Evolent Health, Inc. (EVH) Earnings Call Transcript & Summary

Good morning and welcome to the Evolent Health Update Conference Call. As a reminder, this call is being recorded. Your host for the call today is Frank Williams, Chief Executive Officer of Evolent Health. This call will be archived and available later this evening for the week via the webcast on the company's Investor Relations website, ir.evolenthealth.com. Here are some important introductory information. This call contains forward-looking statements under the U.S. federal securities laws. These statements are subject to risks and uncertainties that could cause actual results to differ materially from historical experience or present expectations. A description of some of the risks and uncertainties can be found in the company's reports that are filed with the Securities and Exchange Commission, including cautionary statements included in the current and periodic filings. At this time, I will turn the call over to the company's Chief Executive Officer, Mr. Frank Williams. Please go ahead.

I'm Frank Williams, CEO of Evolent Health, and I'm joined by our President, Seth Blackley; and CFO, John Johnson. We wanted to use tonight's call to provide an overview of the transaction we announced today after market closed between our partner, Passport Health Plan and Molina, as well as a general update on Evolent. We provided a presentation with our 8-K filing to guide the discussion, and I'll start on Slide 5. Overall, we feel like this transaction is attractive not only for Passport's members and the local community and employees, but also for the owners and Molina. Starting with Slide 5, Passport and Molina have entered into a definitive agreement, under which Molina will acquire certain assets from Passport, including Passport's brand, operational and clinical infrastructure and certain provider and vendor agreements. We've also agreed on a separate transaction for Passport's real estate holdings, which will be sold to Molina. Under the terms of the transaction, it's assumed that Molina will assume the Passport membership upon regulatory approval, and Evolent will continue to provide its comprehensive services to the plan through the end of the year under the existing terms of its service contract. Separately, Molina and Evolent have entered into an agreement for Evolent to provide specialty care management services for cardiovascular care in Kentucky beginning in 2021, with the potential for additional states in 2021 and '22. In terms of the rationale for Molina, I think Passport represents an attractive entry point into the Kentucky Medicaid market. Starting with Passport's clinical approach, as we've talked about for some time, Passport has a very unique approach to population health, to integrated care, leveraging the community and social institutions, really proactive care management with vulnerable patients, incorporating social determinants of health. And I think all of those factors, even if you look at Passport's response during COVID, represented a really unique approach to managing vulnerable patients in Medicaid and I think attractive to Molina. Second, the plan is doing very well financially. It has had a 1.9% last 12 months' operating margin through June 30, 2020. This has been a really significant turnaround since the retroactive rate cut from the state and has represented a 14-point margin improvement since Q1 of 2019. The plan has a strong balance sheet and is sitting in a very good position, if you look at its forecast for the remainder of 2020. Third, the plan has a fabulous reputation in the market. It's the second largest player in the state in terms of market share with about 315,000 members. They've grown the plan membership by 8% since the beginning of the year. So all of the things we talked about on the clinical side, community connectedness, the response during COVID have been reflected in its reputation and membership growth in the local market. From an Evolent perspective, it is somewhat gratifying to see that when we brought together our total cost of care management solutions, so that's everything we do in population health, we also added specialty care management with New Century last year and then also integrating that with the administrative support that we apply, if you take all of those things and that really helped to drive a lot of the turnaround and, again, a demonstration of when we bring those things together, the kind of value we can create in a relatively short period of time. Turning to the next slide. I think one of the best aspects of this transaction is what it does for the constituents that Passport touches in the local market, starting with members. We're in the midst of a significant pandemic. There was a lot of concern about what would happen to those members if they were transitioning health plans, with COVID, with a lot of the social unrest issues going on in Louisville and other parts of the state. And this is a way to ensure continuity of care during this period for members, so people being able to retain their care manager, their providers. And I think, really, we feel good about this outcome, particularly for members. Second, for employees, we've got several hundred absolutely fantastic employees with both Passport and Evolent that have supported the plan, that have done an excellent job, and they will be working directly with Molina, so that's a lot of continuity in terms of plan operations and, again, everything regarding members. And then lastly, if you think about the network of support organizations that Passport integrates with several hundred across the state, that's integrated into people's care plans, very unique in incorporating social determinants of health. And again, by working directly with Passport, that will support that type of integration continuing, which is important not only in Louisville, but through the rest of the state. Looking at the transaction financially. We feel very good about this in terms of the return of capital for the owners, and just to break it down for you. Molina is acquiring certain assets, and you'll see this on Slide 8, upfront for $20 million. They're paying a performance fee of up to $40 million based on membership retention at the beginning of 2021. Evolent will retain statutory capital after meeting claims obligations for 2020. So if you look at where Passport sits today, with the statutory capital balance, it's slightly north of 250% as of June 30. You think about retaining members at a reasonable rate, and then we owe $20 million to the provider owners that was guaranteed as part of our original investment, we would estimate Evolent's transaction proceeds to be in the range of $130 million to $170 million. And again, that's versus our original investment of $110 million, which was the upfront purchase price and the $40 million surplus note. Also the transaction does accelerate the time frame of return of capital for Passport's owners most likely because we'll have dollars coming in on top of the stat capital, so that is an attractive feature. And then lastly, we are excited about working with Molina in specialty care management, in cardiovascular care in Kentucky. That will begin in 2021, and we also see a potential with additional states in 2021 and '22. So again, from a financial perspective, stepping back, overall, we feel very good about relative to our original investment and driving a return and also retaining some service revenues that this is in a good place for us as Evolent, and it also should lead to earlier capital return for the other provider owners. So that gives you a sense of the overall rationale for the transaction, the benefit for the community and also some of the financial details as well. If you turn to the last slide, I think we just wanted to give a general update on the outlook for Evolent for 2020 given that we're a few weeks away from our earnings announcement, and there's been a lot going on in the overall economy. So for the second quarter, we expect to be around the midpoint of our previously stated adjusted revenue range and slightly above our previously stated range for adjusted EBITDA. For full year 2020, to be slightly above our previously stated guidance range for adjusted revenue and EBITDA. And again, we'll provide details and numbers in our announcement in early August. And also we are on track towards our target of 6 to 8 new signings for this year. We've already welcomed several new partners this year. Those implementations are off and running and going well, and we feel good about our overall target for the year. So stepping back, we've emphasized the fact that there's 3 solution areas that we're focused on: total cost of care; specialty care management; and then our administrative platform. We feel very good about our growth outlook given our focus in those 3 areas. We feel on track for this year and also well set up for the next several years given where we sit in the market and the differentiation around those services. Also I think we've executed well thus far this year just operationally on what we're seeing in terms of financial performance as well. And again, we'll provide a lot more detail on that at our earnings announcement coming up in August. So hopefully, that gives you a general sense of the transaction on where Evolent sits today. And with that, we'll end the formal part of the conversation. We'll be happy to take a few questions. Thank you.

[Operator Instructions] Our first question today will come from Ryan Daniels with William Blair.

This is Jared Haase in for Ryan. And congrats on the update here. Just wanted to get some more details regarding the new Passport service agreement. Can you talk a little bit more about some details there, just any color around either the length or size of that contract and how that sort of compares with the existing agreement that's in place? And then just to tack on a quick follow-up. You mentioned the potential to expand there. I'm curious if there are any specific triggers or milestones that are in place that would trigger an expansion either in Kentucky or into other states, like you mentioned.

Jared, it's Seth. I can take that one. So let me break it down into 2 parts. First, with respect to Kentucky, overall, very excited about what this means and the ability to work with Molina in their rollout across the state and the membership that they'll be taking on. In terms of the specific size of it, to your question, there's a lot still in flux right now. First, there's sort of what will the membership be when everything has settled out. And then second, on the PMPM front, while the agreement is 100% locked, and we will go live when one, whether there is some flexibility on more of a lower PMPM fee model versus a slightly higher PMPM performance model. And so we'll sort of net all of that out later in the year. But I would just say, in general, it's material. It's an important agreement for us and something that we're excited about on the Kentucky side. With respect to the additional states, I think the most important thing is that we've had a chance over the last few weeks to go much deeper with the operating team at Molina. They're sophisticated. They've reviewed and vetted New Century Health in detail and have a lot of excitement about what we're doing, and we've developed a good relationship with them. They have, obviously, over 3 million lives nationally. And so I think the main thing we can say right now is that we have a lot of confidence that we will add, beyond Kentucky, additional geography with Molina. The exact timing and scope of that, we're still finalizing, working out and having conversations about. But I think it will have impact on '21 and should have an opportunity for us to expand with Molina over time. With respect to your last question of specific milestones, it's really focused on where we come out in terms of the conversations with them and impact, but that's the overall contours of it. And it's exciting overall, I think, both for us and Molina.

Our next question today will come from Robert Jones of Goldman Sachs.

Great. This is Jack Rogoff on for Bob. So as we think about the membership base for the New Century Health module and the $40 million membership retention performance fee, do you know if this Molina/Passport entity will be considered an incumbent for the purposes of lives allocation in the state? I know the original RFP had some provisions around incumbency not being at risk for losing existing membership. So just curious what the status of that entity would be. And then what exactly is the membership retention threshold for the performance fee?

This is Frank. So on -- a couple of things. I think you were asking about -- I'll take the second one first. Passport today has about 315,000 lives. And if we retain a significant portion of those lives, if Molina does as they launch in January, then we would receive pretty much all of that $40 million. It tiers down. So when you get to a level of 220,000 lives or 80,000 lives, then the payment would come down and would scale down. But it is sort of based on where they end up. In terms of incumbency, I mean they are buying the plan. The contract will essentially come over to them. We do believe the state is going to be supportive of this transaction because of the concern around COVID and potential disruption for patients during a pretty difficult period. So with that, we think Molina has a significant opportunity to go into the enrollment period in the fourth quarter, essentially, with an ability to take those members. They obviously have to retain those members. But given Passport's strong brand, reputation in the market, the fact they've actually been growing lives across this year, we think they've got a substantial opportunity to do quite a good job in terms of retaining a very high portion of the 315,000 members.

Our next question today will come from Matthew Gillmor of Baird.

I was hoping you could review the cash return and the timing that Evolent will get. I know the $20 million is at closing, but just any indications with respect to the $40 million performance fee and then also how the statutory capital comes back in.

Matt, this is John. I'll take that one. So I think the simplest way to think about the cash transfer here is in 2 parts. The bottom end of the range that we talked about of $130 million really is related to the statutory capital release back to Evolent, net of the $20 million guarantee payments to the other provider owners, and that will be coordinated with the Kentucky DOI. We would expect a portion of that to come back in the fall or later this year, and then the bulk of it to come back during the first half of next year. The remaining $40 million, which takes us up to $170 million, is related to the membership potential that Frank was talking about earlier, and that will be calculated in the first part of next year.

Yes. If you add up those components, I mean what we mentioned on the call is we're over 250% RBC, right, so that puts that balance in roughly the $140 million range. You have the upfront asset payment of $20 million. There's a portion that would come from the membership true-up of the $40 million. So you add those components together and, again, look at the overall forecast for the plan. We think we have a substantial opportunity to be at the high end of that range based on that if you add up all of those components. And as John said, again, some of that hopefully coming in the fall and then some in the early part of next year. So I do think an early return of capital than if we had not done this transaction.

Our next question today will come from Donald Hooker of KeyBanc.

Congratulations on the sale. Yes, I was interested more in the commentary around the guidance. It seems like you're set up for a pretty good second half in terms of both revenue and EBITDA. Can you elaborate on to the drivers there? I mean is this something related to Passport? You've also mentioned that Passport was doing a bit better than expected with regards to membership or kind of what -- why are we going to see an upside to 2020 guidance? And sort of maybe in the last call you hosted, you referenced some carryover and upside into 2021. I was hoping we can extrapolate to 2021 as well.