Magellan Health, Inc.
Q4 2017 Earnings Call Transcript

Published: 27 Feb 2018

[Operator:]

Welcome and thank you for standing by for the Fourth Quarter 2017 Earnings Call. At this time, all participants are in a listen-only mode. [Operator Instructions] Today’s conference is being recorded. If you have any objections, you may disconnect at this time. Now, I will turn the meeting over to Joe Bogdan. Please go ahead.

[Joe Bogdan:]

Good morning and thank you for joining Magellan Health’s fourth quarter 2017 earnings call. With me today are Magellan’s Chairman and CEO, Barry Smith; and our CFO, Jon Rubin. The press release announcing our fourth quarter earnings was distributed this morning. A replay of this call will be available shortly after the conclusion of the call through March 29. The numbers to access the replay are in the earnings release. For those who listen to the rebroadcast of this presentation, we remind you that remarks made herein are as of today, Tuesday, February 27, 2018 and have not been updated subsequent to the initial earnings call. During our call, we will make forward-looking statements, including statements related to our growth prospects and our 2018 outlook. Listeners are cautioned that these statements are subject to certain risks and uncertainties, many of which are difficult to predict and generally beyond our control. These risks and uncertainties can cause actual results to differ materially from our current expectations and we advise listeners to review the risk factors discussed in our press release this morning and documents we filed with, or furnished to, the SEC. In addition, please note that Magellan uses certain non-GAAP financial measures when describing our financial results. Specifically, we refer to segment profit, adjusted net income and adjusted EPS, which are defined in our SEC filings and in today’s press release. Segment profit is equal to net revenues less the sum of cost of care, cost of goods sold, direct service costs and other operating expenses and includes income from unconsolidated subsidiaries, but excludes segment profit from non-controlling interests held by other parties, stock compensation expense, special charges or benefits as well as changes in fair value of contingent consideration recorded in relation to acquisitions. Adjusted net income and adjusted EPS reflect certain adjustments made for acquisitions completed after January 1, 2013 to exclude non-cash stock compensation expense resulting from restricted stock purchases by sellers, changes in the fair value of contingent consideration, amortization of identified acquisition intangibles as well as impairment of identified acquisition intangibles. Please refer to the tables included with this morning’s press release, which is available on our website for a reconciliation of GAAP financial measures to the corresponding non-GAAP measures. I will now turn the call over to our Chairman and CEO, Barry Smith. Barry?

[Barry Smith:]

Thank you, Joe. Good morning and thank you all for joining us today. I will discuss our 2017 results, provide an update on the Senior Whole Health acquisition and highlight activities within the healthcare and pharmacy segments. I will also provide commentary on the healthcare legislative and regulatory landscape and share our priorities for 2018. Then I will turn it over to Jon to discuss the financials in more detail. I am pleased with the execution and progress against our strategic initiatives during 2017. We have made major strides against our stated growth objectives that repositioned ourselves for long-term sustained growth with our two platforms, healthcare and pharmacy management. We reported revenue of $5.8 billion, net income of $110.2 million and EPS of $4.51 per share. Our adjusted net income was $144.8 million or $5.92 per share and we achieved segment profit of $310.9 million. Revenue increased by more than 20% and adjusted net income increased by 32% versus 2016. Segment profit, excluding the impact of the moratorium on healthcare insurer fee on the health insurer fee in 2017, grew by over 9% year-over-year. During 2017, we also enhanced our capital flexibility by refinancing over $1.1 billion through a mix of public debt, term loan and revolver. This new capital structure will provide the company with a mix of fixed and variable rate debt as well as the flexibility to meet our near-term financing commitments and cash flow needs including funding the recent acquisition of Senior Whole Health. We are updating our 2018 guidance to reflect developments since our call in December, most notably the impact of lower corporate tax rates. Jon will provide more details later in today’s call. Turning now to our healthcare business, we continue our leadership role in managing complex populations and providing full service specialty healthcare solutions for individuals with the highest needs. We are focused on producing growth through next generation integrated care that delivers differentiated engagement, experience, and outcomes. In our commercial healthcare division, we faced some isolated cost pressure in two accounts during the first half of 2017. We took proactive pricing and care of management actions which led to our improved performance during the second half of the year. We developed Magellan Complete Care with the sole purpose of solving the many challenges associated with the healthcare needs of lower income individuals, particularly those facing complex conditions that impact their physical health, mental well-being and activities of daily living. We have grown this Medicaid and Medicare health plan portfolio substantially. And as a result we have improved our scale, diversification and credibility to more effectively compete in the sector. With our recent acquisition of Senior Whole Health on October 31, we have expanded into Massachusetts, increased scale in New York and added dual eligible capabilities to our portfolio. We are very pleased that the integration has been going smoothly. This speaks volumes to the similar cultures and missions of our two organizations. Expanding our footprint and expertise in this high growth area of healthcare helps to accelerate our strategy. In Virginia, we continued to work on an implementation plan for the Medallion 4.0 program. Medallion was one of the six health plans – Magellan was one of the six health plans selected to participate in the program which will serve roughly 740,000 of Medicaid enrollees. This contract is an expansion of our relationship with Virginia to serve the managed long-term care population and allows us to leverage our existing staff and capabilities. The Medallion 4.0 program will phase in membership by region from August through December 2018. In addition, the House has included Medicaid expansion in its budget that was sent to the Senate with two weeks left before it adjourns . While there are several hurdles to overcome, it is expected that some form of expansion with the work requirement will pass. We recognize that improvement in overall health frequently involves families, communities and even the workplace. For example, we pioneered the integrated health neighborhood, a collaborative model of care that considers the holistic needs of the individual through a personalized and community-based approach to healthcare. We used the integrated health neighborhood in other markets and are in process of implementing it in Virginia’s complex care population. Now, turning to pharmacy, we are a value focused full-service pharmacy benefit manager. We combined the ability to manage volume with differentiated value based strategies focused on the comprehensive specialty drug management, powerful clinical programs, enhanced patient and provider engagement, and advanced analytics. As customers have recognized the need to shift from volume discounts toward value and specialty drug management across both the pharmacy and medical benefits, we have seen an opportunity for our PBM which was board of expertise’s specialty drug management. For example, we have leveraged our medical benefit managed care experience and capabilities to tackle the high trend area of medical pharmacy. This includes high cost specialty drugs injected or infused in a physician’s office or hospital outpatient setting that are reimbursed under a health plan’s medical benefit. We work with our customers’ provider network to rationalize reimbursement schedules for medical pharmacy drugs with the same clinical efficacy but with materially different price points. We administer not only prior authorizations with peer to peer review, but also claim edits on the back end for appropriate usage, frequency and dosage. Finally, we help our customers determine the best combination of provider network, clinical programs and member choice to guide medical injectable drug administration with the lowest cost and clinically appropriate site of service. By combining all of these management practices, Magellan Rx has demonstrated savings to our customers of 12% to 20% within their medical pharmacy spend with improved clinical outcomes. Beyond this type of clinical innovation, we continue to invest for the future of our pharmacy business. This includes improving our systems and operational processes to increase service levels and reduce administrative costs creating and leveraging more digital tools to enhance member engagement and developing advanced analytics and predictive modeling to strengthen our clinical management capabilities. Proof that our approach to pharmacy management is resonating in the marketplace is evident in the growth of our PPM membership that stood over 2 million lives as of January 1, 2018, an increase of 14% from the prior year. During 2017, we took actions to improve our Part D business results by narrowing our formulary to be more consistent with market competitors and increasing member premiums for the majority of our plans for our 2018 bits. As expected, Part D membership declined from December 2017 to January 2018 and we now have approximately 86,000 lives. Now, let me provide a few comments about recent congressional developments. These early months of 2018 have been exceptionally busy once in Washington. Congress has negotiated two short-term spending agreements both of which included meaningful healthcare provisions. Congress ultimately reauthorized the children’s health insurance program and included a 2019 moratorium on the health insurer fee. We also were very pleased by Congress’ recent action to probably authorize Medicare Advantage Special Needs Plans or SNPs, which will include stability to this important program serving Medicare beneficiaries significant healthcare needs. Congress also closed the Part D coverage gap otherwise known as the donor hold, 1 year early in 2019. We are all likely to hear more about this issue over the coming weeks. In addition to these developments, the new permanent Head of the U.S. Department of Health and Human Services, Alex Azar announced his priorities as Secretary, which includes drugs prices affordable, accessible healthcare, value-based purchasing in Medicare and solutions to the opioid epidemic. We echo the importance of these priorities for our nation and look forward to working with Secretary Azar and his staff. I would like to make a few additional comments regarding the present 2019 budget proposal. While it remains in the hands of Congress to decide if and how many of the proposed policies will move forward, the budget blueprint includes a number of proposals relating to prescription drugs, including proposed changes to Medicare Part B and D drug benefits, including point-of-sale rebates and the Medicaid prescription drug program. We are hopeful that we will see steps taken to reduce the high cost of drugs and promote the innovative efforts of the private sector towards this end. We look forward to providing our thoughts and expertise should these policies move forward. We have recognized that we are competing in a very dynamic healthcare environment, but there are certain key trends we believe bodes well for sustained growth. First of all, all payers commercial, state, government and federal government will continue to seek solutions for the management of complex populations and high trend components of healthcare spend like pain management and specialty drugs. Next, there is a growing awareness that behavioral health, especially serious mental illness drives significant expenditures. And finally, successful companies will need to be nimble and entrepreneurial to be responsive to new market opportunities as they emerge. We have demonstrated our capacity to do so over the last several years. As mentioned in the 2018 guidance call, we have identified several key areas of strategic focus for our healthcare business. They include driving growth across all markets, continuing to invest in technology, including tools to drive efficacy and clinical effectiveness, developing additional innovative solutions, continuing the implementation in Virginia and completing the integration of Senior Whole Health. For our pharmacy management business, our 2018 focus is on expanding key value drivers, driving growth across all key markets, strengthening our current full service PBM capabilities including investing in our technology. And finally with our 2018 pricing and formulary changes, we expect margin improvement in our Medicare Part D program. As you move forward in 2018, we will continue to be the nation’s leader in addressing complex, high cost, special populations through the development of innovative products that demonstrate improved outcomes and reduce costs, while empowering members within our communities to live healthy, vibrant lives. Now, I will turn the call over to Jon to review our financial results and outlook in more detail. Jon?

[Jon Rubin:]

Thanks Barry and good morning everyone. I will begin by discussing full year 2017 results and then provide details on our revised 2018 guidance. For the year ended December 31, 2017 revenue increased more than 20% over 2016 to $5.8 billion. This increase was mainly driven by the impact of net business growth and the acquisition of Senior Whole Health and Armed Forces Service Corporation of AFSC. Net income for the year ended December 31, 2017 was $110.2 million and EPS was $4.51 per share. The increase in net income of 42% over 2016 was due to higher segment profit and a lower effective income tax rate. Net income also includes the one-time tax benefit of $8.7 million or $0.36 per share, primarily as a result of the change in our net deferred tax liability from lower future corporate tax rates under the recently passed tax cuts and jobs act. The year-over-year EPS growth absent this change would have been at 29%. Adjusted net income for the year ended December 31, 2017 was $144.8 million and adjusted EPS was $5.92 per share representing year-over-year growth of 31%. Segment profit grew 3% to $310.9 million. If we adjust for the impact of the Health Insurer Fee moratorium in 2017, the year-over-year segment profit growth exceeded 9%. 2017 segment profit also included a $5 million charge for one-time litigation settlement recorded in the fourth quarter. I will now review each of our segments results. For our healthcare business, segment profit for the year ended December 31, 2017 was $202.7 million. This represents an increase of 4% over 2016, excluding the impact of the Health Insurer Fee moratorium. The increase was driven by net growth, acquisitions and improved results for Magellan complete care in Florida, partially offset by startup costs for Magellan complete care in Virginia and isolated cost pressure in two of our commercial accounts early in 2017. Now, turning to our pharmacy management segment, we reported segment profit of $139.9 million for the year ended December 31, 2017 which was an increase of 14% from 2016. This year-over-year increase was primarily due to organic growth within our PBM business and the full year inclusion of results for the Veridicus acquisition. Regarding other financial results, corporate costs inclusive of eliminations, but excluding stock compensation expense totaled $31.8 million, which represents a 6.2% decrease compared to 2016. The decrease was mainly due to lower discretionary benefits in 2017. Excluding stock compensation expense and changes in fair value of contingent consideration total direct service and operating expenses as a percentage of revenue were 15.5% in the current year as compared to 17.4% for the prior year. The decrease was primarily due to economies of scale from growth and acquisitions the impact of other business mix changes and lower discretionary benefits. Stock compensation expense for the year ended December 31, 2017 was $39.1 million, an increase of $1.7 million from the prior year. The change is primarily due to higher vesting of employee stock awards as well as the full year of vesting of the stock associated with the July 2016 acquisition of AFSC. The effective income tax rate for the year ended December 31, 2017 was 18.6% compared to 47.9% for the prior year. This decrease was due to a number of factors including the suspension of the non-deductible health insurer fee, the favorable impact of the net deferred tax liabilities and lower future corporate tax rate, the reversal of valuation allowance is related to AlphaCare operating loss carryovers and the favorable impact of stock options exercised. Our cash flow from operations for the year ended December 31, 2017 was $162.3 million compared to $66.7 million for the prior year. This increase was mainly due to the initial buildup in Part D receivables in the prior year. As of December 31, 2017, the company’s unrestricted cash and investments totaled $261.2 million, which represents a decrease of $32.7 million from the balance at December 31, 2016. Approximately $143.9 million of the unrestricted cash and investments at December 31, 2017 is related to excess capital and undistributed earnings held at regulated entities. Restricted cash and investments at December 31, 2017 of $465.4 million reflects an increase of $149.5 million from the balance at December 31, 2016. This increase was primarily attributable to the acquisition of Senior Whole Health. As Barry noted earlier, we are updating our 2018 guidance due to the lower corporate tax rate, corresponding impact on the health insurer fee revenue and additional investments within our businesses. We are also updating guidance to reflect the final amortization of the Senior Whole Health intangible assets as well as our final analysis of the impact of the new revenue recognition rules under ASU 606 going into effect in 2018. We are updating 2018 guidance for net income to a range of $125 million to $149 million, adjusted net income to between $163 million and $183 million and segment profit to a range of $390 million to $410 million. This results in EPS of $4.88 to $5.82 and adjusted EPS of $6.37 to $7.15 based on an updated estimate of average fully diluted shares of 25.6 million. This share count reflects share repurchases and option exercises through February 23, but exclude any potential future activity. We are maintaining a range for revenue at $7.5 billion to $7.8 billion. $11 million increase in the midpoint of net income range from our previous guidance is driven by the reduction in corporate tax rates of approximately $27 million, partially offset by the after-tax impacts of approximately $4 million for increased depreciation and amortization relative to the Senior Whole Health acquisition, an additional $4 million related to the impact of ASU 606 revenue recognition and $8 million primarily related to investments in the business. Our 2018 guidance includes investments in technology and infrastructure including tools to drive efficiency and clinical effectiveness in both healthcare and pharmacy which we expect will have benefits in future years. The $20 million increase in the midpoint of the adjusted net income range is driven by the reduction in corporate tax rates of approximately $32 million, partially offset by the previously mentioned impacts of ASU 606 revenue recognition and investments in our business. The midpoint of our segment profit range is $25 million lower and includes the impact of the previously mentioned business investments and revenue recognition item as well as $9 million related to the impact of the reduction of the corporate tax rate on the health insurer fee revenue. The lower corporate tax rate creates a smaller gross up value in the reimbursement we received for the health insurer fee to cover the non-deductibility of these fees on federal income taxes. While this affects segment profit, it has no impact on net income. In closing, I am pleased with our 2017 results and the continued success in executing our growth strategy, which should position us well for the future. With that, I will now turn the call back over to the operator for questions. Operator?

[Operator:]

Thank you. [Operator Instructions] Our first question is from Mr. Dave Styblo with Jefferies. Your line is now open, sir.

[Dave Styblo:]

Great. Thanks and thanks for the questions. Good morning guys. I want to come back just to the 4Q results a little bit first. Some of the metrics came in quite different from the most recent guidance ranges that you guys had and I was hoping you could give us little bit more color specifically on revenue that did come in much better than I think consensus than at the higher end of your range. And then at the same time, segment profit was quite low, I think it missed the Street by about 10%, was 4% below the midpoint of your range and then the same thing on operating cash flow that was quite a bit lower than the most recent range that you gave us. So, could you give us just more color about what happened there and perhaps did you pull forward any SG&A spending that was going to maybe happen in ‘18 and just pull it into the fourth quarter this year?

[Jon Rubin:]

Yes. Dave, it’s Jon. Let me try to answer your questions. First, on revenue, we view that as relatively consistent with the range we provided. As we go through the year, we don’t necessarily adjust our ranges as long as we are in the range, sothat really didn’t constitute any change. On segment profit, one specific thing that we called out in the script that I’d emphasize is we did have kind of a one-time legal settlement of approximately $5 million in the period. So that was from a timing standpoint something we had not projected in the period, which gets you closer to where we were on the range. Third, we also did have slightly lower margins than expected in the pharmacy employer business and as you know, you followed us we often have settlements in the fourth quarter both customer settlements and settlements with pharmacy manufacturers and those came in a little bit lower than we expected in the quarter. Now, if you look at the margins for that segment, they still are reasonably strong and held pretty well year-over-year, but was a little bit below what we expected. And the only other note I’d mention on the fourth quarter is when you look at net income, we did have the benefit from the lower future corporate tax rates on our deferred tax liabilities. So, that was a one-time pickup that we noted in the quarter. So, those are the key components.

[Dave Styblo:]

And on operating cash flow as well?

[Jon Rubin:]

Yes, on operating cash flow in the period, I would say, the only thing I would note is that if you look at working capital changes, they came in a little bit differently than we expected. Most of that is really timing of receivables and it was both customer receivables in healthcare and pharmacy and also some of the manufacturer receivables, but that was – really fundamentally there was no significant change, it was just timing on receivables.

[Dave Styblo:]

Okay. And then as we look forward into ’18, there was a lot of numbers in kind of the bridge there for the guidance, but I think the main part was there was an additional $8 million of SG&A investments that are now in there. Is that the right number? And then is that something that you view as run-rate going forward? As you put that, it sounds like it’s towards technology investments and are those more to drive future revenue growth going forward or to maybe help out on the margin side over time?

[Jon Rubin:]

A little bit of both. So, if you look at these investments, I think you have it right, but the specific investments we pointed to and some of it is very specifically defined at this point, and some -- we retain for investments that we are still finalizing, but there really are a few areas, one on the healthcare side, we are upgrading our clinical systems, which really will give us both better care management opportunities as well as better capabilities on the clinical side we can sell to customers, so I look at that one as both sort of inefficiency [ph] as well as clinical effectiveness and potential revenue growth. On the pharmacy side, we have had a game plan as we have completed acquisitions to consolidate our platforms to sort of best in breed capabilities. And again, I think that has certainly some benefit from a customer perspective to get everyone on a common platform and use our best capabilities across our book, but also has very real expense capabilities. So, these are things again that we have targeted. We are accelerating some of the investment and we do think in the future years that will have financial benefit as well as provide better opportunities for us in the market.

[Dave Styblo:]

Got it. And then just the last to maybe Barry if you want to talk a little bit about the demand environment what you are seeing from customers and maybe some of the unique opportunities that you have an opportunity to go after. I see you guys, it’s in your back door there if Arizona has a Medicaid RFP that should be coming out soon, it looks like you guys are one of the only new bidders to that, that are on the bidders list. So curious what’s interesting about that population to you and fitting well with your strategy?

[Barry Smith:]

Well, thanks Dave and good morning. We are pretty excited about the opportunity both in the public sector as well as commercial business as well. We have seen a lot of these pop up across the country. We try to pursue those which are unique to complex populations where we have particular strengths. We don’t make any comments or that did come out as far as Arizona are being one of the bidders there. We typically don’t make commentary on any given state. And so I won’t comment on Arizona, but the ability to address these complex populations is typically expressing itself through long-term support services, RFPs and bids, MLTC such as in New York and we see this is as a continuing trend. It’s a very underpenetrated market with what we think is pretty significant opportunity for the future. So, we will continue to evaluate these states and the RFP process and respond accordingly. I think we mentioned in some earlier calls this is like $300 billion market that’s maybe 10%, maybe 15% penetrated. So, we would expect to see these opportunities continue to evolve. We are also seeing a lot of activity in the commercial side of our business, because many of the insurers are requiring the same kinds of capabilities that we have developed within MCC this coordinated care in a more integrated way within their populations, within the commercial populations. And so we think the same skill set is playing well in that market. We also think that the integrated ability that we have of providing both the pharmacy as well as the healthcare and all the medical specialty stuff is really, really helpful to us in the marketplace. We have been fairly successful on that space as well. On the pharmacy side, there is an ongoing demand for these more clinically sophisticated ways of approaching the pharmacy spend particularly with specialty. It’s not abated. We still see the total spend in pharmacy being 50% of the total by 2020 within a year or two and so that the kinds of programs that we have developed in our best-in-class have been in insignificant demand. Most recently, on the pharmacy side, we have received a lot of good press from our ratings in terms of being able to drive value, clinical sophistication, that’s been recognized by some survey organizations. And so we tend – we are seeing that continue momentum in the pharmacy segment as well and maybe more than you wanted to know here, but we are seeing larger and larger, it seems like year-after-year we are getting shots on goal at much larger employers and also MCOs. So, these are all very positive good trends for us we think for long-term really focused on these more complex pharmacy circumstances, specialty drug spend as well as the complex populations.

[Dave Styblo:]

Got it. Thanks.

[Barry Smith:]

You bet, Dave. Thank you.

[Operator:]

Thank you. Our next question is from Michael Baker with Raymond James. Your line is now open, sir.

[Michael Baker:]

Yes, thanks. Barry, I was wondering if you could update us on the competitive dynamics especially in the health plans segment in light of the pending CVS Aetna merger as well as Express Scripts acquisition of eviCore?

[BarrySmith:]

It’s really interesting and we would like to think at least here internally, it’s kind of validating our strategy of having this combined capability. I was a little bit surprised by the Express Scripts eviCore transaction, the deal. I do think it makes sense for them given the fact that with the filling into the gap of the Anthem contract, they had to find new opportunities for growth and I have great respect for both Express Scripts and John Arlotta at eviCore as well. I think it makes again more sense more than ever to integrate care. eviCore is a competitor and about half of our space on obviously Express Scripts is a competitor of the PBM side, we think it validates the opportunity that we have been developing over the years and the capability of managing these complex populations in an integrated way. That actually accentuates I think our opportunity in the marketplace, because more and more people are looking at integrating care as these potential mergers have developed. The CVS-Aetna deal was a very interesting deal and that from our take they are essentially developing an integrated care capability without the acute care hospital. And I think that’s a smart move on their part to do so. It is a very different kind of a circumstance though relative to potential channel conflict potentially for CVS, where others may not wish to participate with them if they see this as again a competitive challenge in a marketplace that they are in. But it’s a very interesting plan and again one that I don’t think anyone of us really anticipated the size of magnitude and but again it’s a play for this integrated care ability. You are seeing this coming together of payers and providers, which I think will continue to accelerate to have control over the dollars that are spent on healthcare and on the quality of the outcomes as both private as well as public sector buyers push for value-based contracting and value-based outcomes. This kind of thing I think does make sense. And again, we think it’s validation of our strategy were relative for the equal buyers compared to the size of these entities, but our clients really like this very personalized, a highly tailored approach customized to their unique needs. And so we think we can be very competitive and agile in this new world of payers and providers coming together. But we think it’s an interesting move and we think it does enhance our story.

[Michael Baker:]

Thanks. And then just another angle on the dynamics, I know you catered to some of the blues and what I was wondering is it seems as though Anthem is going to leverage CVS so in essence creating yet another competitor in the blue space meaning you also have Prime Therapeutics, just trying to get a sense of if there is any indication our opportunities that are merging on that front as it relates to your offerings?

[Barry Smith:]

Well – and I will just speak to both the Prime and the Anthem CVS deal. Obviously, Anthem has a lot of value and they bring a lot of value and for their own use particularly it’s very powerful. I don’t think that it has a major impact outside Anthem’s book of business and I think it’s a smart move in their part to recreate the value that they essentially sold years ago to express within Anthem. Relative to Prime, Prime, we know this looks well. They are good people. They largely sell within the shareholder book that owns Prime and I think that they are seen as a central utility for those players. We don’t see them outside the kind of those shareholders to some degree you do, but pretty limited basis outside that shareholder base of the Prime shareholders. Again, they are very capable, I don’t think that we – in fact, I don’t see them out in the marketplace on the specialty side, medical pharmacy side, more on the claims processing side. Again, I think the management team, Jim DuCharme is a great guy and I consider him a friend and again we are very familiar with many of the Prime clients, many of which are our clients as well. So, again I don’t think that those two circumstances dramatically impact the competitive landscape for us.

[Michael Baker:]

Thanks for the update.

[Barry Smith:]

You bet. Thank you, Michael.

[Operator:]

Thank you. Our next question is from Ms. Ana Gupte with Leerink Partners. Your line is now open, ma’am.

[Ana Gupte:]

Hey, thanks. Good morning. The first question I just wanted follow-up on 4Q in the healthcare margins which look like they compressed. Is that in anyway related to the Florida rate change that you announced and I think it was in October or is it something else?

[Jon Rubin:]

Yes, Ana, it’s Jon. No, it’s not related to the Florida rate change. So we had mentioned – we have mentioned a couple of items earlier. We did again have a one-time settlement in a period that related to the healthcare business. So that’s one of the similar item I would note. But no, it’s not related to Florida.

[Ana Gupte:]

And so will that Florida rate change, again I know it was in your guidance, but when does that tick-in and the margin changes and all that, are you not expecting a change, because you are managing costs differently or something?

[Jon Rubin:]

So it was effective in the fourth quarter, so that would have played through fourth quarter as expected, so there really wasn’t any change there to what we have previously forecast. And obviously the effect in 2018 we did really put into the guidance. So margins in Florida will be lower in ‘18, it’s one of the things we talked about at the time we gave guidance then in ‘17 and that’s fully considered in the context of our guidance. At the same time as always we have always got a number of clinical and network initiatives that we execute in order to kind of right size the program to the level of rates. And we have implemented actions coming into the year and everything is on track at this point. So no change to what we had been expecting.

[Ana Gupte:]

Okay. Then on Florida and any other contracts of on the invitations to negotiate, any update on that and given that maybe you have seen some of the players are like moving on the longer end, are you getting a chance to pickup any business, are you even looking for something outside of the SMI?

[Barry Smith:]

Ana, we – since the stage is right in the middle of the process considering the RFP, we really can’t make any commentary on Florida, but gross role, so we will see how that plays out.

[Ana Gupte:]

Okay. And then more broadly, is there interest from other states not just in healthy assets but given your success in Florida on SMI, what level of rollout are you expecting and are there specific states that you would see is kind of in the pipeline for growth either for ‘19 or even beyond?

[Barry Smith:]

We are following up with many states throughout the country and they are in various stages of the development. You heard earlier Dave talk about Arizona that we were named as one of their bidders there. Again we don’t talk about the development or any of the processes like that. But we are looking at several states right now that we think are interesting opportunities for us that play to our strong suite. We try to be very selective about which states we go after. So we will look at same states they are coming out with the LTSS program or whatever. Because it’s expensive and challenging to go through the process, we try to be highly selective to those states that we think have the greatest opportunity both in terms of outcome and then long-term relationship. And we are – we have a very developed government relations team that we are quite proud of that have relationships across – existing long-standing relationships across the country with Medicaid directors and state officials. And so we are continually working with them developing the relationships. We like to be helpful as they ask questions of us about what considerations they might consider in such a plan and so we will continue to stay engaged in the process. We do think there is significant opportunity that was developed over the last – the next many, many years.

[Jon Rubin:]

Ana it’s Jon, one additional thing I would mentioned because we specifically mentioned serious mental illness is many states increasingly are recognizing the importance of managing their population and the capabilities as we are having discussions with states that we can bring to the table. It may not always play out exactly like it does in Florida where they have a separable SMI specialty plan. Sometimes they will be asking for those SMI capabilities to be brought to bear within a broader complex population that they are managing, but that also plays well to our strengths. So again, depending on the state and the size of the state and how they bring things down the floor maybe different.

[Barry Smith:]

And the only other thing that I would add Ana is that while we identify states where we think there are particular opportunities for us, we also realize that each of these circumstances is very dynamic. And so we will take shots on goal, we may not hit the goals every time, but we will always look for these opportunities that seem to make sense where we had a good fit. And in each of these states has a different kind of political process and different development of where they are and the kind of the managed care spectrum of being more or less aggressive how experienced they are. We may or we may not prevail, but again when we see this opportunity, we will typically develop the relationship and apply our skills hopefully in a way that allows us to be successful.

[Ana Gupte:]

And one final one on Medicaid, did you speak at all about the trends or the expectation that in 2021 LCS’ players and tools special needs plans will likely be under the same managed care company and may even include TANFs and what are your thoughts around consolidation that may have to occur or would occur as a result of that?

[Barry Smith:]

It’s a very interesting question, Ana. We have seen that states do like to work with the established managed care organizations and they also, however, understand that there are unique capabilities that some players have like Magellan that we have unique expertise in this very complex part of the population. It’s the TANF 5% of the population, it’s been 45% of the premium dollars that you have had a lot of a experience with that 5% that allows us to play in that arena, I think be accepted by states as serious potential providers in that space. We specifically do not go after TANF populations, because we are not a general TANF plan, we prefer not to be in competition with our clients and have great respect for those large players out there that play very well and they execute very well on the general TANF population. However, in a state like Virginia, for example, where we applied initially and won in this complex population program, CCC plus, the state did came to us afterwards and said gee, we have got the TANF population and by the way we are thinking about Medicaid expansion, would you consider taking incremental lives at putting down your chassis and fortunately in Virginia, we executed very well, implemented at a very high level and they like who we are and what we have accomplished? And so in those circumstances, while we would not have gone out and competed for the TANF program, we will certainly accommodate a state like Commonwealth Virginia to expand our services where appropriate. In that particular case, for example, we already built out the chassis. We have the network. We have the claims processing system. We have the general management in place there in Virginia. So for us, it allows us to create greater capabilities, greater scale in this state, which allows us to operate much more efficiently. So, that’s a positive kind of a thing and Virginia sees the same way, they mentioned that kind of minimum scale for a health plan in the Commonwealth is 60,000 members. And so by labeling on, we have 23,000 of the complex population there in the state of the Commonwealth of Virginia by labeling on incremental lives on that chassis, it allows us to be more efficient at our operations.

[Ana Gupte:]

Okay, thank you. And then on new question, different area on Amazon and the coalition since we spoke last in the fourth quarter. Any thoughts on this coalition with JPMorgan and Berkshire and what they may be able to do in the [indiscernible]?

[Barry Smith:]

Ana, it’s a very interesting question. I would actually underscore what I said the last go around. These are very capable business leaders. You have to respect Jeff Bezos kind of he is one of those guys who levitates, he is really tremendous. And Amazon clearly is a very capable entity. You get JPMorgan with Jamie Dimon inarguably one of the best financial leaders we have worldwide and of course with Warren Buffett you got to say these guys are probably the smart guys. I think that the thing that I said the last time was that they are going to aggregate likely their employee base to create a more efficient buying capability in healthcare. They commented that they would like not to have a profit motive. Well, the fact of the matter is these guys already have over three quarters of million employees and they are on ASO – on an ASO basis with insurers, they defect our insurance company already. In fact, Jamie Dimon, in fact, I had a quote here from him. So, I tell people this is his response. So I tell people, JPMorgan Chase already buys 1.5 billion of medical and we self-insured think of this we are already the insurance company, we are already making these decisions, we simply want to do a better job. And if I were Jamie Dimon, I would think exactly the same thing and I am sure both Buffett and Bezos is also – they are also thinking the same thing. Warren Buffett yesterday made a couple of very interesting comments and of course he is a very clear transparent kind of guy. He said don’t expect any miracles anytime soon. He said others have come to us asking to join the coalition and there are various business coalitions throughout the company, I think throughout the country. He said we got to make sure that we come up to speed and get something they will just start with before you add on others onto this initiative. And he said don’t expect any miracles. This is a tough complex business. And so my take on it is indeed they are going to be very effective as a business buying coalition, beginners of very smart things. They are going to encourage and push technology. We do the same thing and we work with people like Amazon to provide that back end technology that accelerates our ability to growth and do predictive analytics for example. We use AWS, we have our technology here at Magellan. So we are already partners with Amazon. And so these are very smart players. Our take is that with this complex population as Buffett pointed out, these are very difficult circumstances to manage care for. And we think that what we do will actually be highlighted as they contemplate controlling costs longer term. I do think of the buying capability of these guys is going to be extraordinary. And if you were simply kind of a generic claims processor or kind of how you connect to the end consumer your employee, I think those things will really move several steps forward which I think is the great thing for the industry. So I am not afraid, I am more encouraged than anything else. I think what we do will be highlighted as they look at how to manage more effectively these complex populations and also expense of specialty drugs.

[Ana Gupte:]

Do you think of them as mainly as those things purchasing coalition, not coming into be the retail mail order fulfillment arm or a wholesaler already again or health insurer if you look which is kind of the [indiscernible]?

[Barry Smith:]

Yes. I don’t – in our conversations and we have had conversations direct with Amazon. Again, very smart people, they are tremendous at supply chain and when they – when people talk about Amazon being in the pharmacy business they are afraid to going to get into it. They are already in the pharmacy business in a big way. You think about durable medical equipment they are one of largest providers nationally, likely internationally as far as I feel I don’t know. But they are already supplying much of what’s in the retail departments of the retail pharmacy chain. So they are already in pharmacy as we think about pharmacy. The question becomes one on the drug distribution part of it. And if I were a wholesaler and look at Amazon, I will be quite concerned because Amazon is very good at doing what essentially wholesalers do functionally. On the PBM front of it, Amazon likes to do things. And I don’t need to speak for Amazon whatsoever, but our observation is they likely would partner with entities that have unique clinical capabilities to accelerate more efficient and effective use of the drug. The delivery of a drug to the doorstep of a patient and family that’s the capability that Amazon certainly has no doubt, you heard CVS react by saying we are going to – as they did we are developing systems they said to be able to deliver within 24 hours to the doorstep of a home. So it’s really a supply chain, it’s the last mile capability which Amazon has. What we do we think is unique and hopefully will be a good source of a partnership with people like Amazon, people like JPMorgan, people like Buffett as they think about this new initiative. We do this very heavy lifting on the clinical front which we think accelerates the ability to address both care and cost.

[Ana Gupte:]

Very helpful. Thanks, very insightful Barry.

[Barry Smith:]

You bet, Ana. Well, again we want to thank everybody for joining us and your participation today is – in today’s conference call. We look forward to speaking with you again in April when we will discuss our first quarter 2018 results. Take care. Bye-bye.

[Operator:]

That concludes today’s conference. Thank you for your participation. You may now disconnect.