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4-Traders Homepage  >  Equities  >  Nasdaq  >  Magellan Health Inc    MGLN

Delayed Quote. Delayed  - 07/29 10:00:00 pm
68.47 USD   -3.75%
07/29 MAGELLAN HEALTH : matches Street 2Q forecasts
07/29 MAGELLAN HEALTH : Reports Second Quarter 2016 Financial Results
07/26MAGELLAN HEALTH : half-yearly earnings release
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MAGELLAN HEALTH : Management's Discussion and Analysis of Financial Condition and Results of Operations. (form 10-Q)

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07/29/2016 | 05:53pm CEST

The following discussion and analysis of the financial condition and results of operations of Magellan and its subsidiaries should be read together with the Consolidated Financial Statements and the notes to the Consolidated Financial Statements included elsewhere in this Quarterly Report on Form 10-Q and the Company's Annual Report on Form 10-K for the year ended December 31, 2015, which was filed with the SEC on February 29, 2016.

Forward-Looking Statements

This Form 10-Q includes "forward-looking statements" within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. Although the Company believes that its plans, intentions and expectations as reflected in such forward-looking statements are reasonable, it can give no assurance that such plans, intentions or expectations will be achieved. Prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements. Important factors currently known to management that could cause actual results to differ materially from those in forward-looking statements include:

        º •
        º the Company's inability to renegotiate or extend expiring customer
          contracts, or the termination of customer contracts;

        º •
        º the Company's inability to integrate acquisitions in a timely and
          effective manner;

        º •
        º changes in business practices of the industry, including the
          possibility that certain of the Company's managed care customers could
          seek to provide managed healthcare services directly to their
          subscribers, instead of contracting with the Company for such
          services, particularly as a result of further consolidation in the
          managed care industry and especially regarding managed healthcare
          customers that have already done so with a portion of their
          membership;

        º •
        º the impact of changes in the contracting model for Medicaid contracts,
          including certain changes in the contracting model used by states for
          managed healthcare services contracts relating to Medicaid lives;

        º •
        º the Company's ability to accurately predict and control healthcare
          costs, and to properly price the Company's services;

        º •
        º the Company's ability to accurately underwrite and control healthcare
          costs associated with its expansion into clinically integrated
          management of special populations eligible for Medicaid and Medicare,
          including individuals with serious mental illness and other unique
          high-cost populations;

        º •
        º the Company's ability to maintain or secure cost-effective healthcare
          provider contracts;

        º •
        º the Company's ability to maintain relationships with key pharmacy
          providers, vendors and manufacturers;

        º •
        º fluctuation in quarterly operating results due to seasonal and other
          factors;

        º •
        º the Company's dependence on government spending for managed
          healthcare, including changes in federal, state and local healthcare
          policies;

        º •
        º restrictive covenants in the Company's debt instruments;

        º •
        º present or future state regulations and contractual requirements that
          the Company provide financial assurance of its ability to meet its
          obligations;

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        º •
        º the impact of the competitive environment in the managed healthcare
          services industry which may limit the Company's ability to maintain or
          obtain contracts, as well as its ability to maintain or increase its
          rates;

        º •
        º the impact of healthcare reform legislation;

        º •
        º the Mental Health and Substance Abuse Benefit Parity Law and
          Regulations;

        º •
        º government regulation;

        º •
        º the Company's participation in Medicare Part D is subject to
          government regulation;

        º •
        º the unauthorized disclosure of sensitive or confidential member or
          other information;

        º •
        º a breach or failure in the Company's operational security systems or
          infrastructure, or those of third parties with which we do business;

        º •
        º the possible impact of additional regulatory scrutiny and liability
          associated with the Company's Pharmacy Management segment;

        º •
        º the inability to realize the value of goodwill and intangible assets;

        º •
        º pending or future actions or claims for professional liability;

        º •
        º claims brought against the Company that either exceed the scope of the
          Company's liability coverage or result in denial of coverage;

        º •
        º class action suits and other legal proceedings;

        º •
        º negative publicity;

        º •
        º the impact of governmental investigations;

        º •
        º the impact of varying economic and market conditions on the Company's
          investment portfolio;

        º •
        º the state of the national economy and adverse changes in economic
          conditions; and

        º •
        º the impact to contingent consideration as a result of changes in
          operational forecasts and probabilities of payment.

Further discussion of factors currently known to management that could cause actual results to differ materially from those in forward-looking statements is set forth under the heading "Risk Factors" in Item 1A of Magellan's Annual Report on Form 10-K for the year ended December 31, 2015. When used in this Quarterly Report on Form 10-Q, the words "estimate," "anticipate," "expect," "believe," "should," and similar expressions are intended to be forward-looking statements. Magellan undertakes no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results over time, except as required by law.

Business Overview

The Company is engaged in the healthcare management business, and is focused on managing the fastest growing, most complex areas of health, including special populations, complete pharmacy benefits and other specialty areas of healthcare. The Company develops innovative solutions that combine advanced analytics, agile technology and clinical excellence to drive better decision making, positively impact health outcomes and optimize the cost of care for the members we serve. The Company provides services to health plans and other MCOs, employers, labor unions, various military and governmental agencies and TPAs. The Company's business is divided into three segments, based on the services it provides and/or the customers it serves. See Note A-"General" for more information on the Company's business segments.


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    The following tables summarize, for the periods indicated, revenues and
covered lives for Healthcare by product classification and customer type (in
thousands):

                                         Covered lives as of
                                            June 30, 2016
                                       Risk-based       ASO
                       Commercial
                       Behavioral(1)        13,528      10,110
                       Specialty             8,189      16,582
                       Government(2)         4,229       1,030




                                        Revenue for six months
                                          ended June 30, 2016
                                 Risk-based       ASO         Total
                 Commercial
                 Behavioral(1)   $   164,907   $  59,735   $   224,642
                 Specialty           254,611      32,771       287,382
                 Government(2)       702,359      42,515       744,874

                 Total           $ 1,121,877   $ 135,021   $ 1,256,898




--------------------------------------------------------------------------------

   º (1)
   º Includes revenues of $25.6 million from EAP services provided on a risk
     basis to health plans and employers with 11.0 million covered lives.

   º (2)
   º Includes revenues of $77.5 million from EAP services provided on a risk
     basis to federal governmental entities with 3.5 million covered lives.

During six months ended June 30, 2016, Pharmacy Management paid 12.5 million adjusted commercial network claims in its PBM business, 37.3 million adjusted PBA claims and 0.1 million specialty dispensing claims. Adjusted claim totals apply a multiple of three for each 90-day and traditional mail claim. As of June 30, 2016, Pharmacy Management had a generic dispensing rate of 84.9 percent within its commercial PBM business and served 1.7 million commercial PBM members, 12.4 million members in its medical pharmacy management programs, and 25 states and the District of Columbia in its PBA business.

Critical Accounting Policies and Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Significant estimates of the Company include, among other things, accounts receivable realization, valuation allowances for deferred tax assets, valuation of goodwill and intangible assets, medical claims payable, other medical liabilities, stock compensation assumptions, tax contingencies, legal liabilities and contingent consideration payable. Actual results could differ from those estimates. Except as noted below, the Company's critical accounting policies are summarized in the Company's Annual Report on Form 10-K, filed with the SEC on February 29, 2016.

Results of Operations

The accounting policies of the Company's segments are the same as those described in Note A-"General." The Company evaluates performance of its segments based on Segment Profit. Management uses Segment Profit information for internal reporting and control purposes and considers


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it important in making decisions regarding the allocation of capital and other resources, risk assessment and employee compensation, among other matters. Healthcare subcontracts with Pharmacy Management to provide pharmacy benefits management services for certain of Healthcare's customers. In addition, Pharmacy Management provides pharmacy benefits management for the Company's employees covered under its medical plan. As such, revenue, cost of goods sold and direct service costs and other related to these arrangements are eliminated. The Company's segments are defined in Note A-"General".

The following tables summarize, for the periods indicated, operating results by business segment (in thousands):

                                             Pharmacy      Corporate and
                              Healthcare    Management      Elimination      Consolidated
Three Months Ended June 30,
2015
Managed care and other
revenue                       $   722,471   $    53,782   $           (13 ) $      776,240
PBM and dispensing revenue              -       408,924           (27,557 )        381,367
Cost of care                     (568,288 )           -                 -         (568,288 )
Cost of goods sold                      -      (387,828 )          26,419         (361,409 )
Direct service costs and
other(3)                         (124,779 )     (61,038 )          (5,638 )       (191,455 )
Stock compensation
expense(1)(3)                       1,784        10,339             1,672           13,795
Changes in fair value of
contingent consideration(1)            71         2,496                 -            2,567
Less: non-controlling
interest segment profit
(loss)(2)                            (273 )           -               (77 )           (350 )

Segment profit (loss)         $    31,532   $    26,675   $        (5,040 ) $       53,167







                                             Pharmacy      Corporate and
                              Healthcare    Management      Elimination      Consolidated
Three Months Ended June 30,
2016
Managed care and other
revenue                       $   637,970   $    61,975   $           (84 ) $      699,861
PBM and dispensing revenue              -       495,399           (30,915 )        464,484
Cost of care                     (472,529 )           -                 -         (472,529 )
Cost of goods sold                      -      (466,637 )          29,707         (436,930 )
Direct service costs and
other(3)                         (139,965 )     (64,086 )         (10,026 )       (214,077 )
Stock compensation
expense(1)(3)                       2,451         5,548             1,511            9,510
Changes in fair value of
contingent consideration(1)           390            73                 -              463
Impairment of intangible
assets(1)                           4,800             -                 -            4,800
Less: non-controlling
interest segment profit
(loss)(2)                          (1,305 )           -                (7 )         (1,312 )

Segment profit (loss)         $    34,422   $    32,272   $        (9,800 ) $       56,894





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                                                   Pharmacy      Corporate and
                                    Healthcare    Management      Elimination     Consolidated
Six Months Ended June 30, 2015
Managed care and other revenue     $  1,422,064   $   102,850   $           (24 ) $   1,524,890
PBM and dispensing revenue                    -       667,717           (54,032 )       613,685
Cost of care                         (1,090,621 )           5                 -      (1,090,616 )
Cost of goods sold                            -      (631,366 )          51,750        (579,616 )
Direct service costs and
other(3)                               (253,247 )    (129,271 )         (13,387 )      (395,905 )
Stock compensation expense(1)(3)          4,972        19,744             2,980          27,696
Changes in fair value of
contingent consideration(1)                 171        17,365                 -          17,536
Less: non-controlling interest
segment profit (loss)(2)                   (393 )           -               (51 )          (444 )

Segment profit (loss)              $     83,732   $    47,044   $       (12,662 ) $     118,114







                                             Pharmacy      Corporate and
                              Healthcare    Management      Elimination      Consolidated
Six Months Ended June 30,
2016
Managed care and other
revenue                       $ 1,256,898   $   119,552   $          (128 ) $    1,376,322
PBM and dispensing revenue              -       965,633           (60,588 )        905,045
Cost of care                     (930,160 )           -                 -         (930,160 )
Cost of goods sold                      -      (910,586 )          58,197         (852,389 )
Direct service costs and
other(3)                         (265,582 )    (124,927 )         (16,024 )       (406,533 )
Stock compensation
expense(1)(3)                       4,470        10,970             2,957           18,397
Changes in fair value of
contingent consideration(1)            70           127                 -              197
Impairment of intangible
assets(1)                           4,800             -                 -            4,800
Less: non-controlling
interest segment profit
(loss)(2)                          (1,136 )           -               (11 )         (1,147 )

Segment profit (loss)         $    71,632   $    60,769   $       (15,575 ) $      116,826




--------------------------------------------------------------------------------

   º (1)
   º Stock compensation expense, changes in the fair value of contingent
     consideration recorded in relation to the acquisitions, and impairment of
     intangible assets are included in direct service costs and other operating
     expenses; however, these amounts are excluded from the computation of
     Segment Profit.

   º (2)
   º The non-controlling portion of AlphaCare's segment profit (loss) is
     excluded from the computation of Segment Profit.

   º (3)
   º Effective January 1, 2016, the Company implemented changes related to the
     allocation of Corporate operational and support functions. These changes
     were applied retrospectively. The

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     following tables summarize, for the periods indicated, the changes by
     business segment (in thousands):

                                             Pharmacy      Corporate and
                             Healthcare     Management      Elimination      Consolidated
Three Months Ended
June 30, 2015
Segment profit (loss)
before Corporate
allocations                 $     47,522   $     30,960   $       (25,315 ) $       53,167
Allocated Corporate costs        (17,280 )       (4,608 )          21,888                -
Allocated Corporate stock
compensation expense               1,290            323            (1,613 )              -

Segment profit (loss)       $     31,532   $     26,675   $        (5,040 ) $       53,167







                                             Pharmacy      Corporate and
                             Healthcare     Management      Elimination      Consolidated
Three Months Ended
June 30, 2016
Segment profit (loss)
before Corporate
allocations                 $     50,719   $     36,256   $       (30,081 ) $       56,894
Allocated Corporate costs        (17,661 )       (4,325 )          21,986                -
Allocated Corporate stock
compensation expense               1,364            341            (1,705 )              -

Segment profit (loss)       $     34,422   $     32,272   $        (9,800 ) $       56,894







                                             Pharmacy      Corporate and
                             Healthcare     Management      Elimination      Consolidated
Six Months Ended June 30,
2015
Segment profit (loss)
before Corporate
allocations                 $    115,470   $     55,465   $       (52,821 ) $      118,114
Allocated Corporate costs        (35,227 )       (9,293 )          44,520                -
Allocated Corporate stock
compensation expense               3,489            872            (4,361 )              -

Segment profit (loss)       $     83,732   $     47,044   $       (12,662 ) $      118,114







                                             Pharmacy      Corporate and
                             Healthcare     Management      Elimination      Consolidated
Six Months Ended June 30,
2016
Segment profit (loss)
before Corporate
allocations                 $    104,246   $     68,963   $       (56,383 ) $      116,826
Allocated Corporate costs        (35,302 )       (8,866 )          44,168                -
Allocated Corporate stock
compensation expense               2,688            672            (3,360 )              -

Segment profit (loss)       $     71,632   $     60,769   $       (15,575 ) $      116,826





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     The following table reconciles Segment Profit to income before income taxes
     (in thousands):

                                              Three Months Ended       Six Months Ended
                                                   June 30,                June 30,
                                               2015        2016        2015        2016
Segment profit                              $   53,167   $  56,894   $ 118,114   $ 116,826
Stock compensation expense                     (13,795 )    (9,510 )   (27,696 )   (18,397 )
Changes in fair value of contingent
consideration                                   (2,567 )      (463 )   (17,536 )      (197 )
Impairment of intangible assets                      -      (4,800 )         -      (4,800 )
Non-controlling interest segment profit
(loss)                                            (350 )    (1,312 )      (444 )    (1,147 )
Depreciation and amortization                  (25,022 )   (25,580 )   (48,518 )   (50,587 )
Interest expense                                (1,653 )    (1,994 )    (3,279 )    (3,742 )
Interest income                                    500         692         966       1,375

Income before income taxes                  $   10,280   $  13,927   $  21,607   $  39,331





Non-GAAP Measures

The Company reports its financial results in accordance with GAAP, however the Company's management also assesses business performance and makes business decisions regarding the Company's operations using certain non-GAAP measures. In addition to Segment Profit, as defined above, the Company also uses adjusted net income attributable to Magellan Health, Inc. ("Adjusted Net Income") and adjusted net income per common share attributable to Magellan Health, Inc. on a diluted basis ("Adjusted EPS"). 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. The Company believes these non-GAAP measures provide a more useful comparison of the Company's underlying business performance from period to period and are more representative of the earnings capacity of the Company. Non-GAAP financial measures we disclose, such as Segment Profit, Adjusted Net Income, and Adjusted EPS, should not be considered a substitute for, or superior to, financial measures determined or calculated in accordance with GAAP.

The following table reconciles Adjusted Net Income to net income attributable to Magellan Health, Inc. (in thousands):


                                              Three Months Ended       Six Months Ended
                                                   June 30,                June 30,
                                               2015         2016       2015        2016
Adjusted Net Income                         $    14,722   $ 14,351   $  39,106   $  33,780
Adjusted for acquisitions starting in
2013
Stock compensation relating to
acquisitions                                     (8,498 )   (4,556 )   (16,836 )    (9,112 )
Changes in fair value of contingent
consideration                                    (2,567 )     (463 )   (17,536 )      (197 )
Amortization of acquired intangibles             (5,260 )   (5,509 )    (9,643 )   (11,289 )
Impairment of intangible assets, net of
non-controlling interest                              -     (3,936 )         -      (3,936 )
Tax impact                                        6,246      4,071      16,840       7,949

Net income attributable to Magellan
Health, Inc.                                $     4,643   $  3,958   $  11,931   $  17,195





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The following table reconciles Adjusted EPS to net income per common share attributable to Magellan Health, Inc.-diluted:

                                                        Three Months         Six Months
                                                            Ended               Ended
                                                          June 30,            June 30,
                                                       2015      2016      2015      2016
Adjusted EPS                                          $  0.56   $  0.58   $  1.47   $  1.38
Adjusted for acquisitions starting in 2013
Stock compensation relating to acquisitions             (0.32 )   (0.19 )   (0.63 )   (0.37 )

Changes in fair value of contingent consideration (0.10 ) (0.02 ) (0.66 ) (0.01 ) Amortization of acquired intangibles

                    (0.20 )   (0.22 )   (0.36 )   (0.46 )
Impairment of intangible assets, net of
non-controlling interest                                    -     (0.16 )       -     (0.16 )
Tax impact                                               0.23      0.17      0.63      0.32

Net income per common share attributable to
Magellan Health, Inc.-diluted                         $  0.17   $  0.16   $  0.45   $  0.70




Quarter ended June 30, 2016 ("Current Year Quarter"), compared to the quarter ended June 30, 2015 ("Prior Year Quarter")

Healthcare

Net Revenue

Net revenue related to Healthcare decreased by 11.7 percent or $84.5 million from the Prior Year Quarter to the Current Year Quarter. The decrease in revenue is mainly due to terminated contracts of $168.0 million, unfavorable rate changes of $16.4 million, program changes of $5.9 million and other net unfavorable variances of $3.4 million (mainly related to favorable care trends and other net care variances). These decreases were partially offset by increased membership from existing customers of $73.9 million, contracts implemented after (or during) the Prior Year Quarter of $17.3 million, revenue for TMG acquired February 29, 2016 of $12.6 million, the revenue impact of unfavorable prior period medical claims development recorded in the Current Year Quarter of $3.0 million and the revenue impact of favorable prior period medical claims development recorded in the Prior Year Quarter of $2.4 million.

Cost of Care

Cost of care decreased by 16.9 percent or $95.8 million from the Prior Year Quarter to the Current Year Quarter. The decrease in cost of care is primarily due to terminated contracts of $150.4 million, lower care associated with unfavorable rate changes of $15.0 million, program changes of $4.8 million, net favorable prior period medical claims development recorded in the Current Year Quarter of $2.5 million and care trends and other net favorable variances of $4.9 million. These decreases were partially offset by increased membership from existing customers of $64.9 million, new contracts implemented after (or during) the Prior Year Quarter of $10.6 million and favorable prior period medical claims development recorded in the Prior Year Quarter of $6.3 million. For our commercial contracts, cost of care decreased as a percentage of risk revenue (excluding EAP business) from 84.2 percent in the Prior Year Quarter to 83.6 percent in the Current Year Quarter, mainly due to business mix. For our government contracts, cost of care decreased as a percentage of risk revenue (excluding EAP business) from 89.6 percent in the Prior Year Quarter to 87.1 percent in the Current Year Quarter, mainly due to business mix.


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Direct Service Costs

Direct service costs increased by 12.2 percent or $15.2 million from the Prior Year Quarter to the Current Year Quarter primarily due to cost related to TMG and the $4.8 million impairment of an intangible asset, partially offset by terminated contracts. Direct service costs increased as a percentage of revenue from 17.3 percent in the Prior Year Quarter to 21.9 percent in the Current Year Quarter, mainly due to business mix changes related to terminated contracts, the impairment of an intangible asset and the acquisition of TMG.

Pharmacy Management

Managed Care and Other Revenue

Managed care and other revenue related to Pharmacy Management increased by 15.2 percent or $8.2 million from the Prior Year Quarter to the Current Year Quarter. This increase is primarily due to increased rebate revenue of $4.4 million, government pharmacy revenue of $2.1 million, new contracts implemented after (or during) the Prior Year Quarter of $1.3 million and other net favorable variances of $0.4 million.

PBM and Dispensing Revenue

PBM and dispensing revenue related to Pharmacy Management increased by 21.1 percent or $86.5 million from the Prior Year Quarter to the Current Year Quarter. This increase is primarily due to new contracts implemented after (or during) the Prior Year Quarter of $71.8 million, pharmacy employer revenue of $12.3 million, pharmacy MCO revenue of $3.3 million and other net favorable variances of $1.3 million. These favorable variances were partially offset by net decreased dispensing activity from existing customers of $2.2 million.

Cost of Goods Sold

Cost of goods sold increased by 20.3 percent or $78.8 million from the Prior Year Quarter to the Current Year Quarter. This increase is primarily due to new contracts implemented after (or during) the Prior Year Quarter of $71.8 million, an increase in pharmacy employer of $7.7 million and pharmacy MCO of $3.8 million. These increases were partially offset by net decreased dispensing activity from existing customers of $2.7 million and other net favorable variances of $1.8 million. As a percentage of the portion of net revenue that relates to PBM and dispensing activity, cost of goods sold decreased from 94.7 percent in the Prior Year Quarter to 94.2 percent the Current Year Quarter, mainly due to business mix.

Direct Service Costs

Direct service costs increased by 5.0 percent or $3.0 million from the Prior Year Quarter to the Current Year Quarter mainly due contract implementation costs and ongoing costs to support new business, partially offset by a decrease in expense for fair value of contingent consideration and stock compensation. As a percentage of revenue, direct service costs decreased from 13.2 percent in the Prior Year Quarter to 11.6 percent in the Current Year Quarter, mainly due to the increase in revenue from business growth and the decrease in expense for fair value of contingent consideration and stock compensation.

Corporate and Elimination

Net expenses related to Corporate, which includes eliminations, increased by 66.7 percent or $4.5 million, primarily due to higher project cost, severance and higher benefit costs in the Current Year Quarter. As a percentage of revenue, corporate and elimination increased from 0.6 percent in the


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Prior Year Quarter to 1.0 percent in the Current Year Quarter, mainly due to higher project cost in the Current Year Quarter.

Depreciation and Amortization

Depreciation and amortization expense increased by 2.2 percent or $0.6 million from the Prior Year Quarter to the Current Year Quarter, primarily due to asset additions after the Prior Year Quarter and acquisition activity.

Interest Expense

Interest expense increased by $0.3 million from the Prior Year Quarter to the Current Year Quarter primarily due to an increase in interest rates and amount of outstanding debt.

Interest Income

Interest income increased by $0.2 million from the Prior Year Quarter to the Current Year Quarter primarily due to higher yields.

Income Taxes

The Company's effective income tax rates were 58.2 percent and 90.6 percent for the Prior Year Quarter and Current Year Quarter, respectively. The effective income tax rate for the Current Year Quarter differs from the Prior Year Quarter mainly due to valuation allowance increases in 2016 with respect to losses at AlphaCare.

Six months ended June 30, 2016 ("Current Year Period"), compared to the six months ended June 30, 2015 ("Prior Year Period")

Healthcare

Net Revenue

Net revenue related to Healthcare decreased by 11.6 percent or $165.2 million from the Prior Year Period to the Current Year Period. The decrease in revenue is mainly due to terminated contracts of $332.3 million, unfavorable rate changes of $31.1 million, program changes of $11.8 million and other net unfavorable variances of $11.8 million (mainly related to favorable care trends and other net care variances). These decreases were partially offset by increased membership from existing customers of $158.7 million, contracts implemented after (or during) the Prior Year Period of $34.9 million, revenue for TMG acquired February 29, 2016 of $16.7 million, unfavorable retroactive rate adjustments in the Prior Year Period of $3.3 million, favorable retroactive rate adjustments in the Current Year Period of $3.3 million, the revenue impact of favorable prior period medical claims development recorded in the Prior Year Period of $2.7 million and the revenue impact of unfavorable prior period medical claims development recorded in the Current Year Period of $2.2 million.

Cost of Care

Cost of care decreased by 14.7 percent or $160.5 million from the Prior Year Period to the Current Year Period. The decrease in cost of care is primarily due to terminated contracts of $287.3 million, lower care associated with unfavorable rate changes of $31.3 million, program changes of $8.7 million, net favorable prior period medical claims development recorded in the Current Year Period of $1.9 million and care trends and other net favorable variances of $11.5 million. These decreases were partially offset by increased membership from existing customers of $135.2 million, favorable prior period medical claims development recorded in the Prior Year Period of $24.1 million and new contracts implemented after (or during) the Prior Year Period of $20.9 million. For our commercial


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contracts, cost of care increased as a percentage of risk revenue (excluding EAP business) from 82.7 percent in the Prior Year Period to 84.0 percent in the Current Year Period, mainly due to favorable care development in the Prior Year Period and business mix. For our government contracts, cost of care decreased as a percentage of risk revenue (excluding EAP business) from 87.4 percent in the Prior Year Period to 86.0 percent in the Current Year Period, mainly due to retroactive rate adjustments in the Prior Year Period and Current Year Period.

Direct Service Costs

Direct service costs increased by 4.9 percent or $12.3 million from the Prior Year Period to the Current Year Period primarily due to the $4.8 million impairment of an intangible asset and costs related to TMG, partially offset by terminated contracts. Direct service costs increased as a percentage of revenue from 17.8 percent in the Prior Year Period to 21.1 percent in the Current Year Period, mainly due to the impairment of an intangible asset and costs related to TMG, partially offset by terminated contracts.

Pharmacy Management

Managed Care and Other Revenue

Managed care and other revenue related to Pharmacy Management increased by 16.2 percent or $16.7 million from the Prior Year Period to the Current Year Period. This increase is primarily due to increased rebate revenue of $8.5 million, new contracts implemented after (or during) the Prior Year Period of $5.0 million and government pharmacy revenue of $5.0 million. These increases were partially offset by other net unfavorable variances of $1.8 million.

PBM and Dispensing Revenue

PBM and dispensing revenue related to Pharmacy Management increased by 44.6 percent or $297.9 million from the Prior Year Period to the Current Year Period. This increase is primarily due to new contracts implemented after (or during) the Prior Year Period of $126.7 million, revenue for 4D acquired on April 1, 2015 of $107.5 million, pharmacy employer revenue of $37.6 million, pharmacy MCO revenue of $22.5 million and net increased dispensing activity from existing customers of $3.9 million. These increases were partially offset by other net unfavorable variances of $0.3 million.

Cost of Goods Sold

Cost of goods sold increased by 44.2 percent or $279.2 million from the Prior Year Period to the Current Year Period. This increase is primarily due to new contracts implemented after (or during) the Prior Year Period of $127.2 million, 4D acquired April 1, 2015 of $103.9 million, an increase in pharmacy employer of $25.9 million, pharmacy MCO of $22.8 million, and net increased dispensing activity from existing customers of $1.7 million. These increases were partially offset by other net favorable variances of $2.3 million. As a percentage of the portion of net revenue that relates to PBM and dispensing activity, cost of goods sold decreased from 94.6 percent in the Prior Year Period to 94.3 percent the Current Year Period, mainly due to business mix.

Direct Service Costs

Direct service costs decreased by 3.4 percent or $4.3 million from the Prior Year Period to the Current Year Period. This decrease mainly relates to changes in the fair value of contingent consideration related to the CDMI and 4D acquisitions of $17.2 million in the Prior Year Period and lower stock compensation expense of $8.8 million, which decreases were partially offset by additional costs from the acquisition of 4D, contract implementation costs and ongoing costs to support new business. As a percentage of revenue, direct service costs decreased from 16.8 percent in the Prior Year


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Period to 11.5 percent in the Current Year Period, mainly due to the decrease in expense for fair value of contingent consideration and stock compensation expense, partially offset by the increase in revenue from business growth and acquisition activity.

Corporate and Elimination

Net expenses related to Corporate, which includes eliminations, increased by 18.2 percent or $2.9 million, primarily due to higher project costs in the Current Year Period. As a percentage of revenue, corporate and elimination was 0.7 percent which was consistent with the Prior Year Period.

Depreciation and Amortization

Depreciation and amortization expense increased by 4.3 percent or $2.1 million from the Prior Year Period to the Current Year Period, primarily due to asset additions after the Prior Year Period and acquisition activity.

Interest Expense

Interest expense increased by $0.5 million from the Prior Year Period to the Currently Year Period mainly due to an increase in interest rates and amount of outstanding debt.

Interest Income

Interest income increased by $0.4 million from the Prior Year Period to the Current Year Period primarily due to higher yields.

Income Taxes

The Company's effective income tax rates were 46.8 percent and 62.6 percent for the Prior Year Period and Current Year Period, respectively. The effective income tax rate for the Current Year Period differs from the Prior Year Period mainly due to valuation allowance increases in 2016 with respect to losses at AlphaCare.

Outlook-Results of Operations

The Company's Segment Profit and net income are subject to significant fluctuations from period to period. These fluctuations may result from a variety of factors such as those set forth under Item 2-"Forward-Looking Statements" as well as a variety of other factors including: (i) changes in utilization levels by enrolled members of the Company's risk-based and other pharmacy contracts, including seasonal utilization patterns; (ii) contractual adjustments and settlements; (iii) retrospective membership adjustments; (iv) timing of implementation of new contracts, enrollment changes and contract terminations; (v) pricing adjustments upon contract renewals (and price competition in general); (vi) the timing of acquisitions; (vii) changes in estimates regarding medical costs and IBNR; and (viii) changes in the estimates of contingent consideration.

A portion of the Company's business is subject to rising care costs due to an increase in the number and frequency of covered members seeking healthcare services and higher costs of such services. Many of these factors are beyond the Company's control. Future results of operations will be heavily dependent on management's ability to obtain customer rate increases that are consistent with care cost increases and/or to reduce operating expenses.

Care Trends. The Company expects that same-store normalized cost of care trend for the 12 month forward outlook to be 3 to 7 percent for commercial products and 0 to 2 percent for government business.


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Interest Rate Risk. Changes in interest rates affect interest income earned on the Company's cash equivalents and investments, as well as interest expense on variable interest rate borrowings under the Company's 2014 Credit Facility and 2016 Credit Facility (collectively, the "Credit Facilities"). Based on the amount of cash equivalents and investments and the borrowing levels under the Credit Facilities as of June 30, 2016, a hypothetical 10 percent increase or decrease in the interest rate associated with these instruments, with all other variables held constant, would not materially affect the Company's future earnings and cash outflows.

Historical-Liquidity and Capital Resources

Operating Activities. The Company reported net cash provided by operating activities of $112.7 million for the Prior Year Period and net cash used by operating activities of $66.2 million for the Current Year Period. The $178.9 million decrease in operating cash flows from the Prior Year Period is attributable to a net shift of restricted funds between cash and investments that results in an operating cash flow change that is directly offset by an investing cash flow change, unfavorable working capital changes, an increase in tax payments, and a decrease in Segment Profit between years.

Restricted cash of $63.2 million in the Prior Year Period was shifted to restricted investments that increased operating cash flows. Restricted cash of $31.4 million in the Current Year Period was shifted from restricted investments that decreased operating cash flows. The net impact of the shift in restricted funds between periods is a decrease in operating cash flows of $94.6 million.

The net unfavorable impact of working capital changes between periods totaled $81.3 million. For the Prior Year Period, operating cash flows were impacted by net unfavorable working capital changes of $37.3 million, which were largely attributable to timing of discretionary bonus activity and an increase in accounts receivable, partially offset by the collection of HIF fee receivables. For the Current Year Period, operating cash flows were impacted by net unfavorable working capital changes of $118.6 million, which were largely attributable to contingent consideration payments of $91.1 million, of which $51.1 million is reflected as operating activities, and receivables of $55.0 million from our Medicare Part D business. Tax payments for the Current Year Period totaled $33.0 million, which represents an increase of $1.7 million from the Prior Year Period. Segment Profit for Current Year Period decreased $1.3 million from the Prior Year Period.

During the Current Year Period, the Company had a restricted cash flow source of $53.5 million. The change in restricted cash is attributable to the net decrease in restricted cash of $82.9 million associated with the Company's regulated entities and other net decreases of $2.0 million, which were partially offset by the net shift of restricted cash of $31.4 million from restricted investments. The net change in restricted cash for the Company's regulated entities is attributable to a net decrease in restricted cash requirements of $3.1 million that resulted in an operating cash flow source, and a net decrease in restricted cash of $79.8 million that is offset by changes in other assets and liabilities, primarily accounts receivable, accrued liabilities, medical claims payable and accrued taxes.

Investing Activities. The Company utilized $37.7 million and $30.5 million during the Prior Year Period and Current Year Period, respectively, for capital expenditures. The additions related to hard assets (equipment, furniture, and leaseholds) and capitalized software for the Prior Year Period were $13.2 million and $24.5 million, respectively, as compared to additions for the Current Year Period related to hard assets and capitalized software of $7.8 million and $22.7 million, respectively.

During the Prior Year Period the Company used net cash of $77.4 million for the net purchase of "available-for-sale" securities, with the Company receiving net cash of $35.7 million during the Current Year Period from the net maturity of "available-for-sale" securities. In addition, during the Prior Year Period, the Company used net cash of $13.6 million and $42.4 million for the acquisition of HSM Physical Health and 4D, respectively. During the Current Year Period, the Company used net cash of


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$16.5 million for the acquisition of TMG partially offset by a working capital adjustment of $0.5 million related to the acquisition of 4D.

Financing Activities. During the Prior Year Period, the Company paid $68.8 million for the repurchase of treasury stock under the Company's share repurchase program, $6.3 million on debt obligations and $2.0 million on capital lease obligations. The Company made a contingent consideration payment totaling $5.0 million of which $4.4 million was related to financing activities. In addition, the Company received $49.2 million from the exercise of stock options and had other net favorable items of $3.1 million.

During the Current Year Period, the Company paid $25.5 million for the repurchase of treasury stock under the Company's share repurchase program, $6.3 million on debt obligations, and $3.1 million on capital lease obligations. The Company made contingent consideration payments totaling $91.1 million, of which $40.0 million was related to financing activities. In addition, the Company received $225.0 million from the issuance of debt, $9.7 million from the exercise of stock options, and other net favorable items of $0.5 million.

Outlook-Liquidity and Capital Resources

Liquidity. During the remainder of 2016, the Company will have estimated capital expenditures of between $32.5 million and $42.5 million. In addition, the Company anticipates working capital increases for 2016 of approximately $100 million, mainly for receivables from CMS and other parties related to our Part D business. As of July 22, 2016, due to the timing of working capital needs, the Company borrowed a net total of $50.0 million of the $250.0 million of revolving loans available under the 2014 Credit Facility. The Company may have to draw on the 2014 Credit Facility to the extent that the anticipated timing of receivables, payables or share repurchases changes during the year. The Company currently expects to have adequate liquidity to satisfy its existing financial commitments over the periods in which they will become due. The Company plans to maintain its current investment strategy of investing in a diversified, high quality, liquid portfolio of investments and continues to closely monitor the situation in the financial markets. The Company estimates that it has no risk of any material permanent loss on its investment portfolio; however, there can be no assurance that the Company will not experience any such losses in the future.

Stock Repurchases. On October 26, 2015, the Company's board of directors approved a stock repurchase plan which authorized the Company to purchase up to $200 million of its outstanding common stock through October 26, 2017. See Note D-"Commitments and Contingencies" for more information on the Company's share repurchase program.

Off-Balance Sheet Arrangements. As of June 30, 2016, the Company has no material off-balance sheet arrangements.

Credit Facilities. On July 23, 2014, the Company entered into a $500.0 million Credit Agreement with various lenders that provides for Magellan Rx Management, Inc. (a wholly owned subsidiary of Magellan Health, Inc.) to borrow up to $250.0 million of revolving loans, with a sublimit of up to $70.0 million for the issuance of letters of credit for the account of the Company, and a term loan in an original aggregate principal amount of $250.0 million. On December 2, 2015, the Company entered into an amendment to the 2014 Credit Facility under which Magellan Pharmacy Services, Inc. (a wholly owned subsidiary of Magellan Health, Inc.) became a party to the $500.0 million Credit Agreement as the borrower and assumed all of the obligations of Magellan Rx Management, Inc. The 2014 Credit Facility is guaranteed by substantially all of the non-regulated subsidiaries of the Company and will mature on July 23, 2019, however, the Company holds an option to extend the 2014 Credit Facility for an additional one year period.


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On June 27, 2016, the Company entered into a $200.0 million Credit Agreement with various lenders that provides for a $200.0 million term loan to Magellan Pharmacy Services, Inc. The 2016 Credit Facility is guaranteed by substantially all of the non-regulated subsidiaries of the Company and will mature on December 29, 2017.

See Note A-"General" for more information on the Credit Facilities.

Restrictive Covenants in Debt Agreements. The Credit Facilities contain covenants that potentially limit management's discretion in operating the Company's business by, in certain circumstances, restricting or limiting the Company's ability, among other things, to:

        º •
        º incur or guarantee additional indebtedness or issue preferred or
          redeemable stock;

        º •
        º pay dividends and make other distributions;

        º •
        º repurchase equity interests;

        º •
        º make certain advances, investments and loans;

        º •
        º enter into sale and leaseback transactions;

        º •
        º create liens;

        º •
        º sell and otherwise dispose of assets;

        º •
        º acquire or merge or consolidate with another company; and

        º •
        º enter into some types of transactions with affiliates.

These restrictions could adversely affect the Company's ability to finance future operations or capital needs or engage in other business activities that may be in the Company's interest.

The Credit Facilities also require the Company to comply with specified financial ratios and tests. Failure to do so, unless waived by the lenders under the Credit Facilities pursuant to its terms, would result in an event of default under the Credit Facilities.

© Edgar Online, source Glimpses

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Financials ($)
Sales 2016 4 722 M
EBIT 2016 127 M
Net income 2016 64,7 M
Debt 2016 324 M
Yield 2016 -
P/E ratio 2016 25,94
P/E ratio 2017 20,20
EV / Sales 2016 0,43x
EV / Sales 2017 0,43x
Capitalization 1 695 M
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Mean consensus HOLD
Number of Analysts 6
Average target price 70,5 $
Spread / Average Target 3,0%
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Barry M. Smith Chairman & Chief Executive Officer
Jonathan N. Rubin Chief Financial Officer & Executive Vice President
Gary D. Anderson Chief Information Officer
Karen Amstutz Chief Medical Officer
Srinivas Koushik Chief Technology Officer
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