Molina Healthcare Inc (MOH) 2004 Q3 法說會逐字稿

Ladies and gentlemen thank you for standing by. Welcome to the Molina Healthcare third-quarter earnings conference call. During the presentation all participants will be in a listen-only mode. Afterwards we will conduct a question-and-answer session. (OPERATOR INSTRUCTIONS) As a reminder, this conference is being recorded Wednesday, November 3, 2004. I would now like to turn the conference over to Juan Jose Orellana, Director of Investor Relations. Please go ahead, sir.

Thank you, Alester. Good afternoon, everyone, and welcome to today's conference call. On the call today are Dr. Mario Molina, Molina's President and Chief Executive Officer and John Molina, our Chief Financial Officer. Today we will review Molina's results for the third quarter ending September 30, 2004, to discuss our guidance for 2005 and field questions at the conclusion of our remarks. Before we begin, we would like to remind everyone that our comments today contain forward-looking statements. Except for the historical information referred to in this conference call, all forward-looking statements are predictions by the Company's management and are subject to various risks and uncertainties that may cause actual results to differ materially from management's current expectations.

Such factors include, the Company's third party contracts, the Company's ability to accurately predict and effectively manage health benefits and other operating expenses, competition, changes in health care practices, changes in federal or state laws or regulations or the interpretation thereof, reduction in provider payments by governmental payers, obtaining the necessary regulatory approvals for the Company's acquisitions, issues related to the integration of the Company's acquisitions and other risks as detailed from time to time in the Company's reports and filings with the Securities and Exchange Commission. All forward-looking statements in this call represent the Company's judgment as of today's date.

The Company disclaims, however, any intent or obligation to update its forward-looking statements. As a reminder, this call is being recorded and a thirty-day replay of the conference call will be available over the Internet through the Company's website at www.MolinaHealthcare.com. Our earnings press release was distributed at approximately 4 PM Eastern time today, and you may also view it at our Company website. At this time I will turn the call over to Dr. Mario Molina.

Thank you, Juan Jose. Good afternoon everyone, and thank you for joining us. Today we reported 2004 third-quarter earnings of approximately $16.4 million or 59 cents per diluted share on premium revenues of $329 million. Our financial and operational performance this quarter was in line with our expectations and with added momentum on the top line fueled by our integration of two acquisitions completed in June and July of this year. I would like to begin by providing an update on the progress we made this quarter and then close by commenting on our outlook going forward. John will discuss our financial performance, as well as guidance for the remainder of 2004 and all of 2005 during his remarks.

Last quarter we indicated during our conference call the market dynamics that affected our second-quarter performance. For example, the pent-up demand for medical services observed during the integration of our new members in Washington affected our short run medical costs. We are happy to report the temporary spike in utilization in Washington has run its course and costs have returned to historical levels as the new membership has been fully integrated.

Also in the second quarter, we cautioned you that our Michigan health plan experienced increased enrollment of aged, blind and disabled patients in regions outside the metropolitan Detroit area where rates tend to be lower. For the current quarter higher enrollment and utilization among this population continue to contribute to an above-average medical care ratio, particularly with specialty service costs and to a lesser extent pharmacy costs.

As discussed on the last conference call, we continue to anticipate improvement in this cost ratio in the fourth quarter. The integration of our New Mexico health plan is running successfully and on schedule. Our integration team is fully engaged and is completed roughly 50 percent of the integration process. Today one quarter after the closing of the transaction, New Mexico is contributing to our growth by performing positively and in line with expectations. Although the Wellness Plan transaction in Michigan is a fourth quarter event I would like to comment on our recent acquisition.

On October first Molina Healthcare of Michigan announced the successful closure of the Wellness Plan transaction. This acquisition contributed a number of benefits. The additional 73,000 members nearly doubled the size of our health plan in Michigan. It also propelled Molina Healthcare to the number one position in terms of market rank in Michigan. This last point underscores our ability to grow both organically and two acquisitions since (indiscernible) was the 13th largest Medicaid plan in that state.

Although we assumed a lead position in this market, there are still opportunities for growth. All of our acquisitions represent the execution of our growth strategy, which remains true to what we've been saying since we went public. We strive to achieve consistent and profitable growth through the expansion of existing markets and through the careful acquisition of companies in new markets. We will fulfill this mission by focusing our efforts on organic growth, selective acquisitions and startup opportunities.

As it relates to future acquisitions and startup opportunities, our pipeline and due diligence efforts continue to be very active. I would like to remind everyone that our acquisition and startup selection criteria have not changed. We remain interested in evaluating opportunities were there is a sizable Medicaid population greater than about 250,000 beneficiaries, where there is a competitive provider and managed care environment and where a favorable regulatory environment exists.

We also prefer states with mandatory enrollment policies. Since January of this year Molina Healthcare added nearly 223,000 new members across all of our states, representing an increase in membership of about 40 percent. To accommodate this growth we continue to prudently invest in both human capital and technology. From a staffing standpoint we have added resources at both the health plan level and the corporate support functions. In Michigan, for example, the addition of 73,000 new members required additional personnel for areas like member services and utilization management. We will continue to add resources as appropriate.

As a result of these expansions, we expect some near-term upward pressure on our general and administrative expense ratio. This will enable us to continue to manage our growth without overburdening the existing staff throughout the organization. From an information technology perspective we have recently made several investments in our infrastructure. We enhanced our server and data storage capacity by investing in hardware that allows us to add capacity for growth before we actually need it. These hardware improvements will allow us to serve over 2 million members and complement our existing software capacity of approximately 9 million members.

In addition, these technology investments also provide redundancy and data replication of our existing infrastructure. So that in the event of a disaster or major service outage we can continue to provide uninterrupted service to our members. We also continue to evaluate partnership opportunities that enhance our existing programs and deliver added benefits for our members. One area of focus has been disease management. We recently announced an expansion of our disease management efforts in partnership with Pfizer Health Solutions. This program will improve members' health and enable them to take a more active role in managing their own chronic diseases.

Accreditation for the national committee on quality assurance will continue as a priority and an integral part of our business strategy. We have stated our intention to grow our business while improving the quality of services we provide. Recently our New Mexico health plan received an excellent accreditation status while our commendable accreditation status was expanded in California to include Sacramento County. Overall, we believe Molina Healthcare is well positioned for the future.

Membership, revenue and earnings remain strong across the organization, and we are optimistic that the integration of our acquisitions will continue to deliver synergies, as well as serve as a major driver for growth in the future. In 2005 we anticipate earnings per share growth of approximately 20 percent with no deviation from our stated strategy. We will continue to execute on accretive and strategically sound transactions.

At this time John will discuss in greater detail our financial performance for the rest of this year and our outlook for fiscal year 2005.

Thank you Mario, and good afternoon, everyone. Premium revenues for the third quarter ending September 30, 2004 were $329 million, up 67 percent from $197 in the same quarter a year ago. Membership growth contributed approximately half of that increase. But I can point out that our commercial membership acquired as part of the New Mexico transaction, Enco de levelas (ph) had no revenue impact. As Mario talked about earlier our growth in membership in revenue was the result of the closing of two acquisitions. In Washington we received a full quarter of benefits from the purchase of the contracts from Premier Blue Cross. Through this transaction which actually closed at the tail end of the second quarter, Molina added approximately 56,000 new members.

In New Mexico the company closed on its purchase of the parent company of Cimarron Health Plan on July 1st. This transaction added 66,000 new members and a new market. This quarter our membership reached approximately 720,000 members, up 36 percent from 530,000 members a year ago. As a reminder enrollment figures only include transactions that were closed on or before September 30, 2004.

These figures do not include the 73,000 members transferred to Molina Healthcare of Michigan as part of the Wellness Plan transaction which closed on October 1, 2004. Moving on to medical costs for the third quarter of 2004, the company's medical care ratio increased to 83.9 percent from 82.1 percent in the third quarter of 2003. In absolute terms medical care costs increased to approximately $277 million in the third quarter of 2004 from $162 million in the third quarter of 2003. As we have previously indicated our medical care ratio continues to be influenced by higher medical costs in Michigan. These higher medical costs are most pronounced in our pharmacy and specialty costs. This trend is consistent with what we expect from a growing aged, blind and disabled population.

Our partnership with Pfizer Health Solutions, which Mario touched on earlier, will enable us to better manage this population by enhancing our disease management programs in areas such as diabetes and chronic pulmonary diseases. Furthermore, we expect that the premium rate increase that became effective on October first will help reduce the medical care ratio of our Michigan subsidiary. The new rate methodology is based in large part on planned specific demographics. As a result of our case mix, this translates into a blended rate increase in the low double digits and is consistent with our previous guidance.

General and administrative expenses excluding premium taxes decreased to 5.9 percent of revenue in the third quarter of 2004 compared to 7.0 percent in the third quarter of 2003. Including premium taxes, which are directly related to member and capitation rates, G&A extended 8.1 percent of revenue in the third quarter of 2004 as compared to 8.4 percent of revenue for the third quarter of last year.

Net income for the quarter ending September 30, 2004 totaled approximately $16.4 million or 59 cents per fully diluted share. As compared to $11.7 million or 46 cents per fully diluted share for the quarter ending September 30, 2003. This represents a 40 percent increase in net income and a 28 percent increase in earnings per diluted share. Please remember that last year we completed our IPO at the beginning of July making the third quarter our first quarter as a public company.

As we discussed last quarter, our earnings per diluted share this quarter included approximately 2 cents of after-tax benefits that resulted from the Company's recovery of prior year tax credits net of consulting fees. Excluding these tax credits, net income would have been 57 cents per fully diluted share. Share count used to calculate net income per diluted share in the third quarter was 27.8 million. The increase in diluted shares over 2003 is mainly attributed to the issuance of additional shares during the Company's follow-on offering completed in March of 2004.

Cash flow from operating activities provided approximately $25 million in cash for the quarter ended September 30, 2004. On a year-to-date basis cash flow from operations was approximately $49 million. Sequential days and accounts payable decreased from 51 days at the end of the second-quarter of 2004 to 50 days at the end of the third quarter. This decrease can be attributed to our consolidation of the New Mexico operations. Without the addition of New Mexico days in claims payable would have actually increased to 53 days.

Our cash position remains strong. The Company ended the third quarter 2004 with cash at the parent company of approximately $53 million. In addition each of our subsidiaries remained adequately financed and had a combined $90 million of cash in excess of statutory requirements. When added to our $75 million credit facility which is currently untapped, the Company had approximately $218 million to execute additional acquisitions as of September 30, 2004. Adjusting for the 18 million consideration paid in the Wellness transaction, which we used cash already at our Michigan subsidiary, the Company still had approximately $200 million in available cash on October first.

Next, I would like to discuss our guidance for the rest of 2004 and for 2005. Our guidance figures only reflect completed acquisitions and do not include future acquisitions or expansions. For the quarter ended December 31, 2004 consistent with our expectations at the end of the second quarter of 2004, we expect earnings from continuing operations to be in the range of 56 cents to 58 cents per diluted share. As relates to the Wellness Plan acquisition, we expect accretion to earnings from this transaction to be in the range of 5 to 6 cents per share on an annualized basis starting in 2005. As observed in our Washington transaction integration costs and existing market transactions are manifested in the form of higher medical costs resulting from pent-up demand. Pent up demand in Michigan combined with increased investments in our infrastructure, causes us to believe that the fourth-quarter earnings per share will be approximately the same as the third quarter.

Guidance for the year ending December 31, 2005 which we are giving for the first time here is as follows. Earnings from continuing operations will be in the range of $2.40 to $2.45 per diluted share. An increase of 20 percent over 2004 expected earnings. Net income will be in the range of $67 million to $69 million. Premium revenue will be in the range of $1.57 billion to $1.59 billion. Medical care ratio will be in the range of 84.2 percent to 84.4 percent. G&A, including premium taxes, will be in the range of 8.2 percent to 8.4 percent of total revenue.

These estimates assume a weighted average diluted shares outstanding of 28.2 million shares. These estimates also assume an effective tax rate of 37.5 percent, which does not take into account any favorable state tax credits the Company might receive from higher periods during 2005. In addition, this guidance does not reflect the potential impact, if any, of changes in the Company's methodology for recording stock-based employee compensation expense that may be required by new accounting pronouncements. Had we expensed options in 2004, the year-to-date effect would have been approximately 2 cents per diluted share.

This concludes our prepared remarks. We are now ready to take questions. Thank you.

(OPERATOR INSTRUCTIONS) John Szabo, CIBC World Markets.

Thanks, good afternoon. Just a couple questions, John you mentioned that guidance for the fourth quarter and does that not include any further potential tax gains, and if not what is the normalized tax rate that you're looking at for the quarter?

We're not expecting any more of the tax credits to come into the fourth quarter, John. So it would be 37.5 percent.

Okay. And on the Wellness Plan, what is the approximate quarterly revenue run rate on that?

Give me one second.

Maybe while you're looking at that I can ask Mario a quick question. If you look at all of your states, relative to your guidance, which for 2005, which states have the best organic membership growth potential? If you could just maybe tick through a few of those states?

Well, John, in terms of organic growth, as a result of the organic growth we've had and some of the acquisitions we've done we've now become the largest Medicaid plan in three of our states. So we do anticipate there is going to be a slowing in the organic growth. I think there is good potential in New Mexico, and there is some potential I think as well in California. It will depend a lot on what the Schwarzenegger administration does with their plans for expansion of Medicaid in California. But there are a number of counties in California that are still under fee for service and roughly half of the California Medicaid population remains in fee for service.

Okay. So when you think about the guidance for 20 percent EPS growth, should we assume that most of that is going to come primarily from margin expansion in some of the accretion coming off of the acquisitions that you completed in 2004?

That's correct.

John, we are looking at the Wellness transaction being on the revenue side about 35 to $37 million a quarter.

All right. Great. Thanks a lot.

Greg Nersessian with Lehman Brothers.

Good evening. Quick question on the cost trends by component which you break out. That is very helpful. But as I look at the numbers it appears as though the MLR (ph) associated with the medical services over the last year-over-year basis has dropped about 10 percentage points and there has been a measured increase on the hospitals and specialty services. Sounds like from your comments some of that may be attributable to a larger percentage of ABD population. I guess can you go into that dynamic a little bit and maybe provide a little bit of color where you see those two components going forward?

I think part of that is a shift from capitation to fee for service expense. Our capitation expense is medical services and then as we move to the fee for service it actually brought (indiscernible) two different lines.

Okay.

I think overall for next year we are looking at cost trends being low to mid single digit.

Okay, and where were they this year? What does that compare to?

About the same.

Okay. And then on the enrollment, it looked like there was a bit of a sequential uptick in California for some we've seen that in a little bit. Was that just a makeup of some membership that you lost in the second quarter, or do you feel as though that that enrollment in California is actually turning, you can see some growth there going forward?

Greg, we mentioned in previous calls that because of weak determination of eligibility primarily in Los Angeles County we were experiencing a loss in enrollment. We felt that was going to be temporary, and we are seeing that reversing now. Many of the patients that lost their eligibility are now going back in, going through the redetermination process and requalifying. And so we are seeing the enrollment turnaround in California, again primarily Los Angeles County.

Are we in the early stages of that turnaround or do we expect to get back to the levels that you were at say a year ago, or even go beyond that? What are your expectations?

I think you're going to see the enrollment trend continue in the third and fourth quarters of 2004 as we go back towards the historic numbers.

Okay, and last question just on the RSP (ph) activity it appears to be hitting up in some of the states in which you don't currently participate. Could you -- obviously Indiana, Texas, California -- could you just talk about how you weigh the opportunity for growth in new state opportunities, kind of de novo opportunities versus pursuing acquisitions?

I will just go back to our strategy and what we've said in the past is that we're going to grow in one of three ways. Either by enlarging our service areas, entering new counties in existing markets, doing acquisitions as we have done or where it makes sense pursuing startup opportunities. In some states there may be nothing to acquire and there may be attractive states and in those states we are not averse to pursuing startup. So that continues to be our strategy. It continues to be our policy.

Okay. Thank you.

Eric Veiel with Wachovia Securities.

I was just wondering if you could help us put a finer point on the aged one disabled trend in Michigan and if you could break out for us of the Michigan members, how many of those are ABD and how different is the loss ratio for those members versus your other Michigan members?

Right now our Michigan population is approximately 15 percent ABD. Before we got the Wellness Plan it was about 13.5, so it has gone up some given the acquisition of the Wellness membership. The costs on the ABD run anywhere from 4 to 5 times what they do on the tannic (ph) population.

4 to 5 times on a dollar, on a PMPM basis?

That's correct.

And then just help us put that into perspective on a reimbursement basis are you more like four times and so the loss ratio is significantly higher for these members, or maybe some way to quantify the loss ratio difference?

Prior to the rates going into effect it was probably 3.5 to 4 times. The new rates have raised that up so that it’s probably closer to 5 maybe a shade over 5.

So with the new rates you would expect the loss ratios on the ABD should get pretty close to where they are for your (indiscernible)members there?

I think that over time that is probably a correct statement. But with the Wellness Plan we have the added issue that utilization was unmanaged largely prior to the acquisition. For example, there are something a mid (indiscernible) of 400 patients who have asthma who were not on under any sort of case management prior to our taking over. So it's going to take us a little while to get the cost trends down for the ABD to where they are for the tannic population.

Sort of as another way of asking John's question, maybe the extent to which your guidance on revenue for 2005, maybe if you could put a band on sort of what you're thinking for organic enrollment growth in aggregate, not holding you to any state but sort of what you think the business might be able to generate just in organic enrollment growth.

I think in terms of pure numbers if you were to say enrollment 12/31 of '04 compared to 12/31 of '05 it is probably going to be in the low single digits. But you have to roll into that a couple of different factors. Number one, we are expecting a significant growth in the state of Washington in our WMIP program. That can be 5 to 6000 members. Those are ABD patients, but they have the added components of chemical dependency, substance abuse and eventually long-term care and poor mental health. So those patients, although it is only 5,000 in number, the revenues are significantly higher per member than they would be in say the Michigan ABD population.

Also we are assimilating as Mario said somewhere in the neighborhood of 300,000 new members when you factor in the Wellness Plan. So a lot of our business next year is going to be assimilating, integrating those folks into the case management and the rest of our systems.

Eric there was a press release that came out from the department of social health services in the state of Washington on the WMIP program, and right now it looks like that program is slated to begin January first, to include medical and chemical dependency services for those patients. And later in 2005 they are going to roll in mental health and long-term care. So we think there is growth, and it is going to be fairly sizable revenue because these are ABD patients. I just wanted to let you know about that.

That's helpful. I will go dig that out. Thank you.

The last point I want to underscore Eric is we are looking at a 20 percent EPS growth next year.

Right, absolutely.

Ed Kroll with SG Cowen.

My question is on the guidance and what is embedded in the guidance from the Wellness Plan. Just to clarify one thing I think you said, John, is the 240 to 245 includes 5 to 6 cents from the Wellness Plan?

That does factor in the Wellness Plan acquisition.

And I think you said 5 to 6 cents?

That's right.

And then how about for Q4 of this year, is it neutral essentially in that quarter?

Yes.

Okay, so I guess if you think about the revenue, the incremental revenue from the Wellness Plan and at some point assuming it gets sort of a companywide margin, just back of the envelope I get more like a 20 cent accretion number with your share counts. And I know you mentioned it sounds like you are some of the same situations from a claims flow standpoint in Michigan with the Wellness Plan that you had in the state of Washington with the Premera acquisition. Did I hear that correct? So I guess I'm just wondering what is the longer-term earnings contribution annualized from the Wellness Plan? On this initial 73,000 members?

Let me try to put it in perspective this way. We are assuming that the medical care costs related to Wellness membership will be in the high 80s, 88 to 90 percent. Now for every one percent that we can bring that down, if you use 88 percent as a baseline, that translates into 5 cents per share. So we are expecting accretion. We are expecting it more in the back half possibly even to the fourth quarter of next year because we do have the pent-up demand, and we also have a sizable ABD population. We are just trying to be conservative.

Okay. So is it I guess conservative is the key word there. I mean, this is your first cut really of giving us '05 guidance, right?

It is our first cut, and we think there is potential additional upside with the Wellness Plan membership. But what you've got to remember is that we are taking over difficult population with a provider group that was in turmoil because of the bankruptcy, and it takes time to change doctors' habits. And that is really what we are talking about here. We are going to have to change the habits of the providers in the Detroit metropolitan area.

Okay. But I mean it's not like you are a stranger to the state. So I think your -- I appreciate your conservatism, I guess. I was also wondering in this quarter the D&A expense seemed a little higher. Is that a new -- is that the new quarterly run rate, and would that relate to some of the infrastructure investment that Mario was discussing in his comments?

No, the D&A being up has more to do with the fact that we had a full quarter of Premera and a full quarter of New Mexico depreciation.

So that should be a good number for us going forward?

Yes, yes. The wellness transaction is going to be thrown in there effective in the fourth quarter.

Okay. Thank you very much.

(OPERATOR INSTRUCTIONS) Joseph France with Banc of America Securities.

Hi, this is (indiscernible) filling in for Joe France. Just a quick question regarding prior periods (indiscernible) was there any (indiscernible) development in the quarter?

Yes, about 600,000.

That is all? Okay. Thank you very much.

John Szabo, CIBC World Markets.

I apologize if I missed this before regarding the Pfizer relationship, but could you tell us are they actually going to take any risk, either with regard to absolute medical costs or to their fees?

No, they are not going to be taking risks. Basically what we're doing with Pfizer is jointly working to develop software programs and disease management programs that will be specifically applicable to Medicaid patients. We are in a sense being a Beta site. They have a number of disease management programs, but they are not really designed for Medicaid patients. In addition to which there are some disease management programs that they don't have in place. For example, they don't have a perinatal care program. And so we're going to be working with them to develop those programs but it will be done and administered by us, by our staff, and we will remain at risk.

Okay, so I guess when I think of sort of traditional outsourced disease management programs, those providers would actually be providing those services. I think what I heard you say is they are going to help you come up with the protocols and the best practices but you are going to implement. That's not going to be something necessarily that you intend to outsource to them or anyone else at this point?

That's correct, we are not outsourcing this. This is really a cooperative venture. I think it would be a benefit to both parties.

Okay. And then, just in terms of the overall approach to managing medical costs in the SSI population which is obviously a little different, do you feel that once you sort of get past some of these initial protocols that you would be in a position to ramp that pretty aggressively, or is this something that we should be looking at in terms of maybe a 3 -- 2 to 3 year ramp?

Well, what I think is going to happen is you are going to see these things ramp up over time. A lot of it is a function not only of our expertise and our ability to implement these programs, but it's also going to be the state's willingness to enter into these kinds of programs. A great example is the WMIP program. This is an experimental program in the state of Washington. It is being carried out now in one county. It is in Homish (ph) County, which is actually where our headquarters is in the state of Washington. But if this goes well the state may consider two years from now rolling it out to additional counties. And I think that given the expertise that we are going to develop in the next two years it positions us really well to take on more of these kinds of patients not only in Washington but in many other states, as well.

Okay, thanks. That was helpful.

Ed Kroll with SG Cowen.

Sorry to beat a horse to death here, but I have one more thing on the Wellness Plan. If you recall, the math I walked through before I mean assuming that ultimately you get to a companywide margin on that incremental revenue from the Wellness Plan, and I threw a number out there of like 20 cents. Am I kind of in the ballpark?

Yes.

Okay thanks. I promise this is the last question on that. And then your cash flow looked very strong, I thought, in the quarter. And I am just wondering was there anything, any catch-up from prior quarters, anything unusual in the quarter? Or just good, solid blocking and tackling in your back office?

Nothing unusual.

We got the good solid blocking and tackling, Ed.

All right. Thanks very much.

No further audio question at this time.

Well in that case, thank you very much for your interest in Molina Healthcare, and we look forward to meeting with some of you next week in New York at the CIBC conference.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.