) losses on short-term intercompany balances
 
(1.3
)
 
0.1

 
1.6

Interest expense (income), net
 
1.0

 
(0.1
)
 
(0.1
)
Other (income) loss
 
(0.1
)
 
(0.1
)
 
0.9

Net income from continuing operations before income tax
 
4.6

 
2.4

 
1.3

 
 
 
 
 
 
 
Income tax expense
 
1.8

 
0.9

 
0.3

 
 
 
 
 
 
 
Net income from continuing operations
 
2.8
 %
 
1.5
 %
 
1.0
 %

Year Ended December 31, 2017 Compared to Prior Years from Continuing Operations
Revenue, net. Revenue, net was as follows (in thousands): 
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Recovery Audit Services – Americas
 
$
113,122

 
$
99,861

 
$
97,009

Recovery Audit Services – Europe/Asia-Pacific
 
44,372

 
37,335

 
36,264

Adjacent Services
 
4,126

 
3,648

 
5,029

Total
 
$
161,620

 
$
140,844

 
$
138,302


22


Consolidated revenue from continuing operations increased by $20.8 million, or 14.8%, in 2017 compared to 2016, and increased by $2.5 million, or 1.8%, in 2016 compared to 2015. On an organic basis (excluding C&CA and, for the first three quarters of 2017, Lavante), our revenue increased 6.0% in 2017 compared to 2016. Our 2017 consolidated year over year growth was led by our global retail and commercial recovery audit businesses, which are the largest of our recovery audit businesses. We experienced some changes in our reported revenue based on the strength of the U.S. dollar relative to foreign currencies. On a constant dollar basis, adjusted for changes in foreign exchange ("FX") rates, consolidated revenue increased 14.1% in 2017 compared to 2016 and increased 4.5% in 2016 compared to 2015. On a constant dollar basis, we organically grew our revenue 5.5% in 2017 compared to 2016. Below is a discussion of our revenue for our three reportable segments.
Recovery Audit Services - Americas revenue increased $13.3 million, or 13.3%, in 2017 compared to 2016 and increased $2.8 million, or 2.9%, in 2016 compared to 2015. On an organic basis, our revenue increased by 4.6% in 2017 compared to 2016. The 2017 year over year growth was led by our retail and commercial recovery audit businesses, which are the largest of our recovery audit businesses. Changes in the value of the U.S. dollar relative to currencies in Canada and Latin America positively impacted reported revenue in 2017 and negatively impacted reported revenue in 2016. On a constant dollar basis, adjusted for changes in FX rates, 2017 revenue increased 12.9% compared to 2016 and increased 3.9% in 2016 compared to 2015. On a constant dollar basis, we organically grew our revenue by 4.3% in 2017 compared to 2016. The growth in our Recovery Audit Services - Americas revenue in 2017 and 2016 was due to a number of factors including stronger claims conversion, the implementation of acceleration and maturity model programs, increased staffing at certain audits, and enhancements to our proprietary audit technologies. This growth was partially offset by continued rate pressures.
Recovery Audit Services - Europe/Asia-Pacific revenue increased $7.0 million, or 18.8%, in 2017 compared to 2016 and increased $1.1 million, or 3.0% in 2016, compared to 2015. On an organic basis, our revenue increased by 10.4% in 2017 compared to 2016. The revenue growth over the past two years was primarily driven by stronger claims conversion, the implementation of acceleration and maturity model programs, increased staffing at certain audits and enhancements to our proprietary audit technologies. This growth was partially offset by continued rate pressures. Changes in the value of the U.S. dollar relative to currencies in Europe, Asia, and the Pacific positively impacted reported revenue in 2017 and negatively impacted reported revenue in 2016. On a constant dollar basis, adjusted for changes in FX rates, 2017 revenue increased by 17.5% compared to 2016 and 2016 revenue increased by 9.6% compared to 2015. On a constant dollar basis, Recovery Audit Services - Europe/Asia-Pacific organic revenue increased 9.2% in 2017 compared to 2016.
Adjacent Services revenue increased by $0.5 million, or 13.1%, in 2017 compared to 2016 and decreased $1.4 million, or 27.5%, in 2016 compared to 2015. The increase in revenue in 2017 compared to 2016 was due to new advisory work and the launch of the Lavante SIM-based Deduction Management contract announced in the fourth quarter of 2017. The decline in revenue in 2016 compared to 2015 was primarily due to the delay in starting certain projects within our pipeline.
Cost of Revenue (“COR”). COR consists principally of commissions and other forms of variable compensation we pay to our auditors based primarily on the level of overpayment recoveries and/or profit margins derived therefrom, fixed auditor salaries, compensation paid to various types of hourly support staff and salaries for operational and client service managers for our recovery audit services and our Adjacent Services businesses. COR also includes other direct and indirect costs incurred by these personnel, including office rent, travel and entertainment, telephone, utilities, maintenance and supplies and clerical assistance. A significant number of the components comprising COR are variable and will increase or decrease with increases or decreases in revenue.
COR was as follows (in thousands): 
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Recovery Audit Services – Americas
 
$
68,963

 
$
60,706

 
$
60,214

Recovery Audit Services – Europe/Asia-Pacific
 
26,930

 
24,802

 
25,424

Adjacent Services
 
6,159

 
5,791

 
7,531

Total
 
$
102,052

 
$
91,299

 
$
93,169


23


COR as a percentage of revenue for Recovery Audit Services - Americas was 61.0% in 2017, 60.8% in 2016 and 62.1% in 2015. We continue to invest in our various growth and other strategic initiatives, and include portions of these costs in Recovery Audit Services - Americas COR. COR for Recovery Audit Services - Americas increased 13.6% in 2017 compared to 2016 and increased 0.8% in 2016 compared to 2015. In 2017, Recovery Audit Services - Americas COR included Lavante and C&CA business expenses and certain transformation charges which were not included in 2016. On an organic basis and excluding transformation expenses, our 2017 COR improved by 1.4% compared to 2016. On a constant dollar basis, adjusted for changes in FX rates, COR in 2017 improved by 1.5% compared to 2016. The improvement in COR as a percentage of revenue in 2016 compared to 2015 was primarily due to the increase in revenues and the positive financial impact of operational process improvements, partially offset by costs associated with senior leadership and audit staff personnel that were not in place in prior periods.
COR as a percentage of revenue for Recovery Audit Services - Europe/Asia-Pacific was 60.7% in 2017, 66.4% in 2016 and 70.1% in 2015. In 2017, Recovery Audit Services - Europe/Asia-Pacific COR included C&CA business expenses and certain transformation charges which were not included in 2016.  COR as a percentage of revenue improved 5.7% in 2017 compared to 2016 and COR as a percentage of revenue improved 3.7% in 2016 compared to 2015. The improvements were primarily related to the increase in revenue and the positive financial impact of operational improvements, partially offset by expenses associated with senior leadership and audit staff personnel that were not in place in prior periods.  On an organic basis and excluding transformation expenses, our 2017 COR improved by 5.6%.  On a constant dollar basis, adjusted for changes in FX rates, COR in 2017 improved by 5.5% compared to 2016.  The improvement in COR as a percentage of revenue for 2016 compared to 2015 was primarily due to the increase in revenues and the impact of transforming our operational processes
Adjacent Services COR is primarily related to our continued investments in personnel whom we are hiring to either sell or assist with service delivery. COR as a percentage of revenue decreased to 149.3% in 2017 from 158.7% in 2016, which was an increase from 149.8% in 2015. The reduction in Adjacent Services COR as a percentage of revenue in 2017 is primarily due to our increase in revenue and lower service delivery costs.
Selling, General and Administrative Expenses (“SG&A”). SG&A expenses for all segments other than Corporate Support include the expenses of sales and marketing activities, information technology services and allocated corporate data center costs, human resources, legal, accounting, administration, foreign currency transaction gains and losses other than those relating to short-term intercompany balances and gains and losses on asset disposals. Corporate Support SG&A represents the unallocated portion of SG&A expenses which are not specifically attributable to our segment activities and include the expenses of information technology services, the corporate data center, human resources, legal, accounting, treasury, administration and stock-based compensation charges.
SG&A expenses were as follows (in thousands):
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Recovery Audit Services – Americas
 
$
9,410

 
$
8,421

 
$
7,685

Recovery Audit Services – Europe/Asia-Pacific
 
6,586

 
5,442

 
5,487

Adjacent Services
 
3,735

 
1,469

 
662

Subtotal for reportable segments
 
19,731

 
15,332

 
13,834

Corporate Support
 
27,210

 
24,067

 
18,450

Total
 
$
46,941

 
$
39,399

 
$
32,284

Recovery Audit Services - Americas SG&A expenses increased 11.7% in 2017 compared to 2016 and increased 9.6% in 2016 compared to 2015. The increase in 2017 was primarily due to expenses associated with the Lavante and C&CA acquisitions that were not included in the prior year amounts. However, as a percentage of revenue basis, 2017 was basically unchanged compared to 2016. The increase in 2016 compared to 2015 was primarily due to higher personnel and bad debt costs.
Recovery Audit Services - Europe/Asia-Pacific SG&A expenses increased 21.0% in 2017 compared to 2016 after decreasing 0.8% in 2016 compared to 2015. The increase in 2017 was primarily associated with expenses related to the C&CA acquisition which were not included in the prior year amounts. However, as a percentage of revenue basis, 2017 was basically unchanged compared to 2016.  The decrease in 2016 compared to 2015 was due mainly to lower transformation and facilities costs.

24


Adjacent Services SG&A expenses increased $2.3 million in 2017 compared to 2016 due mainly to three quarters of expenses related to the Lavante acquisition which were not included in the prior year amounts. Adjacent Services SG&A expenses increased $0.8 million in 2016 compared to 2015 due mainly to investments in personnel and the inclusion of one quarter of Lavante operating expenses.
Corporate Support SG&A expenses include stock-based compensation charges of $7.1 million in 2017, $5.1 million in 2016 and $3.9 million in 2015. Excluding stock-based compensation charges, Corporate Support SG&A expenses increased 6.4% in 2017 compared to 2016 and increased 30.4% in 2016 compared to 2015. The increase in 2017 compared to 2016 was due primarily to increased sales and marketing personnel, incentive-based compensation expenses, and the costs associated with business acquisition activity. The increase in 2016 compared to 2015 was due mainly to increases in the business acquisition activity, increased personnel, incentive based compensation expenses, and U.S. healthcare insurance benefit claim costs.
Acquisition-Related Adjustments included an adjustment to earnout consideration of acquired businesses in 2017 for $2.3 million. 
Depreciation of Property and Equipment. Depreciation of property and equipment was as follows (in thousands):
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Recovery Audit Services – Americas
 
$
3,165

 
$
3,750

 
$
4,036

Recovery Audit Services – Europe/Asia-Pacific
 
599

 
529

 
647

Adjacent Services
 
805

 
755

 
634

Total
 
$
4,569


$
5,034

 
$
5,317

Depreciation expense declined in 2017 and 2016 primarily as a result of the reduced level of capital purchases in 2015, 2016 and 2017 when compared to prior periods, which reduced the amount of depreciation to be recorded as those assets became fully depreciated.
Amortization of Intangible Assets. Amortization of intangible assets was as follows (in thousands): 
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Recovery Audit Services – Americas
 
$
1,919

 
$
1,477

 
$
1,728

Recovery Audit Services – Europe/Asia-Pacific
 
142

 

 
600

Adjacent Services
 
1,573

 
355

 
130

Total
 
$
3,634

 
$
1,832

 
$
2,458

Generally, we amortize the customer relationship and trademark intangible assets we record in connection with an acquisition on an accelerated basis over six years or longer, and we amortize non-compete agreements and trade names on a straight-line basis over five years or less. This methodology results in higher amortization immediately following an acquisition, and declining expense in subsequent periods. Our most recent acquisitions prior to December 31, 2017 include C&CA in February 2017 (Recovery Audit Services - Americas and Recovery Audit Services Europe, Asia Pacific), Lavante in October 2016 (Adjacent Services), the SIM services business acquired from Global Edge, LLC and certain affiliated companies (collectively, "Global Edge") in December 2015 (Adjacent Services), Business Strategy, Inc. and substantially all the assets of an affiliated company (collectively, "BSI") in December 2011 (Recovery Audit Services - Americas), the associate migrations in 2011 and 2012 (Recovery Audit Services Europe, Asia Pacific), and Etesius Limited and TJG Holdings LLC in 2010 (Adjacent Services). Amortization expense increased in our recovery audit segments in 2017 as a result of the amortization charges associated with the C&CA acquisition and decreased in 2016 compared to the prior year as we did not complete a material acquisition in these segments in that year. Similarly, Adjacent Services amortization increased in 2017 due to the amortization of certain assets acquired in the acquisition of Lavante.

25


Foreign Currency Transaction (Gains) Losses on Short-Term Intercompany Balances. Foreign currency transaction gains and losses on short-term intercompany balances result from fluctuations in the exchange rates between foreign currencies and the U.S. dollar and the impact of these fluctuations, primarily on balances payable by our foreign subsidiaries to their U.S. parent. Substantial changes from period to period in foreign currency exchange rates may significantly impact the amount of such gains and losses. The strengthening of the U.S. dollar relative to other currencies results in recorded losses on short-term intercompany balances receivable from our foreign subsidiaries while the relative weakening of the U.S. dollar results in recorded gains.
The U.S. dollar generally weakened relative to the local currencies of certain of our foreign subsidiaries in 2017, and strengthened in 2016 and 2015, resulting in our recording net foreign currency gain in 2017 of $2.2 million and losses on short-term intercompany balances of less than $0.1 million and $2.2 million in 2016 and 2015.
Net Interest Expense (Income). Net interest expense was $1.5 million in 2017 due to increased borrowings associated with our acquisitions and the accretion of contingent payments associated with our acquisitions. Net interest income was $0.2 million in each of 2016 and 2015 due to reductions in interest accruals on uncertain tax positions.
Income Tax Expense. Our reported effective tax rates on earnings approximated 39.4% in 2017, 35.8% in 2016, and 19.3% in 2015. Reported income tax expense in each year primarily results from taxes on the income of foreign subsidiaries. We have recorded a deferred tax asset valuation allowance that effectively eliminates income tax expense or benefit relating to our U.S. operations. The tax rate for 2016 reflects the impact of the release of the valuation allowance offsetting certain deferred tax assets in New Zealand and Singapore. The tax rate for 2015 reflects the impact of the release of the valuation allowance offsetting certain deferred tax assets in Australia.
Together with the reversal of interest expense accruals, the total net reduction to our reserves for uncertain tax positions based on changes in accruals was $0.5 million in 2017, $0.1 million in 2016, and $0.2 million in 2015.

As of the end of each of the past three years, management determined that based on all available evidence, deferred tax asset valuation allowances of $34.8 million in 2017, $50.1 million in 2016 and $45.6 million in 2015 were appropriate.

As of December 31, 2017, we had approximately $81.7 million of U.S. federal loss carry-forwards available to reduce future U.S. federal taxable income. The U.S. federal loss carry-forwards expire between 2025 and 2035. As of December 31, 2017, we had approximately $65.0 million of state loss carry-forwards available to reduce future state taxable income. The state loss carry-forwards expire between 2021 and 2036 and are subject to certain limitations.  The U.S. federal and state loss carry-forwards at December 31, 2017, reflect adjustments for prior period write-downs associated with ownership changes.

On December 30, 2016, the Company experienced an ownership change as defined under Section 382 of the Internal Revenue Code (“IRC”). This ownership change resulted in an annual IRC Section 382 limitation that limits the use of certain tax attribute carry-forwards and also resulted in the write-off of certain deferred tax assets and the related valuation allowances that the Company recorded in 2017. The loss carry-forwards outstanding as of December 30, 2016 are subject to an annual base usage limitation of $2.7 million. The Company has performed its assessment and has determined that $87.3 million of the gross federal net operating losses outstanding as of December 30, 2016 will be available for use going-forward.

On December 22, 2017, the Tax Cuts and Jobs Act (the "Tax Act"), was signed into law making significant changes to the Internal Revenue Code. The new legislation contains several key provisions that affect us including, but not limited to, the lowering of the U.S. corporate tax rate from 35% to 21% for tax years beginning after December 31, 2017, the transition of U.S international taxation from a worldwide tax system to a territorial system, and a one-time transition tax on the mandatory deemed repatriation of cumulative foreign earnings. As a result of the Tax Act, we have recorded one-time adjustments for the re-measurement of deferred tax assets and liabilities. Given our U.S. valuation allowance, the Act does not materially impact our income tax provision or balance sheet. Additionally, in December 2017, the SEC staff issued Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (SAB 118), which allows us to record provisional amounts during a measurement period not to extend beyond one year of the enactment date. Since the Tax Act was passed late in the fourth quarter of 2017, and ongoing guidance and accounting interpretation are expected over the next 12 months, we consider the accounting of the transition tax, deferred tax re-measurements, and other items to be incomplete though we have recorded provisional amounts in the consolidated financial statements. We expect to complete our analysis within the measurement period in accordance with SAB 118.


26


Non-GAAP Financial Measures
We evaluate the performance of our operating segments based upon revenue and measures of profit or loss we refer to as EBITDA and Adjusted EBITDA. We define Adjusted EBITDA as earnings from continuing operations before interest and taxes (“EBIT”), adjusted for depreciation and amortization (“EBITDA”), and then adjusted for unusual and other significant items that management views as distorting the operating results of the various segments from period to period. Such adjustments include restructuring charges, stock-based compensation, bargain purchase gains, acquisition-related charges and benefits (acquisition transaction costs, acquisition obligations classified as compensation, and fair value adjustments to acquisition-related contingent consideration), tangible and intangible asset impairment charges, certain litigation costs and litigation settlements, severance charges and foreign currency transaction gains and losses on short-term intercompany balances viewed by management as individually or collectively significant.
EBIT, EBITDA and Adjusted EBITDA are all “non-GAAP financial measures” presented as supplemental measures of the Company’s performance. They are not presented in accordance with accounting principles generally accepted in the United States ("GAAP"). We believe these measures provide additional meaningful information in evaluating its performance over time, and that the rating agencies and a number of lenders use EBITDA and similar measures for similar purposes. In addition, a measure similar to Adjusted EBITDA is used in the restrictive covenants contained in our secured credit facility. However, EBIT, EBITDA and Adjusted EBITDA have limitations as analytical tools, and should not be considered in isolation, or as substitutes for analysis of our results as reported under GAAP. In addition, in evaluating EBIT, EBITDA and Adjusted EBITDA, the adjustments may vary from period to period and in the future we will incur expenses such as those used in calculating these measures. Our presentation of these measures should not be construed as an inference that future results will be unaffected by unusual or nonrecurring items.
A reconciliation of consolidated net income (loss) to each of EBIT, EBITDA and Adjusted EBITDA for the periods presented in this report are as follows (in thousands):
EBIT, EBITDA, and Adjusted EBITDA
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Net income (loss)
 
$
3,184

 
$
905

 
$
(3,226
)
Income tax expense
 
2,962

 
1,242

 
369

Interest expense, net
 
1,539

 
(153
)
 
(190
)
EBIT
 
7,685

 
1,994

 
(3,047
)
Depreciation of property and equipment
 
4,577

 
5,047

 
5,352

Amortization of intangible assets
 
3,634

 
1,832

 
2,458

EBITDA
 
15,896

 
8,873

 
4,763

Foreign currency transaction (gains) losses on short-term intercompany balances
 
(2,190
)
 
84

 
2,165

Acquisition-related adjustments
 
(2,283
)
 

 

Transformation severance and related expenses
 
1,666

 
1,383

 
2,299

Other (income) loss
 
(160
)
 
(121
)
 
1,191

Stock-based compensation
 
7,052

 
5,123

 
3,926

Adjusted EBITDA
 
$
19,981

 
$
15,342

 
$
14,344

Adjusted EBITDA from continuing operations
 
$
21,345

 
$
16,598

 
$
18,024

Acquisition-related adjustments included an adjustment to earnout consideration associated with business acquisitions.
Transformation severance and related expenses increased $0.3 million in 2017 compared to 2016 and decreased $0.9 million in 2016 compared to 2015. The increase in 2017 was a result of certain sales and operational positions that were permanently eliminated. The expense reduction in 2016 was due to reduced restructuring activities in 2016 relative to the prior year.
Other (income) loss includes a non-cash loss of $1.6 million in 2015 due to divesting certain assets from a document service offering purchased as part of the BSI acquisition in 2011.

27


Stock-based compensation increased $1.9 million, or 37.7%, in 2017 compared to 2016 due to the issuance in 2017 of performance-based equity grants whose value fluctuates with our stock price, and the appreciation of our stock price during the year. Stock-based compensation increased $1.2 million, or 30.5%, in 2016 compared to 2015 due primarily to the completion of the expense recognition period for prior year equity grants that exceeded the recognized expense for new grants in 2016 and the appreciation of our stock price during the year.
Adjusted EBITDA by Segment
We include a detailed calculation of Adjusted EBITDA by segment in Note 2 of “Notes to Consolidated Financial Statements” in Item 8 of this Form 10-K. A summary of Adjusted EBITDA by segment for the years ended December 31, 2017, 2016, and 2015 is as follows (in thousands):
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Recovery Audit Services – Americas
 
$
35,062

 
$
31,251

 
$
29,431

Recovery Audit Services – Europe/Asia-Pacific
 
11,511

 
7,403

 
5,942

Adjacent Services
 
(5,448
)
 
(3,354
)
 
(3,134
)
Subtotal for reportable segments
 
41,125

 
35,300

 
32,239

Corporate Support
 
(19,780
)
 
(18,702
)
 
(14,215
)
Total for continuing operations
 
$
21,345

 
$
16,598

 
$
18,024

Adjusted EBITDA in 2017 was $21.3 million, an increase of $4.7 million, or 28.6%, compared to 2016 Adjusted EBITDA of $16.6 million. Adjusted EBITDA in 2016 decreased by $1.4 million, or 7.9%, compared to $18.0 million in 2015.
Recovery Audit Services - Americas Adjusted EBITDA increased 12.2% in 2017 compared to 2016 and increased 6.2% in 2016 compared to 2015. The 2017 increase resulted primarily from increased revenue, including revenue from the C&CA acquired business, and other operational improvements implemented during the year. On an organic basis, 2017 Adjusted EBITDA in this segment increased by 8.2% compared to 2016. The increase in 2016 as compared to 2015 was primarily due to increased revenue that exceeded the associated increases in COR and SG&A expenses.
Recovery Audit Services - Europe/Asia-Pacific Adjusted EBITDA increased 55.5% in 2017 compared to 2016. The 2017 increase resulted primarily from increased revenue, including revenue from the C&CA acquired business, and other operational improvements implemented during the year. On an organic basis, 2017 Adjusted EBITDA in this segment increased by 43.5% compared to 2016. Adjusted EBITDA in this segment increased 24.6% in 2016 compared to 2015 as a result of increased revenue that exceeded the associated increases in COR and SG&A expenses.
Adjacent Services Adjusted EBITDA declined 62.4% in 2017 compared to 2016 and declined 7.0% in 2016 compared to 2015. The 2017 results are primarily related to Lavante operating costs that were included for the first three quarters in 2017, but not included in the first three quarters of 2016.  On an organic basis, 2017 Adjusted EBITDA in this segment increased by 22.3% compared to 2016.  The decline in 2016 compared to 2015 was due to revenue in each period declining at a faster rate than COR and SG&A expenses.
Corporate Support Adjusted EBITDA declined by $1.1 million, or 5.8%, in 2017 compared to 2016 due mainly to the increases in stock-based compensation expense, sales and marketing personnel and costs associated with business acquisition activities. Corporate Support Adjusted EBITDA declined by $4.5 million, or 31.6%, in 2016 compared to 2015 due mainly to increased U.S. healthcare benefit costs, the addition of sales personnel, increases in incentive compensation expenses and increased legal costs associated with business acquisition activities. On an organic basis, Adjusted EBITDA in this segment declined by 6.2% in 2017 compared to 2016.

Liquidity and Capital Resources
Cash and cash equivalents include all cash balances and highly liquid investments with an initial maturity of three months or less from the date of purchase. We place our temporary cash investments with high credit quality financial institutions. At times, certain investments may be in excess of the Federal Deposit Insurance Corporation (“FDIC”) insurance limit or otherwise may not be covered by FDIC insurance. Some of our cash and cash equivalents are held at banks in jurisdictions outside the U.S. that have restrictions on transferring such assets outside of these countries on a temporary or permanent basis. Such restricted net assets are not material to our consolidated net assets.

28


As of December 31, 2017, we had $18.8 million in cash and cash equivalents and borrowings under our revolving credit facility totaling $13.6 million. As of December 31, 2017, the revolver had $21.4 million of availability for borrowings and the Company was in compliance with the covenants in its SunTrust credit facility. We amended the SunTrust credit facility in January 2014, December 2014, December 2016 and May 2017 as further described in Secured Credit Facility below.
The $18.8 million in cash and cash equivalents as of December 31, 2017 includes $5.0 million held in the U.S., $1.8 million held in Canada, and $12.0 million held in other foreign jurisdictions, primarily in the United Kingdom, Australia, New Zealand, Mexico, and Brazil. Certain foreign jurisdictions restrict the amount of cash that can be transferred to the U.S. or impose taxes and penalties on such transfers of cash. To the extent we have excess cash in foreign locations that could be used in, or is needed by, our operations in the U.S., we may incur significant penalties and/or taxes to repatriate these funds. Generally, we have not provided deferred taxes on the undistributed earnings of international subsidiaries as we consider these earnings to be permanently reinvested. However, we do not consider the earnings of our Brazilian subsidiary to be permanently invested, and have provided deferred taxes relating to the potential repatriation of the funds held in Brazil.
Operating Activities. Net cash provided by operating activities was $13.5 million in 2017, $10.1 million in 2016 and $13.5 million in 2015. These amounts consist of two components, specifically, net income (loss) adjusted for certain non-cash items (such as depreciation, amortization, stock-based compensation expense, impairment charges, and deferred income taxes) and changes in assets and liabilities, primarily working capital, as follows (in thousands):
 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Net income (loss)
 
$
3,184

 
$
905

 
$
(3,226
)
Adjustments for certain non-cash items
 
12,813

 
11,307

 
15,112

 
 
15,997

 
12,212

 
11,886

Changes in operating assets and liabilities
 
(2,537
)
 
(2,094
)
 
1,567

Net cash provided by operating activities
 
$
13,460

 
$
10,118

 
$
13,453

The increase in net cash provided by operating activities in 2017 compared to 2016 is primarily the result of net income improvements together with decreased accounts receivable and increased accounts payable and accruals. The decrease in net cash provided by operating activities in 2016 compared to 2015 is primarily the result of the use of working capital through increased accounts receivable and reduced accounts payable and accruals that offset the net income and non-cash item improvements.
We include an itemization of these changes in our Consolidated Statements of Cash Flows in Part II, Item 8 of this Form 10-K.
We have one client, The Kroger Co., that accounted for approximately 12% of our revenue in 2017 and approximately 11% of our revenue in 2016. No client accounted for 10% or more of our revenue in 2015. The loss of any one of our major clients would negatively impact our operating cash flows and would potentially have a material adverse impact on our liquidity.
Investing Activities. Net cash used for capital expenditures was $9.4 million in 2017, $5.9 million in 2016 and $4.5 million in 2015. These capital expenditures primarily related to acquisitions and investments we made to upgrade our information technology infrastructure, develop our proprietary audit technologies, and develop our SaaS Solutions.
Capital expenditures are discretionary and we currently expect to continue to make capital expenditures to enhance our information technology infrastructure, develop our proprietary technology audit technologies, and develop our SaaS Solutions. Should we experience changes in our operating results, we may alter our capital expenditure plans.
In addition to capital expenditures, we completed the acquisition of C&CA during the first quarter of 2017, and borrowed $10.0 million under the SunTrust revolver to fund the payment of the closing consideration.
Business Acquisitions and Divestitures
We made several business acquisitions over the past few years, each of which is discussed more fully in Note 12 - Business Acquisitions and Divestitures in “Notes to Consolidated Financial Statements” in Part II, Item 8 of this Form 10-K. Following is a summary of recent business acquisition and divestiture activities impacting our liquidity and capital resources in the past three years.

29


In February 2017, we completed the acquisition of C&CA, a commercial recovery audit and contract compliance business with operations in the U.S. and the UK for a net purchase price of $15.9 million. C&CA assets consist primarily of customer contracts.
In October 2016, we completed the acquisition of Lavante, a SaaS-based supplier of SIM and recovery audit services, for a net purchase price of $3.7 million. Lavante’s assets consist primarily of its proprietary software applications and customer contracts.
In December 2015, we acquired the SIM business of Global Edge for a purchase price valued at $0.7 million.
In August 2015, we divested certain assets from a document service offering purchased as part of the BSI acquisition in 2011.We did not receive any initial cash payments at closing of the transaction and recognized a non-cash loss on the sale of $1.6 million, which we recognized in Other loss in the Consolidated Statements of Operations. We may receive certain earn-out consideration based on a percentage of 2016 revenue recognized by the buyer from the clients transferred in connection with the disposition. The revenue sharing percentage ranges from 10% to 30% based on the type of solution or service delivered.
Financing Activities. Net cash used by financing activities was $11.0 million in 2017, $0.1 million in 2016 and $18.4 million in 2015. In 2017, there were no repurchases of common stock under our stock repurchase program. In 2016 and 2015, the net cash used by financing activities was $3.8 million and $18.1 million, respectively (see Stock Repurchase Program below).
Secured Credit Facility
On January 19, 2010, we entered into a four-year revolving credit and term loan agreement with SunTrust Bank (“SunTrust”). The SunTrust credit facility initially consisted of a $15.0 million committed revolving credit facility and a $15.0 million term loan. The SunTrust credit facility is guaranteed by the Company and its domestic subsidiaries and is secured by substantially all of our assets. Borrowing availability under the SunTrust revolver at December 31, 2017 was $21.4 million. As of December 31, 2017, we had $13.6 million in outstanding borrowings under the SunTrust revolver. The SunTrust term loan required quarterly principal payments of $0.8 million from March 2010 through December 2013, and a final principal payment of $3.0 million in January 2014 that we paid in December 2013.
On January 17, 2014, we entered into an amendment of the SunTrust credit facility that increased the committed credit facility from $15.0 million to $25.0 million, lowered the applicable margin to a fixed rate of 1.75%, eliminated the provision limiting availability under the credit facility based on eligible accounts receivable, increased our stock repurchase program limit, and extended the scheduled maturity of the credit facility to January 16, 2015 (subject to earlier termination as provided therein). We must pay a commitment fee of 0.5% per annum, payable quarterly, on the unused portion of the $25.0 million credit facility.
On December 23, 2014, we entered into an amendment of the SunTrust credit facility that reduced the committed revolving credit facility from $25.0 million to $20.0 million. Pursuant to the December 2014 amendment, the credit facility would bear interest at a rate per annum comprised of a specified index rate based on one-month LIBOR, plus an applicable margin (1.75% per annum). The index rate was determined as of the first business day of each calendar month. The credit facility includes two financial covenants (a maximum leverage ratio and a minimum fixed charge coverage ratio) that apply only if we have borrowings under the credit facility that arise or remain outstanding during the final 30 calendar days of any fiscal quarter. These financial covenants also will be tested, on a modified pro forma basis, in connection with each new borrowing under the credit facility. This amendment also extended the scheduled maturity of the revolving credit facility to December 23, 2017 and lowered the commitment fee to 0.25% per annum, payable quarterly, on the unused portion of the revolving credit facility.
On December 21, 2016, we entered into an amendment of the SunTrust credit facility in order to clarify certain definitions and other terms of the facility.

30


On May 4, 2017, we entered into an amendment of the SunTrust credit facility, that, among other things, (i) increased the aggregate principal amount of the committed revolving credit facility from $20.0 million to $35.0 million through December 31, 2018, which amount will be reduced to $30.0 million thereafter, (ii) extended the maturity date of the credit facility to December 31, 2019, (iii) added customary provisions to reflect European Union “bail-in” directive compliance language, and (iv) modified the financial covenants applicable to the Company during the remaining term of the credit facility by (A) revising the maximum leverage ratio and minimum fixed charge coverage ratio and (B) adding an additional financial covenant requiring the Company to maintain a minimum amount of consolidated adjusted EBITDA. In addition, the applicable margin used to determine the interest rate per annum on outstanding borrowings under the credit facility, and the ongoing commitment fee payable on the unused portion of the revolving credit facility commitment, both of which previously had been fixed percentages per annum, have been amended and both now will vary based upon our quarterly leverage ratio calculation under the SunTrust credit facility. The interest rate at December 31, 2017 was approximately 3.6% and the ongoing commitment fee was 0.25%.
The SunTrust credit facility includes customary affirmative, negative, and financial covenants binding on the Company, including delivery of financial statements and other reports, maintenance of existence, and transactions with affiliates. The negative covenants limit the ability of the Company, among other things, to incur debt, incur liens, make investments, sell assets or declare or pay dividends on its capital stock. The financial covenants included in the SunTrust credit facility, among other things, limit the amount of capital expenditures the Company can make, set forth maximum leverage and net funded debt ratios for the Company and a minimum fixed charge coverage ratio, and also require the Company to maintain minimum consolidated earnings before interest, taxes, depreciation and amortization. In addition, the SunTrust credit facility includes customary events of default. As of December 31, 2017, we had $13.6 million in outstanding borrowings under the SunTrust revolver. The Company was in compliance with the covenants in its SunTrust credit facility as of December 31, 2017.
We believe that we will have sufficient borrowing capacity and cash generated from operations to fund our capital and operational needs for at least the next twelve months.
Stock Repurchase Program
On February 21, 2014, our Board of Directors authorized a stock repurchase program under which we could repurchase up to $10.0 million of our common stock from time to time through March 31, 2015. Since 2014, the original authorization of the stock repurchase program, the Board of Directors has modified the program from time to time to increase the repurchase limit to $60 million and extend the expiration date to December 31, 2018. We repurchased 905,403 shares of our common stock during the year ended December 31, 2016 for $3.8 million and no shares were repurchased under our stock repurchase program during the year ended December 31, 2017. In December 2017, our Board of Directors extended the duration of the program to December 31, 2018. From the February 2014 announcement of the Company’s current stock repurchase program through December 31, 2016, the Company has repurchased 8.6 million shares, or 28.7%, of its common stock outstanding on the date of the original announcement of the program, for an aggregate cost of $44.5 million. These shares were retired and accounted for as a reduction to Shareholders' equity in the Consolidated Balance Sheet. Direct costs incurred to acquire the shares are included in the total cost of the shares.
The timing and amount of future repurchases, if any, will depend upon the Company’s stock price, the amount of the Company’s available cash, regulatory requirements, and other corporate considerations. The Company may initiate, suspend or discontinue purchases under the stock repurchase program at any time.

31


Contractual Obligations and Other Commitments
As discussed in “Notes to Consolidated Financial Statements” included in Item 8 of this Form 10-K, the Company has certain contractual obligations and other commitments. A summary of those commitments as of December 31, 2017 is as follows:
 
 
Payments Due by Period (in thousands)
Contractual obligations
 
Total
 
Less
Than
1 Year
 
1-3 Years
 
3-5
Years
 
More
Than
5 Years
Long-term debt obligations
 
$
13,600

 
$

 
$
13,600

 
$

 
$

Interest and commitment fee on Secured Credit Facility (1)
 
868

 
434

 
434

 

 

Operating lease obligations
 
11,135

 
3,294

 
5,362

 
2,479

 

Payments to Messrs. Cook and Toma (2)
 
565

 
56

 
113

 
169

 
227

Acquisition costs for earn-out provision (3)
 
8,889

 
3,754

 
5,135

 

 

Severance
 
45

 
45

 

 

 

Total
 
$
35,102

 
$
7,583

 
$
24,644

 
$
2,648

 
$
227


(1)
Represents the estimated commitment fee and interest due on the Secured Credit Facility using the interest rate as of December 31, 2017 and assuming borrowings under the SunTrust revolver of $13.6 million as of December 31, 2017. See Note 5 of the "Notes to Consolidated Financial Statements" for additional information regarding the Secured Credit Facility.
(2)
Represents estimated reimbursements payable for healthcare costs incurred by these former executives.
(3)
This earn-out provision is calculated using the present value of the expected (probability-weighted) payments based on the likelihood of achieving each of the financial performance targets. The total cash payments will total $10.2 million assuming that the full earn-out amount is achieved (see Note 12 of the "Notes to the Consolidated Financial Statements" for additional information).
Off-Balance Sheet Arrangements
As of December 31, 2017, the Company did not have any material off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of the SEC’s Regulation S-K.
Critical Accounting Policies
We describe our significant accounting policies in Note 1 of “Notes to Consolidated Financial Statements” included in Item 8 of this Form 10-K. Certain of our accounting policies are particularly important to the portrayal of our financial position and results of operations and require the application of significant judgment by management. As a result, they are subject to an inherent degree of uncertainty. We consider accounting policies that involve the use of estimates that meet both of the following criteria to be “critical” accounting policies. First, the accounting estimate requires us to make assumptions about matters that are highly uncertain at the time that the accounting estimate is made. Second, alternative estimates in the current period, or changes in the estimate that are reasonably likely in future periods, would have a material impact on the presentation of our financial condition, changes in financial condition or results of operations.
In addition to estimates that meet the “critical” estimate criteria, we also make many other accounting estimates in preparing our consolidated financial statements and related disclosures. All estimates, whether or not deemed critical, affect reported amounts of assets, liabilities, revenue and expenses, as well as disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates and judgments, including those related to revenue recognition, refund liabilities, accounts receivable allowance for doubtful accounts, goodwill and other intangible assets and income taxes. We base our estimates and judgments on historical experience, information available prior to the issuance of the consolidated financial statements and on various other factors that we believe to be reasonable under the circumstances. This information forms the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Materially different results can occur as circumstances change and additional information becomes known, including changes in those estimates not deemed “critical”.
We believe the following critical accounting policies, among others, involve our more significant estimates and judgments we used in the preparation of our consolidated financial statements. We have discussed the development and selection of accounting estimates, including those deemed “critical,” and the associated disclosures in this Form 10-K with the audit committee of the Board of Directors.

32


Revenue Recognition. We generally recognize revenue for a contractually specified percentage of amounts recovered when we have determined that our clients have received economic value (generally through credits taken against existing accounts payable due to the involved vendors or refund checks received from those vendors), and when we have met the following criteria: (a) persuasive evidence of an arrangement exists; (b) services have been rendered; (c) the fee billed to the client is fixed or determinable; and (d) collectability is reasonably assured.
Additionally, for purposes of determining appropriate timing of recognition and for internal control purposes, we rely on customary business practices and processes for documenting that the criteria described in (a) through (d) above have been met. Such customary business practices and processes may vary significantly by client. On occasion, it is possible that a transaction has met all of the revenue recognition criteria described above but we do not recognize revenue, unless we can otherwise determine that criteria (a) through (d) above have been met, because our customary business practices and processes specific to that client have not been completed. The determination that we have met each of the aforementioned criteria, particularly the determination of the timing of economic benefit received by the client and the determination that collectability is reasonably assured, requires the application of significant judgment by management and a misapplication of this judgment could result in inappropriate recognition of revenue.
Unbilled Receivables & Refund Liabilities. Unbilled receivables relate to claims for which our clients have received economic value but for which we contractually have agreed not to invoice the clients. These unbilled receivables arise when a portion of our fee is deferred at the time of the initial invoice. At a later date (which can be up to a year after the original invoice, or a year after completion of the audit period), we invoice the unbilled receivable amount. Notwithstanding the deferred due date, our clients acknowledge that we have earned this unbilled receivable at the time of the original invoice, but have agreed to defer billing the client for the related services.
Refund liabilities result from reductions in the economic value previously received by our clients with respect to vendor claims identified by us and for which we previously have recognized revenue. We satisfy such refund liabilities either by offsets to amounts otherwise due from clients or by cash refunds to clients. We compute the estimate of our refund liabilities at any given time based on actual historical refund data.
We record periodic changes in unbilled receivables and refund liabilities as adjustments to revenue.
Goodwill, Other Intangible Assets, Long-lived Assets, and Impairment Charges. Goodwill represents the excess of the purchase price over the estimated fair market value of net identifiable assets of acquired businesses. Intangible assets are assets that lack physical substance. We evaluate the recoverability of goodwill and other intangible assets in accordance with ASC 350, Intangibles-Goodwill and Other, in the fourth quarter of each year or sooner if events or changes in circumstances indicate that the carrying amount may exceed its fair value. This evaluation includes a preliminary assessment of qualitative factors to determine if it is necessary to perform a two-step impairment testing process. The first step identifies potential impairments by comparing the fair value of the reporting unit with its carrying value, including goodwill. If the calculated fair value of a reporting unit exceeds the carrying value, goodwill is not impaired, and the second step is not necessary. If the carrying value of a reporting unit exceeds the fair value, the second step calculates the possible impairment loss by comparing the implied fair value of goodwill with the carrying value. If the fair value is less than the carrying value, we would record an impairment charge.
We are not required to calculate the fair value of our reporting units that hold goodwill unless we determine that it is more likely than not that the fair value of these reporting units is less than their carrying values. In this analysis, we consider a number of factors, including changes in our legal, business and regulatory climates, changes in competition or key personnel, macroeconomic factors impacting our Company or our clients, our recent financial performance and expectations of future performance and other pertinent factors. Based on these analyses, we determined that it was not necessary for us to perform the two-step process. We last used independent business valuation professionals to estimate fair value in the fourth quarter of 2010 and determined that fair value exceeded carrying value for all relevant reporting units. No impairment charges were necessary based on our internal calculations in the three years ended December 31, 2017.
We review the carrying value of long-lived assets such as property and equipment for impairment when events and circumstances indicate that the carrying value of an asset may not be recoverable from the estimated future cash flows expected to result from its use and eventual disposition. In cases where undiscounted expected future cash flows are less than the carrying value, we will recognize an impairment loss equal to the amount by which the carrying value exceeds the fair value of the asset. No impairment charges were necessary in the three years ended December 31, 2017.

33


Income Taxes. Our effective tax rate is based on historical and anticipated future taxable income, statutory tax rates and tax planning opportunities available to us in the various jurisdictions in which we operate. Significant judgment is required in determining the effective tax rate and in evaluating our tax positions. Tax regulations require items to be included in the tax returns at different times than the items are reflected in the financial statements. As a result, our effective tax rate reflected in our Consolidated Financial Statements included in Item 8 of this Form 10-K is different than that reported in our tax returns. Some of these differences are permanent, such as expenses that are not deductible on our tax returns, and some are temporary differences, such as depreciation expense. Temporary differences create deferred tax assets and liabilities. Deferred tax assets generally represent items that can be used as a tax deduction or credit in our tax returns in future years for which we have already recorded the tax benefit in our Consolidated Statements of Operations. We establish valuation allowances to reduce net deferred tax assets to the amounts that we believe are more likely than not to be realized. We adjust these valuation allowances in light of changing facts and circumstances. Deferred tax liabilities generally represent tax expense recognized in our consolidated financial statements for which payment has been deferred, or expense for which a deduction has already been taken on our tax returns but has not yet been recognized as an expense in our consolidated financial statements.
We reduce our deferred tax assets by a valuation allowance if it is more likely than not that some portion or all of a deferred tax asset will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences are deductible. In determining the amount of valuation allowance to record, we consider all available positive and negative evidence affecting specific deferred tax assets, including our past and anticipated future performance, the reversal of deferred tax liabilities, the length of carry-back and carry-forward periods, and the implementation of tax planning strategies. Objective positive evidence is necessary to support a conclusion that a valuation allowance is not needed for all or a portion of deferred tax assets when significant negative evidence exists. Cumulative tax losses in recent years are the most compelling form of negative evidence we considered in this determination.
We apply a “more-likely-than-not” recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. We refer to U.S. generally accepted accounting principles (“GAAP”) for guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. Our policy for recording interest and penalties associated with tax positions is to record such items as a component of income before income taxes. A number of years may elapse before a particular tax position is audited and finally resolved or before a tax assessment is raised. The number of years subject to tax assessments varies by tax jurisdictions.
Stock-Based Compensation. We account for awards of equity instruments issued to employees and directors under the fair value method of accounting and recognize such amounts in our Consolidated Statements of Operations. We measure compensation cost for all stock-based awards at fair value on the date of grant and recognize compensation expense using the straight-line method over the service period over which we expect the awards to vest. We recognize compensation costs for awards with performance conditions based on the probable outcome of the performance conditions. We accrue compensation cost if we believe it is probable that the performance condition(s) will be achieved and do not accrue compensation cost if we believe it is not probable that the performance condition(s) will be achieved. In the event that it becomes probable that performance condition(s) will no longer be achieved, we reverse all of the previously recognized compensation expense in the period such a determination is made.
We estimate the fair value of all time-vested options as of the date of grant using the Black-Scholes option valuation model, which was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. Option valuation models require the input of highly subjective assumptions, including the expected stock price volatility, which we calculate based on the historical volatility of our common stock. We use a risk-free interest rate, based on the U.S. Treasury instruments in effect at the time of the grant, for the period comparable to the expected term of the option. We use the “simplified” method in estimating the expected term of options as we have concluded that our historical share option exercise experience is a less than reasonable basis upon which to estimate the expected term for our grants.

34


We estimate the fair value of awards of restricted shares and nonvested shares as being equal to the market value of the common stock on the date of the award. We classify our share-based payments as either liability-classified awards or as equity-classified awards. We remeasure liability-classified awards to fair value at each balance sheet date until the award is settled. We measure equity-classified awards at their grant date fair value and do not subsequently remeasure them. We have classified our share-based payments which are settled in our common stock as equity-classified awards and our share-based payments that are settled in cash as liability-classified awards. Compensation costs related to equity-classified awards generally are equal to the grant-date fair value of the award amortized over the vesting period of the award. The liability for liability-classified awards generally is equal to the fair value of the award as of the balance sheet date multiplied by the percentage vested at the time. We charge (or credit) the change in the liability amount from one balance sheet date to another to compensation expense.
New Accounting Standards
For information related to new and recently adopted accounting standards, see Note 1 – Summary of Significant Accounting Policies and Basis of Presentation, in “Notes to Consolidated Financial Statements” in Item 8 of this Form 10-K.


35


Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Foreign Currency Market Risk. Our reporting currency is the U.S. dollar, although we transact business in various foreign locations and currencies. As a result, our financial results could be significantly affected by factors such as changes in foreign currency exchange rates or weak economic conditions in the foreign markets in which we provide our services. Our operating results are exposed to changes in exchange rates between the U.S. dollar and the currencies of the other countries in which we operate. When the U.S. dollar strengthens against other currencies, the value of foreign functional currency revenue decreases. When the U.S. dollar weakens, the value of the foreign functional currency revenue increases. Overall, we are a net receiver of currencies other than the U.S. dollar and, as such, benefit from a weaker dollar. We therefore are adversely affected by a stronger dollar relative to major currencies worldwide. In 2017, we recognized $18.5 million of operating income from operations located outside the U.S., virtually all of which was originally accounted for in currencies other than the U.S. dollar. Upon translation into U.S. dollars, such operating income would increase or decrease, assuming a hypothetical 10% change in weighted-average foreign currency exchange rates against the U.S. dollar, by approximately $1.9 million. We currently do not have any arrangements in place to hedge our foreign currency risk.
Interest Rate Risk. Our interest income and expense are sensitive to changes in the general level of U.S. interest rates. In this regard, changes in U.S. interest rates affect the interest earned on our cash equivalents as well as interest paid on amounts outstanding under our revolving credit facility, if any. We had $21.4 million of borrowing availability under our revolving credit facility as of December 31, 2017, and had $13.6 million borrowed under the facility as of that date. Interest on the amended credit facility is payable monthly and accrues at an index rate using the one-month LIBOR rate plus an applicable margin of 1.75%. Assuming full utilization of the credit facility, a hypothetical 100 basis point change in interest rates would result in an approximate $0.4 million change in annual pre-tax income.

36


ITEM 8. Financial Statements and Supplementary Data

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS


 
Page No.
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Operations for the Years Ended December 31, 2017, 2016 and 2015
Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2017, 2016 and 2015
Consolidated Balance Sheets as of December 31, 2017 and 2016
Consolidated Statements of Shareholders' Equity for the Years Ended December 31, 2017, 2016 and 2015
Consolidated Statements of Cash Flows for the Years Ended December 31, 2017, 2016 and 2015
Notes to Consolidated Financial Statements


37


Report of Independent Registered Public Accounting Firm

Shareholders and Board of Directors
PRGX Global, Inc. and subsidiaries
Atlanta, Georgia
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of PRGX Global, Inc. and subsidiaries (the “Company”) as of December 31, 2017 and 2016, the related consolidated statements of operations, comprehensive income (loss), shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2017, and the related notes and financial statement schedule listed in the accompanying index (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2017 and 2016, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2017, in conformity with accounting principles generally accepted in the United States of America.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company's internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) and our report dated March 13, 2018 expressed an unqualified opinion thereon.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
We have served as the Company's auditor since 2006.
Atlanta, Georgia
March 13, 2018


38


PRGX GLOBAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)

 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Revenue, net
 
$
161,620

 
$
140,844

 
$
138,302

Operating expenses:
 
 
 
 
 
 
Cost of revenue
 
102,052

 
91,299

 
93,169

Selling, general and administrative expenses
 
46,941

 
39,399

 
32,284

Depreciation of property and equipment
 
4,569

 
5,033

 
5,317

Amortization of intangible assets
 
3,634

 
1,832

 
2,458

Acquisition-related adjustments
 
(2,283
)
 

 

Total operating expenses
 
154,913

 
137,563

 
133,228

Operating income from continuing operations
 
6,707

 
3,281

 
5,074

 
 
 
 
 
 
 
Foreign currency transaction (gains) losses on short-term intercompany balances
 
(2,190
)
 
84

 
2,165

Interest expense
 
(1,785
)
 
(107
)
 
(71
)
Interest income
 
246

 
260

 
261

Other (income) loss
 
(160
)
 
(121
)
 
1,191

Net income from continuing operations before income tax
 
7,518

 
3,471

 
1,908

Income tax expense
 
2,962

 
1,242

 
369

Net income from continuing operations
 
$
4,556

 
$
2,229

 
$
1,539

 
 
 
 
 
 
 
Discontinued operations:
 
 
 
 
 
 
Loss from discontinued operations
 
(1,372
)
 
(1,324
)
 
(4,765
)
Income tax expense (benefit)
 

 

 

Net loss from discontinued operations
 
(1,372
)
 
(1,324
)
 
(4,765
)
 
 
 
 
 
 
 
Net income (loss)
 
$
3,184

 
$
905

 
$
(3,226
)
 
 
 
 
 
 
 
Basic earnings (loss) per common share (Note 3):
 
 
 
 
 
 
Basic earnings from continuing operations
 
$
0.21

 
$
0.10

 
$
0.06

Basic loss from discontinued operations
 
(0.06
)
 
(0.06
)
 
(0.18
)
Total basic earnings (loss) per common share
 
$
0.15

 
$
0.04

 
$
(0.12
)
 
 
 
 
 
 
 
Diluted earnings (loss) per common share (Note 3):
 
 
 
 
 
 
Diluted earnings from continuing operations
 
$
0.21

 
$
0.10

 
$
0.06

Diluted loss from discontinued operations
 
(0.06
)
 
(0.06
)
 
(0.18
)
Total diluted earnings (loss) per common share
 
$
0.15

 
$
0.04

 
$
(0.12
)
 
 
 
 
 
 
 
Weighted-average common shares outstanding (Note 3):
 
 
 
 
 
 
Basic
 
21,937

 
21,969

 
25,868

Diluted
 
22,111

 
22,016

 
25,904

See accompanying Notes to Consolidated Financial Statements.


39








PRGX GLOBAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In thousands)

 
 
Years Ended December 31,
 
 
2017
 
2016
 
2015
Net income (loss)
 
$
3,184

 
$
905

 
$
(3,226
)
Foreign currency translation adjustments
 
(180
)
 
(507
)
 
(769
)
Comprehensive income (loss)
 
$
3,004

 
$
398

 
$
(3,995
)




See accompanying Notes to Consolidated Financial Statements.

40


PRGX GLOBAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
 
 
December 31,
 
 
2017
 
2016
ASSETS
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
18,823

 
$
15,723

Restricted cash
 
51

 
47

Receivables:
 
 
 
 
Contract receivables, less allowances of $1,499 in 2017 and $799 in 2016
 
 
 
 
Billed
 
36,058

 
29,186

Unbilled
 
2,709

 
2,278

 
 
38,767

 
31,464

Employee advances and miscellaneous receivables, less allowances of $292 in 2017 and $500 in 2016
 
1,665

 
2,184

Total receivables
 
40,432

 
33,648

Prepaid expenses and other current assets
 
4,608

 
3,363

Total current assets
 
63,914

 
52,781

 
 
 
 
 
Property and equipment:
 
 
 
 
Computer and other equipment
 
32,655

 
30,219

Furniture and fixtures
 
2,761

 
2,652

Leasehold improvements
 
3,916

 
3,558

Software
 
34,234

 
26,896

 
 
73,566

 
63,325

Less accumulated depreciation and amortization
 
(56,088
)
 
(51,089
)
Property and equipment, net
 
17,478

 
12,236

 
 
 
 
 
Goodwill (Note 4)
 
17,648

 
13,823

Intangible assets, less accumulated amortization of $40,461 in 2017 and $36,128 in 2016
 
18,478

 
10,998

Unbilled receivables
 
894

 
854

Deferred income taxes (Note 7)
 
1,538

 
2,269

Other assets
 
268

 
513

Total assets
 
$
120,218

 
$
93,474

 
 
 
 
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
 
 
 
 
Accounts payable and accrued expenses
 
$
8,548

 
$
7,299

Accrued payroll and related expenses
 
18,194

 
13,868

Refund liabilities
 
7,864

 
7,900

Deferred revenue
 
1,431

 
1,330

 Current portion of debt (Note 5)
 
48

 
3,600

Business acquisition obligations (Note 12)
 
3,759

 
2,078

Total current liabilities
 
39,844

 
36,075

 
 
 
 
 
Long-term debt (Note 5)
 
13,526

 

Noncurrent business acquisition obligations (Note 12)
 
5,135

 
1,926

Refund liabilities
 
957

 
804

Other long-term liabilities
 
442

 
2,279

Total liabilities
 
59,904

 
41,084

 
 
 
 
 
Commitments and contingencies (Notes 2, 5, 6, 9 and 10)
 


 


 
 
 
 
 
Shareholders’ equity (Notes 9 and 11):
 
 
 
 
Common stock, no par value; $.01 stated value per share. Authorized 50,000,000 shares; 22,419,417 shares issued and outstanding at December 31, 2017 and 21,845,920 shares issued and outstanding at December 31, 2016
 
224

 
218

Additional paid-in capital
 
580,032

 
575,118

Accumulated deficit
 
(520,049
)
 
(523,233
)
Accumulated other comprehensive income
 
107

 
287

Total shareholders’ equity
 
60,314

 
52,390

Total liabilities and shareholders’ equity
 
$
120,218

 
$
93,474

See accompanying Notes to Consolidated Financial Statements.

41


PRGX GLOBAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ended December 31, 2017, 2016 and 2015
(In thousands, except share data)
 
 
Common Stock
 
Additional Paid-In Capital
 
Accumulated Deficit
 
Accumulated Other Comprehensive Income
 
Total Shareholders' Equity
 
 
Shares
 
Amount
 
 
 
 
Balance at December 31, 2014
 
26,762,861

 
$
268

 
$
590,067

 
$
(520,912
)
 
$
1,563

 
$
70,986

Net loss
 

 

 

 
(3,226
)
 

 
(3,226
)
Foreign currency translation adjustments
 

 

 

 

 
(769
)
 
(769
)
Issuances of common stock:
 
 
 
 
 
 
 
 
 
 
 
 
Restricted share awards
 
23,200

 

 

 

 

 

Restricted shares remitted by employees for taxes
 
(17,147
)
 

 
(312
)
 

 

 
(312
)
Stock option exercises
 
29,128

 

 
91

 

 

 
91

2006 MIP Performance Unit settlements
 
9,918

 

 

 
 
 
 
 

Forfeited restricted share awards
 
(7,918
)
 

 

 

 

 

Repurchase of common stock
 
(4,118,386
)
 
(41
)
 
(18,030
)
 

 

 
(18,071
)
Stock-based compensation expense
 

 

 
3,716

 
 
 
 
 
3,716

Balance at December 31, 2015
 
22,681,656

 
227

 
575,532

 
(524,138
)
 
794

 
52,415

Net income
 

 

 

 
905

 

 
905

Foreign currency translation adjustments
 

 

 

 

 
(507
)
 
(507
)
Issuances of common stock:
 
 
 
 
 
 
 
 
 
 
 
 
Restricted shares remitted by employees for taxes
 
(20,829
)
 

 
(217
)
 

 

 
(217
)
Stock option exercises
 
90,496

 

 
320

 

 

 
320

Repurchases of common stock
 
(905,403
)
 
(9
)
 
(3,763
)
 

 

 
(3,772
)
Stock-based compensation expense
 

 

 
3,246

 

 

 
3,246

Balance at December 31, 2016
 
21,845,920

 
218

 
575,118

 
(523,233
)
 
287

 
52,390

Net income
 

 

 

 
3,184

 

 
3,184

Foreign currency translation adjustments
 

 

 

 

 
(180
)
 
(180
)
Issuances of common stock:
 
 
 
 
 
 
 
 
 
 
 
 
Restricted share awards
 
381,059

 
4

 
(4
)
 

 

 

Restricted shares remitted by employees for taxes
 
(15,006
)
 

 
(100
)
 

 

 
(100
)
Stock option exercises
 
225,043

 
2

 
1,170

 

 

 
1,172

Restricted stock unit settlement
 
10,000

 

 

 

 

 

Forfeited restricted share awards
 
(27,599
)
 

 

 

 

 

Stock-based compensation expense
 

 

 
3,848