MOH

Business Context and Reporting Period

Molina Healthcare, Inc. is a multi-state managed care organization providing health services to Medicaid, Medicare, and other government-sponsored program enrollees. This Form 10-Q covers the quarterly period ended June 30, 2010. During this period, the company significantly altered its business structure by acquiring Molina Medicaid Solutions on May 1, 2010, a health information management business providing Medicaid Management Information Systems (MMIS) to state governments. Consequently, the company now reports two segments: Health Plans and Molina Medicaid Solutions.

Key Financial Metrics

Material Changes Versus Prior Period

• Revenue Growth: Total revenue increased 7.7% for the three months and 9.9% for the six months ended June 30, 2010, compared to the same periods in 2009. This was driven by a nearly 10% increase in membership and the inclusion of Molina Medicaid Solutions service revenue.
• Net Income Decline: Despite revenue growth, net income decreased 27.4% for the quarter and 20.9% for the six-month period compared to 2009. This was primarily due to a higher effective tax rate (38.1% vs. 10.5% in Q2 2009) and increased administrative and premium tax expenses.
• Medical Cost Improvement: The medical care ratio improved to 86.0% (Q2) and 85.6% (YTD) from 86.8% and 86.4% in the prior year periods. Improvements were driven by lower influenza incidence, improved hospital utilization, and the transfer of pharmacy risk back to the states of Ohio and Missouri.
• Debt Increase: Long-term debt increased from $158.9 million at December 31, 2009, to $266.4 million at June 30, 2010. This increase was primarily due to a $105 million draw on the company's credit facility to fund the Molina Medicaid Solutions acquisition.
• Acquisition Impact: The acquisition of Molina Medicaid Solutions contributed $5.0 million to operating income for both the three-month and six-month periods. The segment reported a 24% operating profit margin for the two months of operations included in the quarter.

Guidance, Outlook, and Risks

• Outlook: Management expects the Molina Medicaid Solutions segment to maintain a significantly higher operating profit margin than the Health Plans segment, though margins may decline as new contracts in Idaho and Maine commence full operations. The company anticipates blended PMPM rate increases in Utah and California later in the year, but a decrease in Texas.
• Future Acquisitions: On July 12, 2010, the company announced an agreement to acquire Abri Health Plan in Wisconsin for approximately $16 million, expected to close by August 31, 2010.
• Capital Markets: The company announced a proposed offering of 4 million shares of common stock to repay the credit facility and for general corporate purposes.
• Key Risks:
  • State Budget Pressures: Continued budget shortfalls in states could lead to premium rate decreases or recoupment of previously paid amounts (e.g., Michigan retroactive rate reductions).
  • Regulatory Changes: Uncertainty regarding the expiration of enhanced federal Medicaid funding (ARRA) on December 31, 2010, and potential impacts of health care reform.
  • Claims Reserving: Significant judgment is required in estimating medical claims liabilities (IBNP). A 1% change in completion factors could impact net income by approximately $8.0 million.
  • Contract Performance: Risks related to meeting performance measures in state contracts (e.g., New Mexico, Ohio, Texas) which could result in revenue refunds.

Investor Verification Checklist

• Acquisition Integration: Verify the progress of integrating Molina Medicaid Solutions and the realization of projected synergies.
• Michigan Rate Adjustments: Monitor the impact of the $5.5 million retroactive premium reduction imposed by the state of Michigan on future profitability.
• Claims Reserve Adequacy: Review the sensitivity analysis regarding Incurred But Not Paid (IBNP) reserves, as a 5% change in assumptions could impact net income by over $40 million.
• Debt Covenants: Confirm compliance with the credit facility's leverage ratio covenants, which were temporarily relaxed to 3.50x to accommodate the acquisition but must revert to 2.75x by September 30, 2010.
• State Funding Stability: Assess the risk of delayed premium payments or rate cuts in states facing budget impasses, particularly California and Michigan.