Molina Healthcare, Inc. — Q1 2013 Form 10-Q
Reporting period: Three months ended March 31, 2013; unaudited. Comparisons are with Q1 2012 unless otherwise stated. Amounts are in U.S. dollars.
Business context and reporting period
Molina provides Medicaid-related health plans and Medicaid administration services. It reports two segments: Health Plans and Molina Medicaid Solutions. Health Plans operated in nine states and served approximately 1.82 million members at quarter-end, essentially flat with 1.83 million a year earlier. The Medicaid Solutions segment provides processing and technology services to state Medicaid agencies.
Financial performance and liquidity
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Total revenue | $1,590.6 million | $1,373.6 million | +15.8% |
| Premium revenue | $1,534.6 million | $1,325.4 million | +15.8% |
| Service revenue | $49.8 million | $42.2 million | +17.9% |
| Operating income | $67.1 million | $33.4 million | +100.8% |
| Net income | $29.9 million | $18.1 million | +65.4% |
| Diluted EPS | $0.64 | $0.39 | +$0.25 |
| Cash provided by operations | $20.1 million | $50.6 million | Down $30.5 million |
- The medical care ratio improved to 86.1% from 88.1%; operating margin rose to 4.2% from 2.4%, and net margin to 1.9% from 1.3%. The general and administrative expense ratio was 8.9%, versus 8.8%; the premium tax ratio fell to 2.4% from 3.2%.
- EBITDA, a non-GAAP measure, was $89.0 million versus $51.8 million. The effective tax rate rose to 44.8% from 37.9%.
- At March 31, cash and cash equivalents were $1,169.5 million; working capital was $924.0 million. Cash, investments and restricted investments totaled $1,580.2 million. Management said available cash and internally generated funds should support operations, regulatory requirements and capital expenditures for at least 12 months.
- Debt had a carrying value of approximately $643.2 million, including current maturities, versus $262.9 million at year-end. Scheduled principal totaled $784.2 million, including $187.0 million of 3.75% notes due in 2014 and $550.0 million of new 1.125% cash-convertible notes due in 2020. The $170 million revolving credit facility was repaid and terminated in February.
- Operating cash flow fell mainly because changes in deferred revenue and medical claims payable were a net use of cash, compared with a substantial source in Q1 2012. Financing cash flow included proceeds from the new notes and warrants, offset by the call-option purchase, $50 million of share repurchases and repayment of the credit facility.
Material changes versus the prior comparable period
- Premium revenue increased primarily due to a shift toward higher-premium member populations and expanded benefits, including in Texas and Utah. Year-over-year membership was nearly unchanged, while Wisconsin membership grew after approximately 40,000 members transitioned from another plan in February and March.
- Health Plans operating income increased to $60.7 million from $25.0 million. Medicaid Solutions operating income declined to $6.4 million from $8.4 million, partly because processing shifted from fee-for-service claims to lower-fee managed-care encounters and due to contract changes.
- Interest expense rose to $13.0 million from $4.3 million, primarily reflecting the new notes, non-cash discount amortization and approximately $6 million of debt issuance costs expensed immediately.
- The company repurchased $50 million of common stock in connection with the notes offering and authorized an additional $75 million repurchase program, applicable to common stock or the 3.75% notes, through December 31, 2014.
Outlook, commentary, risks and unusual items
- One-time and prior-period items: Q1 included approximately $21 million of California premium rate adjustments, about $19 million of which related to 2011 and 2012; the net pretax benefit was approximately $19 million, including about $18 million for prior years. The California rate changes are expected to add about $400,000 per month going forward. Texas recognized approximately $6 million of 2012 performance revenue.
- Claims estimates: The company recorded $58.4 million of favorable development of prior-period medical claims reserves. It cited, among other factors, lower-than-anticipated costs in Texas and Washington and overestimated high-dollar claims in New Mexico. Management cautioned that reserve estimates remain uncertain and may materially affect future earnings if revised.
- Texas: The reported medical care ratio improved to 80.9% from 92.3%, but management said the periods are not meaningfully comparable and identified out-of-period benefits. Excluding the $6 million performance-revenue benefit and $13.5 million favorable claims development, the Q1 2013 ratio would have been approximately 86.6%. Planned provider reimbursement increases beginning July 1, 2013 are expected to add about $10 million to medical expense in the second half.
- Programs and contracts: Molina was selected for New Mexico’s Centennial Care program, scheduled to begin in January 2014, and received Florida long-term-care contract awards, with the program scheduled to begin in December 2013. Louisiana cancelled its award of the replacement Medicaid system contract to another vendor; that vendor is challenging the cancellation. Molina continues serving Louisiana under its current contract, which generated $10.1 million of Q1 service revenue; continuation beyond a successor selection remains uncertain.
- Policy and regulatory risks: The ACA insurer fee is scheduled to begin in 2014, is nondeductible as enacted and is expected to be significant; Molina said its effect on rates and financial results was still under evaluation. State budget pressures, contract renewals, medical-cost trends and regulatory requirements also pose risks.
- Liquidity restrictions: Approximately $572.9 million of subsidiary net assets were not transferable to the parent due to regulatory restrictions. Health plans had $585.5 million of statutory capital and surplus against $341.7 million required and were in compliance. The filing notes that future ACA-related assessments could increase capital requirements.
- Other matters: A February 2013 office lease with a landlord whose principal members include the CFO and his wife is treated as a financing arrangement during construction; initial annual rent is expected to be $2.5 million for Building A and $4.0 million for Building B. Legal matters are described as ordinary-course proceedings, but an adverse outcome in one or more could materially affect results. The filing gives no formal earnings guidance.
Most important facts for investors to verify
- Whether the California rate increases and Texas performance revenue recur, and how much Q1 earnings depended on prior-period adjustments.
- Subsequent claims development, particularly in Texas, Wisconsin and Washington; the filing’s sensitivity analysis shows that small changes in reserve assumptions could materially affect earnings.
- Whether Texas medical-cost performance holds after the planned provider reimbursement increases and after removing favorable reserve and performance adjustments.
- Louisiana contract status and the potential effect of a successor contract or new RFP on Medicaid Solutions revenue and profitability.
- The cost and rate impact of the ACA insurer fee beginning in 2014, and how restricted subsidiary capital affects parent-level liquidity.
- Cash requirements for the 2014 notes maturity, the new notes and call-spread arrangements, the share repurchase authorization, and the related-party lease.