Evolent Health, Inc. — FY2016 Form 10-K
Reporting period: Fiscal year ended December 31, 2016. The filing also reports unaudited fourth-quarter results. Evolent provides technology-enabled services, administration and population-health support to health systems and physician organizations moving toward value-based care. Its financial statements consolidate Evolent Health LLC for all of 2016; 2015 includes consolidated operations only from June 4, so reported year-over-year comparisons are not fully comparable.
Financial performance and position
| Metric | FY2016 | FY2015 |
|---|---|---|
| Revenue | $254.2 million | $96.9 million |
| Transformation revenue | $38.3 million | $19.9 million |
| Platform and operations revenue | $215.9 million | $77.0 million |
| Operating loss | $237.4 million | $43.0 million |
| Net income (loss), consolidated | $(226.8) million | $319.8 million |
| Net income (loss) attributable to Evolent | $(159.7) million | $332.5 million |
| Net cash used in operating activities | $35.5 million | $18.5 million |
The 2015 net profit primarily reflected a one-time $414.1 million gain on consolidation; it is not a comparable measure of recurring performance. FY2016 operating expenses included a $160.6 million goodwill impairment. Cost of revenue was $155.2 million, or 61.0% of reported revenue; SG&A was $160.7 million, or 63.2%. On management’s adjusted, non-GAAP basis, revenue was $256.3 million, up 56.7% from $163.5 million, and adjusted operating loss was $35.9 million versus $41.5 million. These adjustments exclude specified items and are not GAAP measures.
Unaudited Q4 2016 revenue was $88.0 million, total operating expenses were $121.9 million, and consolidated net loss was $25.2 million. The filing does not provide a clear standalone Q4 operating margin.
At year-end, cash and cash equivalents were $134.6 million, investments were $44.3 million, and restricted cash and investments totaled $40.4 million. Current assets were $265.0 million and current liabilities $131.9 million. Long-term debt, net of issuance costs, was $120.3 million; the notes’ principal amount was $125.0 million. Total assets were $1.20 billion, including $626.6 million of goodwill and $258.9 million of net intangible assets.
Material changes and notable items
- Adjusted revenue increased 56.7%, driven mainly by platform and operations growth. Lives on platform reached approximately 2.0 million at year-end, and Evolent reported more than 25 revenue-producing partners.
- October and November acquisitions of Valence Health and Aldera expanded Medicaid, pediatric and third-party-administration capabilities. Passport-related services contributed $49.8 million of FY2016 revenue; Valence contributed $24.1 million from acquisition, and Aldera $1.2 million.
- The company issued $125.0 million of 2.00% convertible senior notes due 2021, receiving $120.2 million net proceeds. The initial conversion price was approximately $24.03 per share; conversion could initially result in about 5.2 million shares.
- A September secondary offering sold 8.6 million shares; Evolent received no proceeds. Exchanges associated with the offering increased its economic ownership of Evolent Health LLC, which reached 77.4% at year-end.
- FY2016 operating cash use was $35.5 million; investing cash use was $97.8 million, principally reflecting acquisitions and $15.5 million of property and equipment purchases. Financing cash inflow was $122.1 million, primarily from the notes.
- Revenue was concentrated: Passport, Indiana University Health Plan and MedStar represented 19.6%, 14.5% and 12.7% of FY2016 revenue, respectively, or 46.8% combined.
Outlook, risks and contingencies
Management expected operating losses to continue for the foreseeable future, while stating that available liquidity was sufficient for the next twelve months. It described growth opportunities in existing partners, new partners, additional platform services and value-based care programs, but provided no quantified financial guidance. Management also expected investment in the business to continue and anticipated that SG&A could decline as a percentage of adjusted revenue over the long term.
- Goodwill and unusual charges: The $160.6 million impairment followed a sustained share-price decline. Goodwill was $626.6 million at year-end; further impairment could be material. Valence-related items included a $6.5 million lease-abandonment charge and $3.9 million accelerated stock compensation.
- Controls: Management concluded internal control over financial reporting and disclosure controls were not effective at December 31, 2016, due to a material weakness involving resources and expertise for complex, non-routine accounting. Remediation was ongoing. Valence and Aldera were excluded from the ICFR assessment. The independent auditor gave an unqualified opinion on the financial statements, not an attestation on ICFR.
- Regulatory and operating exposure: Risks include changes to the ACA and Medicare/Medicaid rules, compliance obligations, data privacy and security, acquisition integration, partner growth and creditworthiness, competition, and reliance on third-party technology and vendors.
- Partner and contractual concentration: Fees often depend on covered lives, services and partner participation in payer programs. Contracts may be terminable, and partner concentration or reduced government reimbursement could affect revenue and collections.
- Tax receivables agreement: Evolent generally owes certain investors 85% of qualifying tax savings. The company had not recorded a TRA liability at year-end; the filing notes that payments may be accelerated or exceed realized tax benefits. A hypothetical estimate under specified assumptions was approximately $182.7 million.
- Legal matters: The company reported no known proceedings or claims expected to have a material adverse effect at year-end. Acquired Valence litigation was described as fully indemnified by sellers.
Key facts for investors to verify
- How much of revenue growth is organic versus attributable to Passport, Valence and Aldera, and whether acquired operations meet expectations.
- Progress in converting partner relationships and covered lives into recurring revenue, while monitoring the 46.8% revenue concentration among the three largest partners.
- Cash burn, liquidity needs, debt terms and potential dilution from conversion of the notes or exchanges of Class B units.
- Whether the material weakness is remediated and whether future filings report effective controls, including integration of acquired businesses.
- Goodwill and intangible-asset carrying values, impairment-test assumptions, and the potential cash impact of TRA payments.
- The impact of changes in healthcare policy and payer programs, as well as partner participation, reimbursement and membership trends.