Centene Corporation — 2018 Form 10-K Summary
Business context and reporting period
Fiscal year ended December 31, 2018; the filing also presents unaudited quarterly results. Centene is a managed-care and specialty-services healthcare company focused on government-sponsored and commercial programs. Managed Care generated 95% of external revenue; membership was 14.0 million at year-end, up 15% from 2017.
On July 1, 2018, Centene acquired substantially all of Fidelis Care’s assets for approximately $3.6 billion in cash, expanding into New York. Fidelis contributed $5.628 billion of revenue from its acquisition date through year-end.
Financial performance and liquidity
| Metric | 2018 | 2017 | Change |
|---|---|---|---|
| Total revenue | $60.116 billion | $48.382 billion | +24% |
| Net earnings attributable to Centene | $900 million | $828 million | +9% |
| Diluted EPS | $2.26 | $2.34 | -3% |
| Adjusted diluted EPS (non-GAAP) | $3.54 | $2.52 | +40% |
| Operating cash flow | $1.234 billion | $1.489 billion | -17% |
| Health benefits ratio | 85.9% | 87.3% | Down 1.4 percentage points |
| SG&A expense ratio | 10.7% | 9.7% | Up 1.0 percentage point |
| Adjusted SG&A expense ratio (non-GAAP) | 10.0% | 9.5% | Up 0.5 percentage point |
Operating earnings were $1.458 billion, up 22%; interest expense rose to $343 million from $255 million, principally reflecting acquisition-related borrowings. The 2018 effective tax rate was 34.6%, versus 28.7% in 2017. Adjusted EPS excludes acquired-intangible amortization, acquisition-related expenses and specified other items; 2018 acquisition-related expenses were $425 million.
At year-end, cash and cash equivalents were $5.342 billion; investments and restricted deposits totaled approximately $8.138 billion. Total debt was $6.686 billion, including $6.648 billion of long-term debt. Working capital was $27 million, versus negative $629 million a year earlier; debt-to-capital was 37.8%, versus 40.6%. The company reported compliance with debt covenants and $284 million drawn on its $1.5 billion revolving facility.
Investing activities used $4.585 billion, including acquisitions and investment-portfolio additions. Financing activities provided $4.612 billion, reflecting the equity and debt offerings that funded the Fidelis transaction. Operating cash flow was affected by a $1.173 billion increase in premium and trade receivables and repayment of approximately $1.0 billion of previously accrued California Medicaid expansion overpayments and MLR rebates.
Unaudited fourth-quarter revenue was $16.559 billion and attributable net earnings were $241 million ($0.57 diluted EPS). Third-quarter attributable earnings were $19 million ($0.05 diluted EPS); the filing does not provide a clear quarter-specific explanation for this variation.
Material changes versus the prior year
- Revenue growth reflected Fidelis, Marketplace expansion and new or expanded state programs; membership increased by 1.8 million. Medicaid revenue rose 19%, commercial revenue 51%, and Medicare revenue 14%.
- The lower HBR was attributed to Marketplace growth, reinstatement of the health insurer fee and a California in-home support services (IHSS) reconciliation benefit; Fidelis operated at a higher HBR.
- SG&A and its ratio increased, mainly due to acquisition costs and business expansion. GAAP diluted EPS declined despite higher net earnings, while adjusted EPS increased substantially.
- Specialty Services operating earnings fell to $148 million from $282 million, mainly due to the Veterans Affairs contract wind-down and weaker margins in federal and behavioral-health services. Managed Care operating earnings increased to $1.310 billion from $917 million.
- Year-end medical claims liability increased to $6.831 billion from $4.286 billion; days in claims payable rose to 48 from 41.
Outlook, commentary, risks and unusual items
- Management expected available cash, investments, operating cash flow and credit capacity to fund operations and capital expenditures for at least 12 months from the filing date. For 2019, it expected approximately $327 million of net capital contributions to insurance subsidiaries and $650 million of capital expenditures. No 2019 EPS guidance is stated in the provided filing text.
- Centene expected a full-year contribution in 2019 from 2018 acquisitions and new programs. Management also anticipated lower Specialty Services earnings and higher Managed Care earnings beginning in the second quarter of 2019 as pharmacy pricing became more transparent and the company transitioned to the RxAdvance platform.
- Significant 2018 items included a $140 million estimated pre-tax IHSS reconciliation benefit, a $110 million pre-tax charge for negotiated settlements and severance after the VA contract expired, a $30 million charitable contribution expense, and a $328 million present-value expense for a $340 million New York State contribution payable over five years. The filing states these items, in aggregate, had no net effect on diluted EPS.
- Key risks include government funding, contract renewals and rate adequacy; medical-cost and claims-reserve estimation; Marketplace pricing, enrollment and adverse selection; changes to the ACA; Medicare Star ratings; acquisition integration; debt and interest-rate exposure; and privacy, cybersecurity, litigation and regulatory matters. The Texas ruling challenging the ACA was under appeal; the ACA remained in effect for 2019.
- Material disclosed proceedings include a California premium-tax lawsuit, securities and derivative litigation related to Health Net accounting, a VA-related Department of Justice investigation, and an Ambetter provider-network class action. The company said accrued legal and regulatory amounts were not material, while noting outcomes could adversely affect results.
Important facts for investors to verify
- How much of 2018’s revenue and earnings growth came from Fidelis and other acquisitions versus underlying organic growth, and whether expected synergies are being realized.
- Whether the lower HBR is sustainable and whether the higher SG&A ratio, elevated claims liability and 48 claims-payable days normalize.
- How the large increase in receivables and California repayment affected cash conversion, and the timing and collectability of risk-adjustment and other Marketplace balances.
- The final Fidelis purchase-price allocation, integration costs, New York contribution payments and execution of California acquisition undertakings.
- Developments in the disclosed legal and regulatory matters, ACA litigation and policy changes, and Medicare Star ratings and contract awards.
- Debt repayment capacity, covenant headroom and exposure from $2.7 billion of LIBOR-linked interest-rate swaps; also note that Fidelis internal controls were excluded from management’s and the auditor’s 2018 internal-control assessment.