Magellan Health, Inc.
Q3 2015 Earnings Call Transcript

Published: 27 Oct 2015

[Operator:]

Welcome and thank you for standing by for the Third Quarter 2015 Earnings Call. At this time all participants are in 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 Renie Shapiro Silver. Ma’am you may begin.

[Renie Shapiro Silver:]

Thank you. Good morning. Thank you for joining us today for Magellan Health’s, third quarter 2015 earnings call. This is Renie Shapiro Silver, Senior Vice President of Corporate Finance. With me today are Magellan's Chairman and CEO, Barry Smith; and our CFO, Jon Rubin. This conference call will include forward-looking statements contemplated under the Private Securities Litigation Reform Act of 1995. These statements are subject to known and unknown uncertainties and risks, which could cause actual results to differ materially from those discussed. Please refer to the complete discussion of risks in our most recent reports filed with the SEC and in the cautionary note in today’s press release. 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 cost and other operating expenses and includes income from unconsolidated subsidiaries, but excludes segment profit from non-controlling interest held by other parties, stock compensation expenses, as well as changes in the fair value of contingent consideration reported in relation to acquisitions. Adjusted net income and adjusted EPS reflects certain adjustments made for acquisitions completed after January 1, 2013 to exclude non-cash stock compensation expense resulting from restricted stock purchases by sellers, amortization of identified acquisition intangibles and changes in the fair value of contingent consideration recorded in relation to acquisitions. Please refer to the tables included with this morning’s press release which is also available on our website for a reconciliation of these non-GAAP financial measures to the corresponding GAAP measures. I will now turn the call over to our Chairman and CEO, Barry Smith.

[Barry Smith:]

Thank you, Renie. Good morning and thanks for joining us. I’ll begin today with an overview of our third quarter results and follow that with a discussion of the growth strategies of our Pharmacy Management and Healthcare businesses. As you read our Press Release this morning, for the third quarter of 2015 we produced adjusted net income of $18.9 million, adjusted earnings per share of $0.76 and segment profit of $55.3 million. For the nine months year-to-date period we produced adjusted net income of $58 million, adjusted EPS of $2.20 and segment profit of $173.4 million. We ended the quarter with $197.8 million of unrestricted cash and investments. Regarding our share repurchase program, this month we completed our previous 200 million authorization, reflecting an increase in the pace of repurchase activity over the last three months. Since our first optimization of July 2008 we’ve deployed almost $1.3 billion to repurchase about 26.3 million shares. We continue to evaluate all options for capital deployment in an effort to maximize shareholder value. This week our Board of Directors authorized a new share repurchase program of up 200 million over a 2 year period. This new program demonstrates our continued commitment to balance the deployment of capital for share repurchases with investments in our growth strategies and the funding of acquisitions. Moving to our businesses, results in Pharmacy Management have been very strong and we continue to grow the top and bottom line while maintaining our focus on key initiatives to further enhance our services and capabilities as a full service PBM. This quarter our Pharmacy Business achieved solid sales and launched new programs to help customers better manage their drug spend and chronic disease states. In the employer market we had debt increases of 34,500 lives, bringing us to a total of 136,500 lives added year-to-date. In our specialty line we expanded existing medical pharmacy contracts with two customers adding our new age related Macular Degeneration program. Other potential customers have expressed an interest in this program. We’ve expanded formulary management contracts in clinical programs with several health plan customers adding new disease states and in the government sector we went live in a new state for our AIDS drug assistance program and expanded our preferred drug list management program with yet another state. We continue to make progress on expanding two key pharmacy capabilities. Our standalone Medicare Part D plan remains on track for January 1, 2016 effective dates. Our rates were below the CMS benchmarks in five regions, comprising seven states and the District of Colombia, an auto assignment of eligible members commenced this month, and we received approximately 10,000 members. Our Part D plan provides the opportunity for us to expand our experience in the Medicare market and apply it to serve both health plans and employers Medicare lives. The build out and testing of our traditional mail order facility is near completion and we will be transitioning customers to our in-house services over the course of 2016. I’m particularly pleased with the growth in the Pharmacy area and remain confident about the strategic direction and long term prospects for this business. We are differentiated from other volume based unit cost approach PBMs and instead provide a more wholestic outcome spaced and value oriented approach for our customers. We are expanding beyond traditional PBM models to develop strategies and capabilities using advanced analytics, value based contracting, robust specialty drug management, industry leading Medical Pharmacy Management programs and effective patient and physician engagement programs. In addition, we consult with a clinical advisory panel of over 100 local, regional and national key opinion leaders across the broad spectrum of specialties to support the development and implementation of innovative clinical programs. These clinical products include real value added services and features such as our Star Rating, HEDIS, and Quality Improvement Programs, as well as robust programs for the management of Orphan diseases. Lastly, we continue to closely monitor the drug pipeline and market dynamics to develop proactive strategies to address new developments, such as the PCSK9 cholesterol lowering drugs and the expected emergence of Biosimilars. Our focus on these innovative strategies and capabilities has resonated in the market place and fueled our success and we expect our value based approach to Pharmacy Benefits Management will continue to drive growth. Next, I would like to turn to our Healthcare business, which has had several challenges this quarter. With Constant Care pressures in the government sector, Healthcare’s financial results did not meet our expectations. John will address this in a few minutes, but first I’d like to update you on Magellan Complete Care and other significant items in our Healthcare division. In Florida membership in our SMI Specialty Plan has grow to about 42,000 members. A few weeks ago the Florida Agency for Healthcare Administration or AHCA released the final capitation rates effective for September 1, 2015 through August 31, 2016. This will result in blended rates, which are significantly less than what we were expecting, as well as less than the previous contract year. In particular, it was a significant decrease to a risk adjuster in one specific [indiscernible] rate cell. We are in discussions with the state and are pursuing every avenue to remedy what we believe are inadequate rates. John will provide details on the financial impact of these rates. Previously we’ve mentioned the efforts underway to more effectively manage cost pressures in Florida. We did not see the improvement in this quarter that we expected and have strengthen our multi-pronged plan to address performance, focusing on network re-contracting, fraud, waste and abuse and increased care management initiatives. Network re-contracting initiatives, particularly for the outlier inpatient providers have begun to take hold and we expect to see substantial benefits in the fourth quarter. We have expanded initiatives for fraud, waste and abuse recoveries. We expect to see the early impact of the fourth quarter and the benefits should increase over the coming year. We have not seen an impact we expected from our care management initiatives. As a result we are refocusing our resources on the highest priority areas that will have the most meaningful impact. In order to enhance clinical outcomes and improve costs, we had restructured our clinical department bringing on additional expertise. While we expect to make substantial progress in this area, we don’t anticipate a significant impact in the fourth quarter. We are very proud of our Florida SMI specialty plan, the first of its kind in the country. We have significantly improved access to and the quality of care for our members. While the path to achieving profitability has been slower than we expected, we are confident that we are on the right track. In New York AlphaCare’s membership remains steady for the quarter with approximately 3,200 members in our MLTC, Medicare and FIDA plans. We have initiatives in place to grow our presence in New York, drive membership growth and retention, as well as improve provider receptivity to the FIDA program. We continue to pursue opportunities for inorganic growth to achieve scale and expansion in this market. In other government markets there are a number of opportunities we are expecting later this year and into 2016. Virginia is planning to release an RFP for its Managed Long-Term Care Supports and Services program or MLTSS next year. One component of their plan may be the System Reform Incentive Payment plan that New York pioneered. Nebraska has just released an RFP and will be carving in behavioral health and pharmacy and two or three advised Medicaid Managed Care programs expected to begin in January 2017. Our existing Behavioral Health Contract currently expires on August 31, 2016. In addition, in Pennsylvania there are new country opportunities on the behavioral health side, as well as state wide for MLTSS next year. Turning to other developments in our Healthcare business, let me address the Iowa High Quality Healthcare initiative. We were disappointed that we were not awarded contract in this market. We’ve used this as a learning opportunity, analyzing the details of successful RFP responses and developing a gapped assessment to asses our future investments in business development. There is significant evidence of the growing need for skills and working with complex populations. In several meetings with elected officials that we participated in this summer, the charges for serving people with serious mental illness and those of long term care were highlighted as significant cost drives with little evidence of meaningful care coordination, even amongst states with mature Medicaid Managed Care programs. Federal and state governments annually spend about $75 billion on individuals with SMI, with around $50 billion currently carved into managed care. For our long term care, the annual Medicaid spending is over $150 billion with less than 10% currently being managed, and for the development and disabled population, another $50 billion in spending with less than 5% managed. All three of these special populations are gaining importance and states concerns are not limited only to costs, but also include the lack of care coordination, prices management and improving outcomes, areas we have a proven track record of positively impacting. The market for managing these special populations is not limited to states, with employers and health plans both Medicaid and commercial also struggling to serve these complex populations. Offering special population health management for high cost areas is a natural extension of our existing behavioral health services. We have been talking with several existing, as well as potential new health plan customers to see if we can assist them in managing these populations. We’ve used this as an inflection point to further refine how we will achieve our MCC special population growth strategy. Going forward we will proactively pursue opportunities in several distinct ways. First, directly bidding on public programs which specifically carve out special populations such as SMI or Managed Long Term Care Support and Services. Secondly, working with health plans in order procure state Medicaid programs where we would manage the special populations’ board. Next, through health plans who carve out their existing complex populations for us to manage and finally, through acquisitions which can accelerate market entry, scale and capabilities. While each state situation is different, several have expressed interest in exploring opportunities to tailor our unique capabilities to address their needs. We have enhanced our government relations and business development efforts and are engaged on the ground with Medicaid Directors and State Legislators to develop these opportunities. Because of the complexity of implementing these programs, the runway for new business is longer. There are a large number of Medicaid managed care rebids scheduled in the next three years and we will work diligently with states to help shape the direction of these programs to deal with complex populations. Lastly, we are seeing positive results from the integration of NIA into our healthcare businesses. We continue to see operational improvements, better alignment, as well as the opportunity to sell a broader portfolio of services to the public and commercial markets. While this quarter was a difficult one in our healthcare business, it provided a chance for us to sharpen our focus on the critical priorities for future success. Our strength and key differentiator is the expertise that we have developed over decades working with individuals with serious and chronic conditions. I remain confident that we are well positioned for the future. I’ll now turn the call over to our CFO, Jon Rubin, who will discuss our results in greater detail.

[Jon Rubin:]

Thanks Barry and good morning everyone. Before I comment on our third quarter results, I’d like to remind everyone that we are now reporting in three segments; Pharmacy Management, Healthcare and Corporate. Our new healthcare segment combines the results of our previous commercial, public sector and specialty solutions segments. Now turning to results, revenue in the third quarter of 2015 was $1.2 billion, which reflects an increase of 28.9% over the third quarter of 2014. Approximately half of this revenue increase is attributable to acquired revenue. The remainder resulted primarily from the impact of new business, same store growth and rate increases, which were partially offset by the loss of revenues associated with contract terminations. Our segment profit for the third quarter of 2015 was $55.3 million, a decrease of 11% from the third quarter of 2014. The decrease in segment profit is primarily due to unfavorable medical loss ratios in the Healthcare segment, including the impact of unfavorable year-over-year medical claims development, as well as contract terminations. These decreases were partially offset by new business, same store growth and the inclusion of 4D results in the current year quarter. Included in segment profit for this quarter are approximately $7 million of net unfavorable non-recurring items, mainly related to medical claims development in the healthcare segment. To remind you, adjusted net income and adjusted EPS are non-GAAP measures which exclude certain non-cash items relating to acquisitions completed after January 1, 2013. We believe these adjusted financial measures are critical to evaluating our ongoing performance. For the third quarter of 2015 adjusted net income was $18.9 million and adjusted EPS was $0.76 per share on a diluted basis. For the third quarter of 2014, adjusted net income was $36.4 million and adjusted EPS was $1.34 per share. The decrease in adjusted net income between periods was mainly due to more significant reversals of tax contingencies in the prior year quarter, as well as due to the decrease in segment profit. As it relates to the reversal of tax contingencies, during the third quarter of 2014, the company recognized a reduction to the net income tax provision of $15.6 million, while the current quarter was benefited by $1.2 million. For 2015 we incurred a net loss of $7.8 million or a loss of $0.31 per share on a diluted basis. For the third quarter of 2014 net income was $27.1 million or $1 per share on a diluted basis. The decrease in net income of $34.9 million is primarily due to lower adjusted net income and higher changes in the fair value of contingent consideration of $27.8 million, which is partially offset by the tax impact of this item. The majority of the change in the fair value of contingent consideration is due to an improved outlook for CDMI, which resulted in increased estimates of the performance related earn-outs. CDMI’s performance has contributed to the strong specialty pharmacy results we’ve earned this quarter and year-to-date. I’ll now review each of our existing segments results and growth opportunities, beginning with Pharmacy Management. Third quarter segment profit for the Pharmacy Management segment was $35.2 million, an increase of 18.1% over the third quarter of 2014. The year-over-year increase is primarily due to strong specialty earnings, as well as new employer and PBM sales. In addition, the current year quarter includes the results of 4D Pharmacy Management. These positive variances were partially offset by terminated contracts. As Barry mentioned, the pipeline of opportunities across our employer, health plan, state and specialty markets is robust and positions us well for the future. Looking at our Pharmacy Management business, our full service PBM now is on a pace to exceed $1.7 billion of annual revenue this year with segment profit of approximately $125 million. This continues to be a high growth market segment as reflected in current valuations for PBMs and we’re quite pleased with our growth in this segment and the long term value it creates for shareholders. Now turning to our Healthcare business, segment profit was $44.9 million, a decrease of 24.4% from the third quarter of 2014. This decrease is mainly due to unfavorable medical loss ratios, including the impact of unfavorable year-over-year medical claim development. These unfavorable variances were partially offset by new business and same store growth. Segment profit in the quarter included $7 million of unfavorable out-of-quarter items, primarily related to unfavorable medical claims development. The largest driver of the unfavorable medical loss ratio this quarter was MCC of Florida. In Florida our year-to-date MLR is 95% on a reported basis. As Barry mentioned earlier, we put new medical leadership in place and have a comprehensive plan to address this. We re-contracted rates for several facilities and beginning in the fourth quarter we expect this will decrease our overall cause by approximately 5%. We continue to make progress on our fraud, waste and abuse initiative and expect this to begin to see the benefit in claim recoveries in the fourth quarter with further run rate benefits in 2016, and we strengthened care management functions, including locating clinical staff at high volume locations, increasing our focus on high risk members and implementing preventive care initiatives to lower readmission rates. We expect a modest impact from these initiatives in the fourth quarter and more substantial benefits in 2016. The final rates released by quarter will reduce our projections of our SMI specialty planned revenue for the last four months of 2015 by approximately $5 million to $10 million. We now expect the full year Florida medical loss ratio to be in the mid-90’s. The second profit for MCC in total, including AlphaCare through September 30 of this year was a loss of approximately $35 million. In our commercial markets MLR has improved this quarter and reflects solid underlying results. Regarding the care pressure in one commercial health plan that we mentioned in our last earnings call, the corrective actions that we implemented earlier this year have resolved the issues. Turning to Healthcare sales for the quarter, we had several up sells of our musculoskeletal product to existing health plan customers. In addition, we renewed one of our state behavioral health contracts through a public procurement process and received a two year extension on our Virginia behavioral health contract through November 2018. Our pipeline of traditional and new product offerings is strong for both existing and prospective customers. Earlier Barry updated you on some of the opportunities in the state Medicaid market. We also continue to have a high level of interest in our musculoskeletal management product and are expanding the scope of services to include hips and knees in addition to spines. We now have eight accounts covering approximately 4 million lives and are pleased that our MSK product has achieved such positive traction since launching two years ago. Regarding other financial results, corporate costs excluding stock compensation expense totaled $24.8 million, which represents a $2.3 million decrease in the third quarter of 2014. The decrease is mainly due to lower discretionary benefits cost. Excluding stock compensation expense and the change in fair value of contingent consideration, total direct service costs and operating expenses as a percentage of revenue were 15% in the current year quarter as compared to 17.9% for the prior year quarter. The decrease is primarily due to the impact of higher revenue in the current year quarter. Stock compensation expense for the current nine month period for $40.6 million, an increase of $14.6 million in the prior year period. The increase is primarily due to a full nine months of expense included in the current year, related to restricted stock purchased by sellers from the CDMI acquisition. The effective income tax rate for the nine months ended September 30, 2015 was 43.5% compared to 34.3% for the prior year period. The increase in the effective rate was mainly due to fewer reversals of tax contingencies in the current year from the closure of statutes of limitations and a more significant relative impact in the current year from non-deductable health insurer fees as a result of lower overall income. Turning to cash flow and balance sheet highlights, our GAAP cash flow from operations for the nine months ended September 30, 2015 was $178.1 million compared to cash flow from operations of 194.2 million for the prior year-to-date period. Our GAAP cash flow includes a shift between restricted cash and restricted investments, which affects the sources and uses of cash from operations and from investing activities. Adjusting for the impact of these shifts, cash flow from operations for the nine months ended September 30, 2015 was $84.3 million compared to $165.4 million for the prior year period. This decrease of $81.1 million in operating cash flows is mainly due to unfavorable working capital and other changes between periods of $74.1 million. The prior year included favorable cash flows from working capital of $26.7 million, primarily related to the release of restricted cash from the terminated Maricopa contract. The current year period includes unfavorable working capital changes of $47.4 million, mainly related to the timing of cash flow from certain receivables and payables. As of September 30, 2015 the company's unrestricted cash and investments totaled $197.8 million, which is after year-to-date share repurchases of $150.8 million and cash used for 2015 acquisitions of $55.8 million. Approximately $65.3 million of the unrestricted cash and investments at September 30, 2015 related to excess capital and undistributed earnings held at regulated entities. Restricted cash and investments at September 30, 2015 of $405.3 million reflects an increase of $13.8 million from the balance at year-end. This increase is primarily attributable to the company's regulated entities. Relative to full year 2015 we are reducing our guidance to reflect care pressures in our government healthcare contracts and the lower rates in Florida, partially offset by strong pharmacy performance. For the full year we now estimate adjusted net income of $73 million to $86 million, segment profit of $250 million to $265 million and cash flow from operations of $155 million to $175 million, excluding a net shift of restricted funds between cash and investments. We are also revising our 2015 guidance for full year net income to a range of $11 million to $24 million. We now expect fully diluted EPS to be between $2.82 and $3.32 and fully diluted EPS to be between $0.42 and $0.93 based on average fully diluted shares of $25.9 million. This updated fully diluted share count reflects share repurchases and auction exercises through October 22, but excludes any potential future activity. Now we’re working on our business plan for 2016 and we’ll provide a detailed guidance in December. In advance of that, I’ll now provide some initial commentary. To start, our current 2015 guidance range for segment profit includes approximately $18 million of net favorable out of period adjustments, primarily pertaining to prior period care development. After adjusting for this, our 2015 guidance range will be approximately $232 million to $247 million. As compared to this adjusted guidance range for 2015, we currently expect that we will have solid segment profit growth in 2016. This expectation primarily reflects improved profitability in MCC in 2016, expected new business effective in 2016, the annualization of new business sold during calendar year 2015 and same store growth. These favorable variances are expected to be partially offset by previously discussed contract terminations in Iowa and Louisiana and additional investments anticipated in our Pharmacy business. In summary, I’m pleased with the strong results in our Pharmacy segment and while our Healthcare results this quarter reflected cost of care pressures in government markets, I believe we have the right plan in place to address the issues. Finally, I look forward to further discussing our guidance for next year during our December call and sharing the details of our plan for solid earnings growth in 2016. With that, I’ll now turn the call back to Barry. Barry.

[Barry Smith:]

Thanks Jon. Before I open up the line for questions, I’d like to discuss one addition item both important to me personally as well as professionally. I am pleased to let you know that Jon Rubin will be staying on with us as CFO. Jon is as valued partner and advisor to me and we both agree that it makes sense both for him and for the company that he continue in his current role. I am grateful to have his continued support as a key member of our Executive Team. Again, I couldn’t be more pleased and Jon, thank you.

[Jon Rubin:]

Thank you, Barry.

[Barry Smith:]

Jon and I are now available to answer questions and I will turn the call over to the operator. Operator.

[Operator:]

Thank you. [Operator Instructions] We have a question from Ana Gupte from Leerink Partners. Ma’am, your line is open.

[Ana Gupte:]

Yes, thanks. I appreciate you fitting me in. So the first question is on the risk adjusted disappointment that you had with the SMI population in Florida, what MLR are you running at? I think you had given us some indication of about 92 or something maybe in the first half of the year. What might it end up for full year and where would you be for 2016?

[Jon Rubin:]

Hi Ana. First, in terms of the MLR in Florida, we’re running year-to-date, so through three quarters in the mid-90’s and we actually expect to end the year now at about that same level, so mid-90’s. In terms of next year, we’ll talk in more detail about it on the December call. We are expecting material improvement next year as a result of the initiatives we have in place, but we’re still working on the details of that and there still are a few moving pieces, including the discussions we’re having with the state around the rates and our desire to try to get some additional relief there. So more to come, but that’s the current snapshot.

[Ana Gupte:]

Then taking that forward into 2016 as you look at the pushes and pulls, I think the headwind potentially on a net basis from the Florida rates, you have the loss of the Iowa contract. You have guided now for 2015 on an adjusted and GAAP basis. How should we think what the tailwinds are that could offset these pretty significant headwinds going into ‘16?

[Jon Rubin:]

Yes. Well in terms of headwinds, I mean I think that you have the headwinds correct. It’s some of the contract terminations, as well as the fact again there’s in starting point in Florida from a run rate perspective, we’re in that mid-90’s range. In terms of the benefits; one, we do expect to have materially improved profitability in MCC in 2016, really and as a result of the performance improvement plan that we discussed on the call; second, new business both effective in 2016 and annualized from our 2015 sales that we’ve implemented and also on same store growth within our existing accounts. So those are really the tailwinds and again, if you roll it all up, when you adjust for the favorable prior period development that we’ve got this quarter, we do expect solid growth next year.

[Ana Gupte:]

Okay. And then finally on Pennsylvania and Nebraska, how do you think these contracts will play out in terms of the carve-outs there?

[Barry Smith:]

Well, in Nebraska as you know we currently have this in several Nebraska counties and with the managed care plan from the state standpoint is being rolled out and the RFP is being put out there, the behavioral health component is not being carved out or carved in as you say to the MCO side. So we’ll maintain that business, no issue. We’re looking at certain partnerships potentially in the state to be able to bid with them. Ultimately we believe that there’s likely to be an MLTC or MLTSS opportunity there in the state and we are looking at either going direct or through or with partners in the state as well. So we have a couple of avenues, but we are well thought of in the state of Pennsylvania and we think there is real opportunity there. Again, the BH is not at risk in the state of Pennsylvania. And then within the state Ana, Nebraska. In the state of Nebraska as you know the RFP is out shortly. We are looking at alternatives to either bid directly in the state, which is highly likely and/or go through partners, and again we haven’t publically announced what we’ll be doing there, and it’s possible we might go both routes. It depends upon the partnership and the opportunities that are in the state. As you know Ana, we have about $100 million in risk revenue there in the state and I think we’ve talked about the margins and Renie might kick me under the table here. But quite simply, it’s that we don’t have large exposure there in the state of Nebraska going forward, but we have great opportunely to take in the state of Nebraska.

[Ana Gupte:]

Got it. Thanks so much.

[Barry Smith:]

You bet.

[Operator:]

Thank you. Our next question would come from Dave Styblo from Jefferies. Sir, your line is open.

[Dave Styblo:]

Hi, good morning and thanks for the questions. I just want to start with shoring up a couple of items from last quarter. So a little bit of the weakness in the 2Q was related to the commercial costs which sounds like that’s back on the normalized run rate level, and then you also had a government customer in the public sector. Is that issue also resolved at this point? I know the government issue now going forward is obviously Florida, but were those two related or were those separate issues.

[Jon Rubin:]

Separate issues. So Florida has always been something we’ve been managing closely and watching closely, but the government contract we referred to second quarter, a couple of things. One, the primary driver there was cost escalation in a newly implemented program and as I think we alluded to second quarter, we have been in discussions with the state to try to make sure that the rates were reflecting the underlying risk and costs that we were covering in the program. In fact, we’ve made some headway there, although it doesn’t show up this quarter that should be corrected going forward through rate release that we’ve been able to negotiate with that particular state. So that issue should be largely behind us after this quarter.

[Dave Styblo:]

Okay, great. So those are both essentially cleaned up or well on their way. I want to come back to the Florida MLR. I’m just having a little hard time following it. So I think you started the year at about 95% and then first half went to 92%, which implies the second quarter was probably in the high 80s. Now you are at 95%-ish, which means the MLR again has in the third quarter ticked way up, perhaps to about 100%. So to get to your full year guidance, it seems like that needs to drop back down to the mid-90s or so despite the rate, the negative rate impact happening for the entire quarter versus just one quarter in the third quarter. So can you just help me reconcile why the MLR would improve in the fourth quarter. I guess I would I have thought it would have deteriorated again from the rate pressures.

[Jon Rubin:]

Yes, so a couple of things. I mean those are great questions. A couple of things that I know. One, you are absolutely right, what would have been reported this quarter would have been round numbers in the 100 plus range. However, there is a piece of that that actually includes some unfavorable out-of-quarter development. So in a sense, second quarter matured a little bit worse than what we had reported last quarter. That means the in-quarter in the third quarter is not quite as bad as the reported number. But putting that aside for a minute, the way I think about it is, yes there is some incremental drag from the race in fourth quarter, because we only had one month in the third quarter of the new rates. On the other hand though, as I described on the call earlier, we’ve got a number of medical action plan initiatives that we’ve implemented. The biggest and most tangible one is actually re-contracting of key in-patient facilities, which includes both getting better rates and moving contracts from per DM more fee for service to DRG type rates and those rates largely take hold in October. So we should get a full benefit of that. That round numbers improves the loss ratio in total by about 5%, so more than offsets the rate impact in the fourth quarter. Also there are other initiatives. For example, we are expecting some claim over payment recoveries in the fourth quarter that again we had not gotten the benefit of year-to-date. Just because – I mean, the initiatives have been put in place for a while. That takes time to sort of work them though and sort of get the cash, which when we record the benefits, and as well as we alluded too, we’ve got additional care management initiatives that we stepped up in the fourth quarter. So put those together and again we expect to improve to run rate from third to fourth and while we are still not ending the year where we want to be, we should see improvement from where we reported this quarter.

[Dave Styblo:]

Right. Okay, that’s helpful.

[Barry Smith:]

And this is Barry here. I would just simply say also that the plan is still relatively new. We clearly didn’t want to use up as much runway as has been used to get to where we want to go, but we are very optimistic about ultimately arriving at a place where it would be a great plan for us and a great asset to the company for shareholder value, but it has taken a little bit longer in some of these areas to get the benefit.

[Dave Styblo:]

Okay, and when do you expect to get the profitability there. Is that something you can achieve by the end of next year or is that more of a ’17 event?

[Jon Rubin:]

I mean look, there’s a lot of moving pieces, including where things come out in rates, both what we are able to achieve through the current discussion we have with Florida in next year. But we do think that based on the plan we have in place that by at some point next year we should turn the corner. Now exactly again how that plays out for the full calendar year, we’ll provide more guidance in December, because again we are still fine-tuning the elements of our plan and we’ll learn more about certain things like where the rates fall out over the upcoming few weeks.

[Dave Styblo:]

Okay. My last one and then I’ll hop back. So with some of the challenges on the MCC side here Barry, are you at this point ready to talk a little bit more about an updated guidance for the 2018 revenue being $2.5 billion, talk about a timeline for that or there is some reason why you think you can still get there. What would give you confidence to achieve that and then how much – I know you talked more about M&A being a growing part. How wide is the scope of M&A? How large of a contributor could it be and what sort of assets are you look at. Are we still thinking just about dual and specialty type services or how broad of a net are you thinking about casting here?

[Barry Smith:]

There are several question underlying there Dave. I would simply say that we’ll give more further guidance in our December call about our long term outlook. It’s actually true that we said earlier that our Pharmacy business would be a much more consistent linier growth vehicle and indeed it has been that. In fact it’s eclipsed our expectations in terms of growth. So I think we’ll be substantially beyond where we thought we would be within the five year period of time, the $2.5 billion. We also said earlier that the MCC business in particular would be a very lumpy business; it is lumpy and so we are seeing that and so we are still confident that we can get to our number and again, we’ll give you further guidance in terms of the timing. We’ve used up a bit more runway than I would have liked thus far, but again we’ll be more, be able to give you a better idea in our December call. In terms of acquisitions, we typically look at acquisitions both in the Pharmacy business as well as in the Healthcare Services businesses as really being focused on giving us incremental capabilities that will allow us to turbocharger organic growth. And so we expect that we will do acquisitions in both sides of the business. The acquisitions and the Healthcare side of business will not be sufficient to get us to our growth goal as it wasn’t in the Pharmacy business, but could add materially to our capability and our growth on the Healthcare side. So we do think it’s a viable strategy and you will likely see us engage in acquisitions both in the near and longer term.

[Dave Styblo:]

Thanks.

[Barry Smith:]

You bet.

[Operator:]

Thank you. Our next question would come from Michael Baker from Raymond James. Sir, your line is open.

[Michael Baker:]

Thanks a lot. We heard about some of the success in Pharmacy around your offering in the muscular skeletal. I was wondering if you could update us in terms of the comprehensive oncology approach and how that’s being received out there.

[Barry Smith:]

Yes, we’ve been very fortunate to have both Healthcare capability, as well as PBM Pharmacy capability. More and more our clients are looking for drug management, not drug benefit management and there’s a big difference between the two. As you know Michael, we cover over 10 million lives in our Pharmacy Management, our medical management side which focuses on these very high cost medications, where we have a much higher touch. We are very involved with the physician, the family and the patient and managing those drugs regardless of the side of service, the kind of the drug and the way the drug is administered. Because we have both sides, the medical and the specialty business side, as well as the pharmacy side, to your point we combine these products. So for example, on the oncology product where we have both experience in the world of radiology on the past NIA, now integrated to our Healthcare services line, we combine that with the specialty medical pharmacy capability to provide a combined program to our clients, and we do this in a number of areas. Oncology is probably the best example where we’ve seen some great success in selling that product. We haven’t broken out publically by lying the revenues of the profitability, but we see this and other similar areas, the macular degeneration product for example, where you have this combined capability. We think that differentiates ourselves in the market place between the generals PBM and we also think it differentiates us from those who provide the services on the muscular skeletal, cardiovascular side as well. So you will see more of that develop over time. We think it’s a very powerful combination that we are uniquely positioned to provide.

[Michael Baker:]

And then as a follow-up, do you see the consultant community evolving their metrics in terms of our RFP competitive bidding dynamics to capture some of the change in differences that you are operating in the market place.

[Barry Smith:]

Yes we see them really evolving fairly rapidly, because most of their clients today see that is not the general commodity PBM service, 1% of the network or half a point up of the network price that makes the difference. They could save far more by combining these and focusing in on the Specialty Medical Pharmacy Management. We just recently held one of the largest Specialty Management Pharmacy Symposiums in New York a month or two ago where we had more attendees than we’ve ever had before that came from not only the pharma community, our client community, both MCO and employer clients, but also the whole consultant community. So we are see a much greater interest in this space, because it’s what really drives the cost and the quality of care.

[Michael Baker:]

Then on the Healthcare side of the businesses, is there still a potential opportunity around Iowa subcontract?

[Barry Smith:]

At this point I don’t think that we hold much hope where given where things are today there is always the potential of that, but things are moving down a very fast path right now with implementation underway. So we don’t anticipate it upside to the Iowa contract as a subcontractor.

[Michael Baker:]

Garcia.

[Barry Smith:]

[Foreign Language]. Okay.

[Operator:]

Thank you. Our last question would come from Matthew Borsch from Goldman Sachs. Sir, your line is open.

[Christopher Benassi:]

Hi there. This is Christopher Benassi on behalf of Matthew Borsch. Following on David’s question from earlier, what are your priorities for capital allocation since unrestricted cash declined to about $200 million and you just issued the $200 million share repo program. I’m wondering if the repo limits your ability for acquisitions or would you plan to use a greater portion of equity or earn-outs going forward. Thanks.

[Barry Smith:]

We think that we can do both and that we’ve always had very balanced approach. I would say that we collectively feel that if there were true acquisition opportunities to build great shareholder value, we would always deploy the capital on acquisitions. And if in the future we see that we are capital constrained to be able to do the deals that make a lot of sense for shareholders that are accretive, that add incremental capabilities, we would do those and we would pay back, the acquisition of our own stock. We do think that there is value for shareholders and the share repurchase program and to-date we really haven’t had to select one over the other. But our bias would be to do acquisitions and again to preserve capital if it’s necessary in the future to do acquisitions.

[Christopher Benassi:]

Okay, great and one quick follow-up. There have been numerous headlines around specialty pharma recently, including a lot of noise around pricing. Has any of this noise around drug inflation impacted the outlook for growth within the specialty pharma segment? Thanks.

[Barry Smith:]

It’s interesting, there is so much action right now on biologics for example, with the biosimilars that are coming out and emerging right now. There is a lot of opportunity for guys like us to use our Medical Management capability to make a difference. We don’t see the development cycle slowing down; in fact we see it accelerating. You are seeing more and more expensive medications that’s are coming up that are very effective, but again are very expensive that require specialized administration and management. So we wouldn’t see or expect any headwind relative to our growth and opportunity due to these new agents that are coming out.

[Christopher Benassi:]

Great. Thank you.

[Barry Smith:]

Thank you.

[Operator:]

Thank you. Speakers, at this time we have no further questions. End of Q&A

[Barry Smith:]

Great. Well, we appreciate you being with us today and again, thanks for joining us. We look forward to speaking with you in December when we’ll provide the details of our 2016 guidance. Take care.

[Operator:]

Thank you. That concludes today's conference, thank you for participating. You may now disconnect.