Molina Healthcare, Inc. — FY 2016 Form 10-K
Business context and period. Annual report for the fiscal year ended December 31, 2016, filed March 1, 2017. Molina provides government-sponsored health coverage and Medicaid administration services. Its principal segment, Health Plans, served approximately 4.227 million members across 12 states and Puerto Rico at year-end. The filing is an annual report; it also reports a fourth-quarter 2016 net loss.
Financial performance and condition
| Metric | FY 2016 | FY 2015 |
|---|---|---|
| Total revenue | $17.782 billion | $14.178 billion |
| Premium revenue | $16.392 billion | $13.241 billion |
| Operating income | $306 million | $387 million |
| Net income | $52 million | $143 million |
| Diluted EPS | $0.92 | $2.58 |
| Adjusted diluted EPS (non-GAAP) | $1.28 | $2.78 |
| EBITDA (non-GAAP) | $467 million | $508 million |
| Medical care ratio (MCR) | 90.1% | 89.1% |
| General and administrative expense ratio | 7.8% | 8.1% |
| Net profit margin | 0.3% | 1.0% |
| Net cash from operating activities | $673 million | $1.125 billion |
- Revenue grew 25%; premium revenue rose 24%, mainly from membership growth, acquisitions, and Marketplace enrollment. Year-end membership increased 20% from 3.533 million.
- Net income fell 64%, primarily because Marketplace profitability deteriorated. Marketplace MCR rose to 92.9% from 73.8%; the company estimated a $110 million Marketplace operating loss in 2016.
- Health Plans medical margin increased to $1.618 billion from $1.447 billion, but the consolidated MCR worsened. Total medical costs rose to $14.774 billion; medical costs per member per month decreased about 3%.
- Interest expense increased to $101 million from $66 million. The effective income tax rate was 74.8%, reflecting lower pretax income and significant nondeductible health insurer fee expense.
- At December 31, 2016, cash and investments were reported at $4.689 billion; working capital was $1.418 billion. Total indebtedness was approximately $1.645 billion, including lease financing obligations. No borrowings were outstanding on the credit facility at year-end; approximately $494 million was available under the facility after letters of credit.
Material changes, outlook, and notable items
- Earnings and cash flow: Operating income fell 21%; operating cash flow declined $452 million year over year. Management attributed cash-flow pressure in part to premium-payment timing and a smaller year-over-year increase in medical claims payable.
- Marketplace exposure: Management said risk-transfer payments were approximately $325 million above pricing assumptions. The company estimates it is owed $142 million in unpaid federal risk-corridor payments for 2015–2016, but recognized no receivable or revenue for these amounts. It filed suit in January 2017 to recover them.
- Medicaid adjustments: California contract changes increased 2016 premium revenue by about $68 million, including $35 million relating to earlier periods. New Mexico’s agency disputed certain risk-corridor calculations; Molina deferred about $45 million of revenue, including $29 million relating to prior periods, and reported a $145 million aggregate Medicaid Expansion risk-corridor payable to the state. Molina said it intends to appeal.
- Other earnings items: The company recorded a $30 million premium deficiency reserve for Marketplace contracts in California and Washington. It also recognized $51 million of Texas quality incentive revenue, $44 million of which related to 2015 and earlier. Favorable prior-period claims development of $192 million benefited 2016 results.
- 2017 priorities, not formal earnings guidance: Management plans to stabilize Marketplace performance, improve Medicaid results in Illinois, Ohio, and Washington, and sustain Puerto Rico improvements. It cited effective January 1, 2017, blended rate increases of approximately 5% in Illinois and 4% each in Ohio and Washington. The filing provides no clear consolidated 2017 revenue or earnings guidance. The federal health insurer fee moratorium means no HIF revenue or expense is expected in 2017.
- Post-year-end events: The proposed Aetna/Humana Medicare asset acquisition was terminated in February 2017 after a court blocked the Aetna-Humana merger. Molina is entitled to a $75 million termination fee plus eligible expenses, expected to be recorded as other income in first-quarter 2017.
- Credit and controls: Molina was not in compliance with credit-facility financial covenants at December 31, 2016. In February 2017, lenders waived the defaults and amended covenant calculations. Management and the auditor identified a material weakness in controls over California Medicaid Expansion corridor calculations; a $44 million net-income understatement was corrected before issuance. Management concluded internal control over financial reporting was ineffective, and the auditor issued an adverse opinion on those controls, while giving an unqualified opinion on the financial statements.
- Key risks: ACA and Medicaid policy changes; Marketplace risk adjustment and subsidy uncertainty; medical-cost forecasting and claims-reserve estimates; state rate adequacy and contract renewals; state budget and payment delays; Puerto Rico’s fiscal crisis; pharmacy-cost inflation; government audits and litigation; and debt covenants and cash requirements. Illinois owed Molina approximately $68 million for late-2016 premiums as of February 24, 2017; Puerto Rico was current on payments at that date.
Important facts for investors to verify
- Whether Marketplace risk-transfer rules, enrollment mix, and premium rates support a return to profitability, and the outcome and collectability of the $142 million risk-corridor claim.
- Final resolution of the New Mexico risk-corridor dispute and the amounts ultimately payable or recoverable under state medical-cost corridors.
- Whether the California control remediation is implemented and operates effectively during 2017; monitor any further corrections or restatements.
- Compliance with amended credit-facility covenants, debt-conversion or repurchase obligations, and the availability of cash at the parent company versus regulated subsidiaries.
- State contract renewals and bids, rate adequacy, Illinois payment timing, and Puerto Rico’s ability to fund its Medicaid program.
- Whether claims-reserve estimates and prior-period favorable development persist; a material change in IBNP assumptions could substantially affect reported earnings.