Form 10-Q
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
DC 20549
FORM
10-Q
(Mark
One)
[X]
|
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
|
|
|
For
the quarterly period
ended March 31, 2007
OR
[
]
|
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
|
|
|
For
the
transition period from to
Commission
file number 000-33395
CENTENE
CORPORATION
(Exact
name of registrant as specified in its charter)
Delaware
|
42-1406317
|
(State
or other jurisdiction of
|
(I.R.S.
Employer
|
incorporation
or organization)
|
Identification
Number)
|
|
|
7711
Carondelet Avenue
|
|
St.
Louis, Missouri
|
63105
|
(Address
of principal executive offices)
|
(Zip
Code)
|
Registrant’s
telephone number, including area code:
(314)
725-4477
Indicate
by check mark whether the registrant: (1) has filed all reports required to
be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements
for
the past 90 days: [X]
Yes [
] No
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “accelerated
filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.
Large
accelerated filer [X] Accelerated
filer [
]
Non-accelerated filer [
]
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes [
] No [X]
As
of
April 16, 2007, the registrant had 43,613,802 shares of common stock
outstanding.
CENTENE
CORPORATION
QUARTERLY
REPORT ON FORM 10-Q
|
|
PAGE
|
|
|
|
Part
I
|
Financial
Information
|
Item
1.
|
Financial
Statements
|
|
|
|
1
|
|
|
2
|
|
|
3
|
|
|
4
|
Item
2.
|
|
8
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Item
3.
|
|
16
|
Item
4.
|
|
16
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Part
II
|
Other
Information
|
Item
1.
|
|
17
|
Item
1A.
|
|
17
|
Item
2.
|
|
27
|
Item
3.
|
|
27
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Item
4.
|
|
27
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Item
5.
|
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27
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Item
6.
|
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28
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|
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29
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|
|
|
PART
I
FINANCIAL
INFORMATION
ITEM
1. Financial
Statements.
CENTENE
CORPORATION AND SUBSIDIARIES
(In
thousands, except share data)
|
March
31,
2007
|
|
December
31,
2006
|
|
|
(Unaudited)
|
|
ASSETS
|
|
|
|
|
|
|
Current
assets:
|
|
|
|
|
|
|
Cash
and cash equivalents
|
$
|
311,905
|
|
$
|
271,047
|
|
Premium
and related receivables
|
|
78,076
|
|
|
91,664
|
|
Short-term investments, at fair value (amortized cost $43,309 and
$67,199,
respectively)
|
|
43,054
|
|
|
66,921
|
|
Other
current assets
|
|
48,499
|
|
|
22,189
|
|
Total
current assets
|
|
481,534
|
|
|
451,821
|
|
Long-term
investments, at fair value (amortized cost $183,388 and $146,980,
respectively)
|
|
182,267
|
|
|
145,417
|
|
Restricted
deposits, at fair value (amortized cost $25,662 and $25,422,
respectively)
|
|
25,562
|
|
|
25,265
|
|
Property,
software and equipment, net
|
|
121,403
|
|
|
110,688
|
|
Goodwill
|
|
130,484
|
|
|
135,877
|
|
Other
intangible assets, net
|
|
16,011
|
|
|
16,202
|
|
Other
assets
|
|
14,116
|
|
|
9,710
|
|
Total
assets
|
$
|
971,377
|
|
$
|
894,980
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS’ EQUITY
|
|
|
|
|
|
|
Current
liabilities:
|
|
|
|
|
|
|
Medical
claims liabilities
|
$
|
275,965
|
|
$
|
280,441
|
|
Accounts
payable and accrued expenses
|
|
75,842
|
|
|
72,723
|
|
Unearned
revenue
|
|
38,613
|
|
|
33,816
|
|
Current
portion of long-term debt
|
|
965
|
|
|
971
|
|
Total
current liabilities
|
|
391,385
|
|
|
387,951
|
|
Long-term
debt
|
|
200,404
|
|
|
174,646
|
|
Other
liabilities
|
|
10,124
|
|
|
5,960
|
|
Total
liabilities
|
|
601,913
|
|
|
568,557
|
|
Stockholders’
equity:
|
|
|
|
|
|
|
Common
stock, $.001 par value; authorized 100,000,000 shares; issued and
outstanding 43,448,324 and 43,369,918 shares, respectively
|
|
44
|
|
|
44
|
|
Additional paid-in capital
|
|
213,797
|
|
|
209,340
|
|
Accumulated other comprehensive income:
|
|
|
|
|
|
|
Unrealized
loss on investments, net of tax
|
|
(925
|
)
|
|
(1,251
|
)
|
Retained
earnings
|
|
156,548
|
|
|
118,290
|
|
Total
stockholders’ equity
|
|
369,464
|
|
|
326,423
|
|
Total
liabilities and stockholders’ equity
|
$
|
971,377
|
|
$
|
894,980
|
|
See
notes
to consolidated financial statements.
CENTENE
CORPORATION AND SUBSIDIARIES
(In
thousands, except share data)
|
|
|
|
Three
Months Ended March 31,
|
|
|
2007
|
|
2006
|
|
|
|
(Unaudited)
|
|
Revenues:
|
|
|
|
|
|
|
Premium
|
$
|
649,243
|
|
$
|
435,562
|
|
Service
|
|
21,592
|
|
|
19,516
|
|
Total
revenues
|
|
670,835
|
|
|
455,078
|
|
Expenses:
|
|
|
|
|
|
|
Medical
costs
|
|
535,406
|
|
|
361,672
|
|
Cost
of services
|
|
15,630
|
|
|
15,588
|
|
General
and administrative expenses
|
|
106,866
|
|
|
65,222
|
|
Gain
on sale of FirstGuard Missouri
|
|
(4,218
|
)
|
|
—
|
|
Total
operating expenses
|
|
653,684
|
|
|
442,482
|
|
Earnings
from operations
|
|
17,151
|
|
|
12,596
|
|
Other
income (expense):
|
|
|
|
|
|
|
Investment
and other income
|
|
4,501
|
|
|
3,540
|
|
Interest
expense
|
|
(3,132
|
)
|
|
(1,998
|
)
|
Earnings
before income taxes
|
|
18,520
|
|
|
14,138
|
|
Income
tax (benefit)
expense
|
|
(19,691
|
)
|
|
5,372
|
|
Net
earnings
|
$
|
38,211
|
|
$
|
8,766
|
|
|
|
|
|
|
|
|
Earnings
per share:
|
|
|
|
|
|
|
Basic
earnings per common share
|
$
|
0.88
|
|
$
|
0.20
|
|
Diluted
earnings per common share
|
$
|
0.85
|
|
$
|
0.20
|
|
|
|
|
|
|
|
|
Weighted
average number of shares outstanding:
|
|
|
|
|
|
|
Basic
|
|
43,433,319
|
|
|
42,987,892
|
|
Diluted
|
|
44,923,340
|
|
|
44,750,271
|
|
See
notes
to consolidated financial statements.
CENTENE
CORPORATION AND SUBSIDIARIES
(In
thousands)
|
Three
Months Ended March
31,
|
|
|
2007
|
|
2006
|
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
Cash
flows from operating activities:
|
|
|
|
|
|
|
Net
earnings
|
$
|
38,211
|
|
$
|
8,766
|
|
Adjustments
to reconcile net earnings to net cash provided by operating activities
—
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
6,274
|
|
|
4,520
|
|
Stock
compensation expense
|
|
3,871
|
|
|
3,417
|
|
Deferred
income taxes
|
|
(1,398
|
)
|
|
232
|
|
Gain
on sale of FirstGuard Missouri
|
|
(4,218
|
)
|
|
—
|
|
Changes
in assets and liabilities —
|
|
|
|
|
|
|
Premium
and related receivables
|
|
13,588
|
|
|
(15,812
|
)
|
Other
current assets
|
|
(26,336
|
)
|
|
(2,894
|
)
|
Other
assets
|
|
(636
|
)
|
|
(158
|
)
|
Medical
claims liabilities
|
|
(4,340
|
)
|
|
2,278
|
|
Unearned
revenue
|
|
4,796
|
|
|
(934
|
)
|
Accounts
payable and accrued expenses
|
|
1,309
|
|
|
9,937
|
|
Other
operating activities
|
|
4,859
|
|
|
(9
|
)
|
Net
cash provided by operating activities
|
|
35,980
|
|
|
9,343
|
|
Cash
flows from investing activities:
|
|
|
|
|
|
|
Purchases
of property, software and equipment
|
|
(14,794
|
)
|
|
(14,136
|
)
|
Purchases
of investments
|
|
(135,866
|
)
|
|
(53,194
|
)
|
Sales
and maturities of investments
|
|
122,835
|
|
|
33,827
|
|
Proceeds
from asset sales
|
|
10,848
|
|
|
—
|
|
Acquisitions,
net of cash acquired
|
|
(400
|
)
|
|
(39,912
|
)
|
Net
cash used in investing activities
|
|
(17,377
|
)
|
|
(73,415
|
)
|
Cash
flows from financing activities:
|
|
|
|
|
|
|
Proceeds
from exercise of stock options
|
|
868
|
|
|
2,139
|
|
Proceeds
from borrowings
|
|
191,000
|
|
|
37,000
|
|
Payment
of long-term debt
|
|
(165,248
|
)
|
|
(2,285
|
)
|
Excess
tax benefits from stock compensation
|
|
417
|
|
|
1,454
|
|
Common
stock repurchases
|
|
(644
|
)
|
|
(3,082
|
)
|
Debt
issue costs
|
|
(4,138
|
)
|
|
—
|
|
Net
cash provided by financing activities
|
|
22,255
|
|
|
35,226
|
|
Net
increase (decrease) in cash and cash equivalents
|
|
40,858
|
|
|
(28,846
|
)
|
Cash
and cash equivalents,
beginning of period
|
|
271,047
|
|
|
147,358
|
|
Cash
and cash equivalents,
end of period
|
$
|
311,905
|
|
$
|
118,512
|
|
|
|
|
|
|
|
|
Interest
paid
|
$
|
2,999
|
|
$
|
2,037
|
|
Income
taxes paid
|
$
|
5,801
|
|
$
|
911
|
|
See
notes
to consolidated financial statements.
CENTENE
CORPORATION AND SUBSIDIARIES
(Dollars
in thousands, except share data)
1. Organization
and Operations
Centene
Corporation, or Centene or the Company, is a multi-line healthcare enterprise
operating primarily in two segments: Medicaid Managed Care and Specialty
Services. Centene’s Medicaid Managed Care segment provides Medicaid and
Medicaid-related health plan coverage to individuals through government
subsidized programs, including Medicaid, the State Children’s Health Insurance
Program, or SCHIP, and Supplemental Security Income, or SSI. The Company’s
Specialty Services segment provides specialty services, including behavioral
health, disease management, long-term care programs, managed vision, nurse
triage, pharmacy benefits management and treatment compliance, to state
programs, healthcare organizations, and other commercial organizations, as
well
as to the Company’s own subsidiaries on market-based terms.
2. Basis
of Presentation
The
unaudited interim financial statements herein have been prepared by the Company
pursuant to the rules and regulations of the Securities and Exchange Commission.
The accompanying interim financial statements have been prepared under the
presumption that users of the interim financial information have either read
or
have access to the audited financial statements for the fiscal year ended
December 31, 2006. Accordingly, footnote disclosures, which would substantially
duplicate the disclosures contained in the December 31, 2006 audited financial
statements, have been omitted from these interim financial statements where
appropriate. In the opinion of management, these financial statements reflect
all adjustments, consisting only of normal recurring adjustments, which are
necessary for a fair presentation of the results of the interim periods
presented.
Certain
2006 amounts in the consolidated financial statements have been reclassified
to
conform to the 2007 presentation. These reclassifications have no effect on
net
earnings or stockholders’ equity as previously reported.
3.
Recent Accounting Pronouncements
In
June
2006, the FASB ratified the consensus reached on Emerging Issues Task Force,
or
EITF, Issue No. 06-3, “How Sales Taxes Collected from Customers and Remitted to
Governmental Authorities Should Be Presented in the Income Statement (That
is,
Gross Versus Net Presentation)”, or EITF 06-3. The EITF reached a consensus that
the presentation of taxes on either a gross or net basis is an accounting
policy decision. The Company is evaluating the provisions of EITF 06-3 as it
applies to premium taxes. Premium taxes are assessed by certain states as
percentage of premiums paid to the Company by those states. Premium taxes
of $18,216 and $4,305 for the three months ended March 31, 2007 and 2006,
respectively, were reported as a component of revenues and general and
administrative expenses.
The
Company adopted the provisions of FASB Interpretation No. 48, “Accounting for
Uncertainty in Income Taxes”, or FIN 48, on January 1, 2007. FIN 48 clarifies
whether or not to recognize assets or liabilities for tax positions taken that
may be challenged by a taxing authority. As a result of the implementation
of
FIN 48, the Company recognized a $47 decrease in the liability for unrecognized
tax benefits, which was accounted for as an increase to retained earnings.
As of
January 1, 2007, the Company has $3,114 of gross unrecognized tax benefits.
Of
this total, $888 (net of the federal benefit on state issues) would decrease
income tax expense if recognized and the remainder would reduce goodwill if
recognized.
The
Company recognizes interest accrued related to unrecognized tax benefits in
the
provision for income taxes. As of January 1, 2007, interest accrued was
approximately $293, net of federal tax benefit. No penalties have been accrued.
An additional $34 of interest was accrued in first quarter 2007.
During
first quarter 2007, the Company’s liability for unrecognized tax benefits
increased by $1,563, of which the entire amount would reduce income tax expense
if recognized. The increase is related to an Internal Revenue Code Section
165
loss on the Company’s investment in FirstGuard Kansas’ stock to be recognized in
the Company’s 2007 federal and state returns.
The
Company’s federal
income tax returns for 2003 through 2006 are open tax years. The Company
files
in numerous state jurisdictions with varying statutes of limitation. The
Company’s unrecognized state tax benefits are related to state returns open from
2002 through 2006 or 2003 through 2006 depending on each state’s statute of
limitation.
4. FirstGuard
Health Plans
In
2006,
FirstGuard Health Plan Kansas, Inc., or FirstGuard Kansas, a wholly owned
subsidiary, received notification that its Medicaid contract scheduled to
terminate December 31, 2006 would not be renewed. In 2006, the Company also
evaluated its strategic alternatives for its Missouri subsidiary, FirstGuard
Health Plan, Inc., or FirstGuard Missouri, and decided to divest the business.
The sale of the operating assets of FirstGuard Missouri was completed effective
February 1, 2007.
Under
the
terms of the asset sale agreement, the Company received an initial payment
upon
the sale of FirstGuard Missouri resulting in a gain of $4,218 in 2007. The
Company may recognize additional gain in 2007 because it is entitled to a second
payment currently estimated at approximately $3,000, contingent upon the
membership levels of the purchaser as of June 1, 2007. Goodwill associated
with
FirstGuard written off as part of the transaction was $5,995.
In
March
2007, the Company abandoned the stock of FirstGuard Kansas to an unrelated
entity. As a result of that abandonment, the Company recognized expense of
$1,602 for the write-off of the remaining assets in that entity and a $29,919
tax benefit for the tax deduction the Company will receive for the basis of
that
stock. The asset write-off is recorded in investment and other income. The
income tax receivable associated with the tax deduction is recorded as a
component of other current assets.
The
Company has incurred $7,801 of FirstGuard exit costs consisting primarily of
lease termination fees and employee severance costs. $6,202 was incurred in
2006, of which $3,027 was accrued at December 31, 2006. During the three months
ended March 31, 2007, the Company incurred an additional $1,599 of exit costs
and made payments of $3,007. At March 31, 2007, the remaining accrual for these
costs was $1,619.
5. Debt
In
March
2007, the Company issued $175,000 aggregate principal amount of 7 ¼% Senior
Notes due April 1, 2014, or the Notes. The Notes have not been registered under
the Securities Act of 1933, as amended, however, the Company intends to register
the Notes pursuant to a registration rights agreement with the initial
purchasers. The agreement contains non-financial and financial covenants,
including requirements of a minimum fixed charge coverage ratio. Interest will
be paid semi-annually beginning in October 2007.
At
March
31, 2007, total debt outstanding was $201,369, including current maturities
of
$965. The total debt outstanding consisted of $175,000 under the Notes, $20,725
of debt secured by real estate and $5,644 of capital leases.
6. Earnings
Per Share
The
following table sets forth the calculation of basic and diluted net earnings
per
common share:
|
Three
Months Ended March
31,
|
|
2007
|
|
2006
|
|
|
|
|
|
|
Net
earnings
|
$
|
38,211
|
|
$
|
8,766
|
Shares
used in computing per share amounts:
|
|
|
|
|
|
Weighted
average number of common shares outstanding
|
|
43,433,319
|
|
|
42,987,892
|
Common
stock equivalents (as determined by applying the treasury stock
method)
|
|
1,490,021
|
|
|
1,762,379
|
Weighted
average number of common shares and potential dilutive common shares
outstanding
|
|
44,923,340
|
|
|
44,750,271
|
|
|
|
|
|
|
Basic
earnings per common share
|
$
|
0.88
|
|
$
|
0.20
|
|
|
|
|
|
|
Diluted
earnings per common share
|
$
|
0.85
|
|
$
|
0.20
|
The
calculation of diluted earnings per common share for the three months ended
March 31, 2007 and 2006 excludes the impact of 2,246,850 and 150,900 shares,
respectively, related to anti-dilutive stock options, restricted stock and
restricted stock units.
7. Stockholders’
Equity
In
November 2005, the Company’s board of directors adopted a stock repurchase
program authorizing the Company to repurchase up to 4,000,000 shares of common
stock from time to time on the open market or through privately negotiated
transactions. The repurchase program extends through October 31, 2007, but
the
Company reserves the right to suspend or discontinue the program at any time.
During the three months ended March 31, 2007, the Company repurchased 38,100
shares at an average price of $22.43 and an aggregate cost of
$854.
8.
Contingencies
As
previously disclosed, two class action lawsuits were filed against the Company
and certain of its officers and directors in the United States District Court
for the Eastern District of Missouri, one in July 2006, or the July Class Action
Lawsuit, and one in August 2006, or the August Class Action Lawsuit. The July
Class Action Lawsuit and the August Class Action Lawsuit were consolidated
on
November 2, 2006 and an amended consolidated complaint was filed in the United
States District Court for the Eastern District of Missouri on January 17, 2007,
referred to as the Consolidated Class Action Lawsuit. The Consolidated Class
Action Lawsuit alleges, on behalf of purchasers of the Company’s common stock
from April 25, 2006 through July 17, 2006, that the Company and certain of
its
officers and directors violated federal securities laws by issuing a series
of
materially false statements prior to the announcement of its fiscal 2006 second
quarter results. According to the Consolidated Class Action Lawsuit, these
allegedly materially false statements had the effect of artificially inflating
the price of the Company’s common stock, which subsequently dropped after the
issuance of a press release announcing the Company’s preliminary fiscal 2006
second quarter earnings and revised guidance. The Company believes the case
is
without merit and has filed a motion to dismiss the Consolidated Class Action
Lawsuit.
Additionally,
in August 2006, a separate derivative action was filed on behalf of Centene
Corporation against the Company and certain of its officers and directors in
the
United States District Court for the Eastern District of Missouri. Plaintiff
purports to bring suit derivatively on behalf of the Company against the
Company’s directors for breach of fiduciary duties, gross mismanagement and
waste of corporate assets by reason of the directors’ alleged failure to correct
the misstatements alleged in the Consolidated Class Action Lawsuits discussed
above. The derivative complaint largely repeats the allegations in the
Consolidated Class Action Lawsuits. Based on discussions that have been held
with plaintiff’s counsel, it is the Company’s understanding that plaintiff does
not intend to pursue this action until the Consolidated Class Action Lawsuits
proceed past the dismissal stage. Although this matter is in its early stages
and no precise prediction of its outcome can be made, the Company believes
the
case is without merit and plans to vigorously defend against this lawsuit.
In
addition, the Company is routinely subjected to legal proceedings in the normal
course of business. While the ultimate resolution of such matters is uncertain,
the Company does not expect the results of any of these matters discussed above
individually, or in the aggregate, to have a material effect on its financial
position or results of operations.
9.
Segment Information
The
Company operates in two segments: Medicaid Managed Care and Specialty Services.
The Medicaid Managed Care segment consists of the Company’s health plans
including all of the functions needed to operate them. The Specialty Services
segment consists of the Company’s specialty companies including behavioral
health, disease management, long-term care programs, managed vision, nurse
triage, pharmacy benefits management and treatment compliance functions.
Factors
used in determining the reportable business segments include the nature of
operating activities, existence of separate senior management teams, and the
type of information presented to the Company’s chief operating decision maker to
evaluate all results of operations.
Segment
information for the three months ended March 31, 2007, follows:
|
|
Medicaid
Managed Care
|
|
Specialty
Services
|
|
Eliminations
|
|
Consolidated
Total
|
Revenue
from external customers
|
|
$
|
613,063
|
|
$
|
57,772
|
|
$
|
—
|
|
$
|
670,835
|
Revenue
from internal customers
|
|
|
18,888
|
|
|
98,719
|
|
|
(117,607
|
)
|
|
—
|
Total
revenue
|
|
$
|
631,951
|
|
$
|
156,491
|
|
$
|
(117,607
|
)
|
$
|
670,835
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings
from operations
|
|
$
|
11,483
|
|
$
|
5,668
|
|
$
|
—
|
|
$
|
17,151
|
Segment
information for the three months ended March 31, 2006, follows:
|
|
Medicaid
Managed Care
|
|
Specialty
Services
|
|
Eliminations
|
|
Consolidated
Total
|
Revenue
from external customers
|
|
$
|
410,981
|
|
$
|
44,097
|
|
$
|
—
|
|
$
|
455,078
|
Revenue
from internal customers
|
|
|
20,773
|
|
|
17,677
|
|
|
(38,450
|
)
|
|
—
|
Total
revenue
|
|
$
|
431,754
|
|
$
|
61,774
|
|
$
|
(38,450
|
)
|
$
|
455,078
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings
from operations
|
|
$
|
12,091
|
|
$
|
505
|
|
$
|
—
|
|
$
|
12,596
|
10.
Comprehensive Earnings
Differences
between net earnings and total comprehensive earnings resulted from changes
in
unrealized losses on investments available for sale, as follows:
|
Three
Months Ended March 31,
|
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
|
Net
earnings
|
$
|
38,211
|
|
$
|
8,766
|
|
Reclassification
adjustment, net of tax
|
|
34
|
|
|
13
|
|
Change
in unrealized gain (loss) on investments, net of tax
|
|
292
|
|
|
(407
|
)
|
Total
comprehensive earnings
|
$
|
38,537
|
|
$
|
8,372
|
|
ITEM
2. Management’s Discussion and Analysis of Financial Condition
and Results of Operations.
The
following discussion of our financial condition and results of operations should
be read in conjunction with our consolidated financial statements and the
related notes included elsewhere in this filing, and in our annual report on
Form 10-K for the year ended December 31, 2006. The discussion contains
forward-looking statements that involve known and unknown risks and
uncertainties, including those set forth under” Item 1A. Risk
Factors.”
OVERVIEW
We
are a
multi-line healthcare enterprise operating in two segments. Our Medicaid Managed
Care segment provides Medicaid and Medicaid-related programs to organizations
and individuals through government subsidized programs, including Medicaid,
the
State Children’s Health Insurance Program, or SCHIP, and, Supplemental Security
Income including Aged, Blind or Disabled programs, or SSI. Our Specialty
Services segment provides specialty services, including behavioral health,
disease management, long-term care programs, managed vision, nurse triage,
pharmacy benefits management and treatment compliance, to state programs,
healthcare organizations and other commercial organizations, as well as to
our
own subsidiaries on market-based terms.
Our
Medicaid contract in Kansas terminated effective December 31, 2006, and
we
sold
the operating assets of FirstGuard Health Plan, Inc., our Missouri
health
plan, effective February 1, 2007.
Our
first
quarter performance for 2007 is summarized as follows:
|
—
|
Quarter-end
Medicaid Managed Care membership of 1,103,300.
|
|
|
Total
revenues of $670.8 million, a 47.4% increase over the comparable
period in
2006.
|
|
—
|
Medicaid
and SCHIP health benefits ratio, or HBR, of 82.3%, SSI HBR of 86.3%,
Specialty Services HBR of 79.3%.
|
|
—
|
Medicaid
Managed Care general and administrative, or G&A, expense ratio of
13.0% and Specialty Services G&A ratio of 15.8%.
|
|
—
|
Operating
earnings of $17.2 million.
|
|
—
|
Diluted
earnings per share of $0.85, including an after-tax benefit of $26.6
million, or $0.59 per share, for FirstGuard activity.
|
|
—
|
Operating
cash flows of $36.0 million.
|
Over
the
last year we have experienced membership and revenue growth in our Medicaid
Managed Care segment including membership growth of 26.1% since March 31, 2006.
The following new contracts and acquisitions contributed to our
growth:
|
—
|
In
February 2007, we began managing care for SSI recipients in the San
Antonio and Corpus Christi markets of Texas with 28,700 members at
March
31, 2007.
|
|
—
|
In
January, February, and March 2007, we began managing care for SSI
members
in the Northeast, Southwest, and Northwest regions of Ohio, respectively,
with 10,700 members at March 31, 2007. Implementation took place
in the
East Central region in April 2007.
|
|
—
|
In
September 2006, we expanded operations in Texas to include Medicaid
and
SCHIP members in the Corpus Christi, Austin and Lubbock markets,
with
22,300 members at March 31, 2007.
|
|
—
|
In
Georgia, we began managing care for Medicaid and SCHIP members in
the
Atlanta and Central regions in June 2006 and the Southwest region
in
September 2006. At March 31, 2007, our membership in Georgia was
291,300.
|
|
—
|
We
began operating under new contracts with the State of Ohio to manage
care
for Medicaid members by entering seven new counties in the East Central
market in July 2006, and 17 new counties in the Northwest market
in
October 2006, with 60,700 members at March 31, 2007.
|
|
—
|
In
June 2006, we acquired MediPlan Corporation, or MediPlan, and began
managing care for additional Medicaid members in Ohio with 13,400
members
at March 31, 2007. The results of operations of this entity are included
in our consolidated financial statements beginning June 1,
2006.
|
We
have
been awarded the following new business opportunities to expand our
operations:
|
—
|
During
the first quarter of 2007, we finalized the
contractual terms of the Comprehensive Health Care for Children in
Foster
Care program award with the Texas Health and Human Services Commission
(HHSC). This statewide program will provide managed care services
to
participants in the Texas Foster Care program. Membership operations
are
expected
to commence in
the fourth quarter of 2007.
|
|
—
|
In
April 2007, we acquired PhyTrust of South Carolina, LLC, a
physician-driven company that serves over 30,000 members.
|
The
following new contracts and acquisitions contributed to growth of our Specialty
Services segment:
|
—
|
Effective
October 1, 2006, we began performing under our contract with the
Arizona
Health Care Cost Containment System to provide long-term care services
in
the Maricopa, Yuma and LaPaz counties in Arizona.
|
|
—
|
Effective
July 1, 2006, we acquired the managed vision business of OptiCare
Managed
Vision, Inc., or OptiCare. The results of operations of this entity
are
included in our consolidated financial statements beginning July
1,
2006.
|
|
—
|
Effective
May 9, 2006, we acquired Cardium Health Services Corporation, or
Cardium
Health, a disease management company. The results of operations of
this
entity are included in our consolidated financial statements beginning
May
9, 2006.
|
RESULTS
OF OPERATIONS AND KEY METRICS
Three
Months Ended March 31, 2007 Compared to Three Months Ended March 31,
2006
Summarized
comparative financial data are as follows ($ in millions except share
data):
|
|
Three
Months Ended March 31,
|
|
|
|
2007
|
|
2006
|
|
%
Change
2006-2007
|
|
Premium
revenue
|
|
$
|
649.2
|
|
$
|
435.6
|
|
|
49.1
|
%
|
Service
revenue
|
|
|
21.6
|
|
|
19.5
|
|
|
10.6
|
%
|
Total
revenues
|
|
|
670.8
|
|
|
455.1
|
|
|
47.4
|
%
|
Medical
costs
|
|
|
535.4
|
|
|
361.7
|
|
|
48.0
|
%
|
Cost
of services
|
|
|
15.6
|
|
|
15.6
|
|
|
0.3
|
%
|
General
and administrative expenses
|
|
|
106.9
|
|
|
65.2
|
|
|
63.8
|
%
|
Gain
on sale of FirstGuard Missouri
|
|
|
(4.2
|
)
|
|
—
|
|
|
—
|
%
|
Earnings
from operations
|
|
|
17.2
|
|
|
12.6
|
|
|
36.2
|
%
|
Investment
and other income, net
|
|
|
1.3
|
|
|
1.5
|
|
|
(11.2
|
)%
|
Earnings
before income taxes
|
|
|
18.5
|
|
|
14.1
|
|
|
31.0
|
%
|
Income
tax (benefit) expense
|
|
|
(19.7
|
)
|
|
5.3
|
|
|
(466.5
|
)%
|
Net
earnings
|
|
$
|
38.2
|
|
$
|
8.8
|
|
|
335.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
earnings per common share
|
|
$
|
0.85
|
|
$
|
0.20
|
|
|
325.0
|
%
|
Revenues
and Revenue Recognition
Our
Medicaid Managed Care segment generates revenues primarily from premiums we
receive from the states in which we operate health plans. We receive a fixed
premium per member per month pursuant to our state contracts. We generally
receive premium payments during the month we provide services and recognize
premium revenue during the period in which we are obligated to provide services
to our members. Some states enact premium taxes or similar assessments,
collectively, premium taxes, and these taxes are recorded as a component of
revenues and general and administrative expenses (gross). Premium taxes
totaled $18.2 million in the three months ended March 31, 2007, compared to
$4.3
million for the comparable period in 2006. Some contracts allow for
additional premium related to certain supplemental services provided such as
maternity deliveries. Revenues are recorded based on membership and eligibility
data provided by the states, which may be adjusted by the states for updates
to
this data. These adjustments have been immaterial in relation to total revenue
recorded and are reflected in the period known.
Our
Specialty Services segment generates revenues under contracts with state
programs, healthcare organizations, and other commercial organizations, as
well
as from our own subsidiaries on market-based terms. Revenues are recognized
when
the related services are provided or as ratably earned over the covered period
of services.
Premium
and service revenues collected in advance are recorded as unearned revenue.
For
performance-based contracts, we do not recognize revenue subject to refund
until
data is sufficient to measure performance. Premium and service revenues due
to
us are recorded as premium and related receivables and are recorded net of
an
allowance based on historical trends and our management’s judgment on the
collectibility of these accounts. As we generally receive payments during the
month in which services are provided, the allowance is typically not significant
in comparison to total revenues and does not have a material impact on the
presentation of our financial condition or results of operations.
Our
total
revenue increased year over year primarily through 1) membership growth in
the
Medicaid Managed Care segment, 2) premium rate increases, and 3) growth in
our
Specialty Services segment.
From
March 31, 2006 to March 31, 2007, we increased our total membership by 26.1%.
The following table sets forth our membership by state in our Medicaid Managed
Care segment:
|
|
March
31,
|
|
|
|
2007
|
|
2006
|
|
Georgia
|
|
291,300
|
|
—
|
|
Indiana
|
|
|
176,700
|
|
|
193,000
|
|
New
Jersey
|
|
|
59,100
|
|
|
57,500
|
|
Ohio
|
|
|
118,300
|
|
|
59,000
|
|
Texas
|
|
|
318,500
|
|
|
237,500
|
|
Wisconsin
|
|
|
139,400
|
|
|
175,100
|
|
Subtotal
|
|
|
1,103,300
|
|
|
722,100
|
|
|
|
|
|
|
|
|
|
Kansas
and Missouri
|
|
|
—
|
|
|
152,700
|
|
Total
|
|
|
1,103,300
|
|
|
874,800
|
|
The
following table sets forth our membership by line of business in our Medicaid
Managed Care segment:
|
|
March
31,
|
|
|
|
2007
|
|
2006
|
|
Medicaid
|
|
|
839,600
|
|
|
574,300
|
|
SCHIP
|
|
|
211,200
|
|
|
132,000
|
|
SSI
|
|
|
52,500
|
|
|
15,800
|
|
Subtotal
|
|
|
1,103,300
|
|
|
722,100
|
|
|
|
|
|
|
|
|
|
Kansas
and Missouri Medicaid/SCHIP members
|
|
|
—
|
|
|
152,700
|
|
Total
|
|
|
1,103,300
|
|
|
874,800
|
|
From
March 31, 2006 to March 31, 2007, we increased our membership through the
commencement of operations in the Atlanta and Central regions of Georgia in
June
2006 and in the Southwest region in September 2006, respectively, under our
subsidiary, Peach State Health Plan. We increased our Medicaid membership in
Ohio through the MediPlan acquisition, adding members under our new contract
in
the East Central and Northwest markets. We also increased our SSI membership
in
Ohio with the commencement of our new contract to serve Aged, Blind or Disabled
members. In Texas, we increased our membership through new Medicaid, SCHIP
and
SSI contracts in the Corpus Christi, Austin, and Lubbock markets. The premium
revenue for a SSI member is higher than a Medicaid / SCHIP member. For example,
in Ohio the per member per month, or pmpm, premium for a SSI member averages
approximately $1,100. In Texas, the SSI pmpm averages approximately $410. The
pmpm revenue for a Medicaid member in our states’ averages approximately $190.
Our membership decreased in Wisconsin because of more stringent state
eligibility requirements for the Medicaid and SCHIP programs, eligibility
administration issues and the termination of certain physician contracts
associated with a high cost hospital system. Our membership decreased in Indiana
primarily due to adjustments made to our provider network made in connection
with our new state-wide contract. The revenue associated with our Kansas and
Missouri health plans was $76.3 million for the quarter ended March 31, 2006.
|
2.
|
Premium
rate increases
|
During
the three months ended March 31, 2007, we received premium rate increases
ranging from 2.5% to 10.1%, or 2.2% on a composite basis across our markets.
|
3.
|
Specialty
Services segment growth
|
In
May
2006, we expanded our disease management services through our acquisition of
Cardium Health. In July 2006, we began offering managed vision care through
our
acquisition of OptiCare. In October 2006, our subsidiary, Bridgeway Health
Solutions, began performing under our long-term care contract in Arizona. At
March 31, 2007, our behavioral health company, Cenpatico, provided behavioral
health services to 93,600 members in Arizona and 36,600 members in Kansas,
compared to 92,300 members in Arizona and 39,200 members in Kansas, at March
31,
2006.
Operating
Expenses
Medical
Costs
Our
medical costs include payments to physicians, hospitals, and other providers
for
healthcare and specialty services claims. Medical costs also include estimates
of medical expenses incurred but not yet reported, or IBNR, and estimates of
the
cost to process unpaid claims. Monthly, we estimate our IBNR based on a number
of factors, including inpatient hospital utilization data and prior claims
experience. As part of this review, we also consider the costs to process
medical claims and estimates of amounts to cover uncertainties related to
fluctuations in physician billing patterns, membership, products and inpatient
hospital trends. These estimates are adjusted as more information becomes
available. We employ actuarial professionals and use the services of independent
actuaries who are contracted to review our estimates quarterly. While we believe
that our process for estimating IBNR is actuarially sound, we cannot assure
you
that healthcare claim costs will not materially differ from our estimates.
Our
results of operations depend on our ability to manage expenses related to health
benefits and to accurately predict costs incurred. Our health benefits ratio,
or
HBR, represents medical costs as a percentage of premium revenues and reflects
the direct relationship between the premium received and the medical services
provided. The table below depicts our HBR for our external membership by member
category:
|
|
Three
Months Ended March 31,
|
|
|
|
2007
|
|
2006
|
|
Medicaid
and SCHIP
|
|
|
82.3
|
%
|
|
82.8
|
%
|
SSI
|
|
|
86.3
|
|
|
87.6
|
|
Specialty
Services
|
|
|
79.3
|
|
|
84.1
|
|
Our
Medicaid and SCHIP HBR for the three months ended March 31, 2007 was 82.3%,
a
decrease of 0.5% over 2006. The decrease is primarily attributable to increased
premium taxes. Sequentially, our Medicaid and SCHIP HBR increased from
82.1% in the 2006 fourth quarter to 82.3% because of utilization
seasonality.
The
decrease in the SSI HBR for the three months ended March 31, 2007 reflects
an
increase in premium taxes, partially offset by the new business in our Ohio
and
Texas health plans.
The
decrease in our Specialty Services HBR for the three months ended March 31,
2007
is caused by the diversification of business in that segment which now includes
OptiCare, effective July 1, 2006, and Bridgeway, effective October 1, 2006.
Cost
of Services
Our
cost
of services expense includes the pharmaceutical costs associated with our
pharmacy benefit manager’s external revenues. Cost of services also includes all
direct costs to support the local functions responsible for generation of our
services revenues. These expenses consist of the salaries and wages of the
professionals and teachers who provide the services and expenses related to
facilities and equipment used to provide services.
General
and Administrative Expenses
Our
general and administrative expenses, or G&A, primarily reflect wages and
benefits, including stock compensation expense, and other administrative
costs
related to our health plans, specialty companies and centralized functions
that
support all of our business units. Our major centralized functions are finance,
information systems and claims processing. Premium taxes are also classified
as
G&A expenses. G&A increased in the three months ended March
31, 2007 over the comparable period in 2006 primarily due to premium taxes
and
expenses for additional facilities and staff to support our growth, especially
in Arizona and Georgia.
Our
G&A expense ratio represents G&A expenses as a percentage of total
revenues and reflects the relationship between revenues earned and the costs
necessary to earn those revenues. The following table sets forth the G&A
expense ratios by business segment:
|
|
Three
Months Ended March 31,
|
|
|
|
|
2007
|
|
|
2006
|
|
Medicaid
Managed Care
|
|
|
13.0
|
%
|
|
11.9
|
%
|
Specialty
Services
|
|
|
15.8
|
|
|
22.3
|
|
The
increase in the Medicaid Managed Care G&A expense ratio for the three months
ended March 31, 2007 primarily reflects increased premium taxes. Premium
taxes
were $18.2 million in the 2007 first quarter and $4.3 million in the 2006
first
quarter. This increase was offset by the leveraging of our expenses over
higher
revenues especially in our Georgia health plan. The first quarter of 2006
included $4.5 million of Georgia implementation costs for which there was
no
associated revenue until June 1, 2006. The first quarter of 2007
also includes $0.7 million of South Carolina start-up
costs.
The
Specialty Services G&A ratio varies depending on the nature of the services
provided and will generally be higher than the Medicaid Managed Care G&A
ratio. The decrease in the Specialty Services G&A ratio for the three months
ended March 31, 2007 primarily reflects the overall leveraging of expense over
higher revenues with the addition of Cardium Health, Opticare and Bridgeway
in
the last three quarters of 2006 and the growth of US Script’s business since the
acquisition in 2006.
Gain
on Sale of FirstGuard Missouri
The
sale
of the operating assets of FirstGuard Missouri was completed effective February
1, 2007. Under the terms of the asset sale agreement, we received an initial
payment upon the sale of FirstGuard Missouri resulting in a gain of $4.2 million
in 2007. We may recognize additional gain in a subsequent period of 2007 because
we are entitled to a second payment currently estimated at approximately $3
million, contingent upon the membership levels of the purchaser as of June
1,
2007. The goodwill associated with FirstGuard written off as part of the
transaction was $6.0 million.
Other
Income (Expense)
Other
income (expense) consists principally of investment income from our cash and
investments and interest expense on our debt. Investment
and other income increased $1.0 million in the three months ended March 31,
2007
primarily as a result of an increase in market interest rates and larger
investment balances offset by a $1.6 million asset write-off associated with
the
abandonment of the stock of our Kansas health plan. Interest expense increased
$1.1 million primarily from increased debt.
Income
Tax (Benefit) Expense
During
the first quarter of 2007 we recognized a tax benefit of $29.9 million
associated with the abandonment of the stock of our Kansas health plan resulting
in a net tax benefit of $19.7 million despite having $18.5 million of pre-tax
income. During the first quarter of 2007 we also recorded $4.2 million of income
tax expense associated with the sale of FirstGuard Missouri. Excluding the
effect of the Kansas health plan stock deduction and gain on sale of our
Missouri health plan, our 2007 effective tax rate for the three months
ended March 31, 2007 was 38.0% compared to 38.0% for the comparable period
in
2006.
LIQUIDITY
AND CAPITAL RESOURCES
We
finance our activities primarily through operating cash flows and borrowings
under our revolving credit facility. Our total operating activities provided
cash of $36.0 million in the three months ended March 31, 2007 compared to
$9.3
million in the comparable period in 2006. The increase in cash flow from
operations primarily reflects a decrease in premium and related receivables
primarily related to Kansas and Missouri receivables. Medical claims liabilities
decreased $4.5 million in the 2007 first quarter reflecting the payment of
Kansas and Missouri claims incurred in 2006 and accelerated payment of Georgia
claims offset by increases due to new business in Ohio and Texas. We expect
that
the tax benefit we recorded associated with the abandonment of the stock of
our
Kansas health plan will result in reduced income tax payments totaling
approximately $29.9 million over the next several quarters.
Our
investing activities used cash of $17.4 million in the three months ended March
31, 2007 compared to $73.4 million in the comparable period in 2006. Our
investing activities in 2007 consisted primarily of additions to the investment
portfolios of our regulated subsidiaries. During 2006, our investing activities
primarily consisted of the acquisition of US Script. Our investing activities
in
2006 also included additions to the investment portfolios of our regulated
subsidiaries. Our investment policies are designed to provide liquidity,
preserve capital and maximize total return on invested assets within our
investment guidelines. Net cash provided by and used in investing activities
will fluctuate from year to year due to the timing of investment purchases,
sales and maturities. As of March 31, 2007, our investment portfolio consisted
primarily of fixed-income securities with an average duration of 1.5 years.
Cash
is invested in investment vehicles such as municipal bonds, corporate bonds,
insurance contracts, commercial paper and instruments of the U.S. Treasury.
The
states in which we operate prescribe the types of instruments in which our
regulated subsidiaries may invest their cash.
We
spent
$14.8 million and $14.1 million on capital assets in the three months ended
March 31, 2007 and 2006, respectively, consisting primarily of software and
hardware upgrades, and furniture, equipment and leasehold improvements related
to office and market expansions. We anticipate spending an additional $65
million on additional capital expenditures in 2007 primarily related to system
upgrades and market expansions.
We
anticipate spending approximately $20 million for additional property in
Clayton, Missouri related to our redevelopment agreement with the City of
Clayton, Missouri. In the second quarter of 2006, our subsidiary executed
a three-year, $25 million non-recourse revolving credit facility to finance
the
property already acquired or expected to be acquired under the redevelopment
agreement. As of March 31, 2007, we had $8.4 million in borrowings outstanding
under this credit facility.
Our
primary purpose for the redevelopment agreement is to accommodate office
expansion needs for future company growth. The total scope of the project
includes building two new office towers and street-level retail space. We plan
to occupy a portion of those towers. The total expected cost of the project
is
approximately $210 million, however, we expect our financial commitment to
be
limited to the acquired property discussed above and future lease costs.
Our
financing activities provided cash of $22.3 million and $35.2 million in the
three months ended March 31, 2007 and 2006, respectively. During 2007, our
financing activities primarily related to proceeds from issuance of $175 million
in senior notes as discussed below. During 2006, our financing activities
primarily related to proceeds from borrowings under our credit facility. These
borrowings were used primarily for our investing activities in conjunction
with
the acquisition of US Script.
At
March
31, 2007, we had working capital, defined as current assets less current
liabilities, of $90.1 million as compared to $63.9 million at December 31,
2006.
We manage our short-term and long-term investments with the goal of ensuring
that a sufficient portion is held in investments that are highly liquid and
can
be sold to fund short-term capital requirements as needed.
Cash,
cash equivalents and short-term investments were $355.0 million at March 31,
2007 and $338.0 million at December 31, 2006. Long-term investments were $207.8
million at March 31, 2007 and $170.7 million at December 31, 2006, including
restricted deposits of $25.6 million and $25.3 million, respectively. At March
31, 2007, cash and investments held by our unregulated entities totaled $71.8
million while cash and investments held by our regulated entities totaled $491.0
million.
We
have a
$300 million revolving credit agreement. Borrowings under the agreement bear
interest based upon LIBOR rates, the Federal Funds Rate or the Prime Rate.
There
is a commitment fee on the unused portion of the agreement that ranges from
0.15% to 0.275% depending on the total debt to EBITDA ratio. The agreement
contains non-financial and financial covenants, including requirements of
minimum fixed charge coverage ratios, maximum debt to EBITDA ratios and minimum
tangible net worth. The agreement will expire in September 2011. As of March
31,
2007, we had no borrowings outstanding under the agreement and $24.5 million
in
letters of credit outstanding, leaving availability of $275.5 million. As of
March 31, 2007, we were in compliance with all covenants.
In
March
2007, we issued $175 million aggregate principal amount of our 7 ¼% Senior Notes
due April 1, 2014. The Notes have not been registered under the Securities
Act
of 1933, as amended, however, we intend to register the Notes pursuant to a
registration rights agreement with the initial purchasers. The agreement
contains non-financial and financial covenants, including requiring a minimum
fixed charge coverage ratio. Interest will be paid semi-annually beginning
in
October 2007. We used a portion of the net proceeds from the offering to
refinance approximately $150.0 million of our existing indebtedness which was
outstanding under our revolving credit facility. The additional proceeds will
be
used for general corporate purposes. As of March 31, 2007, we were in compliance
with all covenants.
We
have a
stock repurchase program authorizing us to repurchase up to four million shares
of common stock from time to time on the open market or through privately
negotiated transactions. The repurchase program extends through October 31,
2007, but we reserve the right to suspend or discontinue the program at any
time. During the three months ended March 31, 2007, we repurchased 38,100 shares
at an average price of $22.43. We have established a trading plan with a
registered broker to repurchase shares under certain market
conditions.
We
have a
shelf registration statement on Form S-3 on file with the Securities and
Exchange Commission, or the SEC, covering the issuance of up to
$300 million of securities including common stock and debt securities. No
securities have been issued under the shelf registration. We may publicly offer
securities from time-to-time at prices and terms to be determined at the time
of
the offering.
During
the three months ended March 31, 2007, we received a dividend of $26.1 million
for the excess regulatory capital remaining in our Kansas health plan. We
believe the cash and investments for FirstGuard are sufficient to satisfy the
remaining liabilities for FirstGuard. We expect remaining excess funds,
currently estimated to be $8 million to $10 million, will become available
to us
for general corporate purposes when our regulatory obligations have been
satisfied.
There
were no other material changes outside the ordinary course of business in lease
obligations or other contractual obligations in the three months ended March
31,
2007. Based on our operating plan, we expect that our available cash, cash
equivalents and investments, cash from our operations and cash available under
our credit facility will be sufficient to finance our operations and capital
expenditures for at least 12 months from the date of this filing.
REGULATORY
CAPITAL AND DIVIDEND RESTRICTIONS
As
managed care organizations, certain of our subsidiaries are subject to state
regulations that, among other things, require the maintenance of minimum levels
of statutory capital, as defined by each state, and restrict the timing, payment
and amount of dividends and other distributions that may be paid to us.
Generally, the amount of dividend distributions that may be paid by a regulated
subsidiary without prior approval by state regulatory authorities is limited
based on the entity’s level of statutory net income and statutory capital and
surplus.
Our
regulated subsidiaries are required to maintain minimum capital requirements
prescribed by various regulatory authorities in each of the states in which
we
operate. As of March 31, 2007, our subsidiaries had aggregate statutory capital
and surplus of $239.3 million, compared with the required minimum aggregate
statutory capital and surplus requirements of $151.7 million.
The
National Association of Insurance Commissioners has adopted rules which set
minimum risk-based capital requirements for insurance companies, managed care
organizations and other entities bearing risk for healthcare coverage. As of
March 31, 2007, all of our health plans were in compliance with the risk-based
capital requirements enacted in those states.
FORWARD-LOOKING
STATEMENTS
All
statements, other than statements of current or historical fact, contained
in
this filing are forward-looking statements. We have attempted to identify these
statements by terminology including “believe,” “anticipate,” “plan,” “expect,”
“estimate,” “intend,” “seek,” “target,” “goal,” “may,” “will,” “should,” “can,”
“continue” and other similar words or expressions in connection with, among
other things, any discussion of future operating or financial performance.
In
particular, these statements include statements about our market opportunity,
our growth strategy, competition, expected activities and future acquisitions,
investments and the adequacy of our available cash resources. These statements
may be found in the various sections of this filing, including those entitled
“Management’s Discussion and Analysis of Financial Condition and Results of
Operations,” Item 1. “Legal Proceedings” and Item 1A. “Risk Factors.” Readers
are cautioned that matters subject to forward-looking statements involve known
and unknown risks and uncertainties, including economic, regulatory, competitive
and other factors that may cause our or our industry’s actual results, levels of
activity, performance or achievements to be materially different from any future
results, levels of activity, performance or achievements expressed or implied
by
these forward-looking statements. These statements are not guarantees of future
performance and are subject to risks, uncertainties and
assumptions.
All
forward-looking
statements included in this filing are based on information available to us
on
the date of this filing. Actual results may differ from projections or estimates
due to a variety of important factors, including:
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·
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our
ability to accurately predict and effectively manage health benefits
and
other operating expenses;
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·
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changes
in healthcare practices;
|
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·
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changes
in federal or state laws or
regulations;
|
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·
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provider
contract changes;
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·
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reduction
in provider payments by governmental
payors;
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·
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disasters
and numerous other factors affecting the delivery and cost of
healthcare;
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·
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the
expiration, cancellation or suspension of our Medicaid managed care
contracts by state
governments;
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·
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availability
of debt and equity financing on terms that are favorable to us;
and
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general
economic and market
conditions.
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Item
1A.
“Risk Factors” of this filing contains a further discussion of these and other
additional important factors that could cause actual results to differ from
expectations. We disclaim any current intention or obligation to update or
revise any forward-looking statements, whether as a result of new information,
future events or otherwise. Due to these important factors and risks, we cannot
give assurances with respect to our future premium levels or our ability to
control our future medical costs.
ITEM
3. Quantitative
and Qualitative Disclosures About Market Risk.
INVESTMENTS
As
of
March 31, 2007, we had short-term investments of $43.1 million and long-term
investments of $207.8 million, including restricted deposits of $25.6 million.
The short-term investments consist of highly liquid securities with maturities
between three and twelve months. The long-term investments consist of municipal,
corporate and U.S. agency bonds, asset-backed securities, life insurance
contracts and U.S. Treasury investments and have maturities greater than one
year. Restricted deposits consist of investments required by various state
statutes to be deposited or pledged to state agencies. Due to the nature of
the
states’ requirements, these investments are classified as long-term regardless
of the contractual maturity date. Our investments are subject to interest rate
risk and will decrease in value if market rates increase. Assuming a
hypothetical and immediate 1% increase in market interest rates at March 31,
2007, the fair value of our fixed income investments would decrease by
approximately $2.7 million. Declines in interest rates over time will reduce
our
investment income.
INFLATION
Although
the general rate of inflation has remained relatively stable and healthcare
cost
inflation has stabilized in recent years, the national healthcare cost inflation
rate still exceeds the general inflation rate. We use various strategies to
mitigate the negative effects of healthcare cost inflation. Specifically, our
health plans try to control medical and hospital costs through contracts with
independent providers of healthcare services. Through these contracted care
providers, our health plans emphasize preventive healthcare and appropriate
use
of specialty and hospital services.
While
we
currently believe our strategies to mitigate healthcare cost inflation will
be
successful, competitive pressures, new healthcare and pharmaceutical product
introductions, demands from healthcare providers and customers, applicable
regulations or other factors may affect our ability to control the impact of
healthcare cost increases.
ITEM
4. Controls
and Procedures.
Evaluation
of Disclosure Controls and Procedures - Our
management, with the participation of our chief executive officer and chief
financial officer, evaluated the effectiveness of our disclosure controls and
procedures as of March 31, 2007. The term “disclosure controls and procedures,”
as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means
controls and other procedures of a company that are designed to ensure that
information required to be disclosed by a company in the reports that it files
or submits under the Exchange Act is recorded, processed, summarized and
reported, within the time periods specified in the SEC's rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed by
a
company in the reports that it files or submits under the Exchange Act is
accumulated and communicated to the company’s management, including its
principal executive and principal financial officers, as appropriate to allow
timely decisions regarding required disclosure. Management recognizes that
any
controls and procedures, no matter how well designed and operated, can provide
only reasonable assurance of achieving their objectives and management
necessarily applies its judgment in evaluating the cost-benefit relationship
of
possible controls and procedures. Based on the evaluation of our disclosure
controls and procedures as of March 31, 2007, our chief executive officer and
chief financial officer concluded that, as of such date, our disclosure controls
and procedures were effective at the reasonable assurance level.
Changes
in Internal Control Over Financial Reporting
- No
change in our internal control over financial reporting (as defined in Rules
13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the quarter
ended March 31, 2007 that has materially affected, or is reasonably likely
to
materially affect, our internal control over financial reporting.
PART
II
OTHER
INFORMATION
As
previously disclosed, two class action lawsuits were filed against us and
certain of our officers and directors in the United States District Court for
the Eastern District of Missouri, one in July 2006, or the July Class Action
Lawsuit, and one in August 2006, or the August Class Action Lawsuit. The July
Class Action Lawsuit and the August Class Action Lawsuit were consolidated
on
November 2, 2006 and an amended consolidated complaint was filed in the United
States District Court for the Eastern District of Missouri on January 17, 2007,
which we refer to as the Consolidated Class Action Lawsuit. The Consolidated
Class Action Lawsuit alleges, on behalf of purchasers of our common stock from
April 25, 2006 through July 17, 2006, that we and certain of our officers and
directors violated federal securities laws by issuing a series of materially
false statements prior to the announcement of our fiscal 2006 second quarter
results. According to the Consolidated Class Action Lawsuit, these allegedly
materially false statements had the effect of artificially inflating the price
of our common stock, which subsequently dropped after the issuance of a press
release announcing our preliminary fiscal 2006 second quarter earnings and
revised guidance. We believe the case is without merit and have filed a motion
to dismiss the Consolidated Class Action Lawsuit.
Additionally,
in August 2006, a separate derivative action was filed on behalf of Centene
Corporation against us and certain of our officers and directors in the United
States District Court for the Eastern District of Missouri. Plaintiff purports
to bring suit derivatively on behalf of the Company against the Company’s
directors for breach of fiduciary duties, gross mismanagement and waste of
corporate assets by reason of the directors’ alleged failure to correct the
misstatements alleged in the Consolidated Class Action Lawsuits discussed above.
The derivative complaint largely repeats the allegations in the Consolidated
Class Action Lawsuits. Based on discussions that have been held with plaintiff’s
counsel, it is our understanding that plaintiff does not intend to pursue this
action until the Consolidated Class Action Lawsuits proceed past the dismissal
stage. Although this matter is in its early stages and no precise prediction
of
its outcome can be made, we believe the case is without merit and plan to
vigorously defend against this lawsuit.
In
addition, we routinely are subjected to legal proceedings in the normal course
of business. While the ultimate resolution of such matters is uncertain, we
do
not expect the results of any of these matters discussed above individually,
or
in the aggregate, to have a material effect on our financial position or results
of operations.
FACTORS
THAT MAY AFFECT FUTURE RESULTS AND THE
TRADING
PRICE OF OUR COMMON STOCK
You
should carefully consider the risks described below before making an investment
decision. The trading price of our common stock could decline due to any of
these risks, in which case you could lose all or part of your investment. You
should also refer to the other information in this filing, including our
consolidated financial statements and related notes. The risks and uncertainties
described below are those that we currently believe may materially affect our
Company. Additional risks and uncertainties that we are unaware of or that
we
currently deem immaterial also may become important factors that affect our
Company.
Risks
Related to Being a Regulated Entity
Reduction
in Medicaid, SCHIP and SSI funding could substantially reduce our
profitability.
Most
of
our revenues come from Medicaid, SCHIP and SSI premiums. The base premium rate
paid by each state differs, depending on a combination of factors such as
defined upper payment limits, a member’s health status, age, gender, county or
region, benefit mix and member eligibility categories. Future levels of
Medicaid, SCHIP and SSI funding and premium rates may be affected by continuing
government efforts to contain healthcare costs and may further be affected
by
state and federal budgetary constraints. Additionally, state and federal
entities may make changes to the design of their Medicaid programs resulting
in
the cancellation or modification of these programs.
For
example, in August 2006, the Centers for Medicare & Medicaid Services, or
CMS, published an interim final rule regarding the estimation and recovery
of
improper payments made under Medicaid and SCHIP. This rule requires a CMS
contractor to sample selected states each year to estimate improper payments
in
Medicaid and SCHIP and create national and state specific error rates.
States must provide information to measure improper payments in Medicaid managed
care, as well as in fee-for-service Medicaid. Each state will be selected for
review once every three years for each program. States are required to repay
CMS
the federal share of any overpayments identified.
On
February 8, 2006, President Bush signed the Deficit Reduction Act of 2005 to
reduce the size of the federal deficit. The Act reduces federal spending by
nearly $40 billion over 5 years, including a $5 billion reduction in Medicaid.
The Act reduces spending by cutting Medicaid payments for prescription drugs
and
gives states new power to reduce or reconfigure benefits. This law may also
lead
to lower Medicaid reimbursements in some states. The Bush administration’s
budget proposal for fiscal year 2008 proposes cutting Medicaid funding by $1.9
billion in legislative changes and by $1.5 billion in administrative changes,
which would lead to $25.7 billion in funding reductions over five years when
compared to the fiscal year 2007 levels. Additionally, the Bush administration’s
2008 budget for SCHIP provides for yearly allotments at the fiscal year 2007
levels, plus an additional $5 billion over the five-year period, which some
believe will result in a funding shortfall. States also periodically consider
reducing or reallocating the amount of money they spend for Medicaid, SCHIP
and
SSI. In recent years, the majority of states have implemented measures to
restrict Medicaid, SCHIP and SSI costs and eligibility.
Changes
to Medicaid, SCHIP and SSI programs could reduce the number of persons enrolled
in or eligible for these programs, reduce the amount of reimbursement or payment
levels, or increase our administrative or healthcare costs under those programs.
We believe that reductions in Medicaid, SCHIP and SSI payments could
substantially reduce our profitability. Further, our contracts with the states
are subject to cancellation by the state after a short notice period in the
event of unavailability of state funds.
If
SCHIP is not reauthorized, our business could suffer.
The
authorization for SCHIP expires at the end of federal fiscal year 2007. We
cannot guarantee that federal funding of SCHIP will be reauthorized and if
it
is, what changes might be made to the program following reauthorization. If
SCHIP is not reauthorized by September 30, 2007, we anticipate that Congress
will pass legislation that will freeze federal funding at the current 2007
levels. Congress began the reauthorization process in early February, 2007.
At
this time, it is not clear whether the relevant congressional committees of
jurisdiction over this program will be able to reach agreement on an SCHIP
reauthorization package that could cost $50 billion in additional federal
spending.
Several
states face a shortfall in federal SCHIP funding, which could have an impact
on
our business.
States
receive matching funds from the federal government to pay for their SCHIP
programs, which matching funds have a per state annual cap. It is predicted
that
two states in which we have SCHIP contracts, Georgia and New Jersey, will spend
all of their federal allocation for fiscal year 2007 prior to the end of the
year. In December 2006, Congress passed legislation that will redistribute
funds
that were not spent in prior years to the states that are facing these
shortfalls. The Congressional Research Service estimates that this legislation
will delay the shortfall to the first part of May 2007. We cannot predict
whether the U.S. Congress will appropriate additional funds or take other
legislative action to cover the shortfalls. Further, we cannot predict if states
will provide additional funding to cover the federal shortfall. Certain of
our
contracts are subject to renewal this year and we cannot guarantee that they
will be renewed and if renewed, whether the terms will be modified. If any
of
the contracts are not renewed or if any state delays paying us or fails to
pay
the full amount owed due to the shortfall, our business could
suffer.
If
our Medicaid and SCHIP contracts are terminated or are not renewed, our business
will suffer.
We
provide managed care programs and selected services to individuals receiving
benefits under federal assistance programs, including Medicaid, SCHIP and SSI.
We provide those healthcare services under contracts with regulatory entities
in
the areas in which we operate. Our contracts with various states are generally
intended to run for one or two years and may be extended for one or two
additional years if the state or its agent elects to do so. Our current
contracts are set to expire between June 30, 2007 and September 30, 2011. When
our contracts expire, they may be opened for bidding by competing healthcare
providers. There is no guarantee that our contracts will be renewed or extended.
For example, on August 25, 2006, we received notification from the Kansas Health
Policy Authority that FirstGuard Health Plan Kansas, Inc.’s contract with the
state would not be renewed or extended, and as a result, our contract ended
on
December 31, 2006. Further, our contracts with the states are subject to
cancellation by the state after a short notice period in the event of
unavailability of state funds. Our contracts could also be terminated if we
fail
to perform in accordance with the standards set by state regulatory agencies.
For example, the Indiana contract under which we operate can be terminated
by
the State without cause. If any of our contracts are terminated, not renewed,
or
renewed on less favorable terms, our business will suffer, and our operating
results may be materially affected.
Changes
in government regulations designed to protect the financial interests of
providers and members rather than our investors could force us to change
how we
operate and could harm our business.
Our
business is extensively regulated by the states in which we operate and by
the
federal government. The applicable laws and regulations are subject to frequent
change and generally are intended to benefit and protect the financial interests
of health plan providers and members rather than investors. The enactment of
new
laws and rules or changes to existing laws and rules or the interpretation
of
such laws and rules could, among other things:
•
force
us
to restructure our relationships with providers within our network;
•
require
us to implement additional or different programs and systems;
•
mandate
minimum medical expense levels as a percentage of premium revenues;
•
restrict
revenue and enrollment growth;
•
require
us to develop plans to guard against the financial insolvency of our
providers;
•
increase
our healthcare and administrative costs;
•
impose
additional capital and reserve requirements; and
•
increase
or change our liability to members in the event of malpractice by our
providers.
For
example, Congress has previously considered various forms of patient protection
legislation commonly known as the Patients’ Bill of Rights and such legislation
may be proposed again. We cannot predict the impact of any such legislation,
if
adopted, on our business.
Regulations
may decrease the profitability of our health plans.
Certain
states have enacted regulations which require us to maintain a minimum health
benefits ratio, or establish limits on our profitability. Other states require
us to meet certain performance and quality metrics in order to receive our
full
contractual revenue. In certain circumstances, our plans may be required to
pay
a rebate to the state in the event profits exceed established levels. These
regulatory requirements, changes in these requirements or the adoption of
similar requirements by our other regulators may limit our ability to increase
our overall profits as a percentage of revenues. Certain states, including
but
not limited to Georgia, Indiana, New Jersey and Texas have implemented
prompt-payment laws and are enforcing penalty provisions for failure to pay
claims in a timely manner. Failure to meet these requirements can result in
financial fines and penalties. In addition, states may attempt to reduce their
contract premium rates if regulators perceive our health benefits ratio as
too
low. Any of these regulatory actions could harm our operating results. Certain
states also impose marketing restrictions on us which may constrain our
membership growth and our ability to increase our revenues.
We
face periodic reviews, audits and investigations under our contracts with state
government agencies, and these audits could have adverse findings, which may
negatively impact our business.
We
contract with various state governmental agencies to provide managed healthcare
services. Pursuant to these contracts, we are subject to various reviews, audits
and investigations to verify our compliance with the contracts and applicable
laws and regulations. Any adverse review, audit or investigation could result
in:
•
refunding
of amounts we have been paid pursuant to our contracts;
•
imposition
of fines, penalties and other sanctions on us;
•
loss
of
our right to participate in various markets;
•
increased
difficulty in selling our products and services; and
•
loss
of
one or more of our licenses.
Failure
to comply with government regulations could subject us to civil and criminal
penalties.
Federal
and state governments have enacted fraud and abuse laws and other laws to
protect patients’ privacy and access to healthcare. In some states, we may be
subject to regulation by more than one governmental authority, which may impose
overlapping or inconsistent regulations. Violation of these and other laws
or
regulations governing our operations or the operations of our providers could
result in the imposition of civil or criminal penalties, the cancellation of
our
contracts to provide services, the suspension or revocation of our licenses
or
our exclusion from participating in the Medicaid, SCHIP and SSI programs. If
we
were to become subject to these penalties or exclusions as the result of our
actions or omissions or our inability to monitor the compliance of our
providers, it would negatively affect our ability to operate our
business.
The
Health Insurance Portability and Accountability Act of 1996, or HIPAA, broadened
the scope of fraud and abuse laws applicable to healthcare companies. HIPAA
created civil penalties for, among other things, billing for medically
unnecessary goods or services. HIPAA established new enforcement mechanisms
to
combat fraud and abuse, including civil and, in some instances, criminal
penalties for failure to comply with specific standards relating to the privacy,
security and electronic transmission of most individually identifiable health
information. It is possible that Congress may enact additional legislation
in
the future to increase penalties and to create a private right of action under
HIPAA, which could entitle patients to seek monetary damages for violations
of
the privacy rules.
We
may incur significant costs as a result of compliance with government
regulations, and our management will be required to devote time to
compliance.
Many
aspects of our business are affected by government laws and regulations. The
issuance of new regulations, or judicial or regulatory guidance regarding
existing regulations, could require changes to many of the procedures we
currently use to conduct our business, which may lead to additional costs that
we have not yet identified. We do not know whether, or the extent to which,
we
will be able to recover from the states our costs of complying with these new
regulations. The costs of any such future compliance efforts could have a
material adverse effect on our business. We have already expended significant
time, effort and financial resources to comply with the privacy and security
requirements of HIPAA. We cannot predict whether states will enact stricter
laws
governing the privacy and security of electronic health information. If any
new
requirements are enacted at the state or federal level, compliance would likely
require additional expenditures and management time.
In
addition, the Sarbanes-Oxley Act, as well as rules subsequently implemented
by
the SEC and the New York Stock Exchange, or the NYSE, have imposed various
requirements on public companies, including requiring changes in corporate
governance practices. Our management and other personnel will continue to devote
time to these new compliance initiatives.
The
Sarbanes-Oxley Act requires, among other things, that we maintain effective
internal control over financial reporting. In particular, we must perform system
and process evaluation and testing of our internal controls over financial
reporting to allow management to report on the effectiveness of our internal
controls over our financial reporting as required by Section 404 of the
Sarbanes-Oxley Act. Our testing, or the subsequent testing by our independent
registered public accounting firm, may reveal deficiencies in our internal
controls over financial reporting that are deemed to be material weaknesses.
Our
compliance with Section 404 requires that we incur substantial accounting
expense and expend significant management efforts. Moreover, if we are not
able
to comply with the requirements of Section 404, or if we or our independent
registered public accounting firm identifies deficiencies in our internal
control over financial reporting that are deemed to be material weaknesses,
the
market price of our stock could decline and we could be subject to sanctions
or
investigations by the NYSE, SEC or other regulatory authorities, which would
require additional financial and management resources.
Changes
in healthcare law and benefits may reduce our
profitability.
Numerous
proposals relating to changes in healthcare law have been introduced, some
of
which have been passed by Congress and the states in which we operate or may
operate in the future. Changes in applicable laws and regulations are
continually being considered, and interpretations of existing laws and rules
may
also change from time to time. We are unable to predict what regulatory changes
may occur or what effect any particular change may have on our business. For
example, these changes could reduce the number of persons enrolled or eligible
to enroll in Medicaid, reduce the reimbursement or payment levels for medical
services or reduce benefits included in Medicaid coverage. We are also unable
to
predict whether new laws or proposals will favor or hinder the growth of managed
healthcare in general. Legislation or regulations that require us to change
our
current manner of operation, benefits provided or our contract arrangements
may
seriously harm our operations and financial results.
If
a state fails to renew a required federal waiver for mandated Medicaid
enrollment into managed care or such application is denied, our membership
in
that state will likely decrease.
States
may administer Medicaid managed care programs pursuant to demonstration programs
or required waivers of federal Medicaid standards. Waivers and demonstration
programs are generally approved for two year periods and can be renewed on
an
ongoing basis if the state applies. We have no control over this renewal
process. If a state does not renew such a waiver or demonstration program or
the
Federal government denies a state’s application for renewal, membership in our
health plan in the state could decrease and our business could
suffer.
Changes
in federal funding mechanisms may reduce our
profitability.
The
Bush
administration previously proposed a major long-term change in the way Medicaid
and SCHIP are funded. The proposal, if adopted, would allow states to elect
to
receive, instead of federal matching funds, combined Medicaid-SCHIP “allotments”
for acute and long-term healthcare for low-income, uninsured persons.
Participating states would be given flexibility in designing their own health
insurance programs, subject to federally-mandated minimum coverage requirements.
It is uncertain whether this proposal will be enacted. Accordingly, it is
unknown whether or how many states might elect to participate or how their
participation may affect the net amount of funding available for Medicaid and
SCHIP programs. If such a proposal is adopted and decreases the number of
persons enrolled in Medicaid or SCHIP in the states in which we operate or
reduces the volume of healthcare services provided, our growth, operations
and
financial performance could be adversely affected.
In
April
2004, the Bush administration adopted a policy that seeks to reduce states’ use
of intergovernmental transfers for the states’ share of Medicaid program
funding. By restricting the use of intergovernmental transfers, this policy,
if
continued, may restrict some states’ funding for Medicaid, which could adversely
affect our growth, operations and financial performance.
Recent
legislative changes in the Medicare program may also affect our business. For
example, the Medicare Prescription Drug, Improvement and Modernization Act
of
2003 revised cost-sharing requirements for some beneficiaries and requires
states to reimburse the federal Medicare program for costs of prescription
drug
coverage provided to beneficiaries who are enrolled simultaneously in both
the
Medicaid and Medicare programs. The Bush administration has also proposed to
further reduce total federal funding for the Medicaid program by $25.7 billion
over the next five years. These changes may reduce the availability of funding
for some states’ Medicaid programs, which could adversely affect our growth,
operations and financial performance. In addition, the new Medicare prescription
drug benefit is interrupting the distribution of prescription drugs to many
beneficiaries simultaneously enrolled in both Medicaid and Medicare, prompting
several states to pay for prescription drugs on an unbudgeted, emergency basis
without any assurance of receiving reimbursement from the federal Medicaid
program. These expenses may cause some states to divert funds originally
intended for other Medicaid services which could adversely affect our growth,
operations and financial performance.
If
state regulatory agencies require a statutory capital level higher than the
state regulations, we may be required to make additional capital
contributions.
Our
operations are conducted through our wholly owned subsidiaries, which include
health maintenance organizations, or HMOs, and managed care organizations,
or
MCOs. HMOs and MCOs are subject to state regulations that, among other things,
require the maintenance of minimum levels of statutory capital, as defined
by
each state. Additionally, state regulatory agencies may require, at their
discretion, individual HMOs to maintain statutory capital levels higher than
the
state regulations. If this were to occur to one of our subsidiaries, we may
be
required to make additional capital contributions to the affected subsidiary.
Any additional capital contribution made to one of the affected subsidiaries
could have a material adverse effect on our liquidity and our ability to
grow.
If
we are unable to participate in SCHIP programs, our growth rate may be
limited.
SCHIP
is
a federal initiative designed to provide coverage for low-income children not
otherwise covered by Medicaid or other insurance programs. The programs vary
significantly from state to state. Participation in SCHIP programs is an
important part of our growth strategy. If states do not allow us to participate
or if we fail to win bids to participate, our growth strategy may be materially
and adversely affected.
If
state regulators do not approve payments of dividends and distributions by
our
subsidiaries to us, we may not have sufficient funds to implement our business
strategy.
We
principally operate through our health plan subsidiaries. If funds normally
available to us become limited in the future, we may need to rely on dividends
and distributions from our subsidiaries to fund our operations. These
subsidiaries are subject to regulations that limit the amount of dividends
and
distributions that can be paid to us without prior approval of, or notification
to, state regulators. If these regulators were to deny our subsidiaries’ request
to pay dividends to us, the funds available to us would be limited, which could
harm our ability to implement our business strategy.
Risks
Related to Our Business
Ineffectiveness
of state-operated systems and subcontractors could adversely affect our
business.
Our
health plans rely on other state-operated systems or sub-contractors to qualify,
solicit, educate and assign eligible clients into the health plans. The
effectiveness of these state operations and sub-contractors can have a material
effect on a health plan’s enrollment in a particular month or over an extended
period. When a state implements new programs to determine eligibility, new
processes to assign or enroll eligible clients into health plans, or chooses
new
contractors, there is an increased potential for an unanticipated impact on
the
overall number of members assigned into the health plans.
Failure
to accurately predict our medical expenses could negatively affect our reported
results.
Our
medical expenses include estimates of medical expenses incurred but not yet
reported, or IBNR. We estimate our IBNR medical expenses monthly based on a
number of factors. Adjustments, if necessary, are made to medical expenses
in
the period during which the actual claim costs are ultimately determined or
when
criteria used to estimate IBNR change. We cannot be sure that our IBNR estimates
are adequate or that adjustments to those estimates will not harm our results
of
operations. For example, in the three months ended June 30, 2006 we adjusted
our
IBNR by $9.7 million for adverse medical cost development from the first quarter
of 2006. In addition, when we commence operations in a new state or region,
we
have limited information with which to estimate our medical claims liabilities.
For example, we commenced operations in the Atlanta and Central regions of
Georgia on June 1, 2006 and the Southwest region of Georgia on September 1,
2006
and have based our estimates on state provided historical actuarial data and
limited 2006 actual incurred and received data. From time to time in the past,
our actual results have varied from our estimates, particularly in times of
significant changes in the number of our members. Our failure to estimate IBNR
accurately may also affect our ability to take timely corrective actions,
further harming our results.
Receipt
of inadequate or significantly delayed premiums would negatively affect our
revenues and profitability.
Our
premium revenues consist of fixed monthly payments per member and supplemental
payments for other services such as maternity deliveries. These premiums are
fixed by contract, and we are obligated during the contract periods to provide
healthcare services as established by the state governments. We use a large
portion of our revenues to pay the costs of healthcare services delivered to
our
members. If premiums do not increase when expenses related to medical services
rise, our earnings will be affected negatively. In addition, our actual medical
services costs may exceed our estimates, which would cause our health benefits
ratio, or our expenses related to medical services as a percentage of premium
revenue, to increase and our profits to decline. In addition, it is possible
for
a state to increase the rates payable to the hospitals without granting a
corresponding increase in premiums to us. If this were to occur in one or more
of the states in which we operate, our profitability would be harmed. In
addition, if there is a significant delay in our receipt of premiums to offset
previously incurred health benefits costs, our earnings could be negatively
impacted.
Failure
to effectively manage our medical costs or related administrative costs would
reduce our profitability.
Our
profitability depends, to a significant degree, on our ability to predict and
effectively manage expenses related to health benefits. We have less control
over the costs related to medical services than we do over our general and
administrative expenses. Because of the narrow margins of our health plan
business, relatively small changes in our health benefits ratio can create
significant changes in our financial results. Changes in healthcare regulations
and practices, the level of use of healthcare services, hospital costs,
pharmaceutical costs, major epidemics, new medical technologies and other
external factors, including general economic conditions such as inflation
levels, are beyond our control and could reduce our ability to predict and
effectively control the costs of providing health benefits. We may not be able
to manage costs effectively in the future. If our costs related to health
benefits increase, our profits could be reduced or we may not remain
profitable.
Difficulties
in executing our acquisition strategy could adversely affect our
business.
Historically,
the
acquisition of Medicaid and specialty services businesses, contract rights
and
related assets of other health plans both in our existing service areas and
in
new markets has accounted for a significant amount of our growth. Many of the
other potential purchasers have greater financial resources than we have. In
addition, many of the sellers are interested either in (a) selling, along with
their Medicaid assets, other assets in which we do not have an interest or
(b)
selling their companies, including their liabilities, as opposed to the assets
of their ongoing businesses.
We
generally are required to obtain regulatory approval from one or more state
agencies when making acquisitions. In the case of an acquisition of a business
located in a state in which we do not currently operate, we would be required
to
obtain the necessary licenses to operate in that state. In addition, even if
we
already operate in a state in which we acquire a new business, we would be
required to obtain additional regulatory approval if the acquisition would
result in our operating in an area of the state in which we did not operate
previously, and we could be required to renegotiate provider contracts of the
acquired business. We cannot assure you that we would be able to comply with
these regulatory requirements for an acquisition in a timely manner, or at
all.
In deciding whether to approve a proposed acquisition, state regulators may
consider a number of factors outside our control, including giving preference
to
competing offers made by locally owned entities or by not-for-profit
entities.
We
also
may be unable to obtain sufficient additional capital resources for future
acquisitions. If we are unable to effectively execute our acquisition strategy,
our future growth will suffer and our results of operations could be
harmed.
Execution
of our growth strategy may increase costs or liabilities, or create disruptions
in our business.
We
pursue
acquisitions of other companies or businesses from time to time. Although we
review the records of companies or businesses we plan to acquire, even an
in-depth review of records may not reveal existing or potential problems or
permit us to become familiar enough with a business to assess fully its
capabilities and deficiencies. As a result, we may assume unanticipated
liabilities or adverse operating conditions, or an acquisition may not perform
as well as expected. We face the risk that the returns on acquisitions will not
support the expenditures or indebtedness incurred to acquire such businesses,
or
the capital expenditures needed to develop such businesses. We also face the
risk that we will not be able to integrate acquisitions into our existing
operations effectively without substantial expense, delay or other operational
or financial problems. Integration may be hindered by, among other things,
differing procedures, including internal controls, business practices and
technology systems. We may need to divert more management resources to
integration than we planned, which may adversely affect our ability to pursue
other profitable activities.
In
addition to the difficulties we may face in identifying and consummating
acquisitions, we will also be required to integrate and consolidate any acquired
business or assets with our existing operations. This may include the
integration of:
•
additional
personnel who are not familiar with our operations and corporate
culture;
•
provider
networks that may operate on different terms than our existing
networks;
•
existing
members, who may decide to switch to another healthcare plan; and
•
disparate
administrative, accounting and finance, and information systems.
Additionally,
our growth strategy includes start-up operations in new markets or new products
in existing markets. We may incur significant expenses prior to commencement
of
operations and the receipt of revenue. As a result, these start-up operations
may decrease our profitability. In the event we pursue any opportunity to
diversify our business internationally, we would become subject to additional
risks, including, but not limited to, political risk, an unfamiliar regulatory
regime, currency exchange risk and exchange controls, cultural and language
differences, foreign tax issues, and different labor laws and
practices.
Accordingly,
we may be unable to identify, consummate and integrate future acquisitions
or
start-up operations successfully or operate acquired or new businesses
profitably.
If
competing managed care programs are unwilling to purchase specialty services
from us, we may not be able to successfully implement our strategy of
diversifying our business lines.
We
are
seeking to diversify our business lines into areas that complement our Medicaid
business in order to grow our revenue stream and balance our dependence on
Medicaid risk reimbursement. In order to diversify our business, we must succeed
in selling the services of our specialty subsidiaries not only to our managed
care plans, but to programs operated by third-parties. Some of these third-party
programs may compete with us in some markets, and they therefore may be
unwilling to purchase specialty services from us. In any event, the offering
of
these services will require marketing activities that differ significantly
from
the manner in which we seek to increase revenues from our Medicaid programs.
Our
inability to market specialty services to other programs may impair our ability
to execute our business strategy.
Failure
to achieve timely profitability in any business would negatively affect our
results of operations.
Start-up
costs associated with a new business can be substantial. For example, in order
to obtain a certificate of authority in most jurisdictions, we must first
establish a provider network, have systems in place and demonstrate our ability
to obtain a state contract and process claims. If we were unsuccessful in
obtaining the necessary license, winning the bid to provide service or
attracting members in numbers sufficient to cover our costs, any new business
of
ours would fail. We also could be obligated by the state to continue to provide
services for some period of time without sufficient revenue to cover our ongoing
costs or recover start-up costs. The expenses associated with starting up a
new
business could have a significant impact on our results of operations if we
are
unable to achieve profitable operations in a timely fashion.
We
derive a majority of our premium revenues from operations in a small number
of
states, and our operating results would be materially affected by a decrease
in
premium revenues or profitability in any one of those
states.
Operations
in Georgia, Indiana, Kansas, Texas and Wisconsin have accounted for most of
our
premium revenues to date. For example, our Medicaid contract with Kansas, which
terminated December 31, 2006, together with our Medicaid contract with Missouri
accounted for $317.0 million in revenue for the year ended December 31, 2006.
If
we were unable to continue to operate in each of these other states or if our
current operations in any portion of one of those states were significantly
curtailed, our revenues could decrease materially. Our reliance on operations
in
a limited number of states could cause our revenue and profitability to change
suddenly and unexpectedly depending on legislative or other governmental or
regulatory actions and decisions, economic conditions and similar factors in
those states. Our inability to continue to operate in any of the states in
which
we operate would harm our business.
Competition
may limit our ability to increase penetration of the markets that we
serve.
We
compete for members principally on the basis of size and quality of provider
network, benefits provided and quality of service. We compete with numerous
types of competitors, including other health plans and traditional state
Medicaid programs that reimburse providers as care is provided. Subject to
limited exceptions by federally approved state applications, the federal
government requires that there be choices for Medicaid recipients among managed
care programs. Voluntary programs and mandated competition may limit our ability
to increase our market share.
Some
of
the health plans with which we compete have greater financial and other
resources and offer a broader scope of products than we do. In addition,
significant merger and acquisition activity has occurred in the managed care
industry, as well as in industries that act as suppliers to us, such as the
hospital, physician, pharmaceutical, medical device and health information
systems businesses. To the extent that competition intensifies in any market
that we serve, our ability to retain or increase members and providers, or
maintain or increase our revenue growth, pricing flexibility and control over
medical cost trends may be adversely affected.
In
addition, in order to increase our membership in the markets we currently serve,
we believe that we must continue to develop and implement community-specific
products, alliances with key providers and localized outreach and educational
programs. If we are unable to develop and implement these initiatives, or if
our
competitors are more successful than we are in doing so, we may not be able
to
further penetrate our existing markets.
If
we are unable to maintain relationships with our provider networks, our
profitability may be harmed.
Our
profitability depends, in large part, upon our ability to contract favorably
with hospitals, physicians and other healthcare providers. Our provider
arrangements with our primary care physicians, specialists and hospitals
generally may be cancelled by either party without cause upon 90 to 120 days
prior written notice. We cannot assure you that we will be able to continue
to
renew our existing contracts or enter into new contracts enabling us to service
our members profitably.
From
time
to time providers assert or threaten to assert claims seeking to terminate
noncancelable agreements due to alleged actions or inactions by us. Even if
these allegations represent attempts to avoid or renegotiate contractual terms
that have become economically disadvantageous to the providers, it is possible
that in the future a provider may pursue such a claim successfully. In addition,
we are aware that other managed care organizations have been subject to class
action suits by physicians with respect to claim payment procedures, and we
may
be subject to similar claims. Regardless of whether any claims brought against
us are successful or have merit, they will still be time-consuming and costly
and could distract our management’s attention. As a result, we may incur
significant expenses and may be unable to operate our business
effectively.
We
will
be required to establish acceptable provider networks prior to entering new
markets. We may be unable to enter into agreements with providers in new
markets
on a timely basis or under favorable terms. If we are unable to retain our
current provider contracts or enter into new provider contracts timely or
on
favorable terms, our profitability will be harmed.
We
may be unable to
attract and retain key personnel.
We
are
highly dependent on our ability to attract and retain qualified personnel to
operate and expand our business. If we lose one or more members of our senior
management team, including our chief executive officer, Michael Neidorff, who
has been instrumental in developing our business strategy and forging our
business relationships, our business and operating results could be harmed.
Our
ability to replace any departed members of our senior management or other key
employees may be difficult and may take an extended period of time because
of
the limited number of individuals in the Medicaid managed care and specialty
services industry with the breadth of skills and experience required to operate
and successfully expand a business such as ours. Competition to hire from this
limited pool is intense, and we may be unable to hire, train, retain or motivate
these personnel.
Negative
publicity regarding the managed care industry may harm our business and
operating results.
The
managed care industry has received negative publicity. This publicity has led
to
increased legislation, regulation, review of industry practices and private
litigation in the commercial sector. These factors may adversely affect our
ability to market our services, require us to change our services, and increase
the regulatory burdens under which we operate. Any of these factors may increase
the costs of doing business and adversely affect our operating
results.
Claims
relating to medical malpractice could cause us to incur significant
expenses.
Our
providers and employees involved in medical care decisions may be subject to
medical malpractice claims. In addition, some states, including Texas, have
adopted legislation that permits managed care organizations to be held liable
for negligent treatment decisions or benefits coverage determinations. Claims
of
this nature, if successful, could result in substantial damage awards against
us
and our providers that could exceed the limits of any applicable insurance
coverage. Therefore, successful malpractice or tort claims asserted against
us,
our providers or our employees could adversely affect our financial condition
and profitability. Even if any claims brought against us are unsuccessful or
without merit, they would still be time consuming and costly and could distract
our management’s attention. As a result, we may incur significant expenses and
may be unable to operate our business effectively.
Loss
of providers due to increased insurance costs could adversely affect our
business.
Our
providers routinely purchase insurance to help protect themselves against
medical malpractice claims. In recent years, the costs of maintaining
commercially reasonable levels of such insurance have increased dramatically,
and these costs are expected to increase to even greater levels in the future.
As a result of the level of these costs, providers may decide to leave the
practice of medicine or to limit their practice to certain areas, which may
not
address the needs of Medicaid participants. We rely on retaining a sufficient
number of providers in order to maintain a certain level of service. If a
significant number of our providers exit our provider networks or the practice
of medicine generally, we may be unable to replace them in a timely manner,
if
at all, and our business could be adversely affected.
Growth
in the number of Medicaid-eligible persons during economic downturns could
cause
our operating results to suffer if state and federal budgets decrease or do
not
increase.
Less
favorable economic conditions may cause our membership to increase as more
people become eligible to receive Medicaid benefits. During such economic
downturns, however, state and federal budgets could decrease, causing states
to
attempt to cut healthcare programs, benefits and rates. We cannot predict the
impact of changes in the United States economic environment or other economic
or
political events, including acts of terrorism or related military action, on
federal or state funding of healthcare programs or on the size of the population
eligible for the programs we operate. If federal funding decreases or remains
unchanged while our
membership increases, our results of operations will suffer.
Growth
in the number of Medicaid-eligible persons may be countercyclical, which could
cause our operating results to suffer when general economic conditions are
improving.
Historically,
the number of persons eligible to receive Medicaid benefits has increased more
rapidly during periods of rising unemployment, corresponding to less favorable
general economic conditions. Conversely, this number may grow more slowly or
even decline if economic conditions improve. Therefore, improvements in general
economic conditions may cause our membership levels to decrease, thereby causing
our operating results to suffer, which could lead to decreases in our stock
price during periods in which stock prices in general are
increasing.
If
we are unable to integrate and manage our information systems effectively,
our
operations could be disrupted.
Our
operations depend significantly on effective information systems. The
information gathered and processed by our information systems assists us in,
among other things, monitoring utilization and other cost factors, processing
provider claims, and providing data to our regulators. Our providers also depend
upon our information systems for membership verifications, claims status and
other information.
Our
information systems and applications require continual maintenance, upgrading
and enhancement to meet our operational needs and regulatory requirements.
Moreover, our acquisition activity requires frequent transitions to or from,
and
the integration of, various information systems. We regularly upgrade and expand
our information systems’ capabilities. If we experience difficulties with the
transition to or from information systems or are unable to properly maintain
or
expand our information systems, we could suffer, among other things, from
operational disruptions, loss of existing members and difficulty in attracting
new members, regulatory problems and increases in administrative expenses.
In
addition, our ability to integrate and manage our information systems may be
impaired as the result of events outside our control, including acts of nature,
such as earthquakes or fires, or acts of terrorists.
We
rely on the accuracy of eligibility lists provided by state governments.
Inaccuracies in those lists would negatively affect our results of
operations.
Premium
payments to us are based upon eligibility lists produced by state governments.
From time to time, states require us to reimburse them for premiums paid to
us
based on an eligibility list that a state later discovers contains individuals
who are not in fact eligible for a government sponsored program or are eligible
for a different premium category or a different program. Alternatively, a state
could fail to pay us for members for whom we are entitled to payment. Our
results of operations would be adversely affected as a result of such
reimbursement to the state if we had made related payments to providers and
were
unable to recoup such payments from the providers.
We
may not be able to obtain or maintain adequate
insurance.
We
maintain liability insurance, subject to limits and deductibles, for claims
that
could result from providing or failing to provide managed care and related
services. These claims could be substantial. We believe that our present
insurance coverage and reserves are adequate to cover currently estimated
exposures. We cannot assure you that we will be able to obtain adequate
insurance coverage in the future at acceptable costs or that we will not incur
significant liabilities in excess of policy limits.
From
time to time, we may become involved in costly and time-consuming litigation
and
other regulatory proceedings, which require significant attention from our
management.
We
are a
defendant from time to time in lawsuits and regulatory actions relating to
our
business. Due to the inherent uncertainties of litigation and regulatory
proceedings, we cannot accurately predict the ultimate outcome of any such
proceedings. An unfavorable outcome could have a material adverse impact on
our
business and operating results. In addition, regardless of the outcome of any
litigation or regulatory proceedings, such proceedings are costly and require
significant attention from our management. For example, we have been named
in
two recently-filed securities class action lawsuits that are now consolidated.
In addition, we may in the future be the target of similar litigation. As with
other litigation, securities litigation could be costly and time consuming,
require significant attention from our management and could harm our business
and operating results.
ITEM
2. Unregistered
Sales of Equity Securities and Use of Proceeds.
Issuer
Purchases of Equity Securities
(1)
First
Quarter 2007
|
Period
|
|
Total
Number of
Shares
Purchased
|
|
Average
Price
Paid
per
Share
|
|
Total
Number
of
Shares
Purchased
as
Part
of Publicly
Announced
Plans
or
Programs
|
|
Maximum
Number
of Shares
that
May Yet Be
Purchased
Under
the
Plans or
Programs
|
January
1 - January 31, 2007
|
|
|
—
|
|
$
|
—
|
|
|
—
|
|
|
3,602,600
|
February
1 - February 28, 2007
|
|
|
13,100
|
|
|
23.66
|
|
|
13,100
|
|
|
3,589,500
|
March
1 - March 31, 2007
|
|
|
25,000
|
|
|
21.78
|
|
|
25,000
|
|
|
3,564,500
|
TOTAL
|
|
|
38,100
|
|
$
|
22.43
|
|
|
38,100
|
|
|
3,564,500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
On November 7, 2005 our Board of Directors adopted a stock repurchase
program of up to 4,000,000 shares, which extends through October
31, 2007.
During the three months ended March 31, 2007, we did not repurchase
any
shares other than through this publicly announced
program.
|
ITEM
3. Defaults
Upon Senior Securities.
None.
ITEM
4. Submission
of Matters to a Vote of Security Holders.
None.
None.
Exhibits.
EXHIBIT
NUMBER
|
DESCRIPTION
|
|
|
4.1
|
Indenture
for the 7 ¼% Senior Notes due 2014 dated March 22, 2007 among Centene
Corporation and The Bank of New York Trust Company, N.A., as trustee,
incorporated herein by reference to Exhibit 4.1 of Form 8-K filed
March
23, 2007.
|
|
|
10.1
|
Registration
Rights Agreement for the 7 ¼% Senior Notes due 2014 dated as of March 22,
2007, among the Company and Banc of America Securities LLC, Wachovia
Capital Markets, LLC, Merrill Lynch, Pierce, Fenner & Smith
Incorporated, ABN AMRO Incorporated, Allen & Company LLC and Goldman,
Sachs & Co., as initial purchasers, incorporated herein by reference
to Exhibit 10.1 of Form 8-K filed March 23, 2007.
|
|
|
10.2
|
Second
Amendment to the contract for Medicaid/Badger Care HMO Services between
Managed Health Services Insurance Corp. and Wisconsin Department
of Heath
and Family Services, incorporated herein by reference to Exhibit
10.1b of
Form 10-K filed February 23, 2007.
|
|
|
10.3
|
Contract
between the Office of the Medicaid Policy and Planning, the Office
of the
Children’s Health Insurance Program and Coordinated Care Corporation
Indiana, Inc., incorporated herein by reference to Exhibit 10.2 of
Form
10-k filed February 23, 2007.
|
|
|
10.4
|
Centene Corporation Employee
Deferred Compensation Plan. |
|
|
12.1
|
Computation
of ratio of earnings to fixed charges.
|
|
|
31.1
|
Certification
of Chairman, President and Chief Executive Officer pursuant to
Rule
13(a)-14(a) under the Securities Exchange Act of 1934, as
amended.
|
|
|
31.2
|
Certification
of Senior Vice President, Chief Financial Officer,
Secretary
and Treasurer pursuant to Rule 13(a)-14(a) under the
Securities
Exchange Act of 1934, as amended.
|
|
|
32.1
|
Certification
of Chairman, President and Chief Executive Officer pursuant to
18
U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley
Act of 2002.
|
|
|
32.2
|
Certification
of Senior Vice President, Chief Financial Officer and Treasurer pursuant
to 18 U.S.C. Section 1350,
as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
|
Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant
has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized as of April 24, 2007.
|
|
|
|
CENTENE
CORPORATION |
|
|
|
|
By: |
/s/ MICHAEL
F.
NEIDORFF |
|
Michael F. Neidorff |
|
Chairman,
President and Chief Executive Officer
(principal
executive officer)
|
|
|
|
|
By: |
/s/
J.
PER BRODIN |
|
J. Per Brodin |
|
Senior Vice
President, Chief Financial Officer and
Treasurer
(principal financial
and accounting officer)
|