Molina Healthcare, Inc. — Q2 2011 Form 10-Q
Reporting period: Three and six months ended June 30, 2011. Unaudited. Unless otherwise noted, amounts are in U.S. dollars. Comparisons are with the corresponding 2010 periods.
Business context
Molina operates Medicaid-focused health plans in ten states and Medicaid information-system and administrative services in five states. Its health plans served approximately 1.645 million members at quarter-end. The Molina Medicaid Solutions business was acquired in May 2010, so the 2010 comparison includes only two months of its results; the 2011 periods include a longer contribution.
Key financial and operating metrics
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Total revenue | $1,167.1 million | $999.3 million | $2,286.8 million | $1,966.1 million |
| Operating income | $31.4 million | $21.2 million | $62.7 million | $41.6 million |
| Net income | $17.4 million | $10.6 million | $34.8 million | $21.2 million |
| Diluted earnings per share | $0.38 | $0.27 | $0.75 | $0.54 |
| Medical care ratio | 84.1% | 86.0% | 84.3% | 85.6% |
| Operating margin | 2.7% | 2.1% | 2.7% | 2.1% |
- Q2 premium revenue was $1,128.8 million, up 16%; management attributed growth to approximately 10% membership growth and 5% higher premium revenue per member per month. Total ending membership increased 10% year over year.
- Q2 service revenue was $36.9 million, versus $21.1 million. Molina Medicaid Solutions recorded a Q2 operating loss of $5.5 million; the Health Plans segment earned $36.9 million in operating income.
- For the six months, operating cash flow was $114.9 million, versus $25.9 million. Investing activities used $118.8 million, principally reflecting investment purchases and equipment spending; financing activities provided $7.2 million. Cash increased $3.3 million to $459.2 million.
- At June 30, cash and cash equivalents were $459.2 million, current investments $356.6 million, and restricted investments $50.3 million. Working capital was $419.3 million. Total assets were $1.600 billion and stockholders’ equity $765.9 million.
- Long-term debt carrying value was $166.7 million. The company had $187.0 million principal amount of 3.75% convertible notes due 2014 and no borrowings under its $150 million revolving facility; $10.3 million of letters of credit were outstanding under that facility. The facility matures in May 2012.
Changes versus the prior comparable periods
- Revenue and earnings increased: Q2 revenue rose about 17%, operating income about 48%, and net income about 65%. Six-month revenue rose about 16%, operating income about 51%, and net income about 65%.
- The consolidated medical care ratio improved by 1.9 percentage points in Q2 and 1.3 points for the first half. Management cited lower hospital utilization and improved results in several established plans. Florida, Texas, and Wisconsin remained challenged; Missouri and New Mexico also had higher first-half medical care ratios.
- General and administrative expense increased to $96.9 million in Q2 from $78.1 million, and to $191.4 million for the first half from $157.0 million. As a share of revenue, it rose to 8.3% in Q2 and 8.4% for the first half.
- Operating cash flow improved substantially, largely because deferred revenue provided $69.5 million of cash in the first half of 2011, compared with an $82.7 million use of cash in the first half of 2010. The prior-year financing comparison included $105 million borrowed for the Medicaid Solutions acquisition.
- The company completed a three-for-two stock split in May 2011; reported share and per-share figures have been retroactively adjusted.
Outlook, risks, contingencies, and unusual items
- Rates and state budgets: Management remained concerned about state budget deficits and described the rate outlook as uncertain. It expected reductions in the second half of 2011 in New Mexico (2.5% from July 1), Utah (2% from July 1), and Texas (a modest reduction expected from September 1), and believed California intended to reduce rates. Missouri received notice of an approximately 5% blended increase effective July 1. No formal company-wide earnings guidance is provided in the supplied filing text.
- Louisiana contract: The state gave notice of intent to award a replacement Medicaid system contract to another firm. Molina protested; the state stayed the intended award and contract negotiations ceased. Molina expected to continue operating under the existing contract for at least two years while a replacement system is developed and implemented. The contract generated approximately $24 million in revenue in the first half of 2011.
- Idaho contract: Molina tentatively agreed to revenue reductions of about $3 million for June 2010–June 2011 and a further $1 million for July–December 2011. It expensed $7.0 million of Idaho contract costs in Q2 after estimated lifetime costs exceeded estimated net revenue by that amount, while management expected the contract to break even over its initial term. Revenue recognition was expected to begin in the second half of 2012. In early July, Idaho approved the system’s exit from pilot operations and user acceptance testing, allowing certain invoices.
- Other unusual items: A Utah contract settlement contributed $6.9 million of Q2 premium revenue without corresponding expense; the state had also asserted overpayment claims, for which Molina recorded a liability. Molina recognized a $45.4 million benefit from favorable prior-period claims development in the first half. Wisconsin’s $3.35 million premium deficiency reserve, recorded in Q1, was reduced by $1.8 million in Q2.
- Medical-cost estimation: Medical claims and benefits payable were $341.6 million at quarter-end, including $270.6 million of incurred-but-not-paid claims. Management noted the estimates are judgmental and that changes in completion factors or projected per-member costs could materially affect earnings. Prior-period reserve releases boosted first-half results.
- Liquidity and capital restrictions: Management believed cash resources and internally generated funds would support operations, regulatory requirements, and capital expenditures for at least 12 months. However, $438.5 million of subsidiary net assets was not transferable to the parent in the form of loans, advances, or dividends. Health plans had $448.0 million of aggregate statutory capital and surplus versus $273.6 million required and were reported compliant.
- Investments and other risks: Auction-rate securities were carried at $19.0 million fair value versus $22.4 million par value; auctions remained illiquid, though the securities were backed by U.S.-government-guaranteed student loan portfolios. Other cited risks include government contract renewal and reimbursement, medical-cost trends, regulatory changes and audits, provider disputes, and potential impairment of goodwill or intangible assets. Goodwill and indefinite-lived intangibles totaled $212.5 million.
Important facts for investors to verify
- Whether state rate reductions and Missouri’s increase took effect as expected, and their realized impact on premiums and margins.
- The status and financial implications of the Louisiana contract protest and replacement procurement.
- Idaho system certification, invoicing and cost trends, including whether the contract achieves management’s break-even expectation; also track Maine stabilization costs.
- Whether Florida, Texas, and Wisconsin improve their medical care ratios, and whether the favorable overall ratio persists as membership and utilization change.
- How much of first-half earnings benefited from favorable prior-period claims development and the Utah settlement, and whether subsequent claims experience validates the recorded reserves.
- Cash available at the parent versus regulated subsidiaries, compliance with credit-facility covenants, and the May 2012 revolving-facility maturity.
- Whether the auction-rate securities’ estimated fair value and the carrying values of goodwill and intangible assets remain supportable.