Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Executives

Herbert Fritch – Chairman and Chief Executive Officer

Kevin McNamara – Chief Financial Officer

Analysts

Josh Raskin - Barclays Capital

Charles Boorady – Citigroup

Justin Lake with UBS

Carl McDonald – Oppenheimer & Co

Daryn Miller - Goldman Sachs

Matt Perry – Wachovia Capital Markets

Presentation

HealthSpring, Inc. (HS-OLD) Q4 2008 Earnings Call February 10, 2009 5:00 PM ET

Operator

Good morning and welcome to the HealthSpring Conference Call to review its financial results for the fourth quarter and year ended December 31, 2008. The financial results were issued after the close of market trading today. If you did not receive a copy of the press release, you may find a copy under the Investor Relations tab on the HealthSpring website, which is www.healthspring.com.

Before we begin, HealthSpring wishes to express that some statements made in this call will be forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Actual results of the company may differ from that projected in such statements. Investors should refer to the statements regularly filed by the company with the Securities and Exchange Commission for a discussion of those factors that could affect the company's operations and the forward-looking statements made in this call.

The information being provided today is as of this date only, and HealthSpring expressly disclaims any obligation to release publicly any updates or revisions to these forward-looking statements to reflect any changes in expectations. In addition, certain non-GAAP financial measures may be covered in this presentation. These non-GAAP measures are reconciled to the most comparable GAAP measures in the press release, or on the company's website. At this time, I'll turn the call over to Mr. Herbert Fritch, Chairman and Chief Executive Officer of HealthSpring.

Herbert Fritch

Welcome to our 2008 fourth quarter and year end conference call. We are pleased to report another good quarter and to close what we think was a very strong 2008. Our total revenue and net income for the year were just under $2.2 billion and $119 million respectively. These numbers were 39% and 38% above the year before. We began the year with an earnings per share guidance range of $1.75 to $1.90, raised it three times during the year, and today we’re reporting EPS of $2.12 which is within our most recent guidance of $2.10 to $2.20.

These gains are even impressive when viewed in light of our poor and unexpected performance in our PDP business, beginning of the year member losses from exited counties in Alabama and product changes in Tennessee, and unanticipated medical trends experienced in our south Florida health plan. I’d like to spend some time discussing the many things that went right and few that went wrong in 2008 and how this positions us well for 2009 and beyond.

Our biggest disappointment in 2008 was significantly lower margins in our standalone PDP business. We believe that we now have a more complete understanding of what went wrong. As we’ve discussed in the past, the bids for all of our businesses rely primarily on data that’s up to 2 years old by the time the plan year begins. Thus, our 2008 PDP bids were based upon 2006 information. In 2006, we only had PDP auto-assigned members in 4 of the 34 CMS regions as compared to 2008 when we had auto-assigned memberships in 31 of these regions.

In hindsight, the assumption on our part that membership patterns across all of the Cardiomediastinal silhouette regions would be the same was faulty. In Part D, the bulk of the plans responsibility for prescription drug expense is concentrated early in the year. Yet, we are paid the same amount each month throughout the year. Thus, for an average member, our profitability increases with the number of months they are enrolled with us.

What we found in 2008, however, was that our membership additions and membership attrition during the year were significantly higher than expected. Thus, we had a much higher percentage of our membership in 2008 that was enrolled with us for far less than a total year, in essence not allowing us to catch up to our profitability assumptions. This had a significant impact on our PDP MLRs and overall PDP profitability in 2008.

Fortunately, our 2009 PDP bid submissions were based upon 2007 data. In 2007, we were below benchmarks in 29 of the 34 regions and experienced more of the membership that we saw in 2008. In addition, CMS implemented a new process in 2009 to facilitate better data exchange between plans on these members moving in and out. This data should allow us to better capture the historical drug spend of members added in year and where they are in relation to the Part D coverage phases. This should result in more accurate allocation of costs between the member, the plan, and the government going forward. We expect that in 2009, our MLRs and operating margins will be much closer to our bid amounts which should result in a significant improvement from 2008 actual results.

Another area of focus in 2009 will be improving the results of our Florida Health Plan. The medical trends and inpatient utilization metrics in 2008 in Florida were significantly higher than they were in prior years. We expect that part of this year’s disappointment will be corrected through the base rate premium increases in 2009 for the Florida Plan in excess of 13%.

Plan recontracting efforts with hospitals have been underway over the past six months, and the early results are positive. Our corporate medical management teams have also engaged with the health plan at Leon Medical Center’s medical management leadership and are meeting regularly to implement new care management protocols. In addition, Leon Medical Center has made some changes including expanded Saturday and Sunday hours and new point of care diagnostic testing capabilities which should have a positive impact on inpatient utilization.

Moving on to the positives of 2008, I’m proud of the management depth we added in 2008. Mike Mirt who joined us in November as our president is already making a positive contribution. His keen understanding of managed care operations has made his transition to president a smooth one. Mike is just one example of the team we now have on board to address the coming changes to Medicare Advantage. I know many of you are also waiting for an update on our progress toward finding a replacement for Kevin as our CFO. We have engaged in a national search for him to direct the process. We hope to have Kevin’s replacement in the next few months.

We also made progress in 2008 in expanding our innovative delivery system models. We now have three living well centers up and running, one of which has on-site pharmacy capabilities. These centers are our version of the advanced medical home tailored to a senior population. Our partnership for quality program now effectively covers about 35% of our membership and should represent over 50% in 2009. The success of these models in driving better outcomes for patient and some enhanced financial reimbursement for primary care physicians has caught the attention of several large medical groups, and these groups are driving our expansion in 2009 and our plans for 2010.

The 2009 open enrolment period has been a very good one for HealthSpring. It seems that products like ours which can save seniors money are becoming increasingly attractive in the current economic environment. Despite the marketing and sales restrictions brought about the recent legislation, we’re pleased to report MA membership from our February plan payment report of 169,491. Our gross sales in the open enrolment were a record for our company. You will note that many of these changes have required some additional investments which are being reflected in higher selling, general, and administrative expenses during the fourth quarter.

In addition to the management hires and expected increases in advertising spend in the fourth quarter due to open enrolment, we expanded the infrastructure supporting our partnership for quality program further internalized our disease management and mental health capabilities and built the teams for expansion markets. While many of these initiatives are certainly not one time in nature, we believe that these investments will pay off in 2009, and we have set as one of our priorities to derive further efficiencies out of our operations on a go-forward basis.

Concerning developments in Washington, I like many of you was moved by the historic nature of the recent presidential inauguration. Regardless of who leads the Department of Health and Human Services, who directs CMS, or who leads the debate over healthcare reform, I believe that HealthSpring is a model for solving Medicare’s looming financial issues driven by the baby boomers reaching Medicare eligibility. In many conversations with members of Congress and key healthcare leaders, they’ve been struck with the innovation of our model of care delivery. Whatever solution prevails, we expect all plans will be paid the same and will have to compete for beneficiaries on a level playing field. Tightly managed coordinated care models like ours should be able to provide better benefits than our competitors and certainly better than Medicare fee for service.

Before I pass the call over to Kevin, I want to briefly discuss a few pieces of our guidance for 2009. The strong financial results of 2008 are setting up a very challenging comparison for 2009. For one, approximately $0.24 of our 2008 EPS came from risk-adjusted payments associated with 2007 plan year. We have invested considerable resources 2008 to better estimate and accrue for these payments within the plan year, as our assumption is that any out of period risk adjustment in 2009 will be substantially less than in prior years. For comparative purposes, this creates a 2008 EPS run rate of $1.88 going into 2009. Our 2009 EPS guidance of $2.00 to $2.20 implies growth of 6% to 17% over the adjusted 2008 earnings.

Driving this increase is MA membership growth of 9-12% and significant improvement in our PDP operations in 2009. The PDP MLR guidance of 86-87% is an improvement of 260 to 360 basis points versus 2008. Offsetting these improvements is an erosion in our MA MLR of 140 to 240 basis points to 80.5 to 81.5. This erosion is caused by premium increases of 5.5-6.5% being more than offset by projected medical trends of 8.5 to 9.5%. The increase in premiums is significantly less than it was in 2008. Every other year, CMS recalibrates the codes underlying members’ risk scores, and it typically has a negative effect on our premium increases for the year. 2009 happens to be one of those years. In fact, Florida benchmark rate increases over 13% are a significant factor in the premium increases being even as high as it is. Our other markets have much lower assumed premium increases. We hope that our network advantage and improvements in Florida drive this medical trend lower, but for now, we are not building it into our guidance.

With that, I’d like to turn the call over to Kevin.

Kevin McNamara

We were pleased with our performance for the quarter and the year including our reported quarterly net income of $28.3 million or $0.51 per share, an increase of 11% compared to the 2007 fourth quarter EPS of $0.46.

Before I review the specifics and discuss guidance, I would like to highlight a convention I’m going to use in reviewing the results. As we have highlighted in the past, results for both 2007 and 2008 include significant out of period risk adjustment settlement payments. These payments have an impact on premiums, medical expenses, and ultimately net income and earnings per share. In discussing the full year details, I’m going to give both as reported and as adjusted statistics. The as-adjusted statistics attempt to place the risk adjustment premiums and associated medical expenses in the appropriate period. As Herb indicated, this information will be the basis for comparison for all elements of our 2009 guidance, as we believe that the magnitude of these out of period payment should diminish significantly in 2009. We’ve spent the last few years improving our ability to estimate and accrue for these payments in the appropriate period.

Moving to the specifics, we reported 162,082 Medicare Advantage members at the end of the fourth quarter reflecting year-to-year growth of 5.8%. Approximately 2700 of members are from the inclusion of our recently acquired Valley Baptist Plans in the fourth quarter of 2008. Growth during the lock-in period of 2008 was significantly better than we expected. During the fourth quarter, we added approximately 3100 new members, excluding Valley Baptist, as compared to 600 during the fourth quarter of 2007, not including Florida.

As Herb mentioned during his remarks, the 2009 open enrolment has been a strong one for us. Our February plan payment report reflected MA membership of 169,491. This should serve as a good proxy for our January 2009 membership. PDP membership at year end of 282,429 is up 103%, and despite losing seven of our PDP regions in 2009, our PDP membership for the February report is 282,959.

Total revenue in the fourth quarter was $540.8 million, an increase of $72.3 million, or 15.4% versus the prior year fourth quarter. Medicare Advantage revenue was up 13.1% or $54.6 million to $472.1 million. Primary drivers of this increase were an increase in the member months and MA premium PMPMs. For the three months, MA premiums PMPM increased 7% year-over-year to $976.58. For the year as reported MA premiums PMPM were $1001.87, an increase of 15.4% year over year, or 12% if you annualize Florida in our 2007 results. Adjusting for out of period risk, 2008 as adjusted MA premiums PMPM were $986.14, an increase of 12.4% from $877.47 in 2007, and again annualizing Florida, this increase was 9.3% as adjusted.

PDP premiums were $56.4 million in the fourth quarter of 2008, an increase of $27.7 million or 96.7% versus the fourth quarter of 2007. This increase was driven primiarily by higher PDP membership. For the full year, PDP premiums PMPM were $82.92, an increase of 3.7% over 2007. Please remember that quarter-to-quarter and year-to-year percentage changes in PDP PMPMs are significantly affected by risk corridor adjustments.

Fee revenue for the quarter increased $2.5 million, as compared to the fourth quarter of last year. This increase was primarily the result of higher premiums and management fees associated with IPAs that have come online since last year.

Investment income was down 48.9% or $2.9 million in the quarter due to the significant decrease in investment yields and the refunding of $111.5 million in final 2007 Part D settlements. Total medical expense in the quarter was $415.8 million, an increase of $57.6 million, or 16.1% versus the prior year's quarter. With respect to the components and the relative metrics, MA medical expense was $372.3 million, an increase of $46.3 million, or 14.2% versus the comparable prior year quarter. MA medical expense PMPMs were up 8.4% over 2007 to $770.11.

For he full year, as reported MA medical expense PMPMs were $784.81, an increase of 13.4% year over year. As adjusted for out of period risk, full year MA medical PMPMs increased 12.3% to $780.40 versus $695.22 in 2007. This increase was 8.8% if you annualize Florida in 2007.

The MA MLR was 78.9% for the current quarter versus the prior year's 78.1%. The erosion year to year was primarily the result of risk adjustment accruals in Q4 ’07 which exceeded those of Q4 ’08 as a percentage of MA premiums. As a reminder, the fourth quarter of 2007 includes the full year accrual for the final settlement risk adjustment payment. This was the first quarter in which we accrued for such payments. For the year, the as reported MA MLR was 78.3% as compared to 79.7% in 2007. Adjusting for out of period risk adjustment, the 2008 MA MLR of 79.1% was essentially flat year over year. This was despite significant erosion in our MAPD MLR year over year.

PDP MLR in the 2008 fourth quarter decreased to 75.8% versus a year ago 78.7%. For the year, the PDP MLR was 89.6% versus 86.3% in 2007. Herb reviewed the details for this erosion. Total contribution from our PDP business in calendar year 2008 did improve versus 2007; however, the erosion in margins did cause this portion of our business to fall well short of our plan as outlined at the beginning of the year. Fortunately, outperformance in the rest of our business has more than made up for this miss.

SG&A expenses for the quarter were $68.8 million, an increase of $13.9 million or 25.4% versus the prior year. SG&A expense increased 100 basis points to 12.7 as a percentage of total revenue in the 2008 fourth quarter, compared to 11.7% in the fourth quarter of 2008 primarily as a result of increases in selling costs both advertising and broker commissions and printing and postage costs. Advertising costs are up in the current year partially as a result of the company’s response new rules which no longer permit unsolicited phone contact to potential members. Increases in printing and postage principally relate to our print communications to our existing MA and PDP members associated with the 2009 annual enrolment period. Sequentially, $9.4 million of the $10.1 million increase in SG&A was the result of higher advertising and printing and postage costs in the current quarter. Let me reiterate that we expect SG&A to remain seasonally weighted to the first and fourth quarters, as a result of the marketing cost associated with the shortened open enrollment period. Our internal target for SG&A is 11% of revenue in 2009. As Herb indicated, our SG&A expenses in 2009 will include costs of in-house mental health and disease management services. These amounts would have been reflected in medical costs under capitation arrangements with third party providers in historical periods.

Moving to the items below the line, depreciation and amortization expense in the 2008 fourth quarter was essentially flat versus the 2007 fourth quarter at $7.3 million. For the year, depression and amortization increased $12.3 million in 2008 as a result of increases in amortization of intangible assets related to the LMC Health Plans acquisition.

Interest expense in the 2008 fourth quarter was $4.6 million, a decrease of $2.5 million from the 2007 fourth quarter as a result of lower average debt balance and reduced interest rates in 2008. For the year, interest expense increased by $11.7 million over 2007. This was the result of having a full year of LMC Health Plans acquisition debt in 2008 versus only three months in 2007. We continue to expect that the interest rate environment will remain at these depressed levels which will be reflected in lower interest rates for investments and debt in 2009 than in 2008.

During the quarter, we repurchased approximately 1.2 million shares of our stock. This brings our total repurchase activity to $47.3 million. This leaves us with only $2.7 million remaining on our current repurchase authorization of $50 million. We have no current plans to amend our credit facility to allow us to repurchase more than this $50 million authorization.

Moving to the bottom line, net income in the 2008 fourth quarter was $28.3 million or $0.51 per diluted share. This represents increases of 8% and 10.9% respectively over the fourth quarter of 2007. For the year, as reported net income was $119 million or $2.12 per diluted share, reflecting increases of 37.6% and 40.4% respectively over 2007. As adjusted for out of period risk adjustments, EPS was $1.88 per diluted share.

Moving to the balance sheet and cash flow, our balance sheet at December 31, 2008, reflected cash and cash equivalents of $282.2 million. Unregulated cash was $31.4 million. Funds held for the benefit of Part D members at December 31, 2008, consisted of a $40.2 million current asset, compared to a current liability of $82.2 million at December 31, 2007. I will expound upon this change more in just a moment.

Days claims payable were 41 days at the end of 2008, compared with 39 at the end of the 2007. Total debt outstanding was $268 million at year end 2008. In 2008, cash flow from operations increased $89.7 million to $162.4 million, or 1.4 times net income, compared with $72.7 million or 0.8 times net income for the year ended December 31, 2007. In addition to the $32.5 million increase in net income, the main drivers of this favorable variance in the current year were, one, the current year increase in non-cash amortization expense related to the LMC Health Plans acquisition in ’07; two, the timing of cash receipts for risk settlement premium and risk corridor settlements with CMS and other receivables; three, medical claims liability increasing in the current year generally in ling with the increase in both MA and PDP member months; and four, the timing of payments for incentive compensation. We continue to expect our annual statistic for cash for operations to exceed 1 times net income, absent the unusual and unforeseen timing of significant amounts of cash received or paid related to settlements with CMS.

I would also like to point out that our total cash flow in 2008 related to the Part D subsides CMS for Part D members, which we refer to as funds held for the benefit of members on our balance sheet and cash flow statement, was a net cash outflow of $122.4 million. This use of cash the results of our settling in the fourth quarter with CMS for the 2000 plan year, a year in which CMS overfunded such subsidy amounts to us. This coupled with our underperformance in the current year, which resulted in an underfunded status, has required us to use our internal cash to pay pharmacy claims which should have covered by the CMS subsidy amounts. This fourth quarter settlement with CMS was the primary reason for the sequential decline in our cash balance from the third quarter of ’08. We ended 2008 with a $40 million receivable from CMS for the recoupment of these subsidy amounts. We expect to collect these funds from CMS late in 2009. We expect that any shortfall or excess subsidy amounts in 2009 and future years will be less significant than in prior years.

Lastly, moving to 2009 guidance, our earnings per share guidance in 2009 is $2.00 to $2.20. This represents growth of 6-17% versus adjusted 2008 EPS of $1.88. Major components of this guidance include MA membership of 177,000 to 182,000, an increase of 9-12% versus 2008; PDP membership of 320,000 to 330,000, an increase of 13-17% over 2008; total revenue of $2.5 to $2.6 billion, growth of 14-19% versus 2008; PDP premiums PMPM increases of 8-9%, MAPD MLR of 80.5-81.5%, a PDP MLR of 86-87%. This improvement of 260 to 360 basis points implies prescription drug cost trends of 4 to 5%. The PDP MLR in 2009 should continue to follow our historical seasonal pattern improvement throughout the year, and SG&A as a percentage of total revenue of approximately 11%. We do not expect increases in interest rates in 2009. This will be reflected in lower investment yields on our invested cash balances in 2009 and corresponding lower interest rates on a diminished debt load in 2009. Our 2009 tax rate we are estimating at 36.5%, and average shares outstanding of 55.3 million in 2009. This share count reflects the inclusion of 2.7 million shares in the fourth quarter of 2009 related to the LMC Health Plans acquisition. As a reminder, these shares are being held in escrow pending the opening of two additional Leon Medical Centers.

Operator, that concludes our prepared remarks. We can now open the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions). We will go first to Josh Raskin with Barclays Capital.

Josh Raskin - Barclays Capital

My first question is on the MA MLR. You talked about the 80.5 to 81.5 over even 79 points in terms of the adjusted number, and you talked about cost trends coming in higher than the yield and some of that had to do with the CMS risk adjustment re-basing, but my understanding is that’s provided in the 45-day notice at the end of February, and then confirmed in the April call letter, and that’s also a couple of months before your bids are due in June, so I’m just curious what happened, or was this targeted MA MLR increases for 2009?

Herbert Fritch

No. I think the rebasing basically cost us about 3.5%, and we anticipated some of that but not all of that in the bid process.

Josh Raskin - Barclays Capital

The rebasing, wasn’t that known in the 45-day notice? Don’t you usually get that? I think it was February 20th or so?

Herbert Fritch

I think the specific factors are. I think they come out later, and it just remains to be seen based on your weighting of the different HCCs you have in your population.

Josh Raskin - Barclays Capital

It may have been more of a mix issue with your membership as opposed to…

Herbert Fritch

Not exactly. You really don’t find that out till later. I think you just get the base rates assuming standard or constant risk factors in the April notice.

Josh Raskin - Barclays Capital

So, all else being equal, if you’re thinking about this coming June, is the attempt to the get the MLRs in MA back to’08 levels or is this a new run rate that you guys feel comfortable with?

Herbert Fritch

No. I think the way this is playing out we won’t have that head wind on our rate increases, and I think the goal is going to be to get the MLRs and margins back to ’08 levels for 2010.

Kevin McNamara

Let me clarify there. What’ve said since going public, and we’ll continue to do is we target the business around an 80 MLR, and so I just want to make sure we stay on an 80 MLR. We don’t ever target bids that are 79.1 MLR or 79 MLR.

Josh Raskin - Barclays Capital

Right, but sort of if you are sort of at the 81 range, then you would.

Kevin McNamara

Correct.

Josh Raskin - Barclays Capital

You mentioned in the press release higher inpatient costs in the fourth quarter of the utilization side. Any specific comments around that, geographies or what that was from?

Herbert Fritch

What it amounted to is we expect October to be a pretty bad month than it was, but we usually see some favorable seasonal offset and pickup in November and December, and this year, both November and December were not bad months, but they weren’t particularly good either. They were just kind of average months, and Florida in particular had exceptionally good Decembers the year before, and that was not the case this year.

Operator

Your next question comes from the line of Charles Boorady with Citigroup.

Charles Boorady – Citigroup

In the terms of the 2009 outlook on PDP, obviously adding a fair amount of new lives, and on the last call, we characterized this as a game of hot potato where last year Humana got about 180,000, much heavier drug users than they expected. It cost Humana $1 a share last year. They believe strongly that a substantial number of those lives are now with other plans. At what point in the year will you have enough information on your new Part D lives to know whether you’ve picked up some of those members? It took until about March 11 in ’08 for Humana to find that out. Do you think that’s reasonable that it would take that long for you as well?

Herbert Fritch

Charles, I’d want to talk about Humana on this call, but as we referenced on the last call, our business is 100% auto assigned, and if I remember the issue with Humana, it was a voluntary membership selection issue.

Charles Boorady – Citigroup

Can a member voluntarily sign up for your plan?

Herbert Fritch

They can, but we have hardly any of them.

Kevin McNamara

I think Humana got caught up with enhanced coverage through the donut hole. We have one plan; it’s the standard plan. There is no enhanced coverage at all because frankly with these auto-assigned duals, CMS covers all their cost sharing, so there is no reason for us to have multiple benefit plans.

Charles Boorady – Citigroup

Then on MA, can you break out the gross sets and how much attrition that you saw in MA for ’09?

Herbert Fritch

We don’t have that with us on this call Charles.

Charles Boorady – Citigroup

What about SNP lives, what percent of ’09 MA are in special needs plans?

Kevin McNamara

I don’t know that off the top of my head. I would say it’s 15 to 20% if you count our duals and our SNF plans.

Charles Boorady – Citigroup

Okay, so in the same general range as it has been.

Kevin McNamara

Yes, pretty much. I don’t think our mix has changed a whole lot.

Charles Boorady – Citigroup

And just finally the balance sheet item that you spiked out on your press release. You talked about in terms of the funds due, how much certainty do you have on the exact dollar amount that you are due from CMS and is any of that in dispute with CMS?

Herbert Fritch

Well, let me speak to the settlement of this year, Charles. The number continues to get refined during the year, albeit pretty slightly, and when we settled up with CMS this year, the $111.5 million settlement, it was a very insignificant settlement up to the final amount.

Charles Boorady – Citigroup

Your expectation for settling these funds next year, is there anything different about it?

Herbert Fritch

There should not be. I mean you will get reconciliation effects through the first part of ’09. They are not that terribly drastic, and then when we got our notice on settling the funds this year, we were pretty darn close.

Charles Boorady – Citigroup

If I can get one last one in that’s policy related, coding intensity adjustment issue, that can was kicked down the road by the last administration. Do you have a sense for when that issue is going to be picked up again and what to look out for?

Herbert Fritch

Well, I don’t think we’ve got a sense for exactly what they are going to do about it. I know they are talking about more extensive audit samples, and I think the first wave of plans should get audited in the first part of ’09. I think the big question is how and whether and if they are going to extrapolate those results to a full year’s revenue, and at least at this point in our minds, that’s pretty unclear.

Charles Boorady – Citigroup

Okay, so nothing imminent. It just sounds like they are just starting the auditing process is what’s going on in the first of ’09.

Herbert Fritch

Yes. They had done some audits last year, but I think it was more informational on their part and see what likely results were going to be, and I don’t think, at least the word we are getting is, they’re not going extrapolate from those audits, so there won’t be any significant results from those audits.

Operator

Your next question comes from the line of Justin Lake with UBS.

Justin Lake – UBS

Herbert, I didn’t understand exactly what you were saying on the risk adjustment resetting at the beginning of the year. Can you walk me through that?

Herbert Fritch

Yes. What the process is that every two years, at least that’s the history now for a couple of cycles, CMS looks at the relative costs of the different diagnoses and readjusts the relative cost one to another. Theoretically, I think the adjustment is supposed to be budget neutral. In another words, some go up and some go down. For us, each time they’ve done that, we’ve lost revenue, so two years ago it cost about 2 points. This year, it’s a little more, it’s like 3.5%.

Justin Lake – UBS

That’s helpful. You expect that to happen for 2009?

Herbert Fritch

It did happen. We got our rates in so there isn’t a lot of question about that. We don’t expect it to happen for ‘10.

Justin Lake – UBS

Okay, and that’s one of the reasons why the MLR is a little bit above target because that 350 basis points was above the 200 you probably expected.

Herbert Fritch

Well, that affects your overall rate increase, so on the revenue side, 5.5 to 6 is the reference number, and in ’08 would be a 9% number.

Justin Lake – UBS

Any other color? You mentioned Leon having some issues down there. Can you give us a little more color on what’s going on in Miami?

Herbert Fritch

We’ve been focused down there now for about 6 months, and we think things are starting to turn around. We hope that’s the case. We hope to see that in ’09, but the trends outside the clinic were higher than we anticipated. Most of that is inpatient cost and utilization. They have successfully renegotiated I think their top 3 or 4 hospital contracts by volume, and we think that’s going to help and in addition there is just little more intensity on the medical management focus.

Justin Lake – UBS

Can you quantify that as far as what the cost trend you expected to see versus what you actually saw?

Herbert Fritch

No. I don’t think we want to get that specific right now.

Operator

Your next question comes from the line of Carl McDonald with Oppenheimer & Co.

Carl McDonald – Oppenheimer & Co

First question was just on the enrollment expectations for the balance of the year. Just any color you have particularly on the PDP but MA as well. What’s going to cause the growth over the balance of the year?

Herbert Fritch

Well, Carl, we still can enroll members. They are allowed to switch through March 31st, so historically while we’ve seen our largest change in enrollment January 1st, we still get pretty good increases for February, March, and April, and then this year in particular, we are still allowed to have all our SNF products and sell those throughout the reminder of the year. We continued to grow at the end of last year every month, so we expect to see some growth throughout the remainder of the year, although no probably as much as we see in the first part of the year.

Kevin McNamara

In my comments Carl, we added 3100 MA members in Q4, which sort of speaks the ability to get their membership and lock in, and then on the MA side, if you do a little bit of math, the growth in our PDP membership guidance basically assumes that the trends and patterns would be similar to this year’s. We got continual growth during the year which is really coming from auto-assigned switching plans or new to auto-assignment.

Carl McDonald – Oppenheimer & Co

Going back to the Florida plan, can remind us what the risk share arrangement is there? Was it an 80% loss ratio and then there was some share around that?

Herbert Fritch

Exactly. There’s an 80% target, and there’s a 5% corridor up and down that any variation from the 80 is split 50:50 with the provider group, and then on the outside of that corridor, the risks both up and down is 100% to the health plan.

Carl McDonald – Oppenheimer & Co

And on the out of clinic costs, are the vast majority of them fee for service?

Herbert Fritch

Well, outside of the clinic, the vast majority of the costs are hospital costs, and yes, those are fee for service.

Operator

(Operator Instructions). Your next question comes from the line of Daryn Miller with Goldman Sachs.

Daryn Miller – Goldman Sachs

I was curious about what you are seeing in the Texas market as far as competition and other plans? How you’re positioned against them down there?

Herbert Fritch

In the Texas market, in our core market in Houston, I don’t think a lot has changed. I believe we are positioned about the same way we were in the last couple of years, Universal American is the major competitor, and the primary difference from what I understand is they have a Part B give-back that we don’t, but that’s been true now for 3 or 4 years in a row. The other difference in Texas this year is we expanded into the Dallas North Texas market. That’s new for us this year, and the other nuance that’s not insignificant is with the Valley Baptist acquisition, we are now pretty much the dominant Medicare Advantage plan down in the Rio Grande Valley, and not only did it eliminate a competitor, but it also added the hospital system to our network, and we are the only ones that have that system, and that’s been a very strong market for us this year.

Daryn Miller – Goldman Sachs

In the Houston market specifically, are you picking up enrollment and are those coming from your primary competitor there or are those maybe coming from traditional Medicare?

Herbert Fritch

We are picking up enrollment, and I’d say most of that probably comes from traditional Medicare.

Daryn Miller – Goldman Sachs

Can you give us a sense of where your commission structure lies versus your competitor’s?

Herbert Fritch

Well, with the new regulations, everyone’s pretty much the same. It pretty well dictated commissions, and I’m not aware of much variation from anybody in any of our markets.

Kevin McNamara

Don’t keep me to it, Daryn, but I think it’s 400 for a new member and 200 for a renewal, and I think that’s basically in the ballpark for everybody.

Daryn Miller – Goldman Sachs

In terms of M&A, just wondering what you’re seeing as far as sellers and willingness to sell.

Herbert Fritch

Between the credit markets and the current prices, I don’t think there’s a whole lot of activity right now.

Kevin McNamara

If you could get your compatriots to finance some deals, there could maybe be something there.

Daryn Miller – Goldman Sachs

I don’t know if you guys already commented already on SG&A at 11% versus prior guidance below 12%.

Kevin McNamara

We really haven’t commented on it, Daryn. We started to get a fair amount of operating leverage this year as we started to come down under 12. We did a lot of infrastructure build sort of late in ’08 that we should be able to get leverage out of in ’09, so we’re pretty comfortable with bringing that metric down to the 11% range.

Daryn Miller – Goldman Sachs

Did you think there is continued leverage into 2010?

Kevin McNamara

There comes a point I get a little nervous stomach when your second digit is a zero, but we’re not there yet.

Operator

Your next question comes from the line of Matt Perry with Wachovia Capital Markets.

Matt Perry – Wachovia Capital Markets

In anticipation that congress may adjust the benchmarks for the Medicare Advantage program, just curious if you can give us an update on broadly speaking where your cost per member in your markets where you operate compares to the fee for service cost for member?

Herbert Fritch

Generally I think the last time I looked at that, we were in the 80s.

Matt Perry – Wachovia Capital Markets

80% of fee for service cost?

Herbert Fritch

Yes. In the bid process, you normalize and adjust to benefit for benefit to what you could provide the Medicare benefit package for with your overhead margins and medical costs, and I think we’re in the low 80s every time I’ve looked at that.

Matt Perry – Wachovia Capital Markets

Is that pretty much across all the markets you operate in or are there somewhere some variation there?

Herbert Fritch

I think there’s probably some variation, but I don’t have all the details and specifics market by market.

Matt Perry – Wachovia Capital Markets

I guess maybe what I’m really trying to get at is are there any markets where you’d be concerned if you had to operate at reimbursement of fee for service level?

Herbert Fritch

We look at it. We think the world will look a lot like it did free MMA. We had four years operating in that environment and clearly benefit packages were not as rich as they are today, but there also was a lot less competition, and primarily you were competing with the supplement carriers, and we still think we fare and look pretty well compared to a supplement.

Operator

Mr. Fritch, at this time there appear to be no further questions. I’d like to turn the conference back to you for any additional or closing comments.

Herbert Fritch

I’ll just remind everyone we are going to have our investor day at the end of the month up in New York, and hopefully we’ll get into more details there.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: HealthSpring, Inc. Q4 2008 Earnings Call Transcript
This Transcript
All Transcripts