Health Net's (HNT) CEO Jay Gellert on Q1 2014 Results - Earnings Call Transcript

May. 7.14 | About: Health Net, (HNT)

Health Net (NYSE:HNT)

Q1 2014 Earnings Call

May 07, 2014 11:30 am ET

Executives

Jay M. Gellert - Chief Executive Officer, President and Director

Analysts

Ana Gupte - Leerink Swann LLC, Research Division

Sarah James - Wedbush Securities Inc., Research Division

David A. Styblo - Jefferies LLC, Research Division

Matthew Borsch - Goldman Sachs Group Inc., Research Division

Jack Meehan - Barclays Capital, Research Division

Stephen Baxter - BofA Merrill Lynch, Research Division

Michael A. Newshel - JP Morgan Chase & Co, Research Division

Christine Arnold - Cowen and Company, LLC, Research Division

Carl R. McDonald - Citigroup Inc, Research Division

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Operator

Welcome to the Health Net, Inc. First Quarter 2014 Earnings Conference Call. [Operator Instructions] As a reminder, this call is being recorded.

During this call, Health Net management will make forward-looking statements that are subject to certain risks and uncertainties. Risk factors that may impact those statements and could cause actual future results to differ materially from currently expected results are described in Health Net's filings with the SEC, as well as the cautionary statements in Health Net's press release issued in advance of this call.

In today's call, management will refer to adjusted days claims payable. This adjusted metric is not being presented in accordance with Generally Accepted Accounting Principles, or GAAP. Please refer to the Health Net's current report on Form 8-K as filed today with the SEC for a reconciliation of this non-GAAP financial measure with the most directly comparable GAAP financial measure, days claims payable. The Form 8-K is available on the company's website.

I will now turn the call over to Jay Gellert, Health Net's CEO.

Jay M. Gellert

Thanks, operator, and good morning. From the time the ACA passed, we believe that it would fundamentally change health care and the way this sector operates. While the speed of change varies by market, the states where we operate, in particular, California, are clearly showing some of the most rapid change.

Our first quarter reflects this change. We viewed 2014 as a transition year for our company and the quarter demonstrated significant progress in many key areas. Our performance in these areas was consistent with our expectation and clearly shows substantial improvement compared with '13.

I'm going to focus my comments on 3 key areas: commercial, Medicaid and the duals, and Medicare. Then I'll address our progression on G&A levels through the balance of the year. And finally, I'll comment on our strong cash flow and the balance sheet.

The commercial story is about our strong enrollment performance on the individual exchanges, combined with solid overall MCR results. Small group and individual enrollment rose by 20% in the first quarter of '14, compared with the first quarter of '13. Driving this growth was our better-than-expected start with the individual exchanges, particularly with Covered California.

As of March 31, 2014, we had enrolled 153,000 new individual members through the exchanges. We enrolled a sizable portion of these in the last 2 weeks of March. We've added an additional 54,000 members in April. Through April, 74% of our exchange enrollment is members who are new to Health Net. In May, we expect to add 90,000 to 100,000 new members, which would bring our total number of new members to approximately 300,000. This performance caused us to raise our full year guidance for individual enrollment by approximately 110,000.

We've done remarkably well in Southern California, which we target. As an example, Covered California is reporting that our individual exchange market share is now nearly 1/3 of the total exchange market there. We're encouraged that the enrollment is coming in those areas we focused on in planning for the exchanges.

We've enrolled approximately 105,000 people, or approximately 72% of our exchange membership, in our key Silver plan offerings as of March 31, '14. Our Silver membership has nearly doubled since the end of the quarter. As a reminder, we targeted individuals who received subsidies in the exchange. 87% of our exchange membership at March 31 is definitely eligible. Also, since California did not grandmother individual plans, the risk profile of the exchange membership is consistent with our expectations.

With the enrollment surge in late March and early April, we currently expect that commercial member months will rise by approximately 16% in the second quarter, versus the first quarter of '14. The commercial MCR in the first quarter of this year improved by more than 500 basis points when compared with the first quarter of '13. The mix of our business, driven by exchange growth, continues to be increasingly favorable, as more members choose tailored network products.

In commercial, we continue to see favorable utilization metrics across the board. Over the past 2 years, we have substantially transformed our commercial footprint, moving to tailored network products. They have become the backbone of our product strategy in the exchanges. We believe these favorable trends will continue.

At the end of the first quarter, approximately 55% of our commercial members were in tailored network products. In addition, approximately 85% of our exchange enrollment in March 31 is in tailored network products. By the end of the year, we expect approximately 60% of our total commercial enrollment to be in tailored network products.

Let me now turn to Medicaid. The enrollment news is very positive there also, thanks largely to Medicaid expansion. Through March 31, 2014, we enrolled 166,000 new Medicaid members from this expansion population. This accounted for 92% of our overall Medicaid enrollment growth. Many of these members had gone to Covered California and found out that they were qualified for Medicaid. The transition is causing a backlog in processing at the state, according to recent news reports.

We've adjusted our full year Medicaid enrollment and revenue guidance since we now expect to add expansion members throughout the year, as the backlog of applications decline. In Medicaid, we also benefited from ongoing moderate utilization trends and the strong growth in the expansion population. Our state Settlement Agreement continues to provide important benefits to us and to the state of California. At March 31, the receivable balance was approximately $50 million, down approximately $13 million from its level at December 31, 2013. We expect it to further decline through the balance of '14.

While not a first quarter event, the final item in our enrollment story is the duals. We have already signed new members in San Diego County. And last week, we received notice of more than 18,000 total enrollees in Los Angeles and San Diego County as of July 1.

Turning to Medicare, its performance was not quite as strong as we'd hoped. Enrollment was a bright spot, but the MCR improvement year-over-year was not as favorable as expected. We've adjusted our full year guidance as a result of the first quarter performance. Our issues are in certain targeted areas that can be remedied in our 15 bids where we will focus on achieving improved markets.

Let me talk very briefly about the new hep C medications. They added about $10 million net to health care cost in the first quarter. We've included approximately $35 million in net additional cost in our guidance for the full year. Remember, that the cost pressure from these new drugs is alleviated, to some extent, by the exchange reinsurance, catastrophic coverage in Part D, anticipated rate adjustments in Medicaid and by our state Settlement Agreement.

Let me now turn to G&A, where our first quarter expenses were higher than some analyst estimates. It's important to note that our first quarter G&A was consistent with our internal expectations. We had higher cost for ACA-related taxes and fees, we had to on board approximately 300,000 new ACA members and prepare for substantial future growth throughout the year.

What's encouraging on G&A is that we expect the first quarter level of absolute expenditures to remain approximately the same for each of the last 3 quarters, since the associates who are serving and preparing for these new members are already on board. As a result, the G&A ratio will decline through the balance of the year as revenues from the new enrollees ramp up throughout the year. Accordingly, we expect to achieve the G&A expense ratio of 10.8% in 2014, consistent with our prior guidance.

More evidence of our strong start to '14 comes from days claims payable and operating cash flow. Adjusted DCP for the first quarter of '14 rose by 1 day, compared with the first quarter of '13; and by 3.2 days, compared with the fourth quarter of '13. We believe we are being appropriately cautious as we bring on all these new members.

Operating cash flow is $311.5 million, obviously, much higher than net plus D&A. A number of timing issues contributed to this performance. They included the accruing of the insurer fee that won't be paid until the third quarter, other ACA-related factors and certain capitation in claims payable. We continue to expect we'll achieve cash flow equal to net income plus D&A for the full year.

Cash at the parent, at March 31, 2014, was approximately $212 million. We're encouraged by our capital position. We believe it signals that we are more than capable of supporting our growth and can fund potential share repurchase during the balance of '14.

Let me close with a comment on our scale issues. We are hard at work at planning for programs that will reduce G&A expenses in a comprehensive and enduring way. As we've noted before, we expect to have an announcement by the time of our next call, if not, sooner.

I want to thank the entire management team and every single Health Net associate for the incredible amount of hard work they've done over the past several months. We're truly excited by the new beginning for our company, by our strong start and by the many opportunities before us.

Operator, let's start the Q&A.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question is coming from the line of Ana Gupte of Leerink.

Ana Gupte - Leerink Swann LLC, Research Division

Jay, wanted to just have a follow-up on what caused the utilization and the trends to look so favorable and your MLRs to look so favorable. I recall in the last quarter, you had a slight claims uptick, and it was unclear for you and other competitors what that was about. Did you see any favorable development in this quarter?

Jay M. Gellert

No. We didn't see favorable development. The first quarter results are the results of the following things. One, we actually do believe that some utilization was pushed into the fourth quarter of '13 and was not entirely reflected in the first quarter of '14. Second, we do believe that we had unusually favorable results in some places like the exchanges and Medicaid. And if you look at our full guidance, we're not on counting on them, I mean, Q2, 3 and 4. So we think there is some unusual favorability. We think it will pick back up in the rest of the year. So we're being cautious about coming to a conclusion as to whether it's sustainable. The one thing, since most of our businesses in California and Arizona that we can be sure of, there was no weather-related effect. We had probably the best winter in our history, so we didn't have that effect on our numbers. But, I think -- we think there's some potentially unique things that happened in the first quarter. And the guidance we've given basically anticipates that, that utilization will show up in quarters 2, 3 or 4. So we haven't counted on it in any continuing way.

Ana Gupte - Leerink Swann LLC, Research Division

Got it. So it's conservative. And then on the Medicare side. What made the MLR -- you just touched on it very briefly. Any more color on that to -- why it came [indiscernible]?

Jay M. Gellert

Yes, there are few places where, at least, initially, it looks like that we had some higher utilization. It may be reflected in the future in risk adjustments, but we haven't counted on that. In addition, in a few places, we have to rectify some of the product things we did. But it's totally manageable within '14, and I think we have a real clear visibility into '15. So that -- in these very targeted areas, we can rectify it.

Ana Gupte - Leerink Swann LLC, Research Division

And one final one on claims. On Medicaid expansion, you say you don't have the weather tailwind. There was some chatter around the West region in California seeing Medicaid expansion claims and facilities. Are you observing anything in our claims inventory at this point?

Jay M. Gellert

No. No, we're not. And I -- a good portion of that Medicaid expansion business is capitated. In the non-capitated piece, we've been on top of it. I think California was conservative in its estimate of the utilization by that population. So I don't think we'll see any issues in terms of the Medicaid expansion population.

Operator

Our next question comes from the line of Sarah James with Wedbush.

Sarah James - Wedbush Securities Inc., Research Division

You've had a theme of moving towards tailored networks that's generating benefit to medical expense. And it seems like a hurdle to fully moving towards a tailored network is the large employer segment. So how do you think about the long-term strategic fit of that segment, and are you considering any strategic alternatives for that book?

Jay M. Gellert

Well, first of all, you've raised a really interesting point. I think what's going on is the whole rest of the market is moving even more rapidly, particularly on the West Coast, to a new model. My sense is that the core of the attraction of private exchanges to large employers will be the capacity to do the same thing. Our view is that we want to be -- we want to perfect the tailored network product. Our largest large group account is actually fully in. So our goal is really to be a leader in this product segment with the full anticipation that, just like the rest of the market is transitioning very rapidly, that beginning in '15, we'll see the same change in the large group market. It's particularly, I think, true on the West Coast where we actually have very high performing tailored networks. Where we have medical groups that are experienced in doing things and they can show a profound different economic picture. And we're beginning to hear a lot of chatter, I think, on the large group side about the transition that we're seeing in the rest of the market.

Sarah James - Wedbush Securities Inc., Research Division

That's very helpful. And then if you could just give us a little bit more detail about your Medicaid MLR that came in pretty favorably this quarter, was there any benefit from your agreement with the state of California?

Jay M. Gellert

Well, in fact, it's the opposite. We -- as I indicated, we ended up reducing the balance in the Settlement Agreement. So in effect, about $13 million of it was an expense, not -- in the form of lower revenue, not a benefit. So actually, it was a negative effect on the quarter because we're paying down that account.

Sarah James - Wedbush Securities Inc., Research Division

And last question here, you mentioned 87% of your exchange book is subsidy eligible and I'm assuming that's premium subsidies, but I was wondering if you have the numbers on how much are receiving out-of-pocket subsidy.

Jay M. Gellert

Oh, you mean -- I don't have the exact number on the people -- on that population, but I would bet that a majority are also getting share of class subsidies in addition. Because I think our targeting was a Silver product and the sub-250 population. And I think that the reason we did is that we think that's going to be a very normal population in terms of risk, and it turned out to follow exactly the way we expected.

Operator

Your next question comes from the line of Dave Windley with Jefferies.

David A. Styblo - Jefferies LLC, Research Division

It's Dave Styblo filling in. Jay, a couple of questions. First one is on the MLRs here in Medicaid and commercial. Those were obviously quite strong and start well below your full year outlook. so I'm hoping you can give us more specifics. I know you touched on them a little bit, but more about inpatient trends or utilization patterns. And then, what are you assuming gets worse to drive the MLRs, moving up so much higher for the rest of the year?

Jay M. Gellert

Well, let me answer the second question first. We are assuming a reversion to the mean to the last 2 quarters. How valid that is at this point in time, I don't know. I think it's a conservative expectation. But as we said in the narrative, these are new members and it's too early to call it a trend. So I think that we're just basically going back to our previous expectations for the rest of the year. And we think that that's a sound thing to do. And that, combined with the strong reserving which we've done, we think puts us in a solid position as we look to the rest of the year with so much new business. Unlike most others, I mean, we've had more transformation of our business in '14 as planned than probably anyone else. And so, I think, we don't want to get ahead of ourselves in any way. So I'd say that the experience we've had in the first quarter with some low pharmacy, except for hep C, really and some good hospital utilization in the first quarter. Most of the physician side is capitated, so it didn't have the same effect. We're assuming that, that utilization actually goes about back up and stays consistent in the commercial business with our original guidance that we have the first quarter lower experience in Medicaid, but then it reverts to the mean.

David A. Styblo - Jefferies LLC, Research Division

Okay, that's helpful. The second question was, the hep C. I think you mentioned there's an additional $35 million of costs that you've added for the rest of the year. I just want to make sure that, that is new to guidance. I think by my math, it's about $0.25 or $0.30. If that's the case, what is it that's offsetting the additional hep C cost there?

Jay M. Gellert

So it is new to guidance and its net of the other sharing issues, which I articulated. I think what's new to our guidance is the stronger commercial performance, plus -- primarily in terms of volume that we articulated, and the solid Medicaid performance. And when you combine those together, that's probably what covers the hep C. In the commercial, we're at the same guidance level, but that incorporates the hep C. So in effect, we're seeing slightly lower hospital utilization to counter the higher hep C experience.

David A. Styblo - Jefferies LLC, Research Division

Got it, that makes sense. And then last one, just to shore up your comments on Medicaid. I know on one side, you said the membership -- you guys obviously took guidance down there for membership and revenue. But decided that it was -- it seems to be a backlog going on. I guess I would've thought maybe your membership would still wind up being the same for the full year, but it was just the backlog. So in aggregate, as we roll forward, I mean, are you expecting less Medicaid members in the peak? Or is there just basically a delay of getting to that peak?

Jay M. Gellert

Well, there's 2 things going on. One is, the delay, which is really the revenue effect. In terms of our estimate, I think we've been conservative on the backlog because we just don't know. And so in the guidance we've given, in the areas where it's been unclear, we've aired on the side of conservatism. It's probably -- we'll probably have a much better insight into it on our next call. It could go back up. But I think it at this point in time, until we see what's going on, I think we've decided to take this more conservative approach.

Operator

Your next question comes from the line of Matthew Borsch with Goldman Sachs.

Matthew Borsch - Goldman Sachs Group Inc., Research Division

I'm sorry if you got this question already, but can you just -- are you able to tell us how much you accrued, if anything, under the 3R provisions for your exchange membership?

Jay M. Gellert

Yes, we accrued in the range of about $40 million and the vast majority, almost the entire amount, is reinsurance. There's a lot of discussion going on about the 3Rs, I think we can simplify it. The reinsurance is fully funded, there's a $10 billion authorization for 2014. I don't think there's anyone who has any questions about the availability of reinsurance. If anything, I think there's excess money in reinsurance. So we didn't accrue anything in risk adjustment. We accrued a relatively de minimis amount in terms of risk corridor, which we think can be paid for '14 even with the budget neutrality position. And the vast majority of that, which is accrued, is reinsurance, which is availably funded.

Matthew Borsch - Goldman Sachs Group Inc., Research Division

How do you, at the early point of the year, accrue in the first quarter for reinsurance? You just have some members who are a trauma or whatever condition that you can just tell right away that they either already do or will break through the threshold?

Jay M. Gellert

Yes. It's a combination of experience that we see, which is where we've see front-loaded, high-cost cases. Combined with the fact that if you if you look at the statements from CMS, it indicates that they'll expand the reinsurance to meet the vast majority of the money funded. So it's primary claims based, its focused in those areas where we have a lot of claims experience. And I think, it's appropriately and adequately done, particularly given the policy guidance that we've gotten from CMS.

Matthew Borsch - Goldman Sachs Group Inc., Research Division

And just curious, is -- are the hepatitis C drugs a material component of reinsurance accruals, or do you expect them to be?

Jay M. Gellert

They're an element, but not a material element at this point in time. It's more of the traditional people. The reinsurance really is the -- I think more being focused at this point in time on -- the portion of population of people are concerned about coming in sick. So at this point, it hasn't been the hep C that's really driven it.

Matthew Borsch - Goldman Sachs Group Inc., Research Division

Are you able or are you willing to tell us how much accrual you have assumed on the 3Rs in your full year guidance?

Jay M. Gellert

I think were still trying to figure it out with all the membership movement around. I think, we will be able to. But it's -- it is less than some -- than in an earlier call today.

Matthew Borsch - Goldman Sachs Group Inc., Research Division

Okay. Okay. Right, right. And if I could ask on the commercial side of the business, are you -- if I can think about this way, are you -- can you confirm your rate increases? Do they get all of the industry fee and the tax gross up in rates? Or is it something in between?

Jay M. Gellert

We've said from the start that we get all of the fee, but not the gross up. At some point in time, the guidance we've given continues to assume that.

Matthew Borsch - Goldman Sachs Group Inc., Research Division

Right. Okay. And just one more if I could. What trends are you seeing in small group with the implementation. I know one of your major competitors in California talked about some fairly significant erosion. Are you seeing that?

Jay M. Gellert

No. I think if you look at our guidance, there's this -- some slight diminution from what was expected, but we're not seeing it at all.

Operator

The next questions from the line of Josh Raskin with Barclays.

Jack Meehan - Barclays Capital, Research Division

This is Jack Meehan here for Josh. Just wanted to start with the Medicaid line. Sorry if I missed it at the beginning. The issues in the quarter, were those numbers that came from other plans or specific counties like you can point to or anything else that you can provide there would be great.

Jay M. Gellert

Yes. Yes, there are specific places. We're still working on exactly all of the details. But I think we can limit it to a few counties. They didn't come from a specific plan. In some cases, they have lower risk scores than we anticipated, some of those kinds of things. But they're not -- it's not that material in the context of our overall business.

Jack Meehan - Barclays Capital, Research Division

Yes, I got it. And then just the insurer tax for Medicaid, was there any timing issue there in terms of revenue recognition?

Jay M. Gellert

No. There wasn't a timing issue because of -- in the case of Arizona, it really doesn't hit us until next year because we didn't have business last year in Arizona. In California, the state has committed to covering it, including the gross up.

Jack Meehan - Barclays Capital, Research Division

Got it. And then just the last one, the outsourcing arrangement. Those -- you didn't bring it up in the prepared remarks, but are you still -- is that still something that's on the agenda as you move in the second half?

Jay M. Gellert

Well, yes, the euphemistic discussion of scale and the announcement related to that is the outsourcing agreement.

Operator

Your next question is from the line of Kevin Fischbeck with Bank of America.

Stephen Baxter - BofA Merrill Lynch, Research Division

This is Steve Baxter on for Kevin, just looking at the guidance for large group. It looks like it implies that throughout the balance of the year that large group enrollments can be relatively stable when you've seen 8% or 9% declines kind of throughout the year from Q1 levels and 2013 and 2012. Do you feel like you have better visibility into large group enrollment trends for the balance of the year? And if so, I guess, kind of what's changed from the past couple of years?

Jay M. Gellert

Well, first of all, the vast majority have re-upped 1 1, and so we have the visibility there. We now also visibility into virtually all of the 7 1 accounts, so you're pretty well through the re-up period for the year. Two things. One, we're seeing increasing comfort with people moving to the tailored network products as I earlier described. So actually, they're moving back into our sweet spot like the rest of the market have. And second, we're seeing some degree of abatement in the pricing in the market. We indicated before that since we anticipated a very large revenue and enrollment increases in other lines that we did not intend to follow pricing to the bottom. And so, as a result, we did what we said, and the MLR shows it and now the enrollment shows it. And now, we're seeing the market, at least, begin to drive back to the rational position that we were waiting for anyway.

Stephen Baxter - BofA Merrill Lynch, Research Division

Okay. That makes sense. I appreciate all the color on the tailored network products. But I guess if your competitors decide to kind of take that approach as well as in the California market, I guess could you talk a little bit about how your experience. And I guess, your first mover kind of advantage would position well to kind of maintain your market share in the narrow-network products.

Jay M. Gellert

Well, first and most importantly, in my view, if the whole market moves there, it expands the market so much that it works to our benefit. The experience we're having now is the beginning of just a much larger market. And so you have much less share pressure. Secondly, though, I think that the unique mix of some of our Medicaid providers, some of the other providers we're working with and our past experience, in terms of medical groups and targeting, will help us. So I view that -- our best dream is that everyone gets in the pool with us and we expand the pool to be an ocean.

Operator

Your next question is from the line of Justin Lake with JPMorgan.

Michael A. Newshel - JP Morgan Chase & Co, Research Division

This is Mike Newshel in for Justin. My question is now that you have some initial experience with exchanges, Medicaid expansion and duals, do you have any better visibility into 2015? And I know you're still expecting essentially growth to offset the non-recurrence of the 2014 tax benefit to keep GAAP EPS at least flat or better?

Jay M. Gellert

Yes. I think that we have a higher level of confidence in both the strategy and the guidance that we've given in the past. The first quarter, in the last couple of months, I think followed really closely to kind of what I guess I'd call our best expectations. And so I don't think there's anything we've seen in the course of the first -- now 4.5 months of this year that changes our view at this point in time. There's still a whole -- a lot to be played out. But those areas, each of them, are going, as well as we could hope.

Michael A. Newshel - JP Morgan Chase & Co, Research Division

Are you still expecting breakeven margins in the exchanges? Or are you booking across it there?

Jay M. Gellert

Well, we've guided to breakeven. I think we're confident that we'll achieve our guidance. It's too early to tell. I think it's really unwise to go through 1 quarter in an entirely new world and try and assume better. I think the level of confidence in breakeven, though, hasn't increased dramatically in the course of the last 3 or 4 months as we looked at this.

Michael A. Newshel - JP Morgan Chase & Co, Research Division

Okay. And on Medicare -- on Medicaid expansion margins, you mentioned the conservative utilization assumptions in the California rates. Do you think that's likely to be carried forward into rates in future years? Or is it more likely that the state is going to readjust those rates closer to actual claims expense? Are they likely to stay favorable as long as the federal government is covering the full cost?

Jay M. Gellert

No. There's a floor in terms of the margin, because there's an MCR requirement in them. So even if the state adjusts the rates, I think the level of profitability will remain consistent with what we're experiencing over the course of the year, and that's reflected in our guidance. I also think that there is reasonable chance that over time, both in the exchanges and in Medicaid, they will see, if anything, more growth that we had originally anticipated, not less.

Operator

Our next question comes from the line of Christine Arnold with Cowen and Company.

Christine Arnold - Cowen and Company, LLC, Research Division

I just want to clarify a few things. If I understood correctly, you said that you're assuming you don't get the gross up in your health insurance fee for Medicaid, but California is committed to cover even the gross up, so you're probably going to get it, but it's not in guidance, is that what you're saying?

Jay M. Gellert

No. No, no. I said that we've, all along, guided on the assumption we wouldn't be able to cover the tax deductibility issue in the commercial book. And our guidance -- on Medicaid, that's how you could square those 2 comments.

Christine Arnold - Cowen and Company, LLC, Research Division

Got it. Okay. And then, in your initial comments, you said that you expect an adjustment in Medicaid for hep C, which will offset this. And I understand the catastrophic part D in the 3Rs, could you update us on what your discussions look like with the states? I guess California is saying that they'll give you a carve out for this? Or how's that going?

Jay M. Gellert

Well, we have new rates in July. The new rates in July will either reflect the real experience or will have some kind of other arrangement potentially carved out. State hasn't decided what it's going to do, but it is committed to actuarially sound rates beginning in July that will reflect this. Up to this point, they weren't aware of it, so it's being handled through the Settlement Agreement. But as I -- what I indicated is now they'll either adjust rates or do something else and that they're presently considering.

Christine Arnold - Cowen and Company, LLC, Research Division

Okay. And then what -- if you have it handy, if you don't it's okay, but what portion of your costs are capitated now in Medicaid kind of with your books after the growth and in the individual book? Are your cost more capitated now than they were? Or is it pretty consistent with where it's been?

Jay M. Gellert

Well, the Medicaid book is remaining constant, so it's at the same percentage. We have arrangements in terms of the individual exchange that may mimic a capitation, but aren't actual capitation because of the requirements of the 3Rs. So I'd say that the portion of our business that is either capitated or faux capitated, I guess you'd call it, is about the same. But that, in terms of the traditional, very precise capitation, it would go down in the individual exchanges.

Christine Arnold - Cowen and Company, LLC, Research Division

Okay. And then last question, the high risk full enrollment is expected to come loose at some point in -- at least in California. Have you baked in some expectation for a portion of the membership you might get there? What are your expectations and how are you thinking about that?

Jay M. Gellert

Well, let me check. But it's 2 things. First of all, as you can see, we've been -- we have raised the MLR for our entire commercial business, including the exchange to go back to our original assumptions, which included the high-risk pool. My understanding is that a vast majority of those people are already in, but I've got to check that.

Operator

The next question is coming from the line of Carl McDonald with Citigroup.

Carl R. McDonald - Citigroup Inc, Research Division

Maybe you could walk through what your policy was in the Medicaid business whenever you got a request for [indiscernible] in the first quarter and depends that request awaiting the state's decision. And then related to that, if you could just give what -- where the state is within the policy decision.

Jay M. Gellert

Well, first of all, we didn't treat those people any differently than the rest of our population. So there are, I believe, some instances where people may be pending it, we're not. We're handling them just as we handle everyone else, because that's what we're expected to do in our arrangement. The state is presently considering a series of options. And as I indicated, they could be rate adjustment, they could be carve out, they could be other things. And we fully anticipate that by July 1, we'll have some rectification of this. Exactly how they're going to do it, we don't know yet. In the interim, it's a bit -- half the cost, obviously, are covered by the Settlement Agreement.

Carl R. McDonald - Citigroup Inc, Research Division

Sure. And then just on the actual coverage decision, has the state given any indication whether they intend to cover it fairly broadly or to limit it to the, call it, neediest cases?

Jay M. Gellert

We haven't gotten any indication yet from the state.

Carl R. McDonald - Citigroup Inc, Research Division

Okay. And then the second question, you just touched on this in response to Christine's question. But interested in what are the primary differences would be in the, as you call it, the sort of faux capitation. So basically, it's for the exchange plans in Southern California, how the providers are being paid there.

Jay M. Gellert

Well, the difference is that in those cases, it's claims-based with attachment points, and they're sharing around the attachment points rather than the traditional full cap arrangement. The reason for that is that we need the claims experience in order to garner the reinsurance in the arrangement. So it's -- the goal is to -- in those arrangements to mimic capitation, but require robust reporting so we can draw down the full reinsurance in terms of those arrangements.

Carl R. McDonald - Citigroup Inc, Research Division

So is it effectively fee-for-service up to an attachment point?

Jay M. Gellert

Well, it's actually fee-for-service reconciled to an attachment point, which is basically analogous to capitation in those arrangements. So up and down risk around the attachment point, but it's passing through the full effect of the reinsurance in the context of the arrangement.

Operator

Your next question from the line of Chris Rigg with Susquehanna Financial.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

I got in here a little late, so I apologize if I -- you talked about this already. But with the regard to the potential back-office rationalization outsourcing. I mean, what are some of the gating factors now that are preventing you from moving forward? Or is it something that likely will happen over the near-term?

Jay M. Gellert

Well, we've indicated all along that it would be by our second quarter call, if not sooner, we have something resolved. So that, I think, we're beyond gating factors to the point now where we just have to look at the varied options we have before us and prepare ourselves to make an announcement over the -- within the next quarter. So as we said all along, we wanted to get some indication of what the first quarter would look like. I think, we have it. We feel very comfortable now where things are going. We've been working on the arrangements we have to make sure that they conform to what's going on. We also, as we said, we're looking at other options in terms of the overall scale issue, and I do believe that this process will complete itself no later than our next call and potentially sooner.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Okay. And then, just to change gears. On share repurchases, I know you've been out of the market for a little bit, anything preventing you from getting more active going forward at this point?

Jay M. Gellert

Yes. Yes, I think that we have the resources to do it. I think that probably we want to most likely go through a little more work on some of the other issues before us. But I would anticipate that we'll be able to repurchase during the course of '14.

Operator

This concludes today's teleconference. You may disconnect your lines at this time. We thank you for your participation.

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