Magellan Health, Inc.
Q4 2014 Earnings Call Transcript

Published: 26 Feb 2015

[Operator:]

Welcome and thank you for standing by for the Fourth Quarter 2014 Earnings Call. [Operator Instructions]. Now I will turn the meeting over to Renie Shapiro Silver.

[Renie Shapiro Silver:]

Good morning and thank you for joining us today. This is Renie Shapiro Silver, Senior Vice President of Corporate Finance for Magellan Health. With me today are Magellan's Chairman and CEO, Barry Smith; and our CFO, Jon Rubin. They will discuss the financial and operational results of our fourth quarter ended December 31, 2014. Certain statements that will be made during this conference call are forward-looking statements contemplated under the Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to known and unknown uncertainties and risks which could cause actual results to differ materially from those discussed. These 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, 2014, which will be available on our website. In addition, please note that in this call we refer to segment profits, adjusted net income and adjusted EPS, which are disclosed and defined in our annual report on Form 10-K. Segment profit is equal to net revenues plus 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 or loss from noncontrolling interest held by other parties, as well as stock compensation expense and changes in the fair value of contingent consideration recorded 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 for contingent consideration recorded in relation to acquisition. Segment profit, adjusted net income and adjusted EPS referenced during this call may be considered non-GAAP financial measures. Included in the tables issued with this morning's release are the reconciliations from these non-GAAP measures to corresponding GAAP measures. We encourage you to review such reconciliations for an understanding of how they compare to those 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 today. This was an important year for Magellan, as we continued to expand our product and service innovations in special population health management by building on our history of caring for individuals with complex needs. We grew the Company as a whole and as individual businesses and significantly advanced our two key growth initiatives, Magellan Complete Care and Magellan Rx Management. We have leveraged our solid infrastructure, core capabilities, medical excellence and operational effectiveness as One Magellan, bringing together our distinct and complementary capabilities. We brought in new leaders who are playing key roles in executing on our strategy. In addition, we have completed acquisitions that added scale and expanded our capabilities. We're well positioned to grow in 2015 and, importantly, beyond. With respect to our financial milestones, we had a very strong fourth quarter, completing the year with segment profit above our previous guidance range and achieved the highest revenue in our history. For the full-year 2014, we produced adjusted net income of $110.6 million, adjusted EPS of $4.04 and segment profit of $266.9 million. Also for the year, we had net income of $79.4 million and EPS of $2.90. We ended the year with $346.9 million of unrestricted cash and investments. Regarding our share repurchase program, in the fourth quarter we completed our previous $300 million authorization and began a new two-year, $200 million program. During 2014, we deployed capital to repurchase approximately 3.4 million shares for a total cost of $198.2 million. Year-to-date through Monday, February 23, we purchased approximately 353,000 shares for a total cost of $21.3 million. We have completed about 18% of our current $200 million program. Now let me provide an overview of the progress we've made on Magellan Complete Care and Magellan Rx Management. It was an exciting year for Magellan Complete Care, as we now are operating in two of the country's largest Medicaid markets, both Florida and New York. We're beginning to see outcomes supporting the benefits of integrated care management for complex populations in these states. In Florida, we're extremely proud to have launched the country's first and only Medicaid specialty plan focused on the total care of individuals living with serious mental illness, or SMI. We're grateful to have such a strong working relationship with the Agency for Health Care Administration, or AHCA, which has been extremely innovative and forward-thinking in the creation of this specialty plan. Our care model and sophisticated analytics are now enabling us to provide the right level of care in the most effective and appropriate setting for each of our members. With the completion of the initial enrollment and opt-out process, we ended the year with approximately 36,000 members. As a result of the state making certain eligibility adjustments, we were assigned an incremental 4000 members as of February 1 and are expecting a similar increase as of March 1. These additional members were previously enrolled in our other plans and we've granted a 90-day opt-out period. We believe there are further opportunities for modest growth in 2015, particularly as we enter the annual enrollment period, which begins in May. Now that members have been successfully onboarded and requirements for continuity of existing care plans have lapsed, we have begun the implementation of our medical management initiatives. We have already started to see reductions in inpatient admissions and length of stay. Through our management of drug spend, pharmacy costs have been in line with our expectations. While we do not yet have complete claims data, medical loss ratios have decreased and are now in the mid-90s. Several initiatives are in place to further reduce care costs, including network recontracting; enhancements to our medical management programs, particularly focused on inpatient length of stay and hospital readmission rates; as well as programs to address fraud, waste and abuse. As the year progresses, we will provide further updates on our progress. In New York, AlphaCare's Medicaid managed long-term care, or MLTC plan and its Medicare plans continue to grow. We ended the year with membership of approximately 2,500 across all product lines, with approximately 1,500 in the Medicaid MLTC plan and the balance in Medicare Advantage and D-SNP plans. On January 1, voluntary enrollment began for the fully integrated dual advantage, or FIDA, demonstration program. To date, voluntary enrollment has proceeded slowly for the entire FIDA program. Existing members enrolled in Medicaid MLTC plans who did not voluntarily add the Medicare component will be auto-assigned and have the ability to opt out of the Medicare benefit effective on April 1, 2015. One of the key strategic initiatives for AlphaCare in 2015 is growing our membership base. We have brought on additional leadership and continue to cultivate relationships in the provider community to promote our brand and desire to work with providers to help improve the lives of our members. As we expand our market presence, we will continue to focus on operational efficiencies, infrastructure and further refining our model of care. Market expansion is critical to our success as a leader in managing the entire continuum of care for complex populations. In Iowa, our Integrated Health Home, or IHH, program for individuals with SMI and children with serious emotional disturbance, or SED, is producing strong results. There has been a 16% reduction in the use of emergency departments and an 18% reduction in mental health admissions by IHH members. These outcomes highlight the importance of holistic healthcare management for these populations, which has resulted in improved overall health and lower cost. Last week, the state of Iowa released the Iowa High Quality Health Care Initiative RFP, which contemplates having more than one managed care company overseeing most of its $4 billion Medicaid program. The new initiative includes a physical and behavior healthcare, as well as pharmacy and long-term care services, such as nursing home care. This new program will include all the services, including the integrated health homes which we're currently providing under existing contracts. Responses to the RFP are due out in May, with a targeted start date of January 1, 2016. Our existing behavioral health carved out contract expires on June 30, 2015 and we expect that it will be extended to coincide with the start date of the new Iowa initiative, although there can be no assurance that it will be extended. Our IHH contract extends through June 30, 2016, unless terminated sooner. And since this program is part of the new initiative, we expect that the end of IHH contract will coincide with the start of the new program. We're proud of what we have accomplished in Iowa, both for the benefit of members and the state. We feel that we're well positioned to respond to the RFP. However, there is no assurance that we will be awarded a contract. As our programs continue to produce positive results, we're confident that they are portable and scalable to other markets. In the near-term, we're expecting Louisiana to release an RFP for their managed long-term support services, or MLTSS, population to be effective later this year. We will pursue expansion in Louisiana and in other geographies and complex populations, both organically and through acquisitions. We continue to have a strong focus on innovative programs and services to address the unmet needs of special populations. 2014 has been a year of significant accomplishments for Magellan Complete Care. We look forward to keeping you updated on our progress and the growth of this important business for Magellan. We had a very successful 2014 in our pharmacy business. We produced strong financial results and grew significantly, importantly both organically as well as inorganically. Our efforts now include a stronger focus on the health plan market, which complements our existing strong employer and Medicaid businesses. We have many existing health plan relationships where we provide several services including medical pharmacy management, specialty drug distribution, specialty drug rebates and a variety of clinical services. We want to expand our services to provide both PBM offerings to these and other organizations. As the U.S. population continues to age into the Medicare benefit, health plans are seeing significant growth opportunities in this area. We're making progress in building our Medicare Part D capabilities in order to provide support to health plans for Medicare populations in addition to the commercial and Medicaid lines of businesses. We have filled key management positions in the Medicare Part D functional areas of operations, product, clinical and compliance and anticipate being ready to actively manage business in this market by January of 2016. To expand the scope of our full-service PBM offerings, we're building out our existing specialty distribution facility to also accommodate mail order of traditional drugs. We expect to complete this initiative in the second half of the year. Customer service and satisfaction, account retention and business growth are keys to our success. We recently renewed a significant health plan customer with medical pharmacy, specialty rebates and specialty distribution products. In the employer market, we added a net of 65,000 lives as of January 1 and expect to add approximately 30,000 additional lives in April. The pipeline for the employer, specialty and state Medicaid markets is robust. And there are many opportunities developing in the health plan market for 2016 and 2017 implementations. We continue to expect strong organic growth in our pharmacy business in 2015, while we look for acquisition opportunities that will expand our capabilities and scale. Before I turn the call over to Jon, I'd like to comment on a couple of other items. First, we were pleased to broaden our specialty solutions capabilities with the acquisition of HSM Physical Health last month, incorporating chiropractic and physical, occupational and speech therapies into our current musculoskeletal management program, which enables us to deliver a comprehensive, integrated solution to customers. Regarding the new Louisiana Behavioral Health Partnership award, our existing contract is scheduled to expire on February 28. As we discussed on our last call, we have been in discussions with the state about reducing the scope of service to be provided under a new contract, so they are comparable to the existing behavioral contract that we hold, with a shortened term ending November 30, 2015. The Louisiana Department of Health and Hospitals has provided an emergency contract to us with similar terms, which we're reviewing and anticipate finalizing this week. The new contract will need approval from the Department of Administration. After the expiration of this contract, behavioral health services will be carved into the Bayou Health Plans which serve Medicare Medicaid members' physical health needs. Overall, I'm very pleased with the accomplishments we've made this past year. We have advanced as a special population health manager across all of our business lines and have brought a unique set of capabilities to the healthcare marketplace. Most importantly, we're offering meaningful solutions that address challenges faced by our members and customers, while helping individuals navigate the complex healthcare system. I will now turn the time over to our CFO, Jon Rubin, who will discuss the results in detail.

[Jon Rubin:]

Thanks, Barry and good morning, everyone. For the year ended December 31, 2014, we reported net income of $79.4 million, diluted earnings per share of $2.90 and segment profit of $266.9 million. For 2013, we reported net income of $125.3 million, diluted earnings per share of $4.53 and segment profit of $259.4 million. Regarding our non-GAAP measures, adjusted net income for the year ended 2014 was $110.6 million and adjusted EPS was $4.04 per share on a diluted basis. For the year ended 2013, adjusted net income was $126.7 million and adjusted EPS was $4.58 per share. Net income and EPS for the fourth quarter of 2014 were $21.6 million and $0.82 per share, respectively, on a diluted basis. This compares to net income and EPS of $18.5 million or $0.67 for the fourth quarter of 2013. Our segment profit for the fourth quarter of 2014 was $83.2 million compared to $55.9 million for the fourth quarter of 2013. This increase is primarily due to stronger results in the pharmacy management and commercial behavioral health segments. The fourth quarter segment profit also includes approximately $20 million of favorable out-of-period items, the majority of which was in the public sector. Regarding our other non-GAAP measures, adjusted net income for the fourth quarter of 2014 was $35 million and adjusted EPS was $1.33 per share on a diluted basis. For the fourth quarter of 2013, adjusted net income was $19.9 million and adjusted EPS was $0.72 per share. The increase in adjusted net income between periods was mainly attributable to the increase in segment profit in the current-year quarter. Revenue in the fourth quarter of 2014 was a $982.5 million, which was $25.7 million lower than the fourth quarter of 2013. The revenue decrease resulted primarily from the loss of revenues associated with terminated contracts, which were partially offset by the impact of new business, same-store growth and rate increases, the impact of health insurer fee revenues recorded in the current-year quarter and the inclusion of revenues from CDMI in the current year. Regarding the health insurer fee, our full-year revenue and expense totaled $36.5 million and $21.4 million, respectively. We obtained agreements with all of our customers to recover the health insurer fees, as well as impact on our federal and state income taxes for the non-deductibility of these fees. For the fourth quarter, we recognized $13.6 million of revenue and $5.4 million of expenses related to the health insurer fee. Including the non-deductibility of these taxes, the impact of the health insurer fee on our full-year EPS is immaterial. I will now review each of the segments' results and growth opportunities, beginning with commercial. Segment profit for commercial behavioral health was $37.5 million, an increase of $6.2 million over the fourth quarter of 2013. This increase was mainly due to favorable customer settlements and higher incentive revenue in the current-year quarter, the impact of new business and increased membership from existing customers. These favorable variances were partially offset by the impact of terminated contracts. In our commercial business, we launched a provider initiative that delivers care coordination and behavioral health services to provider practices and accountable care organizations. We recently implemented this integrated care model with an existing commercial health plan customer. This innovation drives specialized population health management at the point of care, improving patient engagement and coordinated care for better access, affordability and outcomes. In addition, health plans and employers in many states are seeking solutions for autism care in response to autism coverage mandates. On January 1, 2015, we launched a unique risk autism product and we're generating widespread interest from prospective clients. The pipeline of opportunities for 2015 and 2016 is strong across all market sectors. And we continue to see interest in both our traditional and new products. Turning to public sector, our segment profit for the fourth quarter was $26.1 million, an increase of $2.4 million from the prior-year quarter. This increase was mainly due to the net impact of favorable care trends, increased membership from existing customers and net favorable insurer fee activity. These variances were partially offset by the impact of the termination of the Maricopa contract on March 31. Favorable out-of-period items in the fourth quarter for public sector totaled approximately $15 million, including $6 million related to retroactive revenue, $5 million for the timing of health insurer fee revenue and $3 million of favorable care development. In addition to the MCC opportunities that Barry talked about earlier, our public sector pipeline includes anticipated behavioral health RFPs for New Jersey and Connecticut. In our specialty solutions segment, fourth quarter 2014 segment profit was $15.7 million, a decrease of $2 million from the fourth quarter of 2013. This decrease was mainly due to previously negotiated rate reductions on contract renewals, unfavorable care trends and a conversion from risk to ASO for an existing customer. These unfavorable variances were partially offset by favorable customer settlements and the impact of new business. Our specialty solutions segment continues to focus on new products as well as additional sales to current and new customers. We implemented a musculoskeletal management program with a new customer on January 1 and sold two radiation oncology programs to current customers that launched in the first quarter of 2015. We also implemented the risk radiology and cardiac contract discussed on our December guidance call and secured a cardiac upsell with a large, national Medicaid MCO customer. Our sales pipeline is strong, with opportunities across all products and our new musculoskeletal offering is gaining significant interest. Consistent with our specialty solutions focus on product diversification and expansion, we also announced two import new capabilities. First, as Barry mentioned, we expanded our musculoskeletal offering to include management of physical, occupational and speech therapy as well as chiropractic care. In addition, we launched a genetic testing program in collaboration with Informed DNA, a leader in the management and optimization of this complex and rapidly growing area of healthcare. These new offerings will increase the value we can deliver to existing and new customers. Fourth quarter segment profit for the pharmacy management segment was $33.7 million, an increase of $11.8 million over the fourth quarter of 2013. This increase is primarily due to the inclusion of CDMI in the current-year quarter results and increased employer business, partially offset by terminated distribution and rebate business that we previously discussed in prior quarters. With the growth we have achieved to date, it's important to note that our pharmacy business, with product lines comprising a full-service PBM, generated over $1 billion of revenue and over $100 million of segment profit in 2014. We're very proud of this accomplishment. And as Barry mentioned, our pipeline of pharmacy opportunities across all market segments is quite strong. Regarding other financial results, corporate costs, excluding stock compensation expense, totaled $29.8 million, which is $8.9 million lower than the fourth quarter of 2013. This change is mainly due to one-time compensation costs in the prior-year quarter for a former Executive Chairman under his employment agreement, as well as higher severance costs included in the prior-year quarter. Excluding stock compensation expense and changes in fair value of contingent liabilities, total direct service and operating expenses as a percentage of revenue were 18.5% in the current-year quarter as compared to 17.1% for the prior-year quarter. The increase is mainly due to the impact of health insurer fees, development costs associated with the MCC product and changes in business mix. The effective income tax rate for the year ended December 31, 2014, was 37% compared to 24.2% for the prior year. The increase in the effective rate is mainly due to the non-deductibility of health insurer fees, lower reversals of tax contingencies in the current year from closure of statutes of limitation and increased valuation allowances in the current year for certain deferred tax assets. Stock compensation expense for the year ended December 31, 2014, totaled $40.6 million, an increase of $19.3 million from the prior year. This increase was primarily due to $27.6 million of stock compensation recognized in the current year related to restricted stock purchased by sellers in the Partners Rx and CDMI acquisitions, partially offset by higher expense in the prior year associated with the former Executive Chairman's employment agreement. Depreciation and amortization for the year ended December 31, 2014, totaled $91.1 million, an increase of $19.1 million over the prior year. This increase is attributable to fixed asset additions after 2013, as well as the amortization of identified acquisition intangibles associated with the Partners Rx, AlphaCare and CDMI acquisitions, which totaled $13.7 million for the current year as compared to $1.5 million in the prior year. Interest expense for the year ended December 31, 2014, increased by $4.4 million from the prior year. This change is mainly due to changes in the fair value of contingent consideration of $3.1 million recorded to interest expense in the current year, as well as capital lease additions after 2013 and higher interest expense associated with the credit facility. Turning to cash flow and balance sheet highlights, our cash flow from operations for the year ended December 31, 2014, was $211 million compared to cash flow from operations of $183.2 million for the prior year. Cash flows for the current and prior-year periods includes the positive impact of shifts of restricted cash into restricted investments totaling $26 million and $29.2 million, respectively, which are reflected as sources of cash from operations and uses of cash from investing activities. Absent these transfers, cash flow from operations for the current year totaled $185 million compared to $154 million for the prior year. The increase in cash flow between years is mainly attributable to the increase in segment profit of $7.5 million, lower tax payments of $7.8 million and net favorable working capital and other changes between years of $15.7 million. As of December 31, 2014, unrestricted cash and investments totaled $346.9 million, which includes proceeds from the $250 million term loan. Approximately $65.5 million of unrestricted cash and investments related to excess capital and undistributed earnings held at regulated entities. The Company's restricted cash and investments at December 31, 2014, of $391.4 million reflected an increase of $4.6 million from the prior year-end. The increase was mainly attributable to the Company's regulated entities. Regarding [Technical Difficulty] Barry discussed that we repurchased $198.2 million of shares in 2014. In addition, we deployed $128.3 million for acquisitions. Relative to 2015, we're maintaining the ranges discussed in our December guidance call for net revenue in the range of $4.25 billion to $4.49 billion; net income of $51 million to $67 million; adjusted net income of $88 million to $100 million; and segment profit of $265 million to $285 million. We're also maintaining our guidance for cash flow from operations in the range of $171 million to $195 million. Taking into account the impact of share repurchase activity through February 23, 2015, but not considering any potential future share repurchases, our guidance range for fully diluted EPS is estimated to be $1.93 to $2.54 per share and for fully diluted adjusted EPS of $3.33 to $3.79, based on 26.4 million average fully diluted shares. To date, we have sold approximately 40% of the new business target of $450 million for 2015. Overall, I am very pleased with our strong 2014 results, our plan for solid earnings growth in 2015 and the progress that we're making on our strategic initiatives, which should position us well for the future. Barry and I are now available to answer questions and I will turn the call back over to the operator. Operator?

[Operator:]

[Operator Instructions]. The first question is from Dave Styblo from Jefferies.

[Dave Styblo:]

I wanted to start off real broadly here and just talk about the opportunities that you guys see in front of yourselves. And I was hoping you could maybe run down a few of the larger contracts that you're working through, or are targeting, as far as the revenue opportunity. I know obviously you're going to the Florida SMIs. Just want to see if you're still thinking about a net revenue range of around $450 million there. Do you have an updated idea of the New York duals revenue impact that would go on this year? And then obviously as you're looking at some of these newer opportunities in Iowa and Louisiana, clearly those are things you are going after. But maybe you could quantify the potential that might be up for grabs for you guys there.

[Barry Smith:]

Let me take kind of general overview, Dave. But again, good to you have you on the call this morning. Let me give you a general overview, high level, about the Company's opportunities. We clearly see in Magellan opportunities in all three of our main business segments. I will start off with the Magellan Complete Care. Florida has done very well for us. It continues to do very well for us. When you talk about Iowa and Louisiana and New York, these are clearly Magellan Complete Care significant upside opportunities for us. New York we see as a continuing opportunity to grow our base in AlphaCare. We've seen some good growth there and we would expect to see more growth there. We're always very opportunistic, be it in New York or elsewhere, for also acquisition opportunities to build scale. And we see New York as an enormous opportunity for us, so we're very focused on New York. In Louisiana, with the LTSS opportunity in long-term care management, this is a very substantial contract. And revenues -- there's a range of revenues, dependent upon where it comes in, but that could be literally -- and they won't necessarily award it to one winner here, winner takes all. But it could be $1 billion in total. But we again don't know exactly what it will be until the RFP comes out and we have a more clear vision. But it's a significant upside for us and for any potential bidder and will take place and be implemented later this year. Iowa is very interesting for us. As I mentioned during the call, it's a transition to outside MCOs and take over the Medicaid program. A lot of the work that we've been doing in our integrated health home will be also placed within this bucket of business. It's a $4 billion award in total. And Iowa has told us that they'll award between two and four potential bidders, the business. So again, just doing the quick math again, nothing is completely finalized until it's finalized. But it could be $1 billion or more of business if there were four winners of that book of business. So it's a significant opportunity. In Iowa, we've been there for, gee, some 20 years working on the behavioral health front. And over the last several years, our book of business has grown significantly as we've implemented the behavioral-led integrated health home, which is de facto an integration of both behavioral health and physical medicine; precisely what this bid is all about. So, we have very good relationships there in the state of Louisiana. We have demonstrated our ability to affect the quality of care, as well as cost of care for the state. We have saved them literally tens of millions of dollars over the last several years. And so our view is that the state really appreciates our work from a quality standpoint, as well as from a cost standpoint. In Iowa, they are very focused, as other states are, as well, but on quality of care for providing all Iowans proper high levels of high-quality healthcare. And, again, given our experience there, we think that will go a long way in consideration of our bid that will be due in here in May, as I mentioned earlier on the call. So that's Magellan Complete Care. And then on the pharmacy side of the business, we have always been quite bullish about our opportunity in pharmacy. We believe that we're very distinctive in terms of our clinical depth and capabilities. We have a very clinical orientation in our medical pharmacy management product line; which again, I mentioned, we have many health plans where that's a lead product for us which allows us the opportunity to have a relationship and add on to those relationships or other rebate services, full PBM services. So we think that the pharmacy opportunity is still very significant. I was asked earlier about -- in fact, it was the Investors Day in New York -- someone asked about the rate of growth for pharmacy. And when they talked about, gee, you guys look like you're growing at 40% a year. And we of course gave top-line growth guidance of 20% a year. And I mentioned it's best not to get out ahead of us. Over the long term, we think that will be true; over 20% growth rate for our pharmacy business in overall Magellan, but we see the pharmacy piece as a great opportunity for us. We've been very successful. Now, in terms of the segments within pharmacy, we've been very successful with the employer markets, as I mentioned. We added 65,000 lives as of January 1. We'll add another 30,000 on April 1. And we see that as another area of growth. We have a salesforce that we've implemented, really for the first time in the last many years, last year. That's very effective for us, so we see strong organic growth in the employer segment. We're also putting a lot of focus on the health plan segment and hence the importance of the Part D product line that we're developing and we'll have out and ready to roll on January 1, 2016. But we see the health plan side of the business as a very significant opportunity for us, as well. So we're very excited about pharmacy and where we're going in pharmacy. It's been a great growth engine for us and a profitable growth engine for us. And then on our medical specialty business, the recent acquisition of HSM is really in addition to the product line. People thought about our NIA SBU as simply RBM. Well, it's not simply -- RBM is certainly clearly an important product line for us. But we're really focused on all medical specialty lines of business which offer significant top-line growth where we can really apply our capabilities to manage cost in these areas that are increasing very rapidly in cost. So, musculoskeletal is critically important; HSM is an important addition to that line. We have a very strong presence, a great relationship -- we have a great reputation in the industry. So under Tina Blasi's leadership, we think that also is a great opportunity for the Company. So having said that as a general overview, Jon?

[Jon Rubin:]

I think that hits all the drivers. The only other points I'd make is when we talk about some of the new opportunities on the horizon, like the expansion in Iowa or Louisiana, those are not likely to impact 2015. So those would really be more 2016 and beyond. So to your initial question, Dave, on the opportunity for the $450 million in total, while we feel good about our revenue growth in 2015, we also feel good about some of the pipeline opportunities for 2016, which are obviously also critical for our success.

[Operator:]

The next question is from Josh Raskin from Barclays.

[Josh Raskin:]

Let's just stick on Iowa real quick. Could you give us the current run rate of revenues that you guys are generating there? And then help us understand what exact services you are providing today versus what services are in the expanded contract?

[Barry Smith:]

Sure. We have -- our current run rate is about $465 million. We have increased that and again I might be a little wrong here, from roughly $150 million a few years ago. So it has grown very nicely for us. We most recently implemented an integrated behavioral health integrated health home, which is a Medicare demonstration project. And so we have integrated basically both physical medicine and behavioral health. In many ways, it looks much like Florida, except that we haven't taken risks; it's an ASO contract. So we're very embedded in the state, across the state. We cover hundreds of thousands of lives there in the state under these programs. We've had long-term relationships on the behavioral health side. And so that is kind of what we'll be doing, or what we've currently done. Does that answer the question?

[Josh Raskin:]

Yes, that's helpful, Barry. And I guess just from a geographic overlap perspective, I don't know how they're going to pick the plans; if they're going to do 2 to 4 plans statewide or if it's a regional approach and four different plans could get four different regions. But do you guys feel like you've got network built out in a broad geographic part of the state?

[Barry Smith:]

There are 99 counties in the state of Iowa and we do have a presence across the state of Iowa currently. We will have to do some incremental physical medicine buildout in the state, but there's nothing about that that causes us a new concern. We have that capability. We've already begun the development process and are well underway there in the state of Iowa. We already have our MCO license there in the state of Iowa. We wanted to make sure that we were set to roll. So we don't know how they will divide up the state. It would make some sense to do it geographically, but we really don't know yet.

[Josh Raskin:]

And then just switching topics, the $20 million of out-of-period favorable items -- Jon, I think you gave the breakdown of the $15 million that we saw, or close to it, in the public segment. Those all seemed like they were timing or 2014 issues. So is it fair to say that those are representative of the segment profit that you've earned over 2014? And I guess the bottom-line question is, if that's the case, if 2014 was a little bit better, why are you maintaining 2015? Why would it not creep up a little bit with the improved view of 2014?

[Jon Rubin:]

Josh, I think your depiction is accurate. The roughly $20 million of favorable development in the fourth quarter essentially is in-year development. So I would look at it as, in a sense, being -- the $20 million being out-of-period in the quarter, but if you look at the overall 2014, it really didn't change the earnings power of the business over the year. In terms of the guidance for 2015, yes, I mentioned a couple things. One, while certainly we're starting the year better than what we anticipated several weeks ago; and, therefore, candidly, while we still believe we're in the guidance range and are confirming guidance, directionally we feel good. And I feel better about our ability to execute and to hit our numbers in 2015. But they're still some uncertainty out there, especially with MCC when we think about the uptake of the FIDA program in New York, because that's still in its early stages; as well as the continued success and execution in Florida. So, hopefully that gives you some color. But on balance, again, we still believe that the guidance ranges are representative of our current estimates.

[Josh Raskin:]

And then last question for me on the MCC segment within public, do you guys have a revenue number, total Magellan Complete Care revenues in the fourth quarter and what you did in 2014 all-in?

[Jon Rubin:]

No, we didn't give specific revenue numbers, Josh. But I would say we completed the year consistent with what we expected for fourth quarter. So there weren't any major surprises there. In 2015, I'd say there are some puts and takes. Florida, we're actually starting the year arguably stronger on revenue than we expected, given our current membership and some of the, as Barry mentioned earlier, some of the additional auto-assignment we got this year. On the other hand, like I said, New York, the upticks in the FIDA program is probably going to take a little more time than we expected to reach its full potential. So I'd say, at this point, those two items largely offset. But again, we feel good overall about the revenue in 2015. And we feel great about what we're doing in New York and certainly in Florida, in terms of the long-term future.

[Barry Smith:]

And Josh, the only thing I'd add to that, in Florida since we don't have -- we clearly have real-time Rx data. We have good data on inpatient authorizations, pre-authorizations. We're still collecting and will through the first quarter, data on outpatient expense, which we don't have. Now, we're getting a much feel about it and I would say that we're optimistic about it given where we're today and ended up the fourth quarter in terms of the MLRs in Florida. So we've had no surprises. So as we get that data, we will certainly update and provide additional guidance direction. But we wanted to make sure we had the data before we took that step. It's so material to us.

[Operator:]

Our next question comes from Scott Fidel with Deutsche Bank. Your line is open.

[Shawn Bevec:]

This is Shawn Bevec in for Scott. Just wanted to dig a little bit deeper into the Florida. I believe in the third quarter you guys said you had about 100% -- running at about 100% MLR. And then for the fourth quarter, it's come down to about the mid-90s. Just curious as to what was driving that. Was the biggest drivers to that decline? And then what kind of MLRs you might expect in Florida for 2015.

[Jon Rubin:]

Yes, Shawn. Let me give you some color on where we're. So first, you're absolutely right. We, in third quarter, reported an MLR just over 100%. Now in fourth quarter, two things happened. One, we actually did have a better run rate in fourth quarter. Now, some of that was expected just because of seasonality and the holidays in the quarter, but some of that really did indicate real improvement. And a couple things I'd point to. One, we actually had a little bit of favorable restatement to third quarter. So third quarter actually matured slightly better than the 100%, in the high 90s. And fourth quarter, as we talked about, came in at the mid-90s. So as you think about us turning the corner into 2015, one, we're starting in the mid-90s rather than at a higher number. We think that, as I said I think in the last call, we expect for 2015 the MLR to be, round numbers, at 90%. Which obviously means we've got to go from the mid-90s to rating to something in the mid- to high-80s by the end of the year. So, that's the expectation is, well, there's some favorable seasonality at the end of the year, but the bulk of that improvement will really be driven by the continuation and acceleration of the impact of many of the care initiatives that we put in place.

[Operator:]

Our next question is from Matt Borsch from Goldman Sachs.

[Matt Borsch:]

I'm wondering if you can just talk a little bit about how you look at that -- I know you've gotten this question before -- but the scale in the PBM business and where the inflection points lie there. I gather, in part, the acquisitions that you do are taking advantage of smaller firms that see the need for more scale. But on the other hand, as you look to get into regular mail order, the question is, how do you be competitive against the Express Scripts of the world? Can you just talk to that?

[Barry Smith:]

Sure, Matt. When you think about scale and the PBM industry, clearly the more scale, the more you can negotiate both networks as well as with manufacturers. Having said that, we already today -- now, you have to separate the two -- but we already today manage over $15 billion of drug spend. We have a lot of business which is ASO on the state side. So we already have relationships and certain capabilities that are not reflected really in our existing run rate top-line revenue. So we're pretty substantial and have been at it for a long time. With the acquisition of CDMI, plus our historic specialty pharmacy, both distribution and rebate management, we also have had some pretty extensive experience in managing costs down. So for example, when you're talking about hep C drugs -- the poster child, Sovaldi, now Harvoni and the new AbbVie drug -- these are drugs which we've been able to negotiate. And we anticipate, for example, that cost to halve in terms of the cost for each patient in terms of their therapy in 2015 compared to last year. Well, we've been able to do that and negotiate those kinds of deals because of our experience. So, size equates -- scale clearly has an impact, but also experience has an enormous impact. We're very good at doing what we do. The other thing I would say is that on the medical pharmacy management side, we believe we're unique and have the largest covered population base in medical pharmacy management. These are the drugs that go through the medical benefit, not the traditional PBM benefit. And because we work very closely with both the physicians' offices, the patient and the family, we're able to adjust and manage cost very effectively for our clients. And so we would argue that we're actually better than the big guys in this space. And since the specialty is going from 25% to 50% of total cost, it's a big decision driver and a cost driver for our clients. We're very good at doing that. On the mail service side, clearly when you're buying volume, particularly on the generic side, that's a big deal. However, again, we've been negotiating with manufacturers on the rebate side for years and feel that we can effect an outsized benefit because of our experience in achieving the financial results for our clients. And the last thing I would say is that there are many, many clients out there. If you look at the PBM industry in general, the level of dissatisfaction with service and results and transparency is very high for the traditional PBMs. We think there's a real opportunity to deliver higher levels of service and distinguish ourselves, relative to the big guys. Our market that we go after -- they may be able to go after several million live clients. That might not be in our main wheelhouse at present -- we'll get there -- but we're really focused on the smaller to medium-sized employers, up to 30,000 or 40,000, as well as midsized MCOs where we can deliver much higher levels of service and customization, as well as be very effective for them clinically. So we believe that we can compete. And if you take a look at the numbers we're posting on our organic growth, it really underscores our capability of growing. Okay, the really last thing that I'll say about it is, they don't have to lose for us to win big. They are so large, they probably view us as ankle-biters. Well, I'm happy to be a much larger ankle-biter and become maybe a knee-biter in the future. But they don't have to lose for us to win. And I think we can be very competitive in the marketplace with a lot of clients are looking for a unique, more higher clinical content and differentiated product.

[Matt Borsch:]

Excellent. Can I just -- one little add-on there. Just when you talked about the hep C drugs, are you seeing may be stronger-than-expected flow through on hep C drugs, given how much the pricing has changed? In other words, has that maybe induced some demand, or can you read on that yet?

[Barry Smith:]

No, no. I think your point, Matt, is exactly right. There was some warehousing of patients in the anticipation that pricing would become more rational over time. And I think that's true. If you think about the types of hep C, the genome 1 type, which is predominant, we expect about 95% of the new patient population going on the drug will be type 1. And type 1 is really a very effectively managed by both products, the Viekira as well as the Harvoni medication. So, we expect those patients to flow much more freely into treatment now that the prices come down pretty radically, given the rebate deals. In terms of the raw WAC cost of these drugs, the Harvoni product is roughly $95,000 for a therapy regimen and the AbbVie product is roughly $83,000 for a treatment regimen. But that really doesn't give you the total price, because we're all out there negotiating with both Gilead and AbbVie for deals. And that's again, roughly, we expect it to be cut in half this year -- the cost.

[Operator:]

Our next question is from Ana Gupte from Leerink.

[Ana Gupte:]

The first question, I just wanted to understand what's baked into guidance again on a couple of the factors we just heard about. The first is on hep C. Firstly, I don't recall you saying that you did any deal with Gilead and/or AbbVie, but maybe I just missed it. And if you did, then is any of that contemplated in your guidance that you don't seem to have changed?

[Barry Smith:]

Number one is that we really don't go out to the market with our rebate deals and exactly who we're negotiating. We do cover that with our client base. But we have negotiated with both Gilead Sciences as well as AbbVie. And those numbers are baked into our overall forecast guidance for 2015. And as those things progress -- there are other fronts that we'll be fighting later this year with the PCSK9 inhibitors. I think there's a real opportunity there in terms of the cholesterol-lowering agents, probably the next big battle out there. But we'll bake those into our guidance as we give them. But yes, we have, Ana.

[Ana Gupte:]

Okay. And on the Florida MLR, you said it's coming in the mid-90s and you still are a little bit less visibility on outpatient. Have you baked in 90%? I think I might have asked this to you in the last quarter. I'm just trying to understand if you already have 90% in your guidance.

[Jon Rubin:]

Yes, it's roughly 90%, Ana.

[Ana Gupte:]

Okay. And then finally again on the guidance. On the health insurer fee, is there any uncertainty on new reimbursements, or whatever that you might not have contemplated that might offer upside in any states? Other companies on the Medicaid space seem to still be waiting and so on.

[Jon Rubin:]

No, Ana. With the states we do business with, we've actually effected full reimbursement in the 2014 calendar year. So we wouldn't expect any change as we go forward.

[Ana Gupte:]

The one other question is broader. So Louisiana looked to carve in the behavioral health. I think I saw something around New York either having done so, or planning to announce something like that later. Do you see a broader trend to carve in behavioral health into full medical and state Medicaid contracts? And how does that impact your SMI strategy? And what is the response from the medical players? So, for example, in Bayou contracts or any other place, as far as trying to bid for SMI?

[Barry Smith:]

We do see this integration trend continuing between behavioral health and physical medicine. About one-third of the states carve out all BH from MCOs or their fee-for-service system. About one-quarter or so, 11 states, contract with MCOs for integrating their behavioral health and physical medicine. So that happens, as well. And again, roughly about one-third, just under 30% of the states contract with MCOs both for fully integrated, the physical BH, not excluding those cases where the drug is carved out. So you see this mix going on right now, but we feel that the best approach is to integrate behavioral health and physical medicine. And hence the reason why we've gone in proactively to states, particularly where we have a presence, to get our MCO license. In the case of the state of Louisiana, they shifted gears because of the budget. They had a pretty interesting budget challenge that they had to address very rapidly. And indeed, as you recall, we actually won contract which was to be a two- to three-year contract for behavioral health services; really the extension and maybe a bit of an enlargement of the existing contract that we had. But because of the budget challenges in the state, they, at the 11th hour, after we actually were awarded the contract, shifted to basically combine the behavioral health into the MCO contracts. So we do see that as a trend. I think it's both a budget move; I think it's a practical issue, as well. It's a good thing to combine. We believe that those with true behavioral health expertise, as we have -- and we think we're pretty unique in the marketplace with physical medicine -- to holistically treat the individuals, much like we're doing in the state of Florida. So for example, in the state of Iowa that's exactly what they're doing. If you look at the RFP, it's really focused on behavioral health capability, these special populations, combined with physical medicine. But there's a strong emphasis on behavioral health, because you think about the overall cost, those with compliance and behavioral health issues drive a majority of the costs. You'll get 5% of the population that will drive half the costs of the program. So, what you're seeing out there is really a trend towards states that are having these primary contracts focused on behavioral health. And then you might see a separate series of contracts that are focused on the rest of the population. So you might have the 95% who generate half the cost of a state's Medicaid program. So the bottom line is is that they're recognizing the importance of behavioral health and compliance issues being cost drivers and you're seeing this combination of physical medicine and behavioral health. And I will say, just as another overview here, while we have traditionally been known as a behavioral health company, we don't view ourselves as a behavioral health company. We think that's the past. The future is really a high touch, high tech, population management and health plan business focused on these populations. So, we're not a TANF plan, nor is our goal to be a TANF plan, but to really be a population health plan company. So even internally, we really don't refer to ourselves as a behavioral health company. That was probably more than you wanted to know. My answer was a bit longer, but hopefully that's helpful.

[Operator:]

Our next question comes from Michael Baker from Raymond James.

[Michael Baker:]

Barry, I was wondering as it relates to PBM consultants, evaluating contracts and bids from the various PBMs as it relates to employers, are they beginning to change the metrics they used to evaluate given specialty? In other words, starting to take a broader view and factor in some of your unique capabilities? Or is that, at this point, still somewhat of an educational process and a hurdle?

[Barry Smith:]

It absolutely is, Michael, an educational process. But we're seeing a real shift to a more sophisticated look at overall value received, versus simply a unit cost. And that's true in healthcare generally and it is certainly taking place within the consultant community. It used to be that, I would say even as recently as two years ago, we would simply be spread sheeted every deal. And so you wouldn't have any real thought process that went into how the clinical content and the impact of the clinical approach, particularly on the specialty side. That is changing pretty dramatically right now. And so consultants are now factoring in those very important cost drivers and looking at outcomes rather than simply buying units at a discounted price. Now, we think we can be competitive on the unit price standpoint. The big guys, Express and CVS Caremark, obviously have an advantage in terms of their volume. The flip side of that, though, is as they shift over to more a sophisticated look at value and outcomes, we really gain several points in these evaluations and so we're seeing that. The other thing, Michael, I would say, compared to a year and a half ago and certainly was true with partners by themselves, we're seeing much more large deals today that are coming through the consultants than we did by a wide margin. A large employer to Partners might have been a 5,000 employer group. Today that's 30,000 and 40,000. We're seeing a lot of those kinds of deals come our away. So it has really shifted, both in terms of what they're looking at; but also we've been able to access a much larger opportunity because of the combination of Magellan and the financial heft and credibility Magellan brings to the market.

[Michael Baker:]

All right. And then one of the PBM competitors is talking about potentially considering taking risk in the oncology side of things. I was wondering if you could just give us a sense of what you're doing unique and different there and your thoughts on taking risk. Obviously that's a broad term and still needs to be seen exactly what's going to be done or if it's going to be done, but just want to get your thoughts on that.

[Barry Smith:]

It's interesting, Michael, you bring that up, because years ago in my PBM life, I did a lot of risk deals and we did them very successfully. But the key was understanding trend. And so with a lot of -- we have great pharmacy data with a lot of our clients. And so I think capitation is a real opportunity, done in the right way, with the right kind of client with the proper data; with all those caveats. Oncology is interesting because of the change in the way that therapy is being delivered. And the technical aspects of payment are being changed to an oncologist. As you know, the traditional way was to have the medical oncologist receive a payment that included both the drug cost and his technical professional fees. We're encouraging health plans to separate those two out, so you can focus on the cost of the drug itself and then pay the physician rationally. In that world, particularly where you're driving and negotiating on the drug side, I think it does make a lot of sense to capitate these specialty areas, assuming you have good quality data. The challenge with oncology is that's just changing over right now, so likely what you'd want to do is create a fee-for-service contract; but migrate in, once you've gained the data, into a full capitated product. So that's more likely the rational way to approach it. But I think that the trend towards capitation, particularly for some of these specialty areas, is interesting and I think a real opportunity. So it doesn't surprise me. I've heard them out there making the pitch. But again, my assumption is they are wading into it, versus just jumping into it without having the proper data, historical data.

[Jon Rubin:]

Mike, the other thing I'd just add quickly is with oncology we do today and have in the past, employed a shared savings approach. So as Barry said, it's really more of a transitional strategy. Because one of the challenges specific to oncology that makes risk more difficult is it's harder to predict the incidence. And while we're much more willing and able, from a data standpoint, to predict how much it's going to cost for a specific case, there's a lot of volatility in the incidence of cancer. And it also speaks to the diagnosis and the potential for that to move around a lot. So that's just a consideration in the process. But as Barry said, I think there's going to be a spectrum of risk-taking arrangements that we and others may employ.

[Barry Smith:]

And again, not to extend the question any further, but adding onto Jon's comments, in areas -- and this is particularly true in the specialty arena -- where the therapy is evolving so rapidly and there are new agents coming out that are very effective, but very costly, you typically see caveats in risks deals which will carve out for the introduction of these drugs, these very high-cost new drugs that are coming out. In most cases, not all, but many cases, they are injectables. So there are a lot of qualifiers of taking on risk in the drug space. I personally and I think as a Company, we like the trend. We think we can take risks very effectively. We're very good at it, which isn't a traditional capability of PBMs. So I think we give us a competitive advantage.

[Michael Baker:]

Okay. And then I had one other question. One of your larger, more strategic customers purchased a Medicaid plan and clearly understand your capabilities. I was wondering if there are any particular opportunities at this point with that relationship and that move.

[Barry Smith:]

Well, we don't make any comments on any specific client. But we do track them very closely and have ongoing dialogue. And I think I know the one that you're referring to. And yes, we do chat with them regularly and at the highest of levels there. We do see these as real opportunities in the Company. And we have a very tightly knit One Magellan strategy. We've talked a little bit about our Investors Day where we really establish a base, a level of respect and performance proof and relationship with our clients and then we add on additional product lines. So in the case that you're talking about, or cases like those, that's precisely the approach that we would take to them. In many of those cases, they will use different providers, particularly in these acquisition cases situations. But we certainly would try to leverage our existing good relationship and performance and be able to add on to our existing relationship in these new product lines.

[Operator:]

We have a question from Dave Styblo with Jefferies. Your line is open.

[Dave Styblo:]

A couple of questions, one of which is circling back to Iowa. And I was cut off for part of it where I didn't hear, so I don't know if Josh had asked this question. But curious to understand -- your revenues out there is I think approaching $500 million or so -- how your capabilities in match up against the RFP and the gaps that you guys think you're going to need to be able to plug. I heard a little bit about perhaps needing a little bit more medical network build outs. But how strongly do you feel like you can compete for that RFP, given all of the competencies that they're looking to add in there?

[Barry Smith:]

Yes. When we went through the RFP we were very pleased to see the direction they went. They were very focused on these complex cases and high cost drivers. And I suspect that's been because they've had such good experience with our program, candidly and these very innovative programs that really drive both quality of care and cost savings. And so there is a great emphasis on the complex population. And they also realized that this is the population that drives the cost. So in the RFP, if you were to go through it, we feel very good about how it came out. We were looking to see what it would have, like every other large player in the space. But we were very pleased to see that it supported our strengths in a way that I think that we could really display that we're unique in our ability. We know Iowa and we know Iowa well. We have, gee, 150 or so employees in the state of Iowa. We're local and we've had a local presence there for many, many years. We've demonstrated, which would be a concern for any state, that we can implement very complex plans to treat complex circumstances and patients and individuals and enrollees in states. We prove that not only nationally, of course having executed in Florida. I'm sure they're looking at Florida and how we did in Florida and it's gone extraordinarily well there. And we're already in Iowa with call centers, people, networks in place, treating the very population that they have the greatest concern about. So my sense is -- and you never know until you go through the process and submit the RFP and get the evaluations back -- but we feel very, very good about the state of Iowa and where it's going. In anticipation of the RFP, we also went through the MCO licensing process and so we're fully licensed as an MCO in the state of Iowa. So we have really prepped for this situation. And given the lead time that we had, we were able to really build a platform, even on the physical medicine side, which supports I think a very, very competitive bid on our part. So we feel very good about it. Again, you never know until the RFP comes out and they evaluate you. But we think we have a great relationship and unusually strong capabilities for the state of Iowa.

[Dave Styblo:]

Okay. And two quick housekeeping items. Noticed the uptick in stock comp expense here in the fourth quarter. Can you elaborate a little bit more on that? And then what should we be expecting for 2015 for stock comp? And the other housekeeping item here was can you elaborate on the increase for the contingent liability expense? Is that something one-time in nature, or would there be more of that in 2015?

[Jon Rubin:]

Yes, on stock comp first, Dave, really the uptick in fourth quarter was a one-time item related to one of the executives for an acquisition we had previously done. So I would look at that really as a one-time item. And while there's always puts and takes, I'd look at the full-year run rate this year as being more representative, ex- the acquisition impacts that we'll expect going forward. I'm sorry, did you have a second question?

[Dave Styblo:]

Yes, on the contingent liability expense.

[Jon Rubin:]

Yes, so the contingent liability expense, this primarily relates to CDMI, on the CDMI acquisition. And essentially, at year-end, we go through the process of re-forecasting over the multi-year period our expected results and true that up based on what the future earn out will be discounted to a fair value. And the impact of that, including the normal write up for time value, was around $6 million in the quarter.

[Dave Styblo:]

So is that signal a good thing in the sense that the deal is going better than expected and hitting milestones, then?

[Jon Rubin:]

Yes.

[Barry Smith:]

Great. Well, I think that should conclude our session today. I have a friend in Texas who worked for Southwest Airlines and he was the Ambassador of FUN in helping create culture within the company. And he challenged me today to get the words hot diggity dog into the call. So I wasn't certain where to insert that, to maybe establish unexpected 2015, but we're thrilled. I would say for 2014, hot diggity dog and we're excited about 2015. So, we go again look forward to speaking to you again in April and we'll discuss our first quarter results then. Thanks so much again for joining us today. Bye, bye.

[Operator:]

That does conclude today's conference. Thank you for participating. You may disconnect at this time.