Molina Healthcare's CEO Discusses Q3 2011 Results - Earnings Call Transcript

Oct.25.11 | About: Molina Healthcare, (MOH)

Molina Healthcare (NYSE:MOH)

Q3 2011 Earnings Call

October 25, 2011 5:00 pm ET

Executives

Joseph W. White - Principal Accounting Officer and Vice President of Accounting

Terry P. Bayer - Chief Operating Officer

Juan José Orellana - VP, IR

Joseph Mario Molina - Chairman, Chief Executive Officer and President

John C. Molina - Chief Financial Officer, Executive Vice President of Financial Affairs, Treasurer, Director and Member of Compliance Committee

Analysts

Scott J. Green - BofA Merrill Lynch, Research Division

Charles Andrew Boorady - Crédit Suisse AG, Research Division

Sam Wass - Goldman Sachs Group Inc., Research Division

Peter H. Costa - Wells Fargo Securities, LLC, Research Division

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

David H. Windley - Jefferies & Company, Inc., Research Division

Joshua R. Raskin - Barclays Capital, Research Division

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Molina Healthcare Third Quarter Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded, Tuesday October 25, 2011. I would now like to turn the conference over to Juan José Orellana, Vice President of Investor Relations with Molina Healthcare. Please go ahead, sir.

Juan José Orellana

Thank you, Allan. Hello everyone, and thank you for joining us. The purpose of this call is to discuss Molina Healthcare's financial results for the third quarter ended September 30, 2011. The company's earnings release reporting its results was issued today after the market closed and is now posted for viewing on our company website. On the call with me today are Dr. Mario Molina, our CEO; John Molina, our CFO; Terry Bayer, our COO; and Joseph White, our Chief Accounting Officer. After the completion of our prepared remarks, we will open the call to take your questions. If you happen to have multiple questions, we ask that you get back in the queue so that others can have an opportunity to ask their questions as well.

Our comments today will contain forward-looking statements under the Safe Harbor provisions of the Private Securities Litigation Reform Act, including statements regarding our earnings per share guidance for 2011, expected rate changes and opportunities relating to the migration of dual eligibles into managed care. All of our forward-looking statements are based on our current expectations and assumptions which are subject to numerous risk factors that could cause our actual results to differ materially.

A description of such risk factors can be found in our earnings release and in our reports filed with the Securities and Exchange Commission, including our Form 10-K annual report for fiscal year 2010, our Form 10-Q quarterly reports and our Form 8-K current reports. These reports can be accessed under the Investor Relations tab at our company website or on the SEC's website. All forward-looking statements made during today's call represent our judgment as of October 25, 2011, and we disclaim any obligation to update such statements. This call is being recorded and a 30-day replay of the conference call will be available over the Internet through the company's website at molinahealthcare.com.

I would now like to turn the call over to Dr. Mario Molina.

Joseph Mario Molina

Thank you, Juan José. Hello, everyone, and thanks for joining our discussion of third quarter 2011 financial results. Let me begin by saying that I'm very pleased with the performance of our business, both in financial terms as well as our strategic execution. Our team's efforts resulted in a quarter that reached the highest levels of both revenue and net income that we've ever had.

For the third quarter of 2011, we earned $19 million in net income or $0.41 per diluted share despite operating in the most complicated premium rate environment in the history of our company. For fiscal year 2011, 6 out of 10 of our states actually cut their premium rates. Nevertheless, today's financial results were consistent with our expected quarterly performance towards achieving the full year guidance of $1.55 per diluted share.

Our comments today will be brief since there was considerable discussion about our business as well as the key drivers of our financial performance at the company's Investor Day held on September 15. During that presentation, we discussed various business drivers, including the premium rate environment in our industry and specifically in our markets, the performance of our legacy health plans versus our newer startup health plans, and utilization trends. Although there have been no fundamental changes to these drivers, there are a few updates that we want to share with you. Let me begin with the rates.

Our forecast at the beginning of the year that premium rates in 2011 would be flat to down has borne out as we now have full rate visibility and we believe our industry will continue to operate in a state of flat to down rates for the near future. State budgets have yet to recover, and the expiration of the enhanced federal matching funds have exerted pressure on state premium rates. You may recall that at our Investor Day, we did not have premium rate information on Florida, Michigan and Washington, all of which became effective in either September or October of this year. We now have those rates.

In Washington, rates were reduced by approximately 1% effective October 1. This rate decrease is consistent with our projections that rates will be flat to down. However, in a bit of positive news regarding rates, Florida and Michigan benefited from blended rate increases of approximately 7.5% and 1%, respectively. In Florida, where the rate increase was effective September 1, the increase is particularly helpful to Medicaid reform counties like Broward, where medical cost trend has outpaced premium rates for quite some time. Blended rates in Broward County increased by nearly 10%. In Michigan, the 1% rate increase, which became effective on October 1, was consistent with our previous expectations.

Given the effective date of the new premium rates for Florida, Michigan and Washington, the revenue impact will be fully reflected in the fourth quarter of 2011 and will continue into 2012. Although rates have been a challenge, our business remains strong, and we are reaffirming our guidance of $1.55 per diluted share for 2011.

Our established or legacy health plans continue to perform well and our consolidated medical costs have been stable. Excluding Texas, which has experienced high utilization and a considerable influx of new members, fee-for-service costs remained flat. Hospital utilization was flat when compared to the second quarter and declined approximately 7% year-over-year.

Our newer markets are improving financially. For example, the medical costs of the Florida plan on a per member, per month basis have decreased both sequentially and year-over-year, primarily due to initiatives implemented to reduce pharmacy costs and a new behavioral health contract. The 7.5% premium increase that became effective on September 1 will help improve profitability in this state.

While managing medical costs is essential to our business, we remain equally focused on quality. We were very pleased earlier this month when Molina Healthcare of Missouri earned an accreditation from the National Committee on Quality Assurance. This brings the number of NCQA-accredited Molina Medicaid health plans to 9. We're especially proud that our focus on quality has attracted national attention and recognition from Consumer Reports, which ranks the top Medicaid health plans in the country.

Finally, Molina Medicaid Solutions currently shares many similarities with our health plan business as it relates to contract maturity. Like the Health Plan business, our legacy or established fiscal agent contracts are stable and contributing to earnings, while the newer start-up states like Maine and Idaho have resulted in short-term losses. However, we believe that once we get through the certification process, the performance of Idaho and Maine will improve. Maine has already completed its certification audit visit from CMS and we should find out the result by the end of the year. A substantial milestone was achieved in Idaho when we received notice from the state of Idaho that our system was out of the pilot phase. This milestone triggered payments of approximately $10 million, which were received during the quarter. We anticipate the CMS certification audit visit for Idaho to occur in early December. As a reminder, given the accounting intricacies of the fiscal agent business, we are not recognizing revenue and expense in Idaho yet, but the payment does have a cash flow impact.

As you can see, during the first few quarters of 2011, we have executed our strategy in a way that has improved our performance for the year, while providing an even more solid foundation for the future. We believe our 31-year history in this business and our capacity for adaptation to economic cycles makes us exceptionally well suited for this task. It positions us to succeed even in today's challenging economic environment. Near-term economic and industry factors are also incubating new opportunities for our company in the areas of direct delivery and care coordination for the dual eligible population.

We've long talked about our direct delivery capabilities as a vehicle for enhancing access in underserved communities. This year, our direct delivery presence has increased with the opening of 4 new clinics in California and 1 in Washington. Additional clinics are also in the pipeline in Florida and New Mexico.

Another key and transformational opportunity remains the transition of the dual eligible population into Managed Care. I spoke about this topic in more detail at our Investor Day on September 15, so please feel free to refer back to those materials. Currently, there are nearly 9 million beneficiaries that qualify for both Medicaid and Medicare. This population is the sickest of the sick with multiple chronic conditions and behavioral health issues that account for nearly $300 billion annually in total spending. 3/4 of this population live at 125% or below the federal poverty level, and many face the same challenges that plague the low-income populations currently served by our health plans. This is a population that is a natural extension of our service offering and that we believe will benefit the most from Managed Care. We are strategically positioned to serve this population through our dual eligible Medicare Special Needs plan, which is currently ranked as the eighth largest special needs plan in the country, and through our presence in 3 states with the largest dual eligible populations: California, Florida and Texas.

There's already work underway and CMS awarded 15 states planning grants for migrating dual eligibles into Managed Care. 3 of those 15 states are also where Molina has its largest health plans. This is a huge opportunity, larger than many of the Medicaid RFPs currently in the pipeline, and we look forward to expanding our presence in assisting this vulnerable population.

Our company began with a mission to bring quality care to those who need it most but can least afford it. In addition to our growth over the years, we remain committed to this mission. It is at the core of what makes Molina Healthcare different. We are a mission-driven culture. We have the physician-focused leadership legacy of our founder, my father, Doctor C. David Molina, and we have 31 years of experience in this industry. We have a flexible delivery model that includes health plans, fiscal agents and direct delivery. There is no other healthcare organization that can say that. Our results show that we're taking the right approach to this environment and that the underlying fundamentals of our business continue to support our aspirations for the future. In the near term, that means leveraging the performance of our established health plans while working to improve the performance in newer markets. I will now turn the call over to John, who will review our financial results in greater detail.

John C. Molina

Thank you, Mario. Hello, everybody. We are pleased with our results today. EPS for the quarter was $0.41, up 8% from a year ago. Net income for the quarter was $19 million, up 17% over last year, and EBITDA increased by nearly 10% over the same period one year ago. As Mario mentioned, these are the highest levels we've ever achieved for these financial metrics.

At the end of the quarter, our enrollment stood at 1.7 million members. Enrollment was up across the majority of our health plans on a sequential basis. The bulk of the enrollment gains were in Texas, where the company began serving new TANF and ABD members in the Jefferson County service area effective September 1 of this year.

Our Medicare enrollment continued to grow steadily and topped 28,000 members during the quarter. Our year-to-date Medicare revenue grew to $282 million, nearly 50% higher than it was one year ago. As a reminder, nearly 80% of our Medicare enrollment is comprised of dual eligibles.

Consolidated premium revenues grew 13% to $1.2 billion in the third quarter of 2011 compared to the same period last year due to an 8% increase in membership and a 5% increase in PMPM revenue due to mix shift.

Mario has already spent some time discussing the rates in his remarks and there's no question of the impact that flat to down rates have had on our business. There are also other revenue adjustments we made in the quarter that, while not necessarily one-time in nature, nevertheless can serve to obscure the underlying strong performance we are observing across our health plans. For example, reductions to revenue due to a minimum medical care floor in New Mexico and a private cap in Texas had a negative $5.9 million impact in the third quarter of 2011 compared to a benefit of $2.9 million in the third quarter of 2010. This is an $8.8 million swing in results.

In California, the medical care ratio jumped to nearly 89%. As we discussed at our Investor Day, the California plan accrued for the 10% provider rate reduction that the state of California announced in July. If approved by CMS, the provider rate cut and our capitation rate will be retroactive to July 1, 2011. In consideration of these intentions, we made an accrual that resulted in a $7.5 million reduction to revenue during the third quarter without any offset to medical costs. Absent these adjustments, which negatively impacted our financials for the quarter, our results would have been better than the strong performance we recorded today.

In light of this challenging revenue environment, it is essential that we aggressively manage our costs. Excluding the Texas health plan, which has seen an increase in costs that we have previously detailed, fee-for-service costs were flat on a PMPM basis. Fee-for-service and capitation costs combined increased approximately 4%. Of note is that hospital utilization decreased approximately 7% year-over-year.

General and administrative expenses for the quarter remained flat at 8.5% of revenue, despite the need to invest in preparation for healthcare reform, ICD-10 implementation, and the implementation of a new Enterprise Resource Planning system brought on to help with our growth. You may also recall that at our Investor Day, we announced the rightsizing of our credit facility. As a result of this change, we wrote off approximately $1.1 million in capitalized issuance costs.

Cash flow provided by operating activities was $155 million for the 9 months ended September 30, 2011, compared with $9.5 million for the 9 months ended September 30, 2010. The company had cash and investments of $881 million, and the parent company had cash and investments of $54 million. Days in claims payable remained flat sequentially.

Our board has authorized a share buyback program of up to $75 million. This is in addition to the $7 million program announced in July of 2011. Finally, we are reaffirming our EPS guidance of $1.55 for the year ended December 31, 2011.

This concludes our prepared remarks. As a reminder, if you have multiple questions, we ask that you get back in the queue so that we have time for everyone to have an opportunity to ask questions. Allan, we're now ready to take questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question will come from the line of Josh Raskin with Barclays Capital.

Joshua R. Raskin - Barclays Capital, Research Division

Just a question on the Texas -- I guess I'm just a little confused on Texas rebate versus the Texas MLR issue, so is it just because the new members are coming in and that doesn't count as sort of a statewide profit? Is it just -- is just CHIP the only thing that counts or is that profit cap? I'm just sort of confused as to why the MLR was a lot higher and yet you're still accruing some of these negative revenue accruals because of the rebates you needed there?

John C. Molina

Josh, this is John. The profit cap is based on the product line, and so CHIP's got one. Actually they all have one, but in CHIP our MCR is low enough that we've got to do a rebate, but the other lines of business, it's high.

Joshua R. Raskin - Barclays Capital, Research Division

Okay. You don't get to sort of offset any of that within the state?

John C. Molina

No, you don't.

Joshua R. Raskin - Barclays Capital, Research Division

And then -- sorry, just one more quick correction or question. You put in the press release, you talked about a potential for provider payment recoupment in California, and I was just curious what the potential size was or how that would go about, or how that would come about, I should say?

John C. Molina

Well, if the fee schedule goes into effect as the state of California has planned, that would reduce the medical fee schedule by 10%. To the extent that we had providers that we paid at the higher rate going back to July 1, we would have the ability to go back and recoup the difference between what we pay them and the new fee schedule.

Joshua R. Raskin - Barclays Capital, Research Division

And is there a way to size what that is?

John C. Molina

We have not done that yet.

Joshua R. Raskin - Barclays Capital, Research Division

Okay. And I know they've done retro cuts before. Have you been successful in going back to providers and saying, "We overpaid CHIP [ph]. Here's the new fee schedule"?

John C. Molina

The answer to that is somewhere between 0% of the time and 100% of the time.

Operator

Our next question will come from the line of Chris Rigg with Susquehanna.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Another clarifying question on the California issue, is the 6% assumed reduction only -- will that only occur if the 10% fee schedule reduction occurs? Does one have to happen for the other to occur, I guess is what I'm trying to ask?

John C. Molina

Yes.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Okay. Can you give us a sense for -- I know there's been some ongoing legal issues there, court hearings. Where does that process stand at this point?

John C. Molina

There are 2 separate processes going on. A prior rate change from several years ago has been contested and worked its way through the courts, and I believe it was heard by the Supreme Court this past month. That relates to who has standing to sue regarding the rates. The current rate year has a proposed 10% rate cut in place and that has been submitted to CMS for approval. The 2 are not at this point connected.

Operator

Our next question will come from the line of Matt Borsch with Goldman Sachs.

Sam Wass - Goldman Sachs Group Inc., Research Division

This is Sam Wass on for Matt. I know that you mentioned that hospital utilization is down 7%. I was wondering if it'd be possible to go into any more specifics on that, whether you saw variation across different markets?

Joseph Mario Molina

Sam, this is Mario. No, we're not going to break it out by market. Suffice it to say, we saw a 7% decrease year-to-date as compared to last year, and that from the second to the third quarter, hospital utilization was flat.

Sam Wass - Goldman Sachs Group Inc., Research Division

Got you. And is there anything worth noting on physician or outpatient?

Joseph Mario Molina

Well, I think we talked about what the changes were for pharmacy, physician and outpatient, so I don't think there's anything more remarkable beyond what we described in the release.

Operator

Our next question will come from the line of Charles Boorady with Crédit Suisse.

Charles Andrew Boorady - Crédit Suisse AG, Research Division

First question, just a small nit here on the deficiency reserve release. Can you size that up for us? Was it roughly in the $0.02 to $0.04 range?

Joseph W. White

It's about -- it's Joe speaking, Charles. It's 1.8 million, so a hair over $0.02.

Charles Andrew Boorady - Crédit Suisse AG, Research Division

Okay, great. And then in terms of your guidance for the year, what are you assuming for fourth quarter influenza?

Joseph Mario Molina

Well, Charles, we don't break it out that way. What we have said and maintain is that we are looking at $1.55 for the year.

Charles Andrew Boorady - Crédit Suisse AG, Research Division

Basically we assume that you bake in a typical flu season for the year, which hasn't really been picking up. It's kind of early in the season, but as we look at one of your guidance [ph]...

Joseph Mario Molina

It is early, but we always take that into consideration when we develop our numbers for the year.

Charles Andrew Boorady - Crédit Suisse AG, Research Division

Got it. As we look out to the new expansions in 2012, there's some expansions in existing markets and in some new markets. How should we think about the marginal admin cost that comes with some of the new contract wins?

Joseph Mario Molina

Well, I think we talked a lot about that at the Investor Day back on September 15, so I would refer you back to our discussions of the new and expanded markets that we talked about, especially in Texas. There will be some additional incremental admin costs, but since we're already operating in Texas, for example, it's not going to be large.

Charles Andrew Boorady - Crédit Suisse AG, Research Division

Okay, great. Yes, those were helpful slides. just a wide range of possibilities for 2012 still. And I guess, getting some more granularity on that, when do you think you'd have a reasonable range down at the EPS level of where you think putting those components together we'd get to next year?

Joseph Mario Molina

Well, we're not prepared to talk about 2012 guidance at this time, so it would probably have to wait until after the first of the year.

Charles Andrew Boorady - Crédit Suisse AG, Research Division

So after Jan. 1. All right, great. Just finally, as you look at the various components of medical trend, and I know you gave us some of those components on the call today, after the quarter ended just in the last, say, month, or as you look towards the end of the last quarter, you reported -- do you start to see any inflection points at all in any of those components where costs are either continuing to decrease surprisingly or starting to bend upward?

John C. Molina

It's too early to make any definitive statements, Charles.

Operator

[Operator Instructions] Our next question will come from the line of David Windley with Jefferies.

David H. Windley - Jefferies & Company, Inc., Research Division

So I was looking at the 4 states in which you had rate changes that were either not effective until after the quarter or effective for only part of the quarter, and I wondered if it was possible or if you looked at what your MCR would have been had those rates been effective for the full third quarter and what would the net effect those had been?

John C. Molina

You know what, we didn't do that analysis. I'm not really sure how meaningful it would have been.

David H. Windley - Jefferies & Company, Inc., Research Division

Okay. If I could ask one other then.

John C. Molina

Sure.

David H. Windley - Jefferies & Company, Inc., Research Division

In Texas, on the comments around higher utilization, is that exclusively related to the new ABD members, or is that a statement that reflects more of a broader base of membership that's driving utilization?

Terry P. Bayer

This is Terry Bayer. It's reflective of the new membership and it ties back to what we've shared with you when we go into a new market, we run it at a higher cost until we're able to institute all of our programs. So that applies in this case to the new membership in the Dallas/Fort Worth service area this year.

Operator

Our next question will come from the line of Tom Caroll with Stifel.

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

A clarification on the California revenue adjustment of $7.5 million, is that just for third quarter, or is that an amount that you expect to cover the entire second half of this year?

John C. Molina

No, Tom. Joe can answer that.

Joseph W. White

Yes, Tom, it's Joe. That is just the estimated third quarter impact so about $2.5 million a month.

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

Okay. So is -- I mean, if things don't get finalized, could we see a paragraph like this on your fourth quarter call or do you expect to have things wrapped up by then?

Joseph Mario Molina

It's certainly possible, Tom. It all depends on what happens with CMS in the state, but this is our best estimate based on what they've told us and what the revenue is going to look like.

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

Got it, got it.

Joseph Mario Molina

If we... will go with the final rates. If we don't, you will see another paragraph next quarter.

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

Okay, that's helpful. And on your repurchase that you mentioned, the $75 million, I think this is the largest repo authorization we have ever seen out of Molina, right, certainly since your IPO. Do you have a corporate policy on how those shares are to be repurchased over time, a methodology?

John C. Molina

I'm not sure what you mean.

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

So is it going to be pro-rata, is it going to be based on some kind of share price formula relative to a benchmark, is it going to be just purely opportunistic on your part?

John C. Molina

The board gave us latitude, Tom. Really what triggered it was, for a while, our shares were trading below book value and did not make a lot of sense for us to just have a sitdown at that level. So to the extent that we see that the stock is undervalued, we now have the ability to deploy capital to repurchase those shares.

Operator

Our next question will come from the line of Scott Green with Bank of America.

Scott J. Green - BofA Merrill Lynch, Research Division

What would be your forward view of what a normal cost trend is? And you've executed well to keep costs flat here. How long do you think that can continue?

John C. Molina

Scott, I'm not sure that, in our business, there is one normal cost trend. We've got 10 health plans with 10 different things happening in each of them. So realistically, we don't look at what the future cost trends may be. What we've got to do is manage within the budget that the state gives us.

Joseph Mario Molina

And -- this is Mario. Let me just add, states have the ability to influence cost trends. A good example is what's happening in California where they are decreasing rates to providers, and this is not uncommon in the Medicaid program for states to make adjustments to the benefits or to the payments they make to providers, and that influences what our medical cost trend will be. And that's really beyond our control. That's set by the states.

Scott J. Green - BofA Merrill Lynch, Research Division

Okay. So when states are sitting down and calculating what a rate of date [ph] should be going forward, they have to make some projection of trend. Is there some general range that they use in some of your more mature core markets?

John C. Molina

No, I don't want to generalize it. I mean, what you saw as an example, our rate in Florida ended up being 7.5% because of where our population is distributed in that state relative to the state as a whole, which I think the state gave out rates that were basically flat, but because of where we were in the cost in those particular submarkets of Florida, we were able to get a higher rate increase.

Joseph Mario Molina

Yes. This is Mario again. The rates must be actuarially sound, and so each state must look at the rates independently based on the experience and come up with an actuarially sound rate, and they do it typically in rate sales. So it may vary from geographic region to geographic region, it may vary depending on the 8 code [ph] of the beneficiaries. So it's a complex thing and it's very difficult to generalize a single number. I mean, I think you can look back over the years and probably come up with some numbers, but again, it's a mosaic. It's lots of little pieces that get blended together to come up with the final number.

Scott J. Green - BofA Merrill Lynch, Research Division

Okay. And could we assume that your rate increase in Florida is adequate so that you remain in all your counties? I think you had spoken last quarter about using the rates to gauge your future operations in a few of the reform counties?

Joseph Mario Molina

We are happy with the rates that we receive in Florida.

Operator

Our next question will come from the line of Peter Costa with Wells Fargo.

Peter H. Costa - Wells Fargo Securities, LLC, Research Division

Can you give us any update on the Washington State rebid? Has there been any new information there in terms of how that business is going to work and what populations are going to be included there?

Terry P. Bayer

This is Terry Bayer. I believe at our Investor Day we didn't quite have the fully released RFP, so I can update now. That RFP is released. It is due back to the state on December 2, and at this time, the current populations as well as they have added the SSI population in Washington, so that will be a new population based on this RFP.

Peter H. Costa - Wells Fargo Securities, LLC, Research Division

And do you have some dollar numbers around how big that will be?

Terry P. Bayer

No, not at this time.

Peter H. Costa - Wells Fargo Securities, LLC, Research Division

Okay. And then, can you talk a little bit about the Wisconsin rate environment? You had a tough rate there at the beginning of this past year of 2011 and sort of moving, getting closer to the 2012 rate. Have you been in discussions with them about sort of your situation on MLR there and what they're likely going to do with the rates in 2012?

John C. Molina

We certainly shared our data with the Medicaid agency at the state of Wisconsin, but at this point they haven't given us final rates.

Peter H. Costa - Wells Fargo Securities, LLC, Research Division

Any feeling for which direction that's going to go or is it too early to tell?

John C. Molina

I think it's too early to tell.

Operator

Our next question will come -- is a follow-up question from the line of Tom Carroll with Stifel.

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

Question on California again. And I think it was Josh that brought it up that you had highlighted that you haven't recorded any potential recovery of provider payments, you've only taken a hit against your potential reimbursement loss. I'm trying to think how -- I know you said you haven't thought about quantifying that yet but tell me if this is kind of an appropriate back-of-the-envelope way of looking at it. If you've got $7.5 million this quarter, let's say you have another $7.5 million next quarter for $15 million total, let's assume you can mitigate half of that. I mean, can I estimate that $7.5 million you might get back, and if I tax adjust that, that's like $0.10 a share on a full year that your guidance could be underestimated by? Meaning you should be reporting a higher number by about $0.10 cents? Is that a way to think about it or am I way off base?

John C. Molina

The challenge, Tom, is what's that -- your initial math is right, 7.5 and 7.5. The challenge is what's the percentage that we can get back, and the real issue for us is California tends to have more IPAs and so those contracts need to be negotiated one-on-one. And then I believe that inpatient and pharmacy are also going to be a challenge. I think inpatient may be excluded from that rate cut, and there's something about pharmacy to where it can or can't be adjusted. That's why we haven't done it. I'm just trying to be conservative until the rates actually come out. We certainly can't tell with the providers now.

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

So -- but that's the math though, right? I mean, if you could mitigate half of what I just threw out there, it would be like $0.10 a share?

Joseph Mario Molina

That's probably right, Tom. It's just a question of what are the final rates going to be, how much of this fee-for-service cut can we pass on to the providers, how much we will be able to recoup. I think to the extent that we're paying people off the Medicaid fee schedule, recoupment shouldn't be a big problem, but as John points out, a lot of our physician payments in California are tied to capitation rates. So...

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

It's contracted...

Joseph Mario Molina

There's definitely some upside that we're not taking into account right now, but we don't know how much. I wouldn't expect it to be huge number.

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

So it doesn't sound like that amount would be recouped in this calendar year, given the process and the nuances of California provider contracting?

Joseph Mario Molina

You mean before the end of 2011?

Thomas A. Carroll - Stifel, Nicolaus & Co., Inc., Research Division

Yes, yes.

Joseph Mario Molina

No, I don't think so. This is going to be more 2012 recoupments.

Operator

Our last question for today will be a follow-up question from the line of Chris Rigg with Susquehanna.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

On the bond -- on the buying back to converts versus the stock, looks like the converts are trading at roughly $0.97 on the dollar. Obviously the stock is where it is. Can you sort of tell us how you guys view the relative detract in this, whether you would want to buy the converts at a discount in par or you would prefer to buy the stock here and sort of how do you guys think about that internally?

John C. Molina

We look at it whichever purchase is going to get us the best, ultimately, the best use of our capital. We have repurchased the convert before and we have repurchased stock.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Any sense for what you prefer today?

John C. Molina

Really it goes on a day-by-day basis what the relative prices are of the two.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Okay. And then last question. So you guys came up with $1.55 of earnings, that updated number with Q2, and obviously we talked quite a bit about that number and the impact to California at the Investor Day. Can you remind me, when you guys came out with the updated $1.55 with second quarter, were you guys already assuming the 6% cut in California, or were you assuming something less at that time?

John C. Molina

No, we were assuming the 6% cut.

Operator

Dr. Molina, there are no further questions at this time. I will turn the call back to you. Please continue with your presentation or closing remarks.

Joseph Mario Molina

Well, I just want first of all to thank all the employees. This has been a very challenging year from a rate standpoint, and the team has pulled together and done a great job of managing our medical costs and at the same time holding down the admin costs. We've managed to improve our status in terms of NCQA accreditation, so I just want to thank everyone who's really pulled together to make this year-to-date successful. I also want to remind everyone that we will be out in New York again for Investor Day in January. So we look forward to seeing you there, and that concludes our presentation. Thank you.

Operator

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines. Have a great day, everyone.

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