Magellan Health, Inc.
Q1 2013 Earnings Call Transcript

Published: 30 Apr 2013

[Operator:]

Welcome and thank you for standing by for the first quarter 2013 earnings call. (Operator Instruction) Now, I will turn the meeting over to Ms. Renie Shapiro, ma'am, you may begin.

[Renie Shapiro:]

Good morning and thank you for joining us today. This is Renie Shapiro, Senior Vice President of Corporate Finance for Magellan Health Services. With me today are Magellan's Chief Executive Officer, Barry Smith and our Chief Financial Officer, Jon Rubin. They will discuss the financial and operational results of our first quarter ended March 31, 2013. Certain of the statements that will be made during this conference call are forward-looking statements contemplated under the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to known and unknown uncertainties and risks which could cause actual results to differ materially from those discussed. These forward-looking statements are qualified in their entirety by the complete discussion of risks set forth under the caption risk factors in Magellan's annual report on Form 10-K for the year ended December 31, 2012 and in the current quarter's Form 10-Q, which will be filed with the SEC later today and will subsequently be available on our website. In addition, please note that in this call, we refer to segment profits. Segment profit is disclosed and defined in our annual report on Form 10-K and is equal to net revenues less the sum of cost of care, cost of goods sold, direct service costs and other operating expenses excluding stock compensation expense. Segment profit information referred to in this call maybe considered a non-GAAP financial measure. Included in the tables issued with this morning's press release is the reconciliation from segment profit to the line item income before income taxes. We encourage you to review such reconciliation for an understanding of how segment profit compares to that GAAP measure. I will now turn our call over to our CEO, Barry Smith.

[Barry Smith:]

Thank you, Renie. Good morning and thank you for joining us. Magellan achieved solid results during the first quarter with strong performance from each of our business segments. In addition, we continue to make important strides in our Magellan Complete Care and Magellan Pharmacy Solutions growth initiatives. In our call today, I'll discuss high-level financial metrics, steps that we are taking relative to the Maricopa County contract, and offer some thoughts on our strategy for growth. Then, I will turn the call over to Jon Rubin for detailed financial and operating information on each of our business segments, before taking your questions. With respect to the financial milestones, for the first quarter of 2013, we produced net income of $28.1 million, EPS of $1.01, and segment profit of $69.2 million. We ended the quarter with a strong balance sheet that included $312.5 million of unrestricted cash and investments. During the quarter, we deployed capital to repurchase approximately 540,000 shares at a cost of $27.1 million. Through the close of business on April 25, 2013, we repurchased approximately 1.9 million shares for a total cost of $94.8 million at an average price of $49.62, completing approximately 47% of the current $200 million authorization. As of April 25, we have approximately 26.9 million shares outstanding. Our priorities related to capital deployment remain unchanged. We will use capital to make investments that allow us to grow our business organically and through acquisitions, and look for opportunities to return capital to shareholders. These goals are not mutually exclusive and we continue to evaluate all options to maximize shareholder value. We are looking at a number of acquisition opportunities, which could advance our Magellan Complete Care and Magellan Pharmacy Solutions initiatives. Next, I'd like to comment on recent channel just with regard to our existing book of business. Clearly, in any business cycle there is an ebb and flow, and it's important to put it in perspective and assessment in light of our future growth opportunities. In late March, we were informed by the state of Arizona that Magellan Complete Care of Arizona, a joint venture owned 80% by Magellan and 20% by Phoenix Health Plan, was not selected as the regional, behavioral health authority in Maricopa County for the contract period beginning October 1, 2013. Since the implementation of our initial contract in September 2007, we have worked to transform the behavioral health system in Maricopa County and the metrics of our success have been impressive. On April 3, we filed a formal protest regarding the state's decision to work this contract to another vendor. Our decision to take this step came after significant analysis and evaluation of the scoring of this bid as well as other relevant information. We were notified on April 17, that our protest was denied by the Arizona Department of Health Service division of behavioral health. We intend to file an appeal to Arizona Department of Administration, the agency responsible for considering appeals of procurement protest denials. We feel that the substance of our protest merits a comprehensive review and a prompt decision by the state. In addition to the protest, we also filed a civil suit for damages in the Superior Court of Arizona against the sponsor of the selected vendor. Regardless of the outcome of our protest and lawsuit, we are proud of our accomplishments and remain deeply committed to serving the residents of Arizona. We have a highly motivated and energized team locally, and I have met with them, and I can tell you that the service we are providing continues to set the standard of highest measure. That will continue. With regard to our Blue Shield of California account, their largest customer, CalPERS, recently decided to have five HMOs manage their members' healthcare for the five-year term beginning on January 1, 2014. Currently, Blue Shield of California has an exclusive contract to service CalPERS, so HMO. Blue Shield of California was selected to continue to offer its HMO services statewide as was another plan. Additionally, one plan was selected to offer services in northern California and two plans in southern California. It is not yet clear, how enrollment will be handled statewide, and we are working in partnership with Blue Shield to understand the potential impact in 2014 and beyond. Let me spend a few minutes talking about the progress that we've made to date on our growth strategy. In addition to expanding our existing lines of business, we have very specific efforts related to Magellan Pharmacy Solutions and Magellan Complete Care, our growth engines for the future. They are the cornerstone of what I am calling, Magellan 2.0. We are pleased by the progress we're making on our pharmacy initiatives. I detailed in our last call our view of the market opportunities and our focus on growing our pharmacy revenue to $2.5 billion over the next five years. Our strategy, in which we offer a suite of clinical and cost management solutions that integrate our specialty, medical pharmacy and PBM capabilities, continues to gain traction in the marketplace. Interests across the spectrum of our pharmacy products are strong, due to our ability to understand the specialized needs of each customer and develop a customized program for them. On June 1, we will go live with our TennCare PBM implementation, adding 1.2 million Tennesseans to our roles. One of our areas of focus is the Medicaid MCO market. Medicaid MCOs need a pharmacy partner to manage through a different mix of health conditions, benefit designs, state and federal rules and provide dynamics. With over 40 years of experience in this segment, serving half the state Medicaid pharmacy programs in the country, we understand the needs of this population. We are in discussion with a number of Medicaid MCOs, who are interested in our PBM capabilities and we are optimistic about these opportunities. We continue also to make steady progress on our Magellan Complete Care strategy. We are identifying states, where our unique capabilities align with the state's approach to managing the health of Medicaid recipients. We then customize our programs to ensure the best approach to serving the populations in those states. While I will discuss in detail our work in Massachusetts and Florida, we are also developing programs in several other states. In Massachusetts, our Fallon Total Care joint venture to manage the dual-eligible population under 65, has been awarded the opportunity to compete for members in the 10 counties for which we submitted bids. Our decision to move forward in any of these counties will be predicated on adequate final rates and supported by reasonable contracts with network providers. We have expressed concerns to CMS and the state that the preliminary rates that have been proposed may not be sufficient to provide the high touch person-centric services required to meet the complex health and functional needs of eligible individuals. We are working with the state and CMS to ensure that the final rates take into account the issues that we and other integrated care organizations have raised. In Florida, other administrators recently completed both a Medicaid Program Integrity audit, which focused on our capabilities to prevent fraud, waste and abuse. And an on-site readiness review of our operations in clinical management capabilities. These reviews are part of the final regulatory approval process for our Medicaid HMO in the state. Feedback from the reviewers was very positive, and we believe we are on track to begin the contracting process with the state in the next several weeks. We expect to begin enrolling members by the third quarter of this year in one county, and look forward to continue to make progress on expansion into other counties in Florida. Our ultimate objective is to become a specialty plan for managing the health and wellbeing of Medicaid recipients with serious mental illness. Jon Rubin, will now discuss each segments details, after which we'll take questions.

[Jonathan Rubin:]

Thanks, Barry, and good morning everyone. Net income for the first quarter of 2013 was $28.1 million or $1.01 per share on a diluted basis. For the first quarter of 2012, net income was $20.8 million or $0.75 per share on a diluted basis. The increase in net income between periods was mainly attributable to higher segment profit. Revenue in the first quarter of 2013 was $821.8 million, which was $48.5 million higher than in the first quarter of 2012. The revenue increase resulted primarily from new business and higher specialty pharmacy volumes, which were partially offset by loss revenues associated with terminated contracts. Our segment profit for the first quarter of 2013 was $69.2 million compared to $55.4 million for the first quarter of 2012. I'll now review each of the segments results and growth opportunities. Our Commercial Behavioral Health segment had a strong first quarter, producing $33.3 million of segment profit, an increase of $7.1 million over the first quarter of 2012. The increase was mainly due to the favorable net impact of rate changes in excess of care trends. The pipeline of Commercial Behavioral Health opportunity was primarily from Medicaid health plans as well as opportunity to support health plans in our ACO and exchange initiatives. Of particular note, we're seeing heightened interest from smaller regional plans that can realize significant benefits from a market leading clinical and cost management capabilities. Segment profit for Public Sector was $25.9 million, an increase of $1.6 million from the prior-year first quarter. This increase was mainly due to the impact of new business, which was partially offset by the unfavorable net impact of rate changes in care trend as well as investment to Magellan Complete Care, which are included in Public Sector's results in 2013. As we discussed in our last call, we were awarded the state of Nebraska's risk-based behavioral health contract with annual revenues of approximately $100 million. We've begun implementation efforts for a go-live date of September 1, 2013. We also extended our contract for the Health Choices program in one of the counties in Pennsylvania for four years through December 2016, with one additional three-year renewal option. Regarding the Public Sector pipeline, we expect to hear within a few weeks on the outcome of the ASO contract in the state of Virginia, which was delayed due to a competitor's challenge of their disqualification. The state of New Jersey is still expected to issue an ASO Adult Behavioral Health RFP in the second or third quarter of 2013 with an effective date of mid-2014. And we continue to target potential 2013 RFP activity for 2014 implementation in multiple other states, including anticipated risk programs in Texas and Maryland. In our Radiology Benefits Management segment, first quarter 2013 segment profit was $19.3 million, an increase of $5.9 million over the first quarter of 2012. This increase was mainly due to same-store growth as well as favorable prior period care development recorded in the current year quarter. We continue to see growth opportunities in our radiology segment resulting from new customer interest as well as market expansion with existing customers, growth in Medicaid membership and additional product upsells. Consistent with our strategy to provide management solutions for an expanding variety of high cost specialty areas, we are seeing strong interest in our pain management offering. An innovative new program, designed specifically to manage interventional pain procedures and spine surgery, both of which are showing significant upward trends. In addition, our cardiac program expansion continues to fuel growth with more customers interested in adding management of echocardiography and outpatient left heart catheterization to their new and existing cardiac management programs. Beginning with the first quarter of 2013, we have combined our specialty pharmaceutical and Medicaid administration segments into one segment called Pharmacy Solutions. We have restated prior results to reflect this new classification. First quarter segment profit for the Pharmacy Solution segment was $16.0 million, a decrease of $2.8 million over the first quarter of 2012, primarily due to current year investments in our new pharmacy capabilities, and true ups affecting rebate revenues. Earlier, Barry discussed the progress on our pharmacy strategy. We continue to see a strong pipeline of opportunities that includes health plans, Medicaid MCOs, employers and state Medicaid programs, with interest across our spectrum of Pharmacy Solutions products. Specifically, for the PBM product, we are seeing increased interest from Medicaid MCOs and are currently in advance discussions with a number of plans. Regarding other financial results, corporate cost excluding stock compensation expense were $2 million less than in the first quarter of 2012. This decrease is primarily due to investments in our growth initiatives, which were included in corporate expenses in 2012, which are reflected in the individual business segments in 2013. Excluding stock compensation expense, total direct service and operating expenses as a percentage of revenue were 16.3% in the current year quarter as compared to 17% for the prior-year quarter. This year-over-year decrease is mainly due to our ability to hold increases in administrative expenses below our revenue growth rate. The effective income tax rate for the quarter ended March 31, 2013, was 40.5% compared to 41.1% for the prior-year quarter. The decrease in the effective income tax rate was mainly due to differences in the company's effective state tax rates. Now, turning to cash flow and balance sheet highlights. Our cash flow from operations for the quarter ended March 31, 2013, was $45.9 million compared to cash flow from operations of $29.6 million for the prior-year quarter. Cash flow for the current year period includes the positive impact of a shift of restricted cash into restricted investments in the amount of $5 million, which is reflected as a source of cash from operations and use of cash from investing activities. Cash flow for the prior-year period included the negative impact of a shift of restricted investments to restricted cash in the amount of $4.4 million. Absent these transfers, cash flow from operations for the current year period totaled $40.9 million compared to $34.0 million for the prior-year period, representing an increase in cash flow from operations of $6.9 million. The increase in cash flow is primarily attributable to the increase in segment profit between periods of $13.8 million, partially offset by net unfavorable working capital changes between periods of $6.9 million. As of March 31, 2013, the company's unrestricted cash and investments totaled $312.5 million, which represents an increase of $10.3 million from the balance of December 31, 2012. Approximately $51.4 million of the total unrestricted cash and investments at March 31, 2013, related to excess capital and undistributed earnings held at regulated subsidiaries. The company's restricted cash and investment balance at March 31, 2013, of $347.7 million reflects an increase of $0.3 million from the balance of December 31, 2012. Relative to full year 2013, we are revising our guidance for net revenue in the range of $3.3 billion to $3.5 billion, net income of $90 million to $108 million and segment profit of $245 million to $265 million. Taking into account the impact of share repurchase activity through April 25, 2013, but not considering any potential future share repurchases, we are adjusting our diluted weighted average shares outstanding for the year to $27.5 million, resulting in a fully diluted EPS range of $3.27 to $3.93. The decrease in our segment profit guidance assumes that our contract to Maricopa County does not extend beyond September 30, 2013, with impact of this partially offset by favorable prior-year care development and favorable costs trends in our behavioral health and radiology businesses. If the Maricopa County contract is not renewed, regulatory capital of approximately $55 million is expected to be freed up, although the timing of this is uncertain. Excluding the potential release of this regulatory capital, we are maintaining our original cash flow from operations guidance in the range of $141 million to $173 million. We have seen improvements in our perspective trend outlook and now expect to revise same-store normalized cost of care trends for the 12 month forward period to be 6% to 8% for Commercial Behavioral Health, 0% to 2% for Public Sector and 3% to 5% for Radiology Benefits Management. In summary, we're very pleased with our strong results for the first quarter and our continued progress on strategic growth initiatives. With that, Barry and I are now available to answer questions. And I'll now turn the call back over to the operator. Operator?

[Operator:]

(Operator Instructions) Our first question comes from Josh Raskin with Barclays.

[Josh Raskin:]

Just want to follow-up on the changing guidance to $5 million, and I guess that assumes the elimination of earnings from Maricopa, but its offset by some of the favorable items that you mentioned. So I am just curious, what's the actual impact of Maricopa in the guidance? And maybe, if you could give us sort of a run rate, annual earnings or maybe even what it contributed in the first quarter just to get a sense of what the impact is for next year?

[Jonathan Rubin:]

First, we don't specify kind of run rate earnings for many of our customers. It's obviously got a protest ongoing. But let me kind of speak specifically to the guidance, and the guidance includes both the impact of the run rate earnings, but also the potential shutdown in severance costs. If you look at it on a all-in basis, the Maricopa loss in the fourth quarter, the impact's about $19 million. That's offset by year-to-date prior year development in the range of $4 million to $5 million, which is sort of spread across our segments. And on a full year basis, the improved outlook in our MLRs, which is primarily driven by improved outlook on care trends, that's work order of magnitude about $10 million. So those are the components if you look at, sort of the overall guidance for the year.

[Josh Raskin:]

And you said that the $19 million loss, that includes what sounds like a bunch of one-timers for shutdown in severance costs, right?

[Jonathan Rubin:]

It includes those. You're correct.

[Josh Raskin:]

So the 2014 impact, I mean is there a way to sort of that $19 million loss, how much of that is one-time in nature?

[Jonathan Rubin:]

We're not breaking that out at this point. I think in terms of the ongoing view of things, the best I'd offer at this point is kind of look at the overall revenue for Maricopa, which we have disclosed. I think on a full year basis, it's been in order of magnitude, $750 million. And you can kind of gauge the margins for the Public Sector in total. But again, we don't typically breakout margins for individual customers.

[Josh Raskin:]

And then, just in terms of the utilization that you're seeing in terms of the reduction in utilization across your segment. Is there something specific driving that or is it sort of cost management initiative or do you think this is more broad-industry based and where specifically you're seeing the biggest impact?

[Barry Smith:]

Actually, it's been a combination of things. You have to look at it little bit differently by segment. So in radiology, our recent utilization trends have continued to run low, and we've for some period been expecting the return to more normal levels of demand and this return has been more gradual than we expected. So in radiology that's the big driver. But in addition to radiology, our clinical yields from our care management programs have continued to be quite strong. If you look at behavioral health, it's a little bit different in that. We have seen general improvement utilization, partly driven by our care management programs. And also in addition to that, we've seen moderating trends on the 18 to 26-year old dependent children. If you remember that's the segment that contributed unfavorable trend pressure in 2011 and early 2012. So those are the big drivers that really is across all of our businesses, radiology and behavioral.

[Operator:]

At this time, there are no additional questions from the phone. Mr. Smith, back to you.

[Barry Smith:]

Well, thank you all, for your participation in today's conference call. We look forward to speaking with you in July, when we will discuss our second quarter 2013 results. Thank you and good day.

[Operator:]

Thank you for participating in today's conference. You may disconnect at this time.