Clover Health Investments Corp (CLOV) 2021 Q2 法說會逐字稿

Good day, and thank you for standing by. Welcome to Clover Health's Second Quarter 2021 Earnings Call. (Operator Instructions)

It is my pleasure to hand the conference over to Derrick Nueman, Vice President of Investor Relations.

Good afternoon, everyone. Joining me on today's call is our CEO, Vivek Garipalli, our President and CTO, Andrew Toy; and our CFO, Joe Wagner. We will discuss second quarter results, recent trends and answer your questions. This call is also being recorded.

Before we get started, I would like you to remind you that our second quarter earnings materials, including the release, are available on our website at cloverhealth.com. I'd also like to caution you that we may make forward-looking statements during today's call that are subject to risks and uncertainties. Factors that may cause actual results to differ materially from expectations are detailed in our SEC filings, including in the Risk Factors section of our annual report on Form 10-K for the year ended December 31, 2020, and in our other periodic SEC filings, including our quarterly reports on Form 10-Q for the quarter ended June 30, 2021. Information about non-GAAP financial measures referenced, including a reconciliation of these measures to GAAP measures, can also be found in the earnings materials available on our website.

With that, I will now turn over the call to Vivek.

Thanks, Derrick, and thanks, everyone, for joining us today. As I have said many times before, we have ambitious goals, delivering on our aggressive growth trajectory, improving health equity for America's underserved seniors regardless of economic standing and aligning incentives across a broken health care system. We are making progress toward those goals, both on a scale basis and serving more seniors.

Getting into the key points from the quarter. We delivered $412 million in total revenue, up 140% year-over-year. We think this is important to note because we are going after the entire $1 trillion-plus Medicare market, including both Medicare Advantage and fee-for-service. Our lives under corporate management nearly doubled to 129,000 versus last quarter. This growth was driven by the launch of direct contracting and our MA business continuing to grow steadily. Clover's system continues to be a differentiator, which Andrew will address in his commentary. But we continue to do a better job on health equity, the most Medicare-focused companies by serving more minority or underserved beneficiaries.

As a reminder, clover MA plans over-indexed towards underserved populations. And historically, over 50% of our members are minorities versus an industry average of a little more than 30%. We expect these growth trends to only continue, and we believe we are building a strong foundation as we go after a bigger piece of the $1 trillion-plus Medicare market we just referenced. Specifically, we recently announced our MA plans are expanding to another 101 counties in 2022, subject to CMS approval, and we are preparing for the fall annual enrollment period. We're adding more DCE providers and moving into new states, as evidenced by the recent press release announcing our DCE's expansion into Florida.

The DCE efforts will also provide us with the ability to expand our MA plan more aggressively in the future to help us build network adequacy faster, and importantly, also bring the Clover Assistant to many more physicians. While we have these long-term structural tailwinds in our business, COVID-19 continues to create near-term challenges and makes it difficult to holistically evaluate our progress. Specifically, it has impacted revenue via risk score and medical expenses, especially in our largest market, New Jersey. It's worth pausing here to discuss Clover's mission as well as our economics.

Our mission is to improve every life. And COVID has brought some of the most challenging conditions to our core markets, most notably New Jersey. We are proud to have helped our members during this time. We have paid more for care, relaxed utilization management protocols, focused on vaccinations, and we are proud to have done so. We even maintained care via the Clover Assistant in any communication mechanism that our members can support. Video or just pure voice, even if the latter is not recognized by CMS as a face-to-face visit. While this has of course had an effect on our medical expenses and risk adjustment revenues, we wear that as a badge of honor. We will continue to do this through the pandemic as this is who we are as a company, and we are proud of it.

That said, to help investors better evaluate Clover and get through the COVID-19 noise, we are providing additional disclosure around these impacts. This includes looking at direct COVID-19 costs, risk score changes and shifts in utilization. The key takeaway from this exercise is that Clover's planned performance has been heavily impacted by COVID. In Q2 2020 this manifested itself with a record low MCR, where we had GAAP MCR of 70%. And in Q2 2021, with a record high GAAP MCR of 111%. This quarter we are providing an updated view of what management believes our business looks like on a hypothetical COVID-less basis. We believe that these updated normalized measures better reflect the company's underlying fundamentals and provide a more meaningful view of the company's results outside of the COVID environment.

Applying this new normalized non-GAAP methodology. Last year, our normalized Q2 MCR was 97.5%. And this year it was 97.0%. It's hard to predict when the impact from COVID-19 will be gone, especially with recent variants. But we are pursuing long-term improvements to MCR, including driving additional Clover Assistant coverage, significant benefit from potential improved star ratings and potential upside from improvements in internal processes such as UM management, which are underway.

Shifting to our org. We continued to strengthen our team, and we recently made 2 key hires to help propel our growth. We welcomed Prabhdeep Singh, our Chief Growth Officer; and Justin Joseph, our new Chief Strategy Development Officer. Prabh brings robust experience from disruptive tech companies such as Uber and WeWork, and will lead our member growth and service area expansion efforts. And Justin brings a wealth of experience driving global business development for health care, most recently at Palantir. He will be instrumental in helping Clover bridge health care and technology to drive strategic partnerships.

We also announced that our CFO, Joe Wagner, will be moving on. Joe has been a true partner on our journey, and we wish him and his family the very best. Mark Herbers will serve as interim Chief Financial Officer while we conduct a search for a permanent CFO. Mark has served as CFO for a number of public and private health care organizations and has over 20 years of experience in this sector. He has been working closely with Joe and our entire finance team since the announcement, and I am confident it will be a smooth transition.

We are in an exciting phase of growth. We're passionate that we can make health care better for seniors, especially those that are underserved. We look forward to delivering on this goal and providing proof points as our journey progresses. Andrew?

Thanks, Vivek. I'm similarly excited about the growth and scale we are reporting this quarter, especially around direct contracting. I have a few comments to point to what I think are indicators of success in our unique Clover Assistant model. As a reminder, our vision is to transform health care through personalized, data-driven primary care, powered by the Clover Assistant. And unlike most other approaches, we aim to do that over a wide open network of physician that gives maximum flexibility and choice to our Clover members. By doing this, we believe we can access the full potential of the $1 trillion Medicare market as evidenced by our ability to use the Clover Assistant in both the Medicare Advantage market and the fee-for-service market via direct contracting.

In both cases, and in contrast to other models, Medicare eligibles continue to see the physicians they wish to see, and we believe we can then deliver better outcomes at lower costs via CA. We believe that the success we've demonstrated building and scaling both programs, combined with the fact that very few health care companies even participate as significantly in both of these programs is evidence of our differentiated ability to access this larger total addressable market. This is why I'm so excited that the Clover Assistant launched to the fee-for-service population in the last quarter via direct contracting. This has grown our lives under Clover Assistant management to around 95,000, which represents growth of 229% year-over-year. That same growth puts us on track to manage over $1 billion of annualized Medicare revenue via the Clover Assistant.

This growth is not only important to driving our financial results, but we believe it enables the Clover Assistant to get better from a direct feedback loop with physicians, a key engineering differentiator and moat for CA development. We currently have over 27,000 Clover Assistant sessions a month with an average of 9 data-informed tasks servicing per session. And our engagement rate has remained strong at around 90%. We're thrilled by this level of engagement with physicians, and we continue to build more features to enhance our capabilities in this area, for example, via EHR integrations.

To that point, we see that the Clover Assistant is making a real difference in terms of our medical care ratio as we help arm providers with data to better diagnosed and treat conditions. Returning members in the first half of 2021, who saw a CA-enabled provider continued to have lower normalized MCRs than those who did not, 89.8% versus 97%. Additionally, this 720 basis point differential grew compared to the 2020 differential. A reminder, this is on a normalized basis.

On an unnormalized basis this incurred MCR differential which we have historically reported is even more significant, approximately 1,700 basis points. Ultimately, this is critical because the returning member CA MCR is the number we consider to be the most appropriate statistic to assess our ability to manage Medicare over a wide PPO or fee-for-service network. As you can see, the Clover Assistant has consistently delivered strong impact, and we will aim to accelerate our future launch cadence going forward. For example, we recently announced a new support in CA for fire interoperability standards, and we expect that to streamline our capabilities in the area of EHR integration.

We also are always looking to launch new clinical capabilities to help manage the chronic conditions that are endemic to our member population, whether that be around oncology, diabetes, chronic kidney disease or other. As these features launch, we expect the engagement, reach and efficacy of the Clover Assistant platform to only increase.

With that, I will now hand it to Joe for the financial update.

Thanks, Andrew. We are thrilled to have delivered $412 million in revenue in the second quarter, up 140% year-over-year. This growth was driven by the launch of direct contracting and growth in our MA membership. As of quarter end we now have approximately 129,000 lives under Clover management, roughly double the second quarter of 2020. This is comprised of MA membership and direct contracting lives of 66,600 and 62,000 respectively as of June 30, 2021.

Moving to MCR. Our net medical claims incurred for the quarter were $459 million, up year-over-year, primarily due to the inclusion of direct contracting. As Vivek discussed, COVID-19 continues to impact the GAAP MCRs as we incurred significant direct costs carrying for members that were diagnosed with COVID-19, though less than last quarter. And we saw increased utilization from outpatient deferred care and chronic conditions that weren't diagnosed during the pandemic. This impact was amplified as our largest markets are in New Jersey and New York where the impact from COVID-19 and the measures to mitigate it have been outsized.

In Q2, our MA GAAP MCR was 111%. We estimate that direct COVID costs were 490 basis points. Prior-period development was 200 basis points. Excess utilization due to COVID was 330 basis points, and risk adjustment normalization was 380 basis points. This equates to a normalized non-GAAP MCR of approximately 97%. Our final financial results for direct contracting will not be finalized until the CMS reconciliation for year 1 occurs. So there remains a lot of moving parts. With that said, direct contracting net medical claims incurred on a GAAP basis were $241.9 million and were impacted by the same COVID-19 factors as our MA plans as roughly 75% of our DCE lives are in either New Jersey or New York.

We don't yet have enough data to provide a normalized result for DCE, but plan to do so in the next quarter or 2. Two other factors also worth highlighting. We understand that CMS may retrospectively trend-adjust benchmarks, which could benefit us, but it's unclear whether and to what extent that will happen. And as the DCE program is new, we expect financial performance to improve as a result of ramping of clinical initiatives, timing of stop-loss recoupments and other processes that will take some time to fully optimize.

Second quarter non-GAAP adjusted operating expenses, which excludes noncash stock-based compensation, were $64.8 million, representing 16% of total revenues compared to $39.2 million and 23% of total revenues in the second quarter of 2020. This was in line with our expectations. Our adjusted EBITDA loss for the second quarter was negative $138.7 million compared to last year's second quarter adjusted EBITDA of a positive $24.8 million, driven by the higher MCR and operational investments. After normalizing our business for the estimated impact of COVID, which includes our COVID MCR adjustments, a related premium deficiency reserve and the fact that we don't yet have a normalized MCR for direct contracting, our normalized adjusted EBITDA loss for the quarter was negative $58 million. This quarter includes a noncash loss of $134.5 million relating to a change in the fair value of the warrant liability.

Clover had approximately 408.3 million shares outstanding at the end of the second quarter. Note that our share count will increase in the third quarter due to the cashless redemption of our warrants. And assuming all warrants are redeemed, this would equate to 9.6 million additional shares. Our cash, cash equivalents and investments totaled $630.3 million as of June 30, 2021.

Despite near-term impacts and volatility, especially around expenses due to COVID, we expect to continue delivering solid revenue growth as we continue to expand our market share and optimize the direct contracting segment. For full year 2021, total revenues are expected to be in the range of $1.40 billion to $1.5 billion. This reflects MA revenue of $760 million to $790 million and Medicare direct contracting revenue of $650 million to $700 million.

We are reaffirming our guidance that Medicare Advantage membership is expected to be in the range of 68,000 to 70,000 by December 31, 2021. Direct contracting beneficiaries are expected to remain roughly flat for the remainder of the year. Further, we expect a significant increase in total aligned beneficiaries on January 1, 2022, when claims aligned beneficiaries for 2022 become active. Normalized non-GAAP MCR for Medicare Advantage, which again adjusts for the impacts of COVID-19 is expected to be in the range of 94% to 97% for full year 2021.

We estimate full year non-GAAP adjusted operating expenses, which excludes stock-based compensation expense, will remain within the range of $250 million to $270 million. As a percentage of revenue, these expenses are expected to be 16% of revenue in the second half of 2021 compared to 21% in the first half of 2021 and 22% for full year 2020. Normalized adjusted EBITDA loss is expected to be in the range of negative $250 million to negative $210 million. This range does not reflect a normalized MCR for direct contracting, something again that we plan to have in place in the next quarter or 2 or any adjustments to the benchmarks as we don't yet have enough information on potential timing or magnitude. Note that we are not providing net loss guidance due to the potential for significant variability of several components of net income, including mark-to-market accounting of the fair value of the warrant liability that we discussed earlier.

Wrapping up, I'll reiterate what I said last quarter. We are seeing encouraging traction across our business, but we are only in the early innings. We continue to build Clover for the long term. And we have several levers to drive growth and initiatives underway to improve our cost profile. I look forward to watching Clover achieve its massive potential, although I will be doing it from the sidelines.

I'll now hand it back over to Vivek for closing remarks.

Thank you, Joe. I am proud of the Clover team for accomplishing so much already this year. Despite the impact of our achievements, we are only scratching the surface. We believe that we are pursuing operational initiatives that demonstrate our commitment to our guiding mission, improve every life. We will continue to focus on delivering on our strategic priorities, and we look forward to demonstrating our progress in the quarters and years to come.

Operator, we're ready for questions.

(Operator Instructions) Our first question is from Jailendra Singh with Credit Suisse.

This is Carlos Consuegra in for Jailendra. And great quarter. So the first question I had for you guys is, I just was wondering if you could flush out a little bit on the utilization trends? What kind of risks are you building to your assumptions for second half from here? And also, any data around what percent of your members are currently vaccinated?

It's Vivek. Thanks for the question. Appreciate the kind words. I think in terms of overall utilization, it's actually from our perspective really, and maybe for other parties, well, pretty difficult to project out for second half, just particularly the -- in terms of COVID impact. So hence why we presented our data on a normalized basis. From a vaccination perspective, in terms of data we have access to from a claims perspective, it's not going to always be complete from -- on claims in terms of who has got vaccinated. But when we look at overall data, take New Jersey, for example, where we have a large majority of our members, and New Jersey data shows that over 80% of individuals over 65 are fully vacated. So we believe that's where our membership stands, but we're still pressure testing that data via outreach surveys and so forth.

Okay. One other question just really quickly on direct contracting. I think you guys noted flat, if I heard it correctly, I was just curious since I think you had guided for (inaudible) just wanted to double check on that.

And just was your question around rest-of-year guidance. Just want to make sure I'm answering the…

Yes. Correct.

Yes. So I think just in terms of the program itself, so a lot of the rules are still a bit in flux from CMS' perspective, CMMI's perspective in terms of what is permitted and not permitted in voluntary alignment in terms of process wise. So I think we'll learn more about that over the next quarter or 2. And in general, our direct contracting model is much more focused on signing up net new practices with the vast majority. Or majority of our lives we think will come from claims alignment. So practices we're signing up now. We'll see an impact on claims alignment starting January of next year. But putting that aside, as some of the guidance gets clarified in terms of voluntary alignment we do think there is a meaningful opportunity over time to enroll folks via voluntary alignment.

In terms of members? Sorry, maybe I -- didn't make that clear.

In terms of lives, yes.

Yes, lives, if it was flat. That's what my question was.

Yes. I think for the rest of the year it's hard for us to really project that what that's going to look like. But I think what we can say is that the vast majority of increase generally is going to come from year-over-year, driven by claims alignment.

Our next question comes from Kevin Fischbeck with Bank of America.

I guess just maybe to follow-up on that point. So then, I guess, is the right way to think about it that whatever growth rate we were expecting you to pick up next year, it should be off of that lower base, if not like the number necessarily has been pushed back to a bigger January 1 increase per se. It's just that it's more going to be about claims alignment than it's going to be about voluntary alignment. So it's really kind of a lower base that we should be using as well as kind of the ending run rate.

Yes. In terms of next year, we're now not giving any incremental guidance. We do understand we haven't shared any data externally yet with any of the conversations and status of conversations we've been having with new practices that have yet to join our [D.C.]. And so we are aware of that. And it probably does make it a little bit difficult, we understand, in terms of projecting next year. But at the appropriate time we'll share more information around that.

Okay. And then I guess this is one of the questions I've been asking pretty much all the companies is just when we see like MLR coming in higher and in this case negative PPD as well. I guess, how confident are you that what's happening here is purely COVID related versus some underlying higher long-term trend. I guess, what's your visibility into getting back to a normal trajectory for next year for MLR? Should we expect MLR to be higher next year as well?

Yes. So -- and we've definitely been following other companies as well, just to make sure we're getting a complete perspective because it's definitely a phenomenon, an unfortunate phenomenon for all organizations in health care, and obviously individuals. So I think when we think about our normalized MCR calculation, we feel really good about it from the perspective of we believe it's intellectually honest. And importantly, it's really how we look at our business internally. So if we just think about kind of high level, MCR has 2 components. You've got the revenue side and you've got the MedEx side.

So last year, you had a couple of components. You had a lower utilization of services. So essentially a artificial compression in medical expenses. But then you also had an artificial drop in primary care visits, specialist visits, which in turn leads to an artificial drop in risk adjustment this year. Artificial meaning not normal. And so there's an imputed normalization of that risk adjustment that will impute into next year's revenue.

So to kind of the latter part of your question, if there's a component of MedEx this year, to your point, that could be driven by exacerbation of conditions, that's also going to show up in risk adjustment next year because we're talking about complexity of conditions. So just as a base example, diabetes to maybe diabetes with complications. So that's why we're reasonably confident that next year, just in terms of the way the calendar year is working, Medicare from an MCR perspective, they'll be much closer to what we think will be kind of the normal MCR for next year.

Yes. And Kevin, it's Joe. One thing I'll add is we enhanced kind of our analysis of our claims over this quarter with, using third-party actuaries in addition to our in-house team. And I think what we learned from that was there -- we were able to kind of say, okay, there's a piece of this that clearly is deferred. And that piece will likely be moderated later in the year as the patients kind of defeat -- complete their services. And then there's kind of this -- along with that, the pent-up demand. And then to Vivek's point, to the extent that there is a morbidity change, that's the piece then that's going to be captured via risk score.

So again, it's tough to predict where it's going to be in the second quarter -- or I'm sorry, in the second half of the year. But again, we took a really, really hard look at this. Obviously you can see from the press release that we spent a lot of time kind of helping to understand what pieces really went into our normalized MCR calculation. And to Vivek's point, we feel comfortable there is a piece of it that's likely going to continue, which will ultimately be captured and rescored. But then there is a piece that will be moderated as patients complete those deferred services.

Okay. And one way or another MLR Should look better next year.

Yes. And just -- thanks, Joe. And just kind of one more interesting point to add that is very relevant to how we think about our business internally. So we realize the press release we shared there was fairly lengthy, but buried in there we -- it's the first time we've given an illustrative breakout of MCR across counties in terms of just cohorts. So you'll see that the top 6 counties in terms of size of membership. It's just about 59% of our total members. We use Q1 there just because it's more fully run-out claims, but you'll see the normalized MCR there is 86.5%. And you'll see individuals in those counties, we had over a 70% CA visit rate. And you'll see in the rest of the counties, MCR was a little over 100% with CA visit rate under 40%. And again, newer counties. And so we'll share more information in the coming quarters in some of these breakouts. But that's really to kind of give good folks an understanding as to how our counties evolve, how MCRs evolve as we get more and more CA coverage as well.

Okay. And actually that might answer my last question, but I was going to ask about the improvement because you guys are looking at this adjusted MLR number and kind of saying that that's your best view about what underlying trend is. And it looks like it went from 97.5% down to 97%. And, well, given a terribly big improvement year-over-year and is the answer just this new counties versus old counties? Or is there anything else that you would kind of point to as to how to think about a 50 basis point improvement versus what the kind of long-term MLR targets are?

Yes. I think -- yes, I appreciate that call out. So I think directionally, what you said on the latter point is totally accurate. I would -- the only adjustment I would make to that is it's not necessarily newer or older, but there's definitely a correlation between length of time we've been in an accounting CA coverage. And so the way to think about whether it's the 92% normalized MCR in Q1 or the 97% normalized in Q2 or the little over 94% normalized for first half this year. The way we think about it is how are our markets doing from a CA coverage standpoint. And so I think that's really the lever. So as you think about building your financial models, the biggest lever for us is CA coverage. And that's -- and this is sort of the first data point we've shared externally from an illustrative perspective on the impact of CA coverage.

Okay. That's helpful. Actually maybe then just a follow-up on that point then. Do you have any stats about like how fast CA coverage is expanding in those 2 types of geographies? I guess it would be interesting to see kind of how -- what the progression normally is for county so that we can kind of maybe build it into our models a little bit better.

Yes. I think -- unfortunately, I can't give you sort of the most precise answer right now, just in the sense of -- I'll phrase it this way, which is our ability to scale Clover Assistant and achieve coverage today is more rapid than it was a year ago or 2 years ago. I think there's a couple of reasons for that. So reason #1 is Andrew and his team have led a pretty meaningful sized wholesale move of our original Clover Assistant platform onto our new platform, which DCE was built on. And so that's going to dramatically ease the use of -- ease the process of onboarding. And we shared some information yesterday on our first kind of what we think is a pretty meaningful accomplishment on being able to -- first version of relevant integration to various EHR platforms. So that's going to help as well.

And I think the other really interesting thing when we think about the ability to leverage Clover Assistant across different lines of business. And so if a practice that, let's say, was -- has clover MA lives, but is not yet on Clover Assistant, but let's say signs up for direct contracting, let's say, that practice is going live in January 1. Direct contracting would have essentially been the prong to unlock coverage for that practice. So if we take practices that might have less than 10 Clover MA lives, but then signs up for direct contracting, the probability of that practice getting live on Clover Assistant goes up.

Our next question comes from Lisa Gill with JPMorgan.

This is Cal Sternick on for Lisa. Can you just walk through some of the changes in the direct contracting revenue recognition? Because obviously it was sort of a big step-up in your guidance versus your prior expectations. And I just want to be clear on what the mechanics are and what changed from the first quarter?

Yes. Yes, I can take that one. Yes, I mean we've been aware since last year that many of our other publicly traded companies with a presence have been giving direction that the entirety of their at-risk Medicare spend would be fully recorded as revenue on their income statements. The one thing I'll say is every direct contracting entity is unique in terms of the relationship with the physicians. Some are fully owned, some are contracted.

And so we knew kind of all along there was not one answer, and there continues to be kind of not one answer that is relevant for the entire industry. And so because of that, we took a conservative position based on discussions with our auditors at the time. As we continue those -- again, as we continue those discussions, we knew there was a chance that the full at-risk revenue wouldn't be permitted to be recorded, new government program and no final consensus view. As we looked at it more, we've had kind of more discussions with the SEC, via not only our auditors, but other accounting firms. So we determined really in this quarter that was appropriate for all of our at-risk Medicare spend to be recorded as revenue. And then therefore that's why we're adjusting our -- not only our accounting for that, but also our guidance going forward.

And I think for us it makes sense because of the fact that we view that business very much based on benchmark as opposed to kind of the small piece of revenue. And obviously, that has an impact on our revenue guidance. But again, it was really just about unique circumstances of each individual DCE and our desire to be conservative and to not overpromise something on the revenue side that would be -- end up being materially smaller.

Thanks, Joe. And I think just to add to that, the revenue recognition is definitely not a surprise to us. But I think to Joe's point, given it was a new program, our auditor was, at the time we were making determinations around this, they were not in a position to give 100% confirmation on how accounting would work. We felt it was appropriate to take that into account as we were having conversations externally.

Okay. And you also mentioned that CMS could retrospectively trend the benchmarks. Can you just maybe elaborate a bit on how that could impact your revenue recognition and when you'd expect to get some more guidance back on that?

Yes. I can handle that one. Every -- on a quarterly basis, CMS has the ability to make retroactive adjustments to the trend factor that was used in determining benchmarks. And so as opposed to MA, where you've got a lot of things that are fixed. And you've got, I would say, limited movement, you've got risk scores. But obviously your underlying bid data that's used to determine your revenue is fairly fixed on direct contracting. Again, there are -- there is some movement and some of that may not be complete until the final settlement for a given year. And so again, these are quarterly adjustments that CMS makes looking at both national data as well as regional data to the trend factors that they use to determine benchmarks. And so for us, we can't -- we don't know exactly which way it's going to go. Obviously, we provide CMS our data, the early initial data that we have. But those are adjustments that we will record as those trend adjustments are made by CMS. It could be Q3, it could be Q4, we don't know, but we do know that CMS has the ability to retroactively make those adjustments under the confines of the program.

Got it. And then for direct contracting, I think a while ago you guys had suggested that it could be roughly breakeven for the year. I mean, it looks like the MLR was above this quarter, but how are you thinking about margins and profitability for direct contracting for the balance of the year?

I think at this point, because all we have is Q2, and there's still -- I think we may have only received April and May data (inaudible) initial views. The approach we took is to really not form any conclusions on a normalized basis. We think probably the next quarter or 2, as Joe had referenced earlier, we'll be in a better position to have a clear understanding. And there's a lot of programs that we're putting in place as well that will take effect in the back half.

All right. And just last one for me. You mentioned you saw some higher outpatient costs. Can you talk about anything -- I mean, is there anything notable you're seeing on the inpatient side? And then how do you see direct COVID costs and non-COVID utilization tracking from where things stand today? Then on the PDR also, how much of that charge is related to MA versus direct contracting lives?

Yes, so the…

Joe, if you want to hit the PDR and then…

Yes.

If you want to hit the PDR inpatient, I can hit kind of our thinking on COVID going forward.

Yes. Yes. So I'll answer it again, 2 of those. On the PDR, that's really related to our MA business. And again, that's just an intra-year charge. It's basically -- we -- it was accrued this quarter. It's going to be amortized in over the next 2 quarters. So that's just really just a timing issue on the MA side. So that's fully on the MA side. And then I'll hit the inpatient and then Vivek can maybe talk a little bit about just some -- our thoughts on trends going forward. On the inpatient side, I mean again we -- obviously we've seen direct COVID costs which we call out in our normalized MCR calculations. So that's kind of there for all to see. We have not seen necessarily an acuity increase on the inpatient side that we view kind of in any material way. Again, what we're seeing, as we call out in the normalized calculation is exacerbation of some conditions that are manifesting themselves on the outpatient side. Again, I would say nothing worth calling out on the inpatient side that we -- that is kind of, from a future standpoint that give us pause just in terms of higher inpatient acuity at this point.

Thanks, Joe. And just in terms as we think about COVID impact for the remainder of the year, I mean, obviously COVID doesn't care about calendar years. And so just in terms of -- just from my personal view, so I'm not representing Clover's view, but just a personal view on how I think about COVID impact. And so obviously the Delta variant is really what's driving an uptick in hospital utilization. I think at the same time, as FDA approval comes pretty soon, probably starting with Pfizer, Moderna.

In my knowledge I think it's the -- probably the first approval for an mRNA vaccine. And so subsequent approvals of booster shots are going to be, I think, pretty rapid. And you're seeing vaccine production capacity going up pretty dramatically, probably coming online closer to the back half or towards the end of the back half of this year.

And so I would say greater than 50% chance, we'll see more variance particularly coming from countries that have pretty low vaccination rates and derived from those who are immunocompromised. But I do think the increased capacity vaccine production, the ability to roll out booster shots taking into account the new variants that eventually come, we will see at least in the United States, I think, a path to more and more normalization over the next year to 18 months, just from like a science perspective that from Microsoft it seems like a probable outcome.

Our next question comes from Ralph Giacobbe with Citi.

Just hopefully a quick few for me. I guess, one, the change in the normalized MLR definition from 1Q, that's just largely risk adjustment? Or is there other stuff in terms of the changes and how you looked at it 1Q to 2Q?

Yes. So it's…

Yes, go ahead.

Oh, sorry. Go ahead, Joe. Go ahead, Joe, sorry.

Yes, Ralph. Yes, sorry. Yes, Ralph. That's essentially it. I mean what we determined really in the second quarter is the way that we run the business internally is to make sure that we are extracting anything that we think is temporary as it relates to COVID. And so, yes, and so what we've done is say, okay, in the second quarter obviously you see our estimate of pent-up demand in deferred care there as a result of COVID. And then also really kind of finalizing and firming up that risk adjustment piece with the help of our actuarial team. So yes, so those were the main differences. And again, this is just a definition that we really feel comfortable about as we think about how we run our business.

Okay. All right. Fair enough. And then the MA revenue guidance I think is a little bit lower, but the lives stayed the same. Is that just related to risk adjustment? Or what changed that revenue assumption?

Yes, Ralph, that's more just timing more than anything else. We're seeing already kind of some more growth in the third quarter. It's probably -- the growth is probably a little bit more back-ended, toward the back of the year. We instituted a grocery benefit that we think we're seeing some positive results about. And so there's nothing really related to risk adjustment there. I think a very, very small piece is risk adjustment. But it's mostly just due to the timing of some of the membership and how quickly it's come on board on the MA side.

Okay. Fair enough. And then I guess can you give us a sense like how did you book for MLR for direct contracting this quarter? Just around the math, it looks like it's at 111% on a GAAP basis, which is obviously in line with the total aggregate. But clearly it's a new population base. Your existing MA still has some benefit from Clover Assist. I guess I'm just trying to get a sense of how much visibility you really have on that point. It sounds like you only had April and May. So how comfortable, I guess, are you guys in terms of how you book that this quarter from a GAAP perspective?

Yes. No, I think those numbers are fairly right on, Ralph. And I think because of the fact that we had very limited data, we took a conservative position in how we recorded that. As Vivek said, there are some timing things later in the year as it relates to stop-loss and some other things which will end up flowing through, that will likely benefit us in the second half along with some assumptions on pickup of Clover Assistant and things like that.

And so I would say we booked it conservatively. It's -- we feel really comfortable about where we are later in the year. But again, because of the fact that we didn't have a ton of visibility, we had -- kind of able to make claims and not much else. We took a conservative view of that. And again, we don't have enough data yet to even normalize.

We do know that there were some COVID costs in there, and there's clearly some pent-up demand. We haven't yet been able to kind of quantify that. So again, I think we haven't seen anything in that population that was, I'd say, different than what we had expected. But again, I do think that what you see here in Q2 represents a conservative view of MCR, at least based on the limited data that we have.

All right. Starting with some of the retail community questions we've got. The first one is coming from [Auto Van Shaklenburg] and this will go to Andrew Toy. What advantages does Clover Assistant have compared to the competitor's software you're trying to replace or compete with?

Yes. Thanks for that question from Auto. As we discussed here, we're definitely seeing that the effect of MLR scales with Clover Assistant visit rate in our top county, and that's in the press release. And we think that there's a lot of advantages that are coming from Clover Assistant because of that. Quickly running through them. Number one, we are able to provide a longitudinal view of data, which means versus just having internally to your HER, internally to your health system, most of this is just for that information because we are the health plan, we can provide additional data from all aspects, all the person's care team. And that displays through Clover Assistant, and that's a big advantage.

Second of all, Clover Assistant is designed to be used for 5 minutes per primary care visit and delivers personalized custom data and tasks. And that's something which is a lot easier for a physician to consume versus long uncustomized sort of annual wellness visits or software, which is what tends to be the norm. So we're very personalized, very focused within those 5 minutes per visit, and I think we get a lot of benefit from that as well.

And then thirdly, we have a lot of effort from our clinical and product teams to provide analytics and analysis for what is the best use of time within any given visits to let PCPs know where to focus their attention. And so that might mean that we might even be directing their attention to help manage conditions that are outside the primary complaints, drawing them to -- their attention to recent hospitalizations, and we see a lot of engagement with those features as well.

So I think that there's a lot of differentiation in the platform from both the technology fitting and the data point perspective. Plus we're seeing that impact flow through to our markets and our MLR, as we just discussed.

Great. The next question will be targeted towards Vivek from [Livinet] who happens to post a lot of Clover material on the retail boards. How is DCE revenue being realized? And how do the unit economics compare to Medicare Advantage? How often do see contractor providers take on risk-sharing arrangements with Clover? Vivek?

Thanks, Andrew. Just want to echo that there's definitely been some great materials. I think there was a media post written by him on -- about direct contracting, and I found to be one of the more thoughtful pieces out there. Just in terms of -- just a full question. In terms of just unit economics of DCE revenue versus MA, I think what's really interesting about the way we've constructed our business model is its very much provider focused.

And so when we think about traditional payer organizations, you have a separate operating infrastructure to manage each line of business. The way we think about our business is really managing the relationship with the physician effectively. And so as part of that, the incremental OpEx to manage DCE lives is much less relative to the Clover MA lives that are in that practice. So there's a lot of operating synergies as practice partners with us not just in Clover MA but on direct contracting.

And then from a gross margin standpoint, we do believe there's a meaningful opportunity over time to generate pretty reasonable and attractive margins on direct contracting. I'm sorry, Joe, do you mind mentioning the other 2 parts of the question.

The last part of the question was how often do see contracted providers take on risk-sharing agreements with Clover?

Yes. So we definitely have a bit of a unique lens on -- as it relates to Medicare Advantage and risk sharing. So within Medicare Advantage risk-sharing is called full capitation. So that's where a practice will get a significant percentage of premiums. And so those who follow a lot of the news about Medicare Advantage, there's definitely been a lot of controversy around risk adjustment and risk-adjustment inflation.

What we've seen and learned and talking to industry experts, folks who have worked at various large payers, a huge amount of the risk adjustment inflation happens within practices that are fully capitated? I think this is starting to get more and more well understood by folks out in the regulatory community and so forth. And so we do think full capitation a lot of the times can actually incentivize the wrong behavior, particularly around risk adjustment coding.

And so one of the things that we're very proud of at Clover is setting up our financial alignment with physicians that removes any of those incentives. And so when we think about alignment with physicians, it's really around ensuring that they're using the Clover Assistant and getting value out of it from a clinical perspective for their patients, but ensuring there's no incentives one way or the other around coding.

And so the right way to think about risk-sharing is if it's really aligning folks around cost management, a way that makes sense for the patient. But unfortunately, a huge amount of the value that plans and practices get around risk-sharing is actually a risk adjustment.

Great. And our final retail question, which is going to be targeted towards Andrew, comes from [Moomba 17]. How do you market Clover Assistant to physicians?

Yes, great question. So as a reminder, Clover Assistant is our flagship technology platform, but we don't charge for it directly to physicians. We provide it to them to help them provide better personalized data-driven primary care, which helps our members, it helps physician, and then it definitely helps Clover plan performance from there. So we don't actually have to charge for the software.

So we don't actually go out there and market it per se as a piece of software that we are selling, but we do say we want to pay more, pay well for a data-driven primary care and Clover Resistant is our means of doing that. In addition to that, we constantly measure our net promoter scores, and we measure our satisfaction rate with physicians, which we then share and we tell them, hey, we are always open to feedback. We're measuring what features you find most useful in our data.

And we're spending more R&D time there. And because we are very reactive to the feedback from physicians, we're able to then continually drive up that engagement rate that I talked about earlier, which then leads to the higher visit rates that Vivek talked about in those top counties. And so constantly investing over there. So when we're thinking of meeting with a physician group, we emphasize we care a lot about primary care.

We want to share data on clinical insight to help them do a better job. Just like Vivek said just now, we also shared that we want to pay very fairly for that without putting them at risk or via useful capitation methods, but we want to give them our software. And because of that, we've achieved very, very high engagement rates with Clover Assistant.

The thing I'm really excited about is we achieved all of that without yet having launched our wave of EHR integrations, which are upcoming. And those will be coming out very soon on the CA 2.0 platform. And we think that will only drive those engagement rates even further up. And we'll see even more impact from CA.

Great. Operator, I think this concludes our retail portion of the call. Vivek, do you want to say anything for closing comments?

Thanks, Derrick. Just want to give a thank you for the whole Clover team on their efforts so far this year. And thank you again for -- to Joe, and you've been a great partner to all of us at Clover. And we are extremely excited about the rest of the year and many, many quarters to come. I think just to reiterate, we believe we're in the very, very early innings of what's possible at Clover.

Thank you. And this concludes today's conference. Thank you for your participation. And you may now disconnect.