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Edited Transcript of BNFT earnings conference call or presentation 6-Aug-19 9:00pm GMT

Q2 2019 Benefitfocus Inc Earnings Call

Charleston Sep 13, 2019 (Thomson StreetEvents) -- Edited Transcript of Benefitfocus Inc earnings conference call or presentation Tuesday, August 6, 2019 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Lou Anne Gilmore

Benefitfocus, Inc. - Principal Financial and Accounting Officer

* Michael Bauer

Benefitfocus, Inc. - IR

* Raymond Alexander August

Benefitfocus, Inc. - CEO, President & Director

* Stephen M. Swad

Benefitfocus, Inc. - CFO

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Conference Call Participants

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* Brian Christopher Peterson

Raymond James & Associates, Inc., Research Division - Senior Research Associate

* Frank Sparacino

First Analysis Securities Corporation, Research Division - SVP

* Kevin Kumar

Goldman Sachs Group Inc., Research Division - Associate

* Matthew James Coss

JP Morgan Chase & Co, Research Division - Analyst

* Nandan Girish Amladi

Guggenheim Securities, LLC, Research Division - Senior Analyst

* Strecker Backe

Wedbush Securities Inc., Research Division - Associate of Equity Research

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Presentation

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Operator [1]

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Greetings. Welcome to Benefitfocus Second Quarter 2019 Earnings Call. (Operator Instructions) Please note this conference is being recorded.

At this time, I'll turn the conference over to Michael Bauer. Mr. Bauer, you may begin.

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Michael Bauer, Benefitfocus, Inc. - IR [2]

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Thank you, operator. Good afternoon, and welcome to Benefitfocus' Second Quarter 2019 Earnings Call. We will be discussing the operating results announced in our press release issued after the close of market today. Joining me today are Ray August, our President and Chief Executive Officer; Stephen Swad, our Chief Financial Officer; and Lou Anne Gilmore, our VP of Corporate Development. The team will offer some prepared remarks and then we will open the call for a Q&A session.

Before we begin, let me remind you that today's discussion will include forward-looking statements such as third quarter and full year 2019 guidance and other predictions, expectations and information that might be considered forward-looking under federal security laws, including statements about our positioning for the future. These statements reflect our views as of today only and should not be considered as representing our views as of any subsequent date. These statements are subject to a variety of risks and uncertainties, including our continuing losses and need to achieve GAAP profitability, the fluctuation of our financial results, the immature and volatile market for our products and services, recruitment and retention of key personnel, risk associated with acquisitions, the need to innovate and provide useful products and services, our ability to compete effectively, cybersecurity risk and a changing regulatory environment that could cause actual results to differ materially from expectations. For a further discussion of the material risks and other important factors that could affect our actual results, please refer to our annual report on Form 10-K and other SEC filings. During the course of today's call, we will also refer to certain non-GAAP financial measures. You can find important disclosures about those measures in our earnings press release.

I'll now turn the call over to Ray.

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [3]

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Thank you, Mike. Good afternoon, everyone. There are 3 key takeaways from today's call, all centered around growth, innovation and significant economic value we are creating as a leading AI-powered benefits platform.

First, the size and scale of our network is growing. We've grown well beyond 25 million consumer lives. In Q2, we added approximately 1 million net benefit eligible lives. We signed a major deal and partnership with one of our leading voluntary benefits suppliers. We deepened our relationship with a major Blues partner to deliver voluntary benefits to its members and brokers are making a notable difference in our lives growth and customer acquisition.

Second, the value of our technology investments is accelerating. Our network is accessing data that allows us to personalize offers on our platform just like Amazon's recommendation engine. Our platform structure improves the consumer experience and dramatically changes how benefits are bought and sold. And with the launch of our standardized API framework, we are removing ecosystem friction and automating file-based and manual processes.

Third, the power of our data and data models is taking hold. Our intelligence engine is improving user experience, helping consumers make better, smarter decisions and providing value to the entire benefits ecosystem. Finally, I want to emphasize the fact that our new platform strategy is starting to pay off. We executed well against our Q2 financial objectives and updated our estimates for the back half of the year revenue growth, which still is expected to accelerate at a robust pace.

Before I highlight the success of our business, I'll discuss our platform. This is fundamental. Our transformation continues to mature. It's driving how we describe ourselves and how we run our business. We are shifting from a benefit administration solutions provider to a platform company. We are no longer just a benefits administration software company. We are much more. Our multisided platform goes well beyond our robust employer network. We have deep understanding of more than 25 million consumers and employers. We are aligned with hundreds of brokers and growing. We have a strong foundation with medical carriers. And we are regularly adding new life voluntary, auto and renters and specialty providers to expand our BenefitsPlace offering. Benefitfocus connects this vast network in a complex environment. Our focus on network connections is driving technology innovations, expanding our data assets, and ultimately, amplifying the economic value we create for the entire network. Every part of our platform is growing.

Let's now turn to our business highlights and discuss growing our platform. We will discuss our 3 areas of focus: Growing our platform, advancing our leadership and strengthening our core. We'll start by discussing who matters on our platform, then how we're driving greater economic value, and finally, our business results.

In Q2, we added approximately 1 million net benefit eligible lives, a new record for the company and foundational to our growth. Lives growth crossed all areas of our business. Lives on our platform matter and this is underscored by the value of employers, of brokers, of medical carriers and our network of carrier sellers and suppliers on our platform. Each market area strengthens and scales our network and drives economic value.

To scale our go-to-market approach and accelerate the network effect, we made a purposeful shift to partner with the influential broker channel. This strategy is paying off. In Q2, we added over 160 premier brokers, bringing our total to over 450 premier brokers. This is a 10x improvement over last year when we had 43 premier brokers.

Brokers are also making a difference in our lives growth and customer acquisition. For the first half and second quarter, brokers influenced over 70% of all new employer lives added on our platform. This is up from prior-year period and confirms our broker partnership approach creates key network connections. This positions us to scale and advance our market leadership.

Now let's go deeper on how we are driving greater economic value through our platform. The strength of our sales leadership and depth of our sales bench is contributing to lives growth. The success in the quarter reflects both larger deal size and favorable timing of transactions that closed earlier in the selling season than our original expectations. Our strong Q2 performance puts us well on course for our full year target of net benefit eligible lives growth.

We added large employers, universities and public sector accounts. A highlight of our continued public sector leadership is the addition of the State of Alaska in conjunction with one of our leading voluntary benefits partners, MetLife. This is a clear indication that our ecosystem partners are accelerating network connections. Our partners are contributing in new ways to our platform growth.

We are deepening our relationship with another major Blue Cross Blue Shield plan on our platform. This is a strategic partnership. By using our platform and network connections, they are able to deliver voluntary benefits to their large member base, increasing their competitiveness. This helps them grow, innovate and differentiate. The network effect in action.

Benefitfocus serves a significant percentage of leading medical carriers, including 3/4 of the Blues plans across the nation. We are a market leader in this area and we are accelerating the delivery of an end-to-end solution for medical carriers.

By pairing our best-of-breed platform capabilities with our acquired next-generation rating and quoting assets acquired from Connecture, we are introducing the industry's first quote-to-bill solution. Market interest in this unmatched solution is strong and it validates our lives growth strategy.

With a large and growing lives base and an ever-increasing network, we are well positioned to accelerate growth in specialty and voluntary benefit offerings through the medical carrier segment. Our end-to-end offering allows medical carriers to bring innovation to their members, which, in turn, drives lives growth and the network effect for Benefitfocus.

Through larger transactions of medical carriers, large enterprises and public sector employers, we are thoughtfully scaling our business and lives growth. These larger opportunities are the most efficient way for us to grow both the lives on our platform and to connect those lives through a network of benefits that generate transactions. These large opportunities position us to capture long-range, greater economic value.

While these larger deals have numerous attributes, they also have staged longer implementation time lines. Go lives and the revenue recognition begin 1 or 2 years later. They are strategic deals and bring long-lasting value. This speaks to our visibility of future revenue and the lag of future subscription and transaction-based revenue from bookings.

Our platform is growing significantly and we are strengthening our technology. It is very clear. Employers and employees need voluntary benefits to complete their overall benefit portfolio. This is driving greater traction and increasing the value of BenefitsPlace. In Q2, BenefitsPlace revenue doubled, and during the quarter, we continued to grow our product catalog. We added 4 life and ancillary carriers and another specialty supplier, bringing our total BenefitsPlace suppliers to 50. This is nearly triple the number of 18 suppliers in Q2 2018.

Earlier this year, we launched a new BenefitsPlace offering for consumer-directed health or CDH. In Q2, we signed partnerships with market leaders, WageWorks and PayFlex. CDH availability further expands the BenefitsPlace total addressable market. It also drives demand as the number of employers offering high deductible health plans continue to grow.

Our scale requires us to automate and seamlessly integrate technologies. For too long, there have been technology integration limitations between benefits administration, payroll and leading HCM systems. Absent a well-established single system of record, benefit administrators are frustrated and internal employer technical teams encounter points of friction industry-wide.

In Q2, we advanced our platforms technology capabilities with the launch of our enterprise human capital management API. Ultimate Software is our first API-integrated partner. I will officially announce the details of our partnership in the near future.

Our enterprise HCM API capabilities eliminate the integration friction and replace traditional file-based systems with a standardized people-integrated logic framework. This framework automates manual processes and creates a better and more reliable experience. The end result is reduced administrative burden, improved efficiency, a single system of record experience with near-instant data exchange and greater data accuracy.

Now let's turn to our third priority, strengthening the core of our business. Data is core to our business. The number of transactions we are processing is in the billions and we can scale this seamlessly as we continue improving interactions across all areas of our ecosystem. Our focus extends beyond products and features. We are advancing our business model innovation to drive network value through data analytics, insights and outcomes.

Our artificial intelligence engine called BenefitSAIGE and the depth of our platform data analytics are powering platform growth. These allow employers to better understand their workforce and offer the right products at the right time to their employees. They allow brokers to strengthen their role as a trusted adviser for benefit strategy and expand their business through higher benefit enrollment. They allow medical carriers to increase the value they can offer to their employer and member customers. And they allow life and ancillary, property and casualty and voluntary suppliers to expand their reach to consumers. Ultimately, employees and consumers will make better, smarter decisions, providing value to the entire benefits ecosystem.

SAIGE uses data analytics guided by user preferences and machine learning to identify key events in a person's life, what we call Smart Moments. This creates our user-friendly, Amazon-like shopping experience. To help consumers shop for relevant benefits 365 days of the year, we proactively notify an individual about a key event on the horizon. Paired with simple product explanations, we help educate consumers about benefit options offered by their employer. These interactions result in a network effect driven by data.

Every single offer on our platform allows us to become a trusted source for employer-offered benefits and strengthens the economic value of our platform. When consumers better understand benefits offered by their employer, they participate in a greater number of relevant benefit offerings. This increases sales for carriers and suppliers and generates more data that enhances insights and key metrics across the ecosystem.

Data is core to our business and our business model innovation. Through data, analytics and insights, we are driving greater value across our network. The power of our AI and analytics infrastructure is significant. Over 250 terabytes of usable data is our primary source for consumer decision support data products. The result from the growth in our network, technology leadership and data assets are: In Q2, we exceeded our revenue and profitability targets. Total revenue grew by 13% and we increased our non-GAAP software gross margin to 71%.

To continue achieving these results, we need and are able to attract and retain top talent across all parts of our company. This quarter, we made several key additions, and I'm very excited to welcome 2 experienced executives to Benefitfocus. Steve Malme will serve as our Senior Vice President of Platform Strategy. Steve has extensive experience bringing new products to market and has held numerous roles spanning product management, marketing and sales for enterprise software companies, companies like Microsoft and IBM.

And Steve Swad started as our Chief Financial Officer on July 22. As many of you are aware, Steve was a member of our Board of Directors since our IPO in 2013 and brings more than 35 years of experience leading executive and finance teams. He already has a deep understanding of our company and has held numerous CFO roles and was formerly a public company CEO. I would also like to thank Lou Anne Gilmore for her leadership as our interim CFO. She will remain a key leader of our company as our VP of Corporate Development.

From here, I'll turn the call over to our new CFO, Steve Swad, for his introductory remarks, then Lou Anne will cover Q2 financial results and I'll conclude today's call with guidance. Steve?

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Stephen M. Swad, Benefitfocus, Inc. - CFO [4]

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Thanks, Ray, and many thanks to the broader Benefitfocus team for the warm welcome.

Since joining Benefitfocus as a management team member roughly 2 weeks ago, I spent most of my time getting closer to the business and meeting the company's leaders. Today, I'll share with you the reasons I joined Benefitfocus.

For me the most attractive part of the company is the platform, connecting buyers and sellers. While that sounds simple, it involves powerful technology, the connection of key relationships and incredible focus on removing friction across the network. It's the centerpiece of our strategy and we have all the tools needed to execute on it.

Second, our scalable technologies and product offerings are unmatched in the industry, which is resonating well with current and potential customers. Third is data. We are using data and the power of AI to advance insights for businesses and help consumers make better decisions. This is very powerful and we are in the beginning.

Fourth is the business model. Our business model is evolving from a pure SaaS model to a platform business model. By this, I mean the business model is building on its existing SaaS revenue streams and adding new revenue streams from other partners on the platform. This is unique and represents a large opportunity. Finally, I believe my skills and experience complement nicely the leadership team and will help take the company to the next level.

With that, let me pass it on to Lou Anne to review the second quarter financials.

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Lou Anne Gilmore, Benefitfocus, Inc. - Principal Financial and Accounting Officer [5]

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Thank you, Steve, and welcome to the team. I'll review the details of our second quarter financial results starting with a broad view of our software and services outcomes tied to our technology and platform initiative. I will then go deeper to cover GAAP and non-GAAP results and details of the balance sheet and cash flow.

First, the broad view of our quarterly results. Q2 was a solid quarter for Benefitfocus. Total revenue for the quarter was $68.6 million, an increase of 13% compared to the second quarter of 2018 and above our guidance range. Second quarter revenue growth was driven by our organic subscription revenue and BenefitsPlace revenue and a stronger-than-expected performance from Connecture, which contributed $5.9 million to revenue in the quarter. As previously discussed, our Q2 revenue growth was partially offset by the renegotiation of the Mercer contract. Excluding the contributions from Connecture and Mercer, total revenue grew in the low double-digit compared to Q2 of 2018. It was meaningful acceleration from prior periods' growth.

Next, I would like to review key outcomes as a result of our quarterly technology and platform growth initiative. Total software services revenue continues to be driven by increased traction for our platform and was $53.1 million in the quarter, an increase of 10% compared to the prior-year period. The growth reflects the $3 million contribution from Connecture and continued growth in both subscriptions and BenefitsPlace. Excluding the contributions from Connecture and Mercer, total software services grew in the low double digits compared to Q2 of 2018. This represents a meaningful acceleration of growth from prior year growth rate. Our professional services revenue was $15.5 million, an increase of 26% over Q2 of 2018 and predominantly reflects our recent acquisition of Connecture.

Now moving on to the GAAP results. The results for the quarter include: Overall gross profit of $35.8 million, representing a margin of 52% and in line with expectation; software gross profit of $37.1 million represents a margin of 70%; our operating loss was $9.8 million, contributing to a net loss per share of $0.46. The sequential and year-over-year increase in operating expense largely resulted from Connecture-related expenses.

Non-GAAP gross profit totaled $36.8 million or a 54% non-GAAP gross margin. This favorably compares to 51% non-GAAP gross margin in Q2 of 2018. Non-GAAP software gross profit was $37.6 million, a 71% non-GAAP margin and is up from 67% non-GAAP gross margin in Q2 of 2018.

Similar to prior quarters, the 380 basis point improvement in non-GAAP software gross margin and nearly 280 basis point improvement in consolidated non-GAAP gross margin reflects, first, our purposeful organic shift towards higher margin subscription and BenefitsPlace transaction revenue; second, our focused data investments and increased automation have improved operational efficiency; and third, our platform's inherent operational scale.

We also continue to drive consistent improvement in our adjusted EBITDA. Q2 adjusted EBITDA was roughly $100,000. This exceeds our guidance. It also compares favorably to the approximate $600,000 loss in Q2 of 2018. Our adjusted EBITDA was positively impacted by our recurring revenue growth, gross margin expansion and increasing operational scale. Non-GAAP net loss was $10 million compared to a $7.7 million net loss in the year-ago period.

Moving on to the balance sheet and cash flow. We ended Q2 with cash and cash equivalents of $138.4 million, which is down from $144.2 million in the prior quarter. Free cash flow, a non-GAAP measure that we define as cash provided or used in operations plus purchases of property and equipment, was negative $4.4 million, driven by higher working capital and investments in our platform. Due to our first half usage of cash, higher working capital need and expected second half investment, we no longer anticipate free cash flow to be positive in 2019. These are exciting times for the company.

And with that, I'd like to pass this back to Ray August.

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [6]

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Thank you, Lou Anne. Now let's move to guidance. We are encouraged by the demand for our platform and the market's response to our strategy. Our ecosystem is large, thriving and growing. Our SaaS technology is robust and a point of differentiation. Our data and data models create a long-term advantage and are driving valuable business insights and consumer experiences. We are confident this favorable backdrop will drive accelerated second half revenue growth. We have a strong foundation that positions us well to capture increased market share, contributing to a revenue growth profile of 20% longer term.

For the third quarter of 2019, we are targeting total revenue of $70 million to $72 million and at the midpoint represents 16% year-over-year growth. We expect adjusted EBITDA of negative $3.5 million to negative $1.5 million, a non-GAAP net loss of $14 million to $12 million and a non-GAAP net loss per share of $0.43 to $0.37 based on 32.7 million basic and diluted weighted average common shares outstanding.

For full year 2019, we expect total revenue in the range of $292 million to $300 million and adjusted EBITDA of $10 million to $15 million. At the midpoint, year-over-year revenue growth is accelerating to 14%. We also expect non-GAAP net loss of $31 million to $26 million, which represents a non-GAAP net loss per share of $0.95 to $0.80 based on 32.5 million basic and diluted weighted average common shares outstanding.

Our revised 2019 guidance reflects a range of estimates associated with BenefitsPlace and revenue contribution from large transactions that we expect will drive both Q4 and 2020 revenue. These include the placement of BenefitsPlace products into our installed base of carriers and employers, mix of products selected and consumer participation.

Let me provide some specifics on our estimates. First, BenefitsPlace placement. In 2018, a limited segment of our installed base had access to BenefitsPlace. This is growing. We anticipate continued expansion leading into open enrollment year-over-year.

Second, product mix. To date, BenefitsPlace product selection by employers and carriers had been more heavily weighted to life and ancillary products than our original forecast. Consumer purchases of life and ancillary products during opening enrollment will not impact Q4 revenue but will drive ratable revenue to be recognized throughout 2020. The selection of specialty and property and casualty products contributes to revenue immediately upon being purchased by a consumer. Our estimates and visibility continue to improve. However, our experience remains limited and is reflected in our outlook.

And third, the timing of large deal revenue recognition. Our platform has done a fantastic job opening up large opportunities, and our revised outlook includes an increasing influence from larger customers. For example, the majority of our first half lives growth were the result of larger transactions. While these deals are the most efficient way for us to grow our platform, as previously highlighted, the timing of bookings to revenue takes longer.

We'll now open the call for Q&A. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Brian Peterson with Raymond James.

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Brian Christopher Peterson, Raymond James & Associates, Inc., Research Division - Senior Research Associate [2]

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So I don't know who wants to take this, but just maybe start on the 2019 guidance revision. Maybe just help us understand a little bit, Ray, I know you just hit on this in your prepared remarks, but what drove the real -- the major context of the revision versus what you saw a few quarters ago?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [3]

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Yes, appreciate it, Brian. We're really excited about the progress we are making on our platform and particularly with BenefitsPlace. If you look at our fundamentals, they're setting us up well, which you see in the back half revenue growth that we're seeing in our platform activity. If you go look at the fact that we had 1 million lives this quarter, which by the way is a company record, it really shows the demand that we're seeing for our platform and how consumers are really coming to Benefitfocus and seeing the value that we're delivering to the overall marketplace.

Before I talk about the guide, I want to talk a little bit about how we see lives and the value that they deliver to our platform. If you think about it, lives are the single most significant way that we provide value on our platform. And there's really 4 steps that happens with a life, 4 steps to adding that value.

The first step, of course, is when a customer buys and makes a decision to partner with Benefitfocus. At that point in time, the customer makes a contractual commitment. However, there is very little revenue that's provided to Benefitfocus.

The second step is when a customer begins the implementation. When they begin the implementation, then Benefitfocus receives professional services revenue. While professional services revenue is not a focus of ours, it's something that we receive to show the consideration that we're delivering through the implementation.

Step 3 is when the customer goes live on our platform. When a customer goes live on our platform and begins to enroll consumers and employees onto our platform, at that point, we receive PEPM.

And the fourth step of value creation for us is when a consumer selects a BenefitsPlace product on our platform. At that point, we receive transaction revenue from our BenefitsPlace partners. So you can see those 4 steps are how value gets created and they step up every single step of the way.

It's interesting if you look at when we add lives, there's -- the speed in which we receive revenue or receive value is determined by the size and complexity of the company. So if we were to sign up a small employer, we bring revenue onto our platform and increase value within 90 days. If we work with a large state government, it could be a year to 2 years before we begin to layer in that value. For example, the State of Texas. We sold them over a year ago. We're 25% implemented, on track and on time, but it just takes time before they all come into our platform and they layer on and add significant value over the life of that relationship. And in the middle, we have our medical carriers. Our medical carriers are somewhere between a small employer and a large complex state between a year and 1.5 years between -- before they really start to accelerate value onto our platform. So we see different time frames in which we receive revenue from these lives.

So let's take that and look forward and what does that mean to our revenue and what does that mean to our revenue guidance? First, we're really excited about the demand for our platform. The 1 million lives really show what we're seeing in the marketplace, but a couple of phenomenons are at play.

The first is larger companies and larger institutions are very interested in our platform. That's why we're getting the significant life growth that we're receiving. That life growth, given those 4 steps that I talked about, is actually going to show up as revenue in periods after this year. So we'll see future significant economic value on our platform.

The other thing relates to BenefitsPlace. And what's happening on BenefitsPlace, we're seeing a very high level of engagement by the employers and employees in their company. As you know, about 25% of the enrollments occur -- or excuse me, 75% of enrollments occur in Q4 of each year during open enrollment.

And what we're seeing in the early stages that are occurring is there's 2 different ways that we recognize revenue when it comes to BenefitsPlace. If it's a specialty product, take a product like InfoArmor or auto product, when the individual selects their product, we recognize all revenue in that period. The other type of product is the life and ancillary product. When somebody selects a life and ancillary product, we recognize revenue over the term which that product -- in which that product delivers to the individual. So in the case of a life and ancillary product, that happens in the next year.

So if you think about it, we're seeing a very high demand for enrollment in BenefitsPlace. However, we're seeing a much higher propensity of life and ancillary products than we originally estimated. Those products are creating revenue recognition in next year, not in Q4 of this year.

So there's 2 factors, one, the size of our deals; the second, the selection of the life and ancillary product are the primary reason for our guide adjustment in Q4.

We feel really good about the model. We continue to calibrate and look at the data to make sure that we're really understanding consumer behavior. And if you look at those 2 attributes that I talked about, the great news is that in both cases, we're still providing significant economic benefit to our shareholders. It's just that the revenue is going to come a little bit later than were anticipated.

So we feel really good about our revenue growth that we saw in the first half of the year. We feel very good about the acceleration we're seeing in the second half of the year, and that bodes well for us in the future.

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Brian Christopher Peterson, Raymond James & Associates, Inc., Research Division - Senior Research Associate [4]

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Got it. Thanks, Ray. And just maybe on the net eligible lives, the 1 million growth this quarter, that was higher than I expected, but any help on what drove that? I know you mentioned the brokers on the employer side. And how we should think about the growth trajectory for that metric going forward?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [5]

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Yes. If you think about it, 1 million lives, I'm really proud of the -- of our sales team, the leadership on the team and the fact that they delivered 1 million lives in our busiest quarter.

Just to unpack it a little bit, there's really 3 types of lives that we look at for net benefit eligible lives: employer, public sector and medical carrier. From an employer perspective, that's the traditional market that Benefitfocus has pursued where we sell direct to large employers. And the really big news in that sector is that brokers are playing a very significant impact. In fact, brokers were -- played a role in 70% of our lives additions to that quarter, which is much greater than we've ever seen. But one of the really great things about working with the brokers is they're very active in those sales cycles. So in addition to them having an impact, it's actually allowing us to have greater efficiency in our selling and our selling expense and going after that employer segment.

The next type of lives are public sector lives. And clearly, we're the market leader in the public sector. We're making great progress there. We're picking up states just about every period. And we added the State of Alaska. State of Alaska is a great story for us because it really talks about us as a platform company. With the State of Alaska, that deal is actually brought to us by one of our partners on our platform, MetLife. They've brought State of Alaska to us, and now State of Alaska is using our platform for the enrollment in benefits. And to me, that's a great example of the network effect in action. The more partners we put on the platform, the more lives we add to our platform and the entire community grows as we go forward. We also, in the public sector, added 2 more universities, so just really continuing our focus and our strength in that public sector.

The third area of lives growth is our medical carriers. And if you look at our medical carriers, that's an area where we have a very distinctive competency in. We have 3/4 of the Blues plans as our customers. And over time with the medical carriers, we have been a leader with the Benefitfocus enrollment and billing products. Now we're marrying that with our Connecture next-generation products, which are quoting and rating. So having the ability to quote, rate, enroll and bill on our platform is something that nobody else in the industry has. And the medical carriers are getting very excited about that simply because they see voluntary benefits as an important way for them to grow in this industry. And it's a very unique proposition we have.

So if you take those 3 types of lives, Brian, employer, public sector and medical carrier, all those lives now are eligible for BenefitsPlace. So every single life we bring in, over time, they're eligible for BenefitsPlace, which allows us to deliver value to the consumer, which for us delivers transaction revenue in the future.

Looking at it from a lives growth perspective, obviously we're extremely pleased about the lives growth that we had in the first half of the year. For the full year, we still believe our lives growth organically will be low- to mid-teens. And we're really pleased with these lives. They're really setting the stage for a very unique value creation for Benefitfocus and all of its customers as we grow into the future.

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Operator [6]

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The next question is from the line of Chris Merwin with Goldman Sachs.

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Kevin Kumar, Goldman Sachs Group Inc., Research Division - Associate [7]

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This is Kevin on for Chris. Regarding the University of Texas deal, which I think has 200,000 lives, can you remind us the timing of the revenue contribution? Was most of that this quarter? Or do you expect more of that to flow in Q3?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [8]

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No, no. That's a great example of the life cycle we talked about, the 4 steps where customer buys, we implement, we go live and then we add BenefitsPlace. Texas, we're right on time. The project is going well. And we're 25% of the way implemented, which means we've turned on about 25% of the PEPM for Texas. So actually, the majority of the growth is forward-looking and then after that, of course, we'd be layering it -- layering in the impact of BenefitsPlace.

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Kevin Kumar, Goldman Sachs Group Inc., Research Division - Associate [9]

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Got it. That's helpful. And then a follow-up on R&D. It looks like it sequentially went up about $2 million this quarter, which I don't think we've seen before. Anything specifically you can talk about there that kind of drove the increase?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [10]

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Lou Anne, you want to take that one?

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Lou Anne Gilmore, Benefitfocus, Inc. - Principal Financial and Accounting Officer [11]

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Sure. We continue to invest in not only data, but product enhancements to improve our platform and deliver these large deals to our clients.

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [12]

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Yes. And if you think about it, one of the things that we're -- we really focus on is our software gross margin. For the second quarter in a row, our software gross margin is up above 70% and it's up 380 basis points over the year-ago period.

But if you look at that, that's really being driven by a couple of factors. One is our increase in automation, a focus on automating every single task we possibly can. We really see our role is to remove friction for every different phase of the user on our platform. And we're seeing the impact it just had, which is driving up our gross margin. And we'll continue to see the investments in R&D paying off, both in demand for our platform but also removing friction and increasing automation.

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Operator [13]

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Our next question is from the line of Mark Murphy with JPMorgan.

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Matthew James Coss, JP Morgan Chase & Co, Research Division - Analyst [14]

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This is Matt Coss on behalf of Mark Murphy. Ray, you mentioned larger deals mean much later go lives and, of course, later revenue recognition, which makes sense. But can you give us a sense of how many deals like these did you close or are currently in your pipeline now versus a year ago? And if you could perhaps put a finer point on how much this impacted the guidance versus other factors that may have impacted the guidance?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [15]

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Yes. No, thanks for that. As we think about our business, we really think about lives as opposed to deals because if you think about it, every single life drives a discrete PEPM, every single life drives BenefitsPlace revenue to us as a business. And that's one of the reasons -- about a year ago, we had a logos count. Now we focus on lives because that really gives you a much better indication of our forward-looking revenue. So really excited about our lives growth. Year-over-year, it's up 33%, and that really speaks to the demand for our platform and the demand the marketplace is putting on our overall solution.

As far as Q4 and what factors were at play, as I stated, there's really 2 big factors that contributed to our revising our back-end guidance. The first was the larger deals. The second was BenefitsPlace and as part of BenefitsPlace was the selection of LNA products that are happening because the employers are familiar with that versus the specialty products. It's hard to say which had a bigger impact. Both of those impacts provided -- they were material in the takedown, that's why we talked about them. But the really great thing about both of those is, in both cases, those situations are creating revenue for us in future periods. It's not as if we're talking about deals that we're not getting. We're talking about revenue that's accruing to our platform, both in -- whether it's more products people are buying through life and ancillary products or larger deals where people are coming alive later than originally modeled. So we feel really great about the value that's creating for our platform.

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Matthew James Coss, JP Morgan Chase & Co, Research Division - Analyst [16]

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Got it. And just a follow-up, I mean do you expect LNA to be a higher percentage of BenefitsPlace voluntary product consumption for the -- on a permanent basis? Or do you think there's still sort of more to learn in terms of what sort of voluntary products are going to receive uptake over the next half year or year to 18 months?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [17]

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Yes, we're at this interesting point right now where it's August. We have about 5 months left in the year. And the 5 months for us is a time for us to really get -- be focused on intense value creation in our platform. And when we think about this, it's a time for us to still add significant lives at scale. It's a time for us to implement our customers and bring them live and into production.

And most importantly, in Q4, about 75% of our enrollments happened on our platform. That's the point we're going to get very good visibility into LNA versus specialty products. We know that employers are placing our products at a high rate. We'll see exactly where the consumers are selecting their products. Of course, we have very good analytics data from last year and models that we're doing for this year to give us insights on what we think is going to happen, but it's something that we're going to continue to monitor.

If you look at LNA versus specialty, the LNA is a very significant driver and I anticipate for long-term to be the majority piece of the equation. I think about it this way. One of the things that's very unique about our platform versus any other is the selection of high deductible health plans. When an individual selects a high deductible health plan, it creates a savings event both for the company and the individual. So it's a good thing for both. One of the things that happens when somebody selects the high deductible health plan is, for a middle-class American, the right thing is to purchase these GAP products, GAP products such as accident and hospitalization, cancer. And the demand for those products will continue to rise as Americans select high deductible health plans. So we will continue to see a very, very robust market for these GAP products, which by definition, are life and ancillary products. So we see that as being very robust into the future.

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Operator [18]

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Our next question is from the line of Nandan Amladi with Guggenheim Partners.

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Nandan Girish Amladi, Guggenheim Securities, LLC, Research Division - Senior Analyst [19]

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So Ray, as we look at the trajectory of lives over the last couple of years, last year, once you engaged the broker community, we actually saw a meaningful bump up in the third quarter. And of course, fourth quarter tends to be light because those are -- that's not the active selling season. As we look ahead, I'm just trying to overlay everything you've said about the guidance so far and then also specifically ask about are you expecting more -- a similar trajectory of lives added in the third quarter? And will any of those actually contribute to revenue in the fourth quarter? Because I expect there will be some disappointment on the low -- the guidance revision downward.

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [20]

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Yes. No, the -- we factored what we believe to be lives growth through the rest of the year into Q4. We're really positive about where we are from a revenue growth perspective in the back half of the year. Just a reminder, we accelerated significantly in the first half and that acceleration is going to continue into Q3 and 4. So the strengthening of our business shows up in our revenue line, but also things like our improving gross margin and improving EBITDA, all those different factors for us as a business. The -- so we feel really good about that.

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Nandan Girish Amladi, Guggenheim Securities, LLC, Research Division - Senior Analyst [21]

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And on the expense side, I know you're seeing a lot of demand and Lou Anne mentioned some of the investments you're making. Are those going to conclude by the end of the year? Or is this sort of a new normal because you're seeing so much more demand as we head into fiscal '20?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [22]

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Yes. We're going to continue to invest in our technology. We're -- we see a great opportunity here to remove friction on our platform. We see a great opportunity to really increase our market lead by adding lives. We're going to continue to invest in things like artificial intelligence to really move consumers to the next level to help aid consumers in the selection that they are making from a benefits perspective.

As I talked about earlier, we see 5 solid months of execution that we're really focused on making sure that we deliver the lives growth and making sure we deliver BenefitsPlace revenue that we spoke about. And at the end of that period in Q4, we'll guide to our 2020 numbers. And at that point, we'll be prepared to talk about our expenses.

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Operator [23]

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Our next question is from the line of Frank Sparacino with First Analysis.

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Frank Sparacino, First Analysis Securities Corporation, Research Division - SVP [24]

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Just coming back to the guidance for a moment. Ray, I think you'd indicated that Connecture performed or outperformed your expectations during the quarter. Is there any change in the guidance in terms of the original forecast, the contribution from Connecture? And then at the same time, is there any change in the expected headwind from Mercer?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [25]

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Yes. Lou Anne, why don't you take that?

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Lou Anne Gilmore, Benefitfocus, Inc. - Principal Financial and Accounting Officer [26]

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Yes. For the quarter, Connecture was about $5.6 million, and that overperformed our forecast and we foresee that as a fairly good run rate for the rest of the year. We're very pleased with the performance, as I said, and do believe that they'll continue to perform at this level through the rest of the year.

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [27]

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Yes. And the key from a Connecture perspective is while the short-term revenue is nice, and one of the reasons that revenue is coming in is because the former Connecture customers are excited about Benefitfocus, they are excited about the stability that it brings to the company, the real value to us in the Connecture acquisition is what I talked about in serving the medical carriers by marrying their next-generation rating and quoting solution with our enrollment and billing solution, that's really providing a very unique proposition in the marketplace and we're seeing a very robust pipeline for that solution from the medical carriers, particularly the Blues companies. So we're really excited about what we can do there and the value that, that is showing for our medical carriers.

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Frank Sparacino, First Analysis Securities Corporation, Research Division - SVP [28]

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Great. And then maybe one follow-up. Ray, as it relates to the sales organization, obviously you had the change in leadership here, but can you maybe just talk about has there been any sort of additional turnover? How you feel about stability or maybe some new people that have come onboard here in the first half?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [29]

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Yes. No, the results speak for themselves, the record quarter in lives growth. And Peter Allen, who leads our sales group, is doing a great job and he is driving the team, he's working with the team. One of the really important things that we have as an organization is, as we move to this platform model, we have this multidimensional model where we sell both employer lives. We talked about that. We -- to do that though, we've made this pivot on focusing on brokers. To get 450 brokers, which is up significantly over the first part of the year, it takes a broker sales team to make that happen, and that team is doing a terrific job. We've talked about and discussed revenue in medical carriers and the lives growth that is driving.

If you look at BenefitsPlace and products on BenefitsPlace, we've added 4 LNA carriers to BenefitsPlace, which brings us up to 50. We've added another specialty provider. So we're adding more products to that market as well. So very pleased about the production that we're seeing across the board, constantly looking at how do we continue to optimize the model. With the advent of the brokers and their help on the direct model, that's giving us increased efficiencies. So how do we make sure we're deploying ourselves, the marketing resources as efficiently and effectively. But the results are great, leadership is doing a terrific job, and that's really serving as a catalyst for our continued growth acceleration in the back half of the year.

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Operator [30]

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We have time for one additional question today, which will be coming from the line of Dan Ives with Wedbush Securities.

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Strecker Backe, Wedbush Securities Inc., Research Division - Associate of Equity Research [31]

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This is Strecker on for Dan. Can you talk about some of the key changes you've made to BenefitsPlace over the last year like CDH? And then some of the feedback you've been getting from customers?

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [32]

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Yes. BenefitsPlace was rolled out just a year ago and this will be our second open enrollment. And in that first open enrollment, we saw a very nice increase in our participation rate over the previous year. That increase in participation really showed us that consumers are seeing the value in BenefitsPlace. Also us moving from -- we have 50 BenefitsPlace suppliers now on our platform. That's showing us that the sellers are seeing value. So if you think about it like Uber where there's drivers and riders, for us, we have sellers and buyers. And the sellers, the carriers, their demand is up really high, and the buyers are buying much more in our platform.

As we enter our second year of BenefitsPlace, our focus has been how do we drive consumer adoption, how do we drive consumer purchasing on our platform. We've made some very significant investments in AI and as part of that is our product recommendation engine in which we proactively make recommendations to the people on our platform and telling them what's the best time for them to buy a solution that will improve their personal success, whether it be their health, their wealth or their lifestyle and now with auto. So we're seeing a lot more consumer interaction, which we anticipate to see in Q4 in our Q4 results.

And we also continue to add different product types to the platform. We rolled out and announced in Q1 our auto solution. We have 4 of the leading auto providers who are selling their products on our platform. We're really excited about the success we're seeing there. The companies who are putting auto in their platform for this open enrollment is picking up at a very nice clip.

And then we talked about this quarter where we've rolled out our CDH offering, in which CDH providers are coming onto the platform. And one of the values that they're seeing on our platform is things like our smart recommendation engine where, say, for example, somebody gets a raise, we can make a recommendation through a notification, an e-mail that says, hey, it's time to -- you should consider contributing more for your CDH plan. We actually can show them the post-tax benefit of doing that. So it's really -- it helps the consumer make better decisions for their family. It helps the employer provide better CDH plans to their employees. And for the CDH provider, it enables them to get increased investments into the plan. At the end of the day, we receive transaction revenue. So really, the benefit of this platform is really taking off and the sellers and buyers are both seeing value.

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Operator [33]

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At this time, I'll turn the call over to Ray August for closing comments.

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Raymond Alexander August, Benefitfocus, Inc. - CEO, President & Director [34]

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Great. Thank you.

I'd like to close our call today reinforcing that we are scaling our platform quickly, we're accelerating the value of our technology initiatives and we're driving greater consumer engagement across the platform, leveraging the scale of our data. We are executing well, and I look forward to updating you on future calls.

This ends our call. Thank you for joining us today.

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Operator [35]

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Today's conference has concluded. You may now disconnect your lines at this time. Thank you for your participation.