Centene Corporation — Q1 2014 Form 10-Q
Reporting period: Three months ended March 31, 2014; comparisons are with Q1 2013 unless otherwise stated. Amounts are in U.S. dollars. Centene provides managed care and specialty healthcare services, primarily through government-sponsored programs.
Financial performance
| Metric | Q1 2014 | Q1 2013 | Change / context |
|---|---|---|---|
| Premium and service revenue | $3.352 billion | $2.422 billion | Up 38.4% |
| Total revenue | $3.460 billion | $2.525 billion | Up 37.0% |
| Operating earnings | $70.0 million | $39.6 million | Up 76.9% |
| Continuing-operations earnings attributable to Centene shareholders | $33.8 million | $22.6 million | Up 49.4% |
| Net earnings attributable to Centene | $33.0 million | $23.0 million | Up 43.4% |
| Diluted EPS | $0.56 total; $0.57 continuing operations | $0.42 total; $0.41 continuing operations | Management reports $0.79 continuing-operations EPS excluding specified items |
| Health Benefits Ratio (HBR) | 89.3% | 90.2% | Improved 0.9 percentage point |
| General and administrative expense ratio | 8.8% | 8.4% | Increased 0.4 percentage point |
| Operating cash flow | $252.4 million | $43.0 million | Increase largely reflected higher medical claims liabilities |
Growth in premium and service revenue reflected market and contract expansions, new Health Insurance Marketplace business, and acquisitions. At-risk managed care membership increased 13% year over year to 2.886 million. Managed Care operating earnings rose to $44.1 million from $9.3 million; Specialty Services operating earnings declined to $25.9 million from $30.3 million, with lower pharmacy margins cited.
Cash, debt and liquidity
- Cash and cash equivalents were $1.271 billion at March 31, 2014, including $52.8 million classified as discontinued operations. Continuing-operations cash was $1.218 billion.
- Total debt was $817.1 million, versus $668.8 million at year-end 2013. Revolver borrowings increased to $295 million from $150 million; the $500 million facility had no availability restrictions arising from the debt-to-EBITDA covenant. The facility is subject to other covenants and conditions.
- Working capital was $260.4 million. The company reported a 36.5% debt-to-capital ratio, or 34.4% excluding $72.1 million of non-recourse mortgage debt.
- Investing activities used $150.5 million, including $77.0 million of acquisition cash outflow and $18.1 million of capital expenditures. Financing activities provided $130.8 million, primarily from net revolver borrowings.
- Management stated that cash, investments, operating cash flow and credit-facility availability were expected to fund general operations and capital expenditures for at least 12 months from the filing date.
Material developments, outlook and risks
- USMM acquisition: Centene acquired a 68% interest in U.S. Medical Management for $214.9 million of total consideration, funded with $132.7 million of Centene stock and $82.2 million cash. Preliminary purchase accounting included $309.0 million of goodwill and $40.2 million of identifiable intangible assets. Put/call arrangements may require or permit purchase of the remaining interests beginning in 2015; $120.7 million was reported as redeemable noncontrolling interest.
- Health insurer fee: Q1 included $31.3 million of nondeductible fee expense and $29.4 million of related reimbursement revenue recognized for agreements with 13 of 17 applicable states. Management said timing of reimbursement recognition reduced Q1 diluted EPS by $0.16 and expected $125.3 million of fee expense for full-year 2014. The filing’s adjusted EPS presentation also excludes $0.06 per diluted share of USMM transaction costs.
- 2014 spending expectations: Centene expected approximately $315 million of net capital contributions to insurance subsidiaries and approximately $80 million of additional capital expenditures for the remainder of 2014, funded by unregulated cash generation and revolver borrowings.
- Growth pipeline: Management cited anticipated contributions from recent contract launches and expansions. Potential future transactions and launches included Fidelis SecureCare in Michigan, Florida program awards, Texas expansion, Ohio dual-eligible enrollment and an announced agreement to acquire a noncontrolling interest in Spain’s Ribera Salud, subject to approvals and closing conditions.
- Kentucky litigation: The Commonwealth demanded approximately $46 million for alleged losses and costs following Kentucky Spirit’s 2013 exit from its Medicaid contract, and alleged approximately $154 million in increased Medicaid program costs. Centene disputes the claims, seeks its own damages and had recorded neither a receivable nor a liability because it could not estimate the outcome. The Commonwealth also seeks to enforce a $25 million performance bond; the company warned resolution could materially affect results, cash flow or financial position.
- Other risks: Key exposures include medical-cost and claims-reserve estimation, government funding and contract renewals, ACA Marketplace pricing and adverse selection, state reimbursement of the insurer fee, regulatory and capital requirements, acquisition integration, provider costs, and investment and interest-rate risk. A hypothetical immediate 1% rate increase was estimated to reduce fixed-income investment fair value by $24.6 million.
Investor verification points
- Reconcile GAAP diluted EPS of $0.56 total and $0.57 from continuing operations with management’s $0.79 adjusted continuing-operations figure and its exclusions.
- Track insurer-fee reimbursement agreements, recognition timing, full-year fee expense and the effect on the effective tax rate.
- Monitor the Kentucky litigation, including the $46 million demand, $25 million bond and the absence of an accrued liability.
- Assess whether HBR improvement persists as new markets mature; Q1 improvement was attributed partly to lower flu costs and weather-related utilization changes.
- Review leverage, revolver capacity and covenant compliance alongside planned subsidiary capital contributions, capital spending and acquisition commitments.