Centene Corporation

Welcome and thank you for standing by for the first quarter 2019 earnings call. At this time, all participants are in a listen-only mode. During the question and answer session, please press star 1 on your touch-tone phone. Today's conference is being recorded. If you have any objections, you may disconnect at this time. Now I will turn the meeting over to Joe Bogdan.

Good morning, and thank you for joining Magellan Health's first quarter 2019 earnings call. With me today are Magellan's Chairman and CEO, Barry Smith, and our CFO, John Rubin. The press release announcing our first quarter earnings was distributed this morning. A replay of this call will be available shortly after the conclusion of the call through June 2, 2019. The numbers to access the replay can be found in the earnings release. For those who listened to the rebroadcast of this presentation, we remind you that the remarks made herein are as of today, Thursday, May 2, 2019, and have not been updated subsequent to the initial earnings call. During our call, we will make forward-looking statements, including statements related to our 2019 outlook. Listeners are cautioned that these statements are subject to certain risks and uncertainties, many of which are difficult to predict and generally beyond our control. These risks and uncertainties can cause actual results to differ materially from our current expectations, and we advise listeners to review the risk factors discussed in our press release this morning and documents we filed with or furnished to the SEC. In addition, please note that Magellan uses certain non-GAAP financial measures when describing our financial results. Specifically, we refer to segment profit, adjusted net income, and adjusted EPS, which are defined in our FCC filings and in today's press release. Segment profit is equal to net revenues less the sum of cost of care, cost of goods sold, direct service costs, and other operating expenses. and includes income from unconsolidated subsidiaries but excludes segment profit from non-controlling interests held by other parties, stock compensation expense, special charges or benefits, as well as changes in the fair value of contingent consideration recorded in relation to acquisitions. Adjusted net income and adjusted EPS reflect certain adjustments made for acquisitions completed after January 1, 2013. to exclude non-cash stock compensation expense resulting from restricted stock purchases by sellers, changes in the fair value of contingent consideration, amortization of identified acquisition intangibles, as well as impairment of identified acquisition intangibles. Please refer to the tables included with this morning's press release which is available on our website for reconciliation of GAAP financial measures to the corresponding non-GAAP financial measures. I will now turn the call over to our Chairman and CEO, Barry Smith.

Barry? Thank you, Joe, and good morning, everybody. In today's prepared remarks, I will summarize the financial results for the quarter, provide an update on our margin improvement plan, share our perspective on the current regulatory environment, and comment on the recent settlement agreement with Starboard. For the first quarter of 2019, we reported net revenue of $1.7 billion, net income of $0.4 million, and EPS of $0.02. Our adjusted net income was $9.6 million, and adjusted EPS was $0.40, and we achieved a second profit of $45.6 million. Overall, our healthcare results were solid, and our pharmacy results for the quarter were impacted by some unfavorable out-of-period and timing items related to network costs. Given the non-recurring nature of the items affecting pharmacy this quarter, we believe we're still on track to achieve our full year earnings target. We are affirming our 2019's earning guidance ranges, but modestly lowering our revenue guidance to a range of seven to 7.2 billion. John will provide more details on the first quarter results and our 2019 guidance later on the call. As a company, we remain focused on our multi-year margin improvement plan initially outlined this past December. During the quarter, we made progress in each of our three major initiatives in healthcare, pharmacy, and at the enterprise level. Our long-term goal is to increase our adjusted mid-income margin to over 2%. Within our healthcare segment, we continue to strengthen our managed care fundamentals by lowering our cost of care while improving quality. In Magellan Complete Care of Virginia, we made progress with our care initiatives, including the appropriate utilization of behavioral health outpatient and physical health inpatient services. Our claim payment integrity reviews are also providing recovery opportunities. Overall, we reported MLR in the mid-90s, consistent with our medical action plan. In Magellan Complete Care of New York, we posted a small profit in the corner and we expect further improvement in margins for the remainder of the year as we realize the benefit of anticipated rate increases, quality incentive payments, and care management initiatives. As we mentioned in the fourth quarter call, we are continuing to dialogue with the state regarding a potential retrospective risk adjustment for the state fiscal year ended March the 31st, 2019. Finally, our behavioral and specialty health portfolio performed well. with care management in line with our expectations. In our pharmacy segment, we continue to focus on the retention of our specialty carve out contracts, growing our PBM, and lowering our cost of goods sold. Let me provide you with some additional depth on each of these items. Our new comprehensive sales approach to selling our carve out specialty pharmacy solutions is resonating in the market and helping us build deeper relationships and create more savings for our customers. This includes bundling services such as medical pharmacy with formulary management and leveraging our clinical expert network to support clients with rare disease management. We're pleased that our work to solidify the Specialty Carve-Out Book of Business is on track. In addition, our PBM posted a record number of new members through sales at the start of 2019. While the previously announced loss of a health plan customer due to an acquisition in our plan reduction in Medicare Part D resulted in a sequential decline in total net membership, we believe that our PBM's level of service, flexibility, and clinical expertise will continue to fuel growth. Finally, we are continuing to improve the cost of goods sold for our pharmacy customers. We recently executed a new drug wholesaler deal effective April the 1st and are finalizing negotiations with our major retail network pharmacies to improve supply chain economics. From an enterprise perspective, we remain committed to driving continuous operational improvements for administrative efficiency. We are realizing these savings through both organizational redesign and process optimization. For example, We flattened the organization by increasing span of control and consolidated customer care teams to leverage best practices and increase scale. From a technology perspective, we've also been active. For example, we've enhanced quality monitoring systems to promote first call resolution and to eliminate rework in support areas. We've also improved our workforce management system for resource planning and forecasting. and increased self-service on calls and web tools for both providers and members. We are confident that these efforts will help us to remain competitive and contribute to our multi-year margin improvement plan. With the start of the presidential campaign, we believe Medicare for All will remain an issue but not likely a congressional legislative initiative. We are concerned over the disruption that some of the proposals would cause but we share the common objective that all Americans should have access to affordable and comprehensive health insurance. At this point, we do not expect any material impact on our operations for the foreseeable future. Congress and the White House have also given a great deal of attention to the issue of high drug costs and drug pricing. We believe the current proposals do not address the fundamental issue of high drug prices, which will result in significantly increased cost based on CMS's estimates and face a difficult legislative process. As a result, we expect any near-term changes to be modest. On March the 29th, we announced an agreement with Starboard Value regarding the composition of our board of directors and creation of a strategic committee of the board. The committee is working with management towards the goal of creating an incremental shareholder value. Relative to board composition, under the terms of the agreement, four new independent directors joined the Magellan Health Board in March. Following the annual meeting, the board also intends to decrease its size from 13 down to 10 directors. Our four new directors bring financial, operational, technology, and healthcare experience that we believe complement our existing board, and we are already benefiting from their perspectives and contributions. In addition, our directors Matt Simas, Aran Broshi, and John Aguinobi notified the company of their intention to retire from the Magellan board as of the company's upcoming 2019 annual meeting on June the 21st. I want to personally thank Matt, Aran, and John for their dedication and service to Magellan. I am pleased with the continued focus of our leadership team and our progress to date, on our multi-year margin improvement plan. I remain confident in our mission, our team, and our ability to deliver sustainable growth and value creation over the long term. I'll now turn the call over to John to provide a more detailed financial review of the quarter. John?

Thanks, Barry, and good morning, everyone. For the quarter, Revenue was $1.7 billion, which represents a decrease of 3.6% over the same period in 2018. This decrease was mainly driven by our MCC Florida and Medicare Part D footprint reductions, as well as a previously discussed PBM health plan contract loss due to an acquisition, partially offset by growth in MCC of Virginia and new PBM employer business. Net income was $0.4 million and EPS was two cents. This compares to net income and EPS of 11.5 million and 45 cents respectively for the first quarter of 2018. Segment profit was $45.6 million for the first quarter compared to 55.6 million in the prior year quarter. Adjusted net income was $9.6 million and adjusted EPS was 40 cents. The adjusted net income decreased $11.2 million from the first quarter of 2018, mainly due to lower segment profit and a higher effective income tax rate. For our healthcare business, segment profit for the first quarter of 2019 was $45 million. Segment profit decreased $0.9 million versus the first quarter of 2018, driven by the MCC Florida footprint reduction and lower margins in New York, partially offset by margin improvements in Virginia. Turning to pharmacy management, we reported segment profit of $8.3 million for the quarter ended March 31, 2019, which was a decrease of $7.2 million from the first quarter of 2018. This year-over-year decrease was primarily driven by previously discussed specialty formulary management contract losses, non-recurring items, and lower PBM membership. I'd note that pharmacy's first quarter segment profit includes $8 million of normal unfavorable seasonality in our Part D business, $3 million of accruals for prior year network guarantees, and $3 million of accruals for 2019 network guarantees, which we expect will reverse later in the year. Regarding other financial results, Corporate costs, inclusive of eliminations but excluding stock compensation expense, totaled $7.7 million compared to $5.8 million in the prior year's quarter. This change was largely due to lower discretionary benefit expenses in the prior year quarter. Excluding stock compensation expense and changes in fair value of contingent consideration, total direct service and operating expenses as a percentage of revenue were 15.1% in the current quarter compared to 14.5% in the prior year's quarter. This increase was also largely due to lower discretionary benefit expenses in the prior year quarter. Stock compensation expense for the quarter ended March 31, 2019 was $9.6 million, an increase of $2 million from the prior year's quarter. The change is primarily a timing issue related to vesting of certain equity awards. The effective income tax rate for the quarter ended March 31st, 2019 with 56% compared to a 1% tax benefit rate for the prior year's quarter. The tax rate for the first quarter of 2019 is higher than the federal and state statutory rates, primarily due to book to tax differences in stock compensation expense. Income tax for the prior year was materially impacted by the stock options exercise during the first quarter of 2018. We anticipate the 2019 full-year tax rate will be approximately 30% as book-to-tax differences in stock compensation become proportionally smaller with the anticipated growth in earnings. Our cash flow from operations for the quarter ended March 31, 2019, with $35.4 million versus $81 million in the first quarter of 2018. The prior year's quarterly cash flow was unusually high due to the favorable timing of working capital. As of March 31, 2019, the company's unrestricted cash and investments totaled $194.9 million, which represents an increase of $64.5 million from the bounce of December 31, 2018, primarily due to the collection of certain outstanding receivables Approximately $88.4 million of the unrestricted cash and investments at March 31st, 2019 is related to excess capital and undistributed earnings held at regulated entities. Restricted cash and investments at March 31st, 2019 of $468.8 million reflect a decrease of $58.8 million from the bounce at December 31st, 2018 due to timing. During the quarter, we've repurchased approximately 61,000 shares for $3.7 million. Now, as Barry noted, we're maintaining our 2019 earnings guidance as follows. Net income for 2019 in the range of $52 to $79 million, which equates to a diluted EPS range of $2.14 to $3.25. adjusted net income in the range of $90 to $114 million, and an adjusted EPS range of between $3.70 and $4.69, and segment profit in the range of $270 to $290 million. Now I'll provide some additional context to bridge the first quarter 2019 segment profit results to our full year earnings guidance. As discussed previously, our first quarter 2019 pharmacy segment profit was impacted by seasonality in Part D earnings, accruals for prior year network guarantees, and accruals for network guarantees in the first quarter that we expect to reverse later in the year. Adjusting for these items would result in a normalized quarterly segment profit run rate of approximately $22 million. In addition to this adjusted run rate for pharmacy, We expect to see steady growth in segment profit throughout the bounce of 2019 due to the following items. First, lower cost of goods as we finalize our network pharmacy agreements and implement our recently negotiated wholesaler agreement, which was effective on April 1st. Second, improvement in negotiated rebates. The majority of this improvement is due to the three-month lag in recognizing the actual value of significant term changes which were implemented January 1st. Third, expected new business to be implemented after first quarter, nearly 70% of which has already been sold. And fourth, normal margin seasonality in our PBM business. In healthcare, our behavioral and specialty health reporting unit posted a strong quarter and we expect to maintain these results through the year. In MCC, we expect continued incremental improvements in margins throughout the year as a result of anticipated mid-year rate changes, membership growth consistent with past experience, expected performance revenue based on emerging metrics reflecting the results of our quality initiatives, and the ongoing impact of our medical action plans. As an example, these initiatives have already improved our Virginia MLR from approximately 100% in 2018 to the mid-90s currently. These increases are partially offset by targeted MCC investments. As Barry mentioned, we're lowering our 2019 revenue guidance to a range of $7 to $7.2 billion. This includes the accounting impact related to a large new PBM customer a portion of the revenue for which we'll be booking on a net basis. We previously expected to record revenue on a gross basis for the entire contract. This has no material segment profit impact. In summary, the fundamentals of our business remain strong and we're focused on continuing to execute our margin improvement plan for the balance of the year. I remain confident in our long-term growth strategy and look forward to updating you on our progress next quarter. I'll now turn the call back over to Barry for some closing comments. Barry?

Thank you, John. I'm pleased with the actions we've completed during the first quarter of 2019, which represents significant progress towards achieving our margin improvement plan. In pharmacy, we are reducing the cost of goods sold through the entire supply chain, including network, wholesalers, and manufacturers. In healthcare, we have made significant progress in our Virginia cost of care, while maintaining strong quality for our members. I'd emphasize that many of the items that John mentioned in the bridge from the first quarter results to the full year earnings guidance represent initiatives we've already implemented, contracts either already in place or scheduled to be implemented this year, or seasonality consistent with our historic experience and industry norms. We are seeing the benefits of the strong leadership team we've put in place over the last six months, particularly in our MCC segment. We have a clear path to achieve our full year's earnings guidance, and I'm confident in the team and our ability to execute. I'll now turn the call over to the operator for questions. Operator?

Thank you. And at this time, if you would like to ask a question, please press star followed by 1 on your touchtone phone. To withdraw your request, you may press star 2. Once again, to ask a question, please press star 1. Our first question comes from Dave Stibla with Jefferies. Please go ahead, sir.

Hi there. Good morning and thanks for the questions. I want to just start out on the pharmacy business and appreciate the bridge in color there as you ramp up from the first quarter through the rest of the year. I think the seasonality and the PDP of $8 million makes sense for us. I think what is new is the $6 million of accruals in those two buckets. Can you elaborate a little bit more? on what those are, and I think you were trying to say that both of those items fully reversed, but I want to make sure I understood that that's true and how the mechanics of that work for the rest of the year.

Yeah, Dave, thanks for the question. The way I describe the overall picture is, and I think we've discussed this in previous quarters, As we've grown as a PBM and we've been successful both in increasing scale and penetrating larger markets, it's put us in a better position to negotiate more favorable deals with network pharmacies. And as we've talked about in past quarters, we've really been on a mission this past year to capitalize that and improve those contracts. The timing of that, as we've talked about that, it took us a little bit longer than we expected, but at this point, we've renegotiated the vast majority of those contracts. Some we're still in the process of finalizing the papering of, but they're largely negotiated at this point in time. As part of that negotiation, we got more favorable rates going forward, but also settled some past network guarantees or have at least negotiated them, and again, they're in the final stages of being settled. And some of that relates to past years, 2017 and 2018. And of course there's some trade off when you're negotiating between settling some items where there's disagreement in past years. So three of the six million is literally network guarantees that we're in the process of settling that relate to past years. And obviously that wouldn't repeat. That's one time. Secondly, We identified another $3 million of timing in the quarter relative to the network guarantees. What that literally is is the timing of when we're able to implement the rates and earn spread on the business. Many of the new negotiated terms are effective 1-1, but will be implemented retroactively. And we manage max schedules through the year. and weren't able to capture and record even the benefit that is retroactive to first quarter, fully in first quarter, but expect to capture it over the bounce of the year. So that's the other three million out of the six. Okay, that's helpful.

And then staying there in the pharmacy, can you give us an update on the competitive landscape? Obviously last year you guys in the second quarter disclosed that you'd lost a few accounts, especially in the pharmacy, especially pharmacy carve-out. It seems like that business is stabilized. There really hasn't been more pressure, but curious what that environment looks like. Are you continuing to see competitors try to press in over there, and if so, are you having to renegotiate your own pricing such that it's putting any sort of economic pressure on your own business?

Thanks for the good question, Dave. The market, of course, needs to be competitive out there. But we haven't seen an escalation. If anything, we've seen more of a rational approach to pricing. Over the last several quarters, we've had no further large contract losses on the specialty business. We did lose those, too. We've tried to proactively go to each of our clients, our larger clients particularly, and renegotiate, in some cases providing better terms for a longer-term contract. And so we've made a lot of progress in having more secure, longer-term contracts within the specialty business particularly. We've been very effective in the PBM side of gaining a lot of employer business. We recently talked about a large employer that we gained over 100,000 lives. And so we continue to gain traction. We had our largest incremental life implementation as of the first of this year, and continue to see some great success with the employer population. We have seen historically, over the last, I would say, six months or so, a lot of MCO-specific competition on pressure on pricing. That has lessened to some degree. We saw, in fact, and heard in the CVS call about the pressures that they saw in their PBM pricing. We haven't seen the same level of aggressiveness on the part of CVS. We still see some others that are out in the marketplace being very aggressive on pricing. and we remained very solid in our commitment not to go below the quick in terms of going negative on margin on these deals. We think that's just wise. So while the pricing has been competitive, it's probably lessened a little bit. It remains competitive, and, again, we haven't seen any deterioration of our contracts on the specialty side. Okay, that's great.

And then maybe just an update on – on the relationship with Starboard and obviously they're adding to the board. I'm curious to hear what sort of initial planning or action strategies that might be going on with them on board and the new perspectives that they may have in mind and share and should we expect any sort of update either operationally for cost savings or new initiatives that you guys might be coming together with and outlining at some point or is this more them coming in to help just execute the blocking and tackling of improving some of the core operations?

Well, as I mentioned on the call, we're very pleased with the additions to the board that Starboard brought, and I just think of the quality of the individuals. I think they're all very high quality, and they do add a lot to our perspective, both operationally, financially, and just general industry experience. We've established a strategic committee of the board that looks at how we can more quickly realize shareholder value, and the committee is hard at work working with the management team on that front. And so we're trying to do all the right kinds of things to build shareholder value. There is some incremental operating talent that was brought in by the SOAR board members. We think that we already had some very strong operating talent, but their perspective is very, very helpful, and so we've been grateful for their assistance and continued participation with us. We would expect to see the same initiatives that we've launched really later last year. As you recall, we made some pretty strong changes, and we think very effective changes to our senior team, particularly on the healthcare side, which allow us to see the kind of benefits we're seeing today and the results. And we think that will continue to play out over 2019. So we're grateful for Starboard. We think that they're a great addition to the team. They're directors. And we think that that's going to incrementally help us achieve our goals in 2019. Okay.

Thanks so much. Just the last housekeeping one for John. You guys have previously talked about earning seasonality, about 40% landing in the first half. I'm curious to see if that is still true or has that mix changed at all with the 1Q results now being out?

Yeah, we're not expecting it to change significantly, Dave. So, you know, as we've talked about before, you know, it can certainly bounce around a little bit, but I'd say, you know, high 30s to, you know, 40, low 40s is where we'd still see that range. Okay. Thanks. Step back. Thanks, Dave.

Thank you. Our next question comes from Kevin Fishbeck with Bank of America, Merrill Lynch.

Great. Thanks. Yeah, I wanted to dig in a little bit on the Medicaid side. You know, it sounds to me like you're making some progress on Virginia. Can you just talk a little bit more about where exactly those savings are coming from and how you think about the pace of additional margin improvement?

Yeah, let me take that and, you know, Barry can certainly add color, Kevin. As we think about Virginia, we had been running 100% loss ratios through most of last year. We're just below 100 in fourth quarter, and we're in the mid-90s first quarter. So we have seen progressively good emerging results as we've gone through the year. Those have really come from a number of different areas, but the ones that have been most significant have been on inpatient expenses and managing to appropriate levels of care and improving quality to lessen readmissions as we go forward. Outpatient behavioral health has been an area we've seen good improvement. And the claim over payment recovery, claim integrity initiatives, we saw improvement in fourth quarter and we've continued to see results come in as we've turned the corner into this year. We also have initiatives to really tighten up the consistency and appropriateness of managing, you know, the managed long-term care benefits, and that's something we think will drive incremental improvement as we go through this year. So, you know, in Virginia, those are really the key areas where we've seen improvement, but we do think, you know, we're on a good path. We believe that, again, that the mid-'90s we saw first quarter will continue to gradually improve through the year, and we're targeting to be you know, below that by the end of the year and back, you know, towards where we need to be to be profitable. So, again, very good progress. As Barry said, we've put some real good leadership and experts in place to, you know, help the team on the ground there to drive the initiatives we need, and they're starting to see the yield of that. I don't know, Barry, if there's anything else you'd add.

Yeah, just a couple of things. Just to kind of underscore John's comment about leadership, We brought on Chrissy Cooper, who's a very experienced Medicaid operator, who's just done a stellar job with us. I just can't say enough good about her and her entire team. Ashok Sudarshan, who came in as COO within healthcare. So we just have a lot of great talent in place that we've enhanced. We've had great people historically, but this is another level that really gives us the ability to execute more consistently. We've implemented far more detailed granular metrics for operations that we monitor and manage to. Again, teams not only at the top but throughout the organization. It's led to some very specific benefits in terms of progress on behavioral health and physical health medicine where we're able to reduce the short stay admissions further and have them more be in the observation bed status to reduce inpatient costs. The whole measurement of mental health skill billing cases We want to make sure we're taking care of people, but again, if someone's been on services for over 24 months, does that make sense to continue those services? Just the kinds of things that don't detract at all from quality. In fact, in virtually all these cases, the increased quality, doing the right thing, but also making our service more cost-effective to the state. So it's the right thing to do. On the claims integrity, we've also made tremendous progress there. In 2018, we covered, I think, some 4.9 million in recoveries. We've got another 3 million over the course of 2019, the balance of the year we expect to collect. So, again, there's some very fundamental blocking and tackling that we've been engaged in that have really upped our game tremendously. So, and just in terms of the membership, just to give you a quick update, we had, I know people were asking about the Medicaid expansion, what that meant to us. We've and basically received about 22.2 expansion members. That's still growing. We're receiving per rate of the membership from those expansions. They expect DMAS, not for us specifically, but in the market, about 10,000 per month. So that will incrementally grow revenues in our operations there in Virginia. Again, that helped us with overhead. We've got the platform in place. Last year was a difficult year because we implemented three different new plans. So the overall membership, we planned for basically about 75,000 total lives And we're at about 75,000 total lives. And so pretty much things are on target to be where we hoped they would be earlier, clearly, last year versus this year. But we're feeling pretty good about how things are rolling out in 2019. Okay.

And then you talk about New York. I guess New York, the rate increase was – that's an April 1 rate increase, right? So you've got visibility into that rate update now as far as improving MLR and – Can you talk a little bit about the quality dynamic that you expect to see a benefit from? What is your visibility into achieving that? Is there an improved performance that has to still happen to get there, or are you already at those levels?

Kevin, it's John. I'll take a shot at that. So with New York, as has been the past practice in New York, Normally the rates don't come out until at least second quarter, so we do not yet have final rates for April. And the biggest component of the rates built into the assumption is the update of risk adjusters. What we do have, though, is we have data from the state as of November which sort of indicated where we are on our risk adjuster versus the market, and therefore, if things don't change, what we'd expect as part of the April update. We've continued to improve our risk adjuster metrics through many of the initiatives we've put in place, so we believe that the assumption we have that's based on the data from November shouldn't be worse than what's built into our forecast as we go forward. We don't have the final rates, but we've got data that we think is a good indicator of what to expect, and we're obviously trying to be measured in terms of how we forecast that. But we'd expect, again, hopefully within second quarter or shortly thereafter, that we'd get rates from New York, which would be retroactive to April. The other thing, though, is New York is also working to finalize the retroactive piece, because if you remember, the risk adjusters were not updated last year when the data came out in November. The state had put a freeze on it based on some sort of data inconsistencies. They are working through that, and from what we understand, they're going to be dealing with that issue in the near future, before the 2019 rates come out. So there's potential upside there that's not built into our forecast. If you recall, that was something that negatively impacted in the fourth quarter, the fact that that update didn't go through and is still pending. In terms of quality in New York, the issue is really the quality metrics are measured and then you're put into a tier of quality and the incentive you earn is based on the tier. What I can say is, you know, we sort of just missed the next tier last year. We've seen our quality metrics improve materially since then and believe, you know, we'll get to the next tier level, and that's what's assumed in our forecast. And again, based on the results and the metrics we've seen to date, we have confidence.

And then maybe this last question. Do you guys have a, I don't know if, I don't think I heard it, like a retention strategy? number for us on the PBM side?

I don't know that we've ever mentioned any retention number. We would expect to see a retention in at least the 85% range for 2019.

Yeah, normally it's in sort of that 85% to 90% range. As we talked about last year, as we entered this year, we saw the pricing be a little bit more competitive, so we're likely to be at the you know, the lower end of that 85 to 90 range. But that's typical of what we'd see in the market we're in, which is, you know, largely the sort of middle market on the employer side, which, you know, the retention is always a little bit lower than for the larger market.

Yeah, because it's interesting because, you know, CVS came out with a little bit lower retention than we're used to. Cigna today, you know, was better than CVS, but still maybe a little bit lower than it was. previously, but I guess both maybe make some sense given the deals going on there. You guys talk about lower retention levels. So it's interesting, I guess, then, does that just leave United as the one who's gaining share at this point, or is there any other competitor in the market that you'd highlight?

Yeah, what I'd say is I think that the market was particularly price sensitive this year given the competitive performance in the pricing. So I think what you may see is everybody having lower retention, meaning more business moving than typical. It might move to some of the same folks that are losing business, but I think there's just a little bit higher churn than usual. I'm not sure there's any one person benefiting from it.

Yeah, I think we're all trading clients, unfortunately, and it's been a particularly competitive pricing environment. I would expect that actually to settle down over the next year, and you'll likely see retention go up for everybody. Normally the PBM benefit is a very, very sticky benefit. It's true at the state level. It's true in terms of changing over providers on the public sector, Medicaid. It's true also for employers. People just don't like to change a benefit that impacts every single employee in the entity. So you normally don't see a lot of churn. So we've seen far more than normal But we would expect to see that to go back to more normalish measures, probably 95, 90 to 95 in that range over time. But we'll see how it plays out.

The other thing I'd just note quickly, Kevin, is while your question was focused on retention, we actually had a very positive sales year on new business. So that just underscores, again, a little bit more churn, but we've also been very successful in winning business from competitors.

That's helpful. Thanks.

Great.

Thanks, Kevin. Thank you. Our next question comes from Scott Fidel with Stevens.

Thanks. Good morning. First question, just with the retrenchment in Part D that you had this year, just interested in how the initial results seem to be tracking for the business early here in the first quarter.

Yeah, Scott, the initial results are literally right on what we had forecast coming into the year. So we talked about seasonality in the script, but that's 100% normal seasonality. So in terms of the results, the membership and the mix of members between the auto-assigned and low-income and voluntary is literally spot on our forecast within a very, very small margin. So we're feeling good about where we are at this point in the year.

Okay, and then a follow-up to that, just how you guys are thinking about participation in Part D for next year, and in that context, maybe your updated views on the HHS rebate proposal and the latest CMS guidance that they gave around tightening the risk adjusters for the risk corridors for the Part D market next year, and how much you think that could mitigate some of the risk in the market related to the proposal.

Yeah, those are great. Everybody's guessing right now how they're going to participate next year, and obviously there have been two possible ways, modes that we're in, preparing for pricing with and without safe harbor implications. It's clear that with the proposed rule that there likely will be impact, we think, and we're all trying to figure out exactly what the impact will be. So the risk corridors will take down some of the risk associated with the safe harbor being retracted, and the Part T pricing kind of going into a new mode. And so we're all very anxious to kind of see how this ultimately plays out. Our feeling is that it's likely that something will happen and that we will see a change. We are preparing two bids right now, one with and one without. We do think that the risk corridors will help mitigate risk going forward, and we're just very anxious to see how that plays out.

Okay. And just on the $6 million that you flagged on the network guarantees, the revenue, did that all drop in terms of earnings had wind, or were there any offsets to that?

Those were segment profit impacts, Scott. So that is bottom line.

Okay. So both revenue and segment profit. Okay. Thanks. Great. You bet, Scott.

And thank you. Our next question comes from Ana Gute with SCB Lyric. Please go ahead.

Hey, thanks. Good morning. Just following up on some of the discussion on the pharmacy benefits competitive landscape. In the employer market, you know, we do have beyond the deal Anthem now coming in with, you know, with Ingenio and talking about integrated total cost of care, you know, to a smaller extent, perhaps, but It seems like brokers are talking about Humana as well, coming into the mid-market employer market. Do you see them making a dent here? Anthem won quite a bit of fully-insured business. It's hard to say whether it was with the Ingenio or not. And beyond maybe Cigna and Optum, perhaps I have heard anyways that have been pricing aggressively. Have you seen anything here?

Well, clearly, both Anthem and Humana are very capable MCOs with great capacity. We've seen, of course, Anthem with Ingenio launching, kind of getting into the business. We haven't seen them in any material way in the marketplace. Typically, they've played more within the blues environment and within their own population, but we would expect to see that launch in a more substantial way in the future. although I think it's difficult because of channel conflict and because of just the competitive nature of the market and to really be a major player, although over time you never know what will happen. But they're clearly very capable, so we have great respect for them. And then Humana is interesting because Humana clearly has not played in these kinds of markets in this way. It's entirely possible that they'll get in with a more material offering there in the mid-market. But, again, we see that as less of an impact than would be ongoing competition from Express, Cigna, Optum, CVS as well. So, again, we think there will be introductions, but we don't think that that will materially change the competitive landscape.

Okay, okay. And on the point of sale rebates, just looking at what's going on with – CVS and Optum moving rebates to the point of sale now in the commercial market. What is your visibility into what's going on more broadly and anything that you may be looking to do to adapt to what they're trying to do ahead of what the potential regulatory or legislative environment may evolve to? And I understand that Safe Harbor is going to be hard to legislate, but just kind of a market force driven

Well, it's very interesting, Ana, to see how this is evolving. We also are very open and do and can provide rebates at point of service. Of course, this whole issue became a significant political issue because of the high-cost deductibles that I plan deductibles that people have, and they became aware of that first dollar coverage for these very expensive medications. And, of course, the rebates certainly help the entire health plan, whether it's the health plan or whether it's the employer or the state for that matter, but it doesn't necessarily help the individual that's paying the big out-of-dollar number at the pharmacy counter. And so we think it's a reasonable approach to go and have those rebates being given to the actual individual that buys the drug that generates the rebate. That just makes economic sense. goes a long way in solving the political problem that's out there with drug pricing relative to rebates specifically. I think that ultimately on the rebate front, we're going to have a really interesting process roll out relative to how it will impact the commercial market overall. Just as a little competitive insight, one of the challenges that we've seen historically on the MCO front relative to rebates is that you will see very competitive pricing, and then you'll see some of the larger players come in with very significant checks, sometimes in tens of millions of dollars, saying at the 11th hour, here's an incremental $10 or $20 million, and that's how they compete. The reality is, and they'll say this is an incremental rebate check, the reality is, from our calculations, it goes far beyond what a normal rebate is. In fact, on the specialty side, it's multiples of what the specialty rebate is per script. So we think that the rebate moniker has been used to introduce overly competitive pricing. So we think it's good that it becomes more of a rational world relative to rebates. Whatever an employer, whatever a payer, the MCO would like to do relative to distribution of the rebates is fine by us. We're able to administer any form they'd like to. And in some cases, they'd like to distribute that across the entire plan membership in an MCO case or employer the same way. And sometimes they want to offer it directly to the recipient, the enrollee of the plan. Again, we can go any way. I don't know that that will materially impact profitability from the standpoint of different ways that employers and plans will compensate us. they're still gonna have the need for the various clinical programs that we offer. They're still gonna have the need to negotiate with manufacturers. There's this notion that somehow rebates are done away with and if you take a look at the PBM retention of those rebates, it's a very minor number in contrast with the total price of the drug. So if you simply reduce the, take out the rebate and take out negotiation with manufacturers, there's actually no assurance that manufacturers will lower their list prices. And that's really, we believe, where the focus needs to be on the list prices of these pharmaceuticals, which has just gone up enormously. So that was a long-winded way to answer your very fully featured question, but hopefully that's helpful.

That's helpful. So the 70-ish million odds that you have going to your bottom line, correct me if I'm wrong, you know, as there are some pilots and other approaches that, prescripts and at least optum or at least disclosing around administrative fee-based contracts and clinical programs and so on. Are you doing any of that? Do you see that $70 million-ish odd moving into a different business model and preserving profitability in the low to mid single-digit margin range?

Let me just be clear on one point. The $70 million I believe you're referring to is sort of the net rebates for the specialty carve-out segment. So that's what we're identifying in the queue as sort of the specialty rebates. So that rebate is anything we retain for the formulary management program is essentially payment for services we're providing. So these are things like, again, formulary development with health plans. It's helping to lower the net cost of drugs through driving the most effective market share to the most effective cost of drugs. It's clinical programs. We've got a number of clinical programs that we offer to health plans for things like improving their Medicare STARS rating and we've seen great success which has significant upside from a financial standpoint to the health plans. So to get to the crux of your question, if the model were to change, the services we're providing are very valuable to the health plans and we'd find other ways through fees or you know, risk shares or other types of financial mechanisms to be reimbursed or compensated.

You know, Hanna, as John is talking here, I just think back to my earlier days in the PBM world. This is exactly how we did business. We charged for these incremental services, which were good high margin services, and we just didn't have any reliance on the rebate mechanism at all. So in some ways, it's kind of back to the future. where we will charge for these different services that we offer. As John mentioned, these clinical services, which reduce the overall spend pretty dramatically in the pharma world. We think that our medical pharmacy management capabilities is going to be a huge benefit and advantage in the marketplace because we cover more lives, I think, than anybody else in the marketplace, 14.5 million plus. We just gained a few extra clients in that space, and people pay us for those services. Sometimes they pay us via the rebates that we receive. We negotiate the net of those two, and sometimes they pay us directly. So we think if the world goes to that place, which I think is somewhat likely, we'll have a real advantage, we think, in the marketplace.

Okay, very helpful. Can I follow up then on the health plan side on the PBMs, as you point out, to become competitive? some game of musical chairs it feels like at this point with, you know, maybe started by Anthem in a bit, pulling their PBM in-house and then Centene now doing the same and, you know, for future with WellCare and Cigna now moving it back to Express and all of that. But, you know, you've always sort of had a view that you have a value proposition of certain health plans that don't want to be in more of a competitive arrangement, I mean, an arrangement with a PBM supplier that's also a large competitor. How is that evolving for you specifically? And then how is the broader health plan landscape looking? And, you know, is there a segmentation by the large Blue Cross Blue Shields who perhaps don't use Ryan Therapeutics, but, you know, use Express and CVS? maybe other smaller regionals that are looking for specific, more customized medical pharmacy approaches? And, you know, what is their response to just a completely transformed supplier landscape on the BBM side?

You know, it's interesting how the market is evolving. I'd break it into three distinct decision points for MCOs. There's no doubt that it's a very competitive pricing environment. So price is clearly an important consideration. The second thing is, as you mentioned, the channel conflict issue. We are getting a lot more shots on goal than ever before because we're looked at as an independent player that has great capacity. And so that's been helpful to us. The third element is service. And when I say service, I mean both customer service to both the plan and to the member and the reporting that we do. but also in terms of the service, how we think about the members and our relationship with the members in a very customized, friendly way. And so on those things, price continues to be a major driver. The channel conflict is an issue, and I would say that if price is overwhelmingly advantageous, that becomes the primary driver, but the channel conflict is an issue, and indeed, if it's close, We typically get the nod based upon that. And on the service side, we are distinctively different than most of the larger guys in terms of our ability to customize programs and do the work that John talked about a moment ago on the clinical side. We are unique in that way, and it's just a much higher level of service. It's not that you can do a lot through automation with a PBM transaction through the network and with AI, but it also takes a level of personal touch For example, if someone's on college here, human growth hormones, autoimmune drugs, where you're working with the physician's office, the family, and the patient, it's just a much higher level of service that really just means a great deal on these very high-cost drugs. And so in that third category, we think that we're unparalleled in the industry, and people buy from us for that reason. It's both a service, it allows people to do things they wouldn't ordinarily be able to do, but it also has an important cost impact, reducing cost. So when people are just simply spreadsheeting on price, you know, A to the P minus X, and a certain rebate number, we encourage them, and fortunately, many, many do, to include the clinical cost savings that we can generate, given this very personalized, high-service approach.

The other thing, just real quickly, John, I'd add, is that when you segment the health plan market, Our focus is predominantly on the lower end of the market. We're looking at local and small regional health plans where, again, the service, the clinical approach, and to some extent even the sort of sensitivity on the channel conflict play to our advantage. And, of course, the pricing also is more rational in that segment than when you get to the larger health plans. And we've While we've had opportunities, we've in some cases chosen not to chase some of the middle or larger size health plans because the pricing is not favorable for us.

Very helpful. Can I ask one final one? With Lilly and Humalog, there was a lot of consternation at one point, and I think some BBMs may have been caught flat-footed with the interior changes. How do you see the pharmaceutical industry you know, responding given they're in the crosshairs as well and want to look good for the regulators. You know, how is that likely to impact you and other PBMs and moves like that?

Well, it's so interesting, Ana, to see the lobbying that's going on today. The pharma industry spends $200 million a year in lobbying. And so they have a lot of money and they're outgunning the rest of the industry. And They'd like to point at the PBMs as being the problem. The challenge is, of course, is that's just not true. The economics are largely driven by list prices from pharma, and I think that will continue to be highlighted because it can't help not be. So even if you did all of these things and reduced the total price, it's literally less than 15% on Part D, for example, the rebate issue. So pharma, the list prices is the issue, and so pharma... ultimately must respond in a value way and in a way that is responsible relative to the list prices. So if you, again, took the PBM completely out of the equation, there's no mechanism that would have pharma reduce their list prices or not increase their list prices. In fact, I think it would go the opposite direction. So I think that pharma, irrespective of the very significant lobbying, will likely remain in the crosshairs for quite some time to come. because the numbers are just too large.

Very helpful. Thanks for taking the questions.

You bet. Thank you, Ana. Well, thank you, everybody, for your participation in today's conference call. We look forward to speaking with you again in July when we will discuss our second quarter 2019 results. Good day.

Thank you. This has concluded today's conference. We do thank you for your participation, and you may disconnect your lines at this time.