Evolent Health, Inc. — Q2 2019 Form 10-Q
Reporting period: Three and six months ended June 30, 2019; comparisons are to the corresponding 2018 periods. Amounts are in U.S. dollars. Evolent provides technology-enabled value-based care, specialty care management and health-plan administration services, and operates True Health, a New Mexico commercial health plan.
Financial results and liquidity
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Revenue | $192.0 million | $144.3 million | $389.7 million | $284.0 million |
| Operating loss | $25.2 million | $9.0 million | $71.9 million | $23.1 million |
| Net loss attributable to Evolent | $31.6 million | $9.9 million | $78.4 million | $23.5 million |
| Loss per share, basic and diluted | $0.38 | $0.13 | $0.97 | $0.31 |
| Adjusted EBITDA (non-GAAP) | $(7.7) million | $4.9 million | $(22.5) million | $12.8 million |
- Q2 revenue rose 33.0%; first-half revenue rose 37.2%. Platform and operations services grew 27.5% in Q2 and 30.8% in the first half. Management attributed growth chiefly to the New Century Health acquisition, higher average per-member fees and 14.4% growth in lives on platform.
- Premium revenue approximately doubled, primarily reflecting the NMHC quota-share reinsurance agreement, under which Evolent assumed 90% of premiums and claims. Claims expense was 79.3% of premiums in Q2 and 79.7% in the first half, versus 81.0% and 76.3%, respectively, in 2018.
- Services cost of revenue increased to 74.0% of Services revenue in Q2 and 76.0% in the first half, from 56.8% and 59.3%. Management cited New Century Health, performance-based payments and staffing costs; it expects the ratio to decline over time with scale and efficiencies.
- Cash and cash equivalents were $92.8 million at June 30; restricted cash and investments were another $45.2 million. Long-term debt, net of discount, was $225.6 million; the notes’ aggregate principal was $297.5 million ($172.5 million due 2025 and $125.0 million due 2021).
- For the first half, operating cash use was $39.2 million, investing cash use $90.8 million and financing cash use $121.1 million. Financing cash use included a $119.5 million decrease in cash held for partners’ claims processing, which can fluctuate with timing. Investing outflows included a $40.0 million Passport regulatory-capital advance.
- Management stated that available liquidity was expected to cover at least the next 12 months. The company reported operating losses since inception and expects losses to continue for the foreseeable future; it may need additional capital.
Changes, transactions and unusual items
- Revenue growth came with substantially larger operating and net losses. First-half operating loss increased to $71.9 million from $23.1 million; Adjusted EBITDA shifted to a $22.5 million loss from $12.8 million of positive Adjusted EBITDA.
- Q2 included a $9.6 million noncash gain on disposal of assets tied to contributing True Health Indiana assets to the GlobalHealth venture. Evolent acquired an approximately 43% economic interest in GlobalHealth, contributed $15.0 million cash and 1.6 million shares, and recorded a $5.9 million contingent-consideration liability. Its share of equity-method investee losses was $2.3 million for the first half.
- The company adopted the new lease accounting standard in January 2019, recording right-of-use assets and lease liabilities. At June 30, operating lease liabilities totaled $75.4 million; adoption did not affect reported operating results.
- First-half SG&A included $17.6 million of one-time transaction, transition and severance costs, compared with $2.7 million in the prior-year period. Depreciation and amortization also increased, partly from acquisitions and capitalized software.
Outlook, risks and contingencies
- No specific numerical financial guidance is provided in the filing. Management expects transformation services to decline as a share of revenue as offerings become more product-oriented, and premiums to decline as a share of revenue. It expects SG&A to decrease as a percentage of revenue over the long term, while acknowledging continuing investment and expected operating losses.
- The proposed Passport asset purchase was expected to close in Q4 2019, subject to conditions and regulatory approvals. The agreement provides for $70.0 million cash consideration and a 30% equity interest for provider sponsors. Evolent had advanced Passport $40.0 million at 6.5%, repayable from qualifying surplus, and jointly guaranteed a $25.0 million performance bond with Passport.
- Passport’s Kentucky Medicaid contract was due to expire June 30, 2020, and its renewal depended on a state RFP. Evolent warned that if Passport did not win a new contract, material management-services revenue could end after that date; the acquisition agreement was not conditional on the RFP outcome. The company could also be required to acquire the sponsors’ remaining ownership for an additional $20.0 million if Passport did not win.
- Revenue and receivables are concentrated among a limited number of partners. Passport represented 13.1% of first-half 2019 revenue; a single customer accounted for 20.3% of receivables at June 30. Partner contract loss or renegotiation, government funding and rate changes, membership shifts, claims estimates, execution of acquisitions and integration, and possible goodwill impairment are material risks.
- The filing reports a putative securities class action filed August 8, 2019, seeking unspecified remedies. Evolent said it believed the claims lacked merit and intended to defend itself; it could not assess potential loss at that stage. No other legal proceedings were identified as expected to have a material adverse effect.
- The Class A share price declined significantly in Q2. Evolent did not conduct a quantitative interim goodwill impairment test and reported no impairment at June 30, but cautioned that a sustained decline or weaker cash-flow outlook could lead to a future charge.
Important facts for investors to verify
- Passport’s Medicaid RFP result, transaction closing and required capital support, including the potential additional $20.0 million obligation.
- Whether Services revenue growth can translate into improved cost of revenue and positive Adjusted EBITDA, given worsening first-half operating results.
- Underlying cash generation and liquidity, separating operating cash use from changes in restricted partner claims-processing cash.
- Claims-reserve adequacy and the economics and exposure limits of the NMHC reinsurance agreement and risk-sharing arrangements.
- Goodwill valuation assumptions, acquisition integration progress and the outcome or potential financial impact of the newly filed securities lawsuit.