Molina Healthcare, Inc. — Q2 2019 Form 10-Q
Reporting period: Three and six months ended June 30, 2019. All dollar amounts are in millions unless otherwise noted.
Business context
Molina provides managed healthcare services through Medicaid, Medicare and state Marketplace programs. Its Health Plans segment operated in 14 states and Puerto Rico and served approximately 3.37 million members at quarter-end. The Other segment includes corporate items and the historical results of subsidiaries sold in Q4 2018; the company no longer reports service revenue or service costs from those businesses.
Financial performance
| Metric | Q2 2019 | Q2 2018 | First half 2019 | First half 2018 |
|---|---|---|---|---|
| Total revenue | $4,193 | $4,883 | $8,312 | $9,529 |
| Operating income | $265 | $342 | $545 | $564 |
| Net income | $196 | $202 | $394 | $309 |
| Diluted EPS | $3.06 | $3.02 | $6.04 | $4.68 |
| Medical care ratio (MCR) | 85.6% | 85.3% | 85.5% | 85.7% |
| G&A ratio | 7.8% | 6.9% | 7.6% | 7.2% |
| After-tax margin | 4.7% | 4.1% | 4.7% | 3.2% |
- Premium revenue fell 10% in Q2 and 9% in the first half, with member months down 18% in both periods; higher per-member premium revenue partly offset lower enrollment.
- Operating income declined year over year, while first-half net income and diluted EPS increased. Lower interest expense and tax rates, a debt-extinguishment gain, and reduced warrant dilution supported earnings.
- First-half operating cash flow was $156, down from $314. Investing activities used $393, compared with $398 provided in the prior-year period; financing activities used $362, versus $503 used.
- At June 30, cash and cash equivalents were $2,253 and investments were $2,070. Working capital was $2,475; cash and investments totaled $4,423, compared with $4,629 at year-end 2018.
- Debt had a $1,306 carrying value on the balance sheet and $1,317 in contractual principal. It included $700 of 5.375% notes, $330 of 4.875% notes, $220 outstanding under the term loan and $67 of convertible notes due January 2020.
- Available borrowing capacity was $380 under the term loan facility and $498 under the revolving credit facility. The company reported compliance with debt covenants; its net leverage and interest coverage ratios were 1.0x and 14.7x, respectively.
Changes versus the prior period
- Membership at June 30 fell to 3.37 million from 4.06 million a year earlier, principally following Medicaid contract terminations in New Mexico and most Florida regions, alongside Marketplace enrollment attrition.
- Despite lower revenue, first-half consolidated MCR improved to 85.5% from 85.7%; Medicaid MCR improved to 88.3% from 90.3%. Management attributed gains largely to improved cost management and lower pharmacy costs in certain programs.
- Marketplace MCR rose to 64.7% for the first half from 54.4%, and Marketplace medical margin declined $161. The comparison reflects a smaller benefit from prior-year risk adjustment, higher-acuity membership and a $76 CSR reimbursement benefit recognized in the first half of 2018.
- Q2 operating income was lower, but net income was only modestly lower. The 2019 period included a $14 debt-extinguishment gain, while Q2 2018 included a $5 loss. For the first half, the respective amounts were a $17 gain and a $15 loss.
- The 2019 HIF moratorium eliminated health insurer fee expense and reimbursement; in first-half 2018, these were $174 and $165, respectively. The sold MMIS and behavioral health businesses also make reported revenue less comparable.
Outlook, commentary and risks
- Management said Q2 and first-half results met or exceeded expectations and described operating and financial profiles as strong. No consolidated full-year earnings or EPS guidance is stated in the filing text.
- The company expects Medicaid and Marketplace premium revenue to continue declining in 2019. It estimated Marketplace year-end enrollment of 270,000–280,000, versus 308,000 at June 30.
- Management reported first-half MCRs of 88.3% for Medicaid, 85.0% for Medicare and 64.7% for Marketplace. It cited managed medical-cost trends, improving risk-score alignment in Medicare and Marketplace, and flexibility to invest in benefits and product competitiveness.
- Texas STAR+PLUS and STAR/CHIP contract awards were expected in Q3 2019, with operations scheduled to take effect September 2020. Management warned that losing major Texas, Ohio or California Medicaid contracts could materially harm results. Ohio’s RFP was expected in early 2020 and California’s in 2020.
- The company forecast lower Medicaid revenue in 2019 following contract losses and expects an ongoing decline in Marketplace revenue. It also disclosed a net Marketplace risk-adjustment payable of $554, including $390 related to 2018 service dates.
- The IT restructuring plan was expected to finish by year-end 2019. Estimated annualized savings were $15–$20 in the first full year, increasing to $30–$35 by the fifth full year; these savings are not assured.
- Key risks include state and federal Medicaid funding pressure, ACA legal and regulatory uncertainty, Marketplace risk adjustment and enrollment, medical-cost estimates, contract renewals and competitive bidding, and Puerto Rico’s political, fiscal and weather exposure. Pending legal matters are not quantified clearly in the filing text; management says adverse outcomes could be material.
- Management believed available cash, borrowing capacity and internally generated funds would meet operations, regulatory requirements, debt repayments and capital expenditures for at least 12 months. It had received notices for approximately $9 of convertible-note principal to be settled in Q3 2019 and expected to fund conversions and the remaining maturity with cash and available credit.
Most important facts for investors to verify
- Whether Medicaid contract exits and Marketplace attrition continue to weigh on premium revenue and membership, and the outcome of Texas contract awards.
- Whether MCR performance is sustainable, especially the Marketplace trend and the favorable $232 development of prior-period medical claims estimates in the first half.
- How the $554 net Marketplace risk-adjustment payable is ultimately reconciled and paid, including the portion related to 2018 service dates.
- Cash generation and liquidity after the substantial cash use for convertible-note repayments and related call-spread transactions; verify repayment or settlement of the remaining notes due January 2020.
- Whether the disclosed IT savings materialize and whether regulatory, legal, state-budget or ACA developments affect contracts, rates, benefits or funding.
- Interest-rate sensitivity: management estimated that an immediate 1% increase in market rates would reduce fixed-income investment fair value by approximately $37.