CENTENE CORPORATION
The following discussion of our financial condition and results of operations
should be read in conjunction with our consolidated financial statements and the
related notes included elsewhere in this filing. The discussion contains
forward-looking statements that involve known and unknown risks and
uncertainties, including those set forth under Part II, Item 1A. "Risk Factors"
of this Form 10-Q.
EXECUTIVE OVERVIEW
General
We are a leading multi-national healthcare enterprise that is committed to helping people live healthier lives. We take a local approach - with local brands and local teams - to provide fully integrated, high-quality, and cost-effective services to government-sponsored and commercial healthcare programs, focusing on under-insured and uninsured individuals.
Results of operations depend on our ability to manage expenses associated with health benefits (including estimated costs incurred) and selling, general and administrative (SG&A) costs. We measure operating performance based upon two key ratios. The health benefits ratio (HBR) represents medical costs as a percentage of premium revenues, excluding premium tax and health insurer fee revenues that are separately billed, and reflects the direct relationship between the premiums received and the medical services provided. The SG&A expense ratio represents SG&A costs as a percentage of premium and service revenues, excluding premium tax and health insurer fee revenues that are separately billed. Our insurance subsidiaries are subject to the Affordable Care Act (ACA) annual health insurer fee (HIF), absent a HIF moratorium or repeal. We recognize revenue for reimbursement of the HIF, including the "gross-up" to reflect the non-deductibility of the HIF. Collectively, this revenue is recorded as premium tax and health insurer fee revenue in the Consolidated Statements of Operations. For certain products, premium taxes, state assessments and the HIF are not pass-through payments and are recorded as premium revenue and premium tax expense or health insurer fee expense in the Consolidated Statements of Operations. A moratorium suspended the HIF for the 2019 calendar year. Due to the size of the health insurer fee, one of the primary drivers of the year-over-year variances discussed throughout this section is related to the reinstatement of the HIF in 2020.
WellCare Acquisition
OnJanuary 23, 2020 , we acquired all of the issued and outstanding shares ofWellCare Health Plans, Inc. (WellCare) (the WellCare Acquisition). The transaction was valued at approximately$19.6 billion , including the assumption of$1.95 billion of outstanding debt. The WellCare Acquisition brings a high-quality Medicare platform and further extends our robust Medicaid offerings. The combination enables us to provide access to more comprehensive and differentiated solutions across more markets with a continued focus on affordable, high-quality, culturally-sensitive healthcare services. Due to the size of the acquisition, one of the primary drivers of the year-over-year variances discussed throughout this section is related to the acquisition of WellCare.
COVID-19 Trends and Uncertainties
The COVID-19 outbreak has created unique and unprecedented challenges. To support our members, providers, employees and the communities we serve, we have taken several actions and made numerous investments related to the COVID-19 crisis. We have extended coverage of COVID-19 testing and screening services for Medicaid, Medicare and Marketplace members and are waiving all associated member cost share amounts for COVID-19 testing and screening. We are delivering new critical support to Safety Net providers, including Federally Qualified Healthcare Centers (FQHCs), behavioral health providers, and long-term service and support organizations. We are addressing social determinants of health for vulnerable populations during the COVID-19 crisis with a commitment to research and investment in non-medical barriers to achieving quality health outcomes. We developed initiatives designed to support the disability community affected by the pandemic. We created a provider support program to assist our network providers who are seeking benefits from theSmall Business Administration (SBA) through the CARES Act. We established a Medical Reserve Leave policy to support clinical staff who want to join a medical reserve force and serve their communities during the COVID-19 pandemic. We are providing additional employee benefits including waiving cost-sharing for COVID-19 related treatment, emergency paid sick leave, and one-time payments to employees in a small number of critical office functions. We have taken significant steps to support our employees to protect their health and safety, while also ensuring that our business can continue to operate and that services continue without disruption. We have implemented our business continuity plans and have taken actions to support our workforce. We have transitioned the vast majority of our employees to work from home, allowingCentene to continue to operate at close to full capacity, while continuing to maintain our internal control framework. As a result, 22
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we have experienced and expect continued incremental costs due to investments and actions we have already taken and continued efforts to protect our members, employees and communities we serve. The impact on our business in both the short-term and long-term is uncertain. The outlook for 2020 still largely depends on future developments, including but not limited to: the length and severity of the outbreak, effectiveness of containment actions, and the timing around the development of treatments and vaccinations. The pandemic and these future developments have impacted and will continue to affect our membership and medical utilization. The pandemic also has the potential to impact the administration of state and federal healthcare programs and premium rates. Early in the second quarter, we experienced a significant decrease in utilization during shelter-in-place and similar orders, which caused delayed or avoided costs. The deferral of medical services may lead to higher costs of treatment once members return to seeking medical care, as their health issues may have become more acute. As shelter-in-place orders were lifted late in the second quarter, medical utilization began to increase as elective procedures and other non-emergent care resumed. We have experienced and continue to expect incremental COVID-19 costs as the outbreak continues to spread. In addition, the pandemic has widespread economic impact, driving interest rate decreases and lowering our investment income. We are also experiencing higher interest expense due the deferral of the early redemption of senior notes.
At this point in time, we expect the impact of all these items to slightly benefit our 2020 results. We are confident we have the team, systems, expertise and financial strength to effectively navigate this challenging pandemic landscape.
Regulatory Trends and Uncertainties
The United States government, politicians, and healthcare experts continue to discuss and debate various elements ofthe United States healthcare payment model. From the constitutionality of the Affordable Care Act, to Medicare for All (single payer), to pharmacy pricing structures, all areas of healthcare are being challenged to assure adequate healthcare is delivered to all segments of the population. During this time of deliberation, we remain focused on the promise of delivering access to high quality, affordable healthcare to all of our members and believe we are well positioned to meet the needs of the changing healthcare landscape. We have more than three decades of experience, spanning six presidents from both sides of the aisle, in delivering high-quality healthcare services on behalf of states and the federal government to under-insured and uninsured families, commercial organizations and military families. This expertise has allowed us to deliver cost effective services to our government sponsors and our members. While healthcare experts maintain focus on personalized healthcare technology, we continue to make strategic decisions to accelerate development of new software platforms and analytical capabilities. We continue to believe we have both the capacity and capability to successfully navigate industry changes to the benefit of our members, customers and shareholders. InApril 2020 , the Supreme Court ruled that the federal government will be required to pay health insurers for payments due under the risk corridor program, originally established under the ACA. We have a claim of approximately$450 million for risk corridor payments, which we continue to pursue. As ofJune 30, 2020 , we did not have any risk corridor receivables recorded on our balance sheet.
For additional information regarding regulatory trends and uncertainties, see Part II, Item 1A, "Risk Factors."
Second Quarter 2020 Highlights
Our financial performance for the second quarter of 2020 is summarized as follows: • Managed care membership of 24.6 million, an increase of 9.6 million
members, or 64% year-over-year.
• Total revenues of
• HBR of 82.1%, compared to 86.7% for the second quarter of 2019.
• SG&A expense ratio of 8.8%, compared to 9.1% for the second quarter of 2019.
• Adjusted SG&A expense ratio of 8.5%, compared to 9.0% for the second
quarter of 2019.
• Operating cash flows of
• Diluted earnings per share (EPS) of$2.05 , compared to$1.18 for the second quarter of 2019.
• Adjusted Diluted EPS of
2019. Both diluted EPS and Adjusted Diluted EPS for the second quarter of
2020 benefited from lower medical utilization as a result of the COVID-19
pandemic.
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A reconciliation from GAAP Diluted EPS to Adjusted Diluted EPS is highlighted
below, and additional detail is provided above under the heading "Non-GAAP
Financial Presentation":
Three Months Ended June 30,
2020 2019
GAAP Diluted EPS, attributable to Centene $ 2.05 $ 1.18
Amortization of acquired intangible assets 0.25 0.12
Acquisition related expenses 0.10 0.04
Adjusted Diluted EPS $ 2.40 $ 1.34 The following items contributed to our growth over the last year:
•Arkansas . InMarch 2019 , ourArkansas subsidiary, Arkansas Total Care, assumed full-risk on a Medicaid special needs population comprised of people with high behavioral health needs and individuals with developmental/intellectual disabilities.
• Correctional. In
behavioral healthcare, and substance abuse treatment within four prisons
and six community corrections centers across the state of Delaware . In
July 2019 , Centurion began operating under a contract to provide
comprehensive healthcare services to inmates housed in Arizona's state
prison system. In
contract to continue the provision of mental and dental health services to
the Georgia Department of Correction's state prison facilities.
•
providing physical and behavioral healthcare services
through
five year contract which was implemented for all 11 regions by February
2019.
•
in the 2020
Texas , andWashington . • HealthSmart. InMay 2019 , we acquired HealthSmart, a third party
administrator providing customizable and scalable health plan solutions
for self-funded employers, universities and colleges, and Native American
and wellness programs, network, casualty claim, and pharmacy benefit
solutions.
•
phase of an expanded contract for the Medicaid Managed Care Program. The
expanded contract includes children who are in need through the Department
of Children and Family Services /Youth Care by Illinois Department of
Healthcare and Family Services and Foster Care .
• Iowa . In July 2019 , our Iowa subsidiary, Iowa Total Care, Inc. , beganoperating under a new statewide contract for the IA Health Link Program.
•
Connections, began operating under a one-year emergency contract extension
in response to protested contract awards.
officer overturned the
Medicaid contracts to four health plans, excluding our
subsidiary. According to the chief procurement officer, the state health
department failed to follow state law or its own evaluation and bid
guidelines in its award.
• Medicare. In
New York, Ohio , Pennsylvania , and Texas .
•
Families, began operating under a new five-year contract to continue to
provide service to Medicaid enrollees statewide.
•
Health & Wellness, began serving enrollees in the Community HealthChoices
program in the Southeast region as part of the statewide contract that was
fully implemented statewide by January 2020 .
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• QualChoice. In
acquisition expands our footprint in
primarily through Commercial products.
•
93% of Hospital Povisa, S.A. , a private hospital in the Vigo region of
Spain . In June 2019 , our Spanish subsidiary, Primero Salud, acquired
additional ownership in Ribera Salud , increasing our ownership in the
Spanish healthcare company from 50% to 90%.
•
Care of Washington , began providing managed care services to Apple
Health's Fully Integrated Managed Care beneficiaries in the Greater
Columbia , King and Pierce Regions. This integration continued with the
addition of the North Sound Region in July 2019 .
• WellCare. On
WellCare Acquisition brings a high-quality Medicare platform and further
extends our robust Medicaid offerings. The WellCare Acquisition is a key
part of our growth as we become one of the nation's largest sponsors ofgovernment health coverage. The transaction is valued at approximately
debt.
The growth items listed above were partially offset by the following items:
• In
the divestiture of certain products in our
the Medicaid and Medicare Advantage lines of business.
• Effective
correctional contract in New Mexico .
• Beginning in
and non-renewing all of its
business groups in
existing groups is dependent on remaining renewals; however, coverage is
no longer provided to any group policyholders and/or members as of
December 31, 2019 .
We expect the following items to contribute to our revenue or future growth potential:
• We expect to realize the benefit in 2020 of acquisitions, investments, and
business commenced during 2019 and 2020, as discussed above.
• In
serving Medicaid members in
Transfer Agreement under which Meridian was assigned 100% of NextLevel
from the Illinois Department of Healthcare and Family Services'
HealthChoice Illinois Program .
• In
Department of Administration to provide healthcare services in theDepartment of Corrections' facilities.
• In
Health, was awarded an additional service area to provide Medicaid managed
care services in Region 4. With the addition of this new Region, Carolina
Complete Health will provide Medicaid managed care services in three
contiguous regions: Region 3, 4 and 5. In
awarded a statewide contract to administer the state's Medicaid Prepaid
Health Plans. The new contracts are expected to commence in mid-2021.
• In
the 2019 rating year. Our Star ratings returned to a 4.0 Star parent
rating. The 2019 rating year will positively affect quality bonus payments
for Medicare Advantage plans in 2020.
The future growth items listed above are partially offset by the following items:
• Effective
correctional contract in Vermont .
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• In
the 2020 rating year. Approximately 46% of our Medicare members are in a 4
star or above plan for the 2021 bonus year, compared to 86% for the 2020
bonus year. Our quality bonus and rebates may be negatively impacted in
2021.
• In
notified by the
Trillium Community Health Plan an expanded contract to serve as a
coordinated care organization for six counties in the state; however, an
additional competitor was added to Lane County . As a result, our
membership is expected to decrease. Pending successful completion of OHA's
readiness review and additional contract negotiations, the contract is
expected to begin October 2020 .
MEMBERSHIP
From June 30, 2019 to June 30, 2020 , we increased our managed care membership by
9,616,800, or 64%. The following table sets forth our membership by line of
business:
June 30, December 31, June 30,
2020 2019 2019
Medicaid:
TANF, CHIP & Foster Care 10,894,200 7,528,700 7,388,700
ABD & LTSS 1,496,000 1,043,500 997,900
Behavioral Health 173,900 66,500 68,800
Total Medicaid 12,564,100 8,638,700 8,455,400
Medicare Prescription Drug Plan
(PDP) 4,443,100 - -
Commercial 2,763,300 2,331,100 2,449,400
Medicare (1) 996,100 404,500 398,500
International 600,400 599,800 463,100
Correctional 166,000 180,000 153,900
Total at-risk membership 21,533,000 12,154,100 11,920,300
TRICARE eligibles 2,864,700 2,860,700 2,855,800
Non-risk membership 223,300 227,000 228,100
Total 24,621,000 15,241,800 15,004,200
(1) Membership includes Medicare Advantage, Medicare Supplement, Special Needs Plans, and Medicare-Medicaid Plans (MMP).
The following table sets forth additional membership statistics, which are
included in the table above:
June 30, December 31, June 30,
2020 2019 2019
Dual-eligible (2) 969,700 639,200 600,800
Health Insurance Marketplace 2,245,600 1,805,200 1,910,700
Medicaid Expansion 1,931,600 1,346,700 1,290,200
(2) Membership includes dual-eligible ABD & LTSS and dual-eligible Medicare.
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RESULTS OF OPERATIONS
The following discussion and analysis is based on our Consolidated Statements of
Operations, which reflect our results of operations for the three and six months
ended June 30, 2020 and 2019, prepared in accordance with generally accepted
accounting principles in the United States .
Summarized comparative financial data for the three and six months ended
Three Months Ended June 30 ,
Six Months Ended
2020 2019 % Change 2020 2019 % Change
Premium $ 24,745 $ 16,554 49 % $ 47,959 $ 32,757 46 %
Service 979 745 31 % 1,937 1,380 40 %
Premium and service
revenues 25,724 17,299 49 % 49,896 34,137 46 %
Premium tax and health
insurer fee 1,988 1,057 88 % 3,841 2,663 44 %
Total revenues 27,712 18,356 51 % 53,737 36,800 46 %
Medical costs 20,307 14,354 41 % 40,727 28,236 44 %
Cost of services 833 615 35 % 1,658 1,159 43 %
Selling, general and
administrative expenses 2,255 1,574 43 % 4,639 3,183 46 %
Amortization of acquired
intangible assets 197 64 208 % 363 129 181 %
Premium tax expense 1,723 1,106 56 % 3,348 2,765 21 %
Health insurer fee expense 379 - n.m. 724 - n.m.
Impairment - - n.m. 72 - n.m.
Earnings from operations 2,018 643 214 % 2,206 1,328 66 %
Investment and other income 113 120 (6 )% 280 219 28 %
Debt extinguishment costs - - n.m (44 ) - n.m.
Interest expense (187 ) (101 ) 85 % (367 ) (200 ) 84 %
Earnings from operations,
before income tax expense 1,944 662 194 % 2,075 1,347 54 %
Income tax expense 742 170 336 % 827 336 146 %
Net earnings 1,202 492 144 % 1,248 1,011 23 %
Loss attributable to
noncontrolling interests 4 3 33 % 4 6 (33 )%
Net earnings attributable to
Centene Corporation $ 1,206 $ 495 144 % $ 1,252 $ 1,017 23 %
Diluted earnings per common
share attributable to
Centene Corporation $ 2.05 $ 1.18 74 % $ 2.20 $ 2.42 (9 )%
n.m.: not meaningful
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Three Months Ended
Total Revenues
The following table sets forth supplemental revenue information for the three
months ended
2020 2019 % Change
Medicaid $ 18,129 $ 12,119 50 %
Commercial 4,136 3,872 7 %
Medicare (1) 3,538 1,465 142 %
Medicare PDP 674 - n.m.
Other 1,235 900 37 %
Total Revenues $ 27,712 $ 18,356 51 %
(1) Medicare includes Medicare Advantage, Medicare Supplement, Special Needs Plans, and MMP. n.m.: not meaningful
Total revenues increased 51% in the three months endedJune 30, 2020 over the corresponding period in 2019, due to the acquisition of WellCare, growth in theHealth Insurance Marketplace business, expansions, new programs and growth in many of our states, particularlyIowa andPennsylvania , and the reinstatement of the health insurer fee in 2020, partially offset by the divestiture of ourIllinois health plan. Operating Expenses Medical Costs Results of operations depend on our ability to manage expenses associated with health benefits and to accurately estimate costs incurred. The health benefits ratio, or HBR, represents medical costs as a percentage of premium revenues (excluding premium tax and health insurer fee revenues that are separately billed) and reflects the direct relationship between the premium received and the medical services provided. The HBR for the three months endedJune 30, 2020 , was 82.1%, compared to 86.7% in the same period in 2019. The substantial decrease was attributable to lower medical utilization due to the COVID-19 pandemic, partially offset by theHealth Insurance Marketplace business, where margins continue to normalize.
Cost of Services
Cost of services increased by$218 million in the three months endedJune 30, 2020 , compared to the corresponding period in 2019, primarily attributable to increased volume in our specialty pharmacy business, increased non-specialty pharmacy sales to our recently divestedIllinois health plan, and growth from newly acquired businesses. The cost of service ratio for the three months endedJune 30, 2020 , was 85.1%, compared to 82.6% in the same period in 2019. The increase in the cost of service ratio was driven by a higher mix of specialty pharmacy business and non-specialty pharmacy sales to our recently divestedIllinois health plan, which carry a higher cost of service ratio.
Selling, General & Administrative Expenses
Selling, general and administrative expenses, or SG&A, increased by$681 million in the three months endedJune 30, 2020 , compared to the corresponding period in 2019. The SG&A increase was primarily due to the addition of the WellCare business, expansions, new programs and growth in many of our states,$70 million of acquisition related costs, and additional support provided to ourHealth Insurance Marketplace members through the extension of grace periods for member premiums for those impacted by the COVID-19 pandemic. The SG&A expense ratio was 8.8% for the second quarter of 2020, compared to 9.1% in the second quarter of 2019. The decrease to the SG&A expense ratio was driven by the addition of the WellCare business, which operates at a lower SG&A ratio, and the leveraging of expenses over higher revenues. The decrease was partially offset by higher acquisition related expenses due to the 28
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recent closing of the WellCare acquisition and additional support provided to ourHealth Insurance Marketplace members through the extension of grace periods for member premiums for those impacted by the COVID-19 pandemic. The Adjusted SG&A expense ratio was 8.5% for the second quarter of 2020, compared to 9.0% in the second quarter of 2019. The Adjusted SG&A expense ratio benefited from the addition of the WellCare business, which operates at a lower SG&A ratio, and the leveraging of expenses over higher revenues. The decrease was partially offset by additional support provided to ourHealth Insurance Marketplace members through the extension of grace periods for member premiums for those impacted by the COVID-19 pandemic.
Health Insurer Fee Expense
Health insurer fee expense was
Other Income (Expense)
The following table summarizes the components of other income (expense) for the
three months ended
2020 2019
Investment and other income $ 113 $ 120
Interest expense (187 ) (101 )
Other income (expense), net
Investment and other income. Investment and other income decreased by$7 million in the three months endedJune 30, 2020 compared to the corresponding period in 2019. Other income in the three months endedJune 30, 2019 benefited from the Ribera Salud step acquisition gain of$16 million . Investment income for the three months endedJune 30, 2020 decreased as compared toJune 30, 2019 primarily due to a decrease in the amount of reinvested funds in order to preserve liquidity due to the economic environment created by COVID-19. These were partially offset by increases in the performance of our deferred compensation investment fund portfolio and exchange traded funds, which fluctuate with their underlying investments. Interest expense. Interest expense increased by$86 million in the three months endedJune 30, 2020 compared to the corresponding period in 2019. The increase is driven by an increase in borrowings related to the issuance of an additional$7.0 billion in senior notes inDecember 2019 to finance the cash consideration of the WellCare Acquisition as well as the$1.9 billion of WellCare Notes assumed upon acquisition. The increase was also driven by incremental interest expense related to our decision to defer the redemption of our$1.0 billion 2022 Senior Notes as well as incremental borrowings on our revolving credit facility, both as measures to preserve liquidity due to the economic environment created by COVID-19. Income Tax Expense For the three months endedJune 30, 2020 , we recorded income tax expense of$742 million on pre-tax earnings of$1.9 billion , or an effective tax rate of 38.2%, which reflects the reinstatement of the health insurer fee in 2020. For the three months endedJune 30, 2019 , we recorded income tax expense of$170 million on pre-tax earnings of$662 million , or an effective tax rate of 25.7%, which reflects the health insurer fee moratorium. 29
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Segment Results
The following table summarizes our consolidated operating results by segment for
the three months ended
2020 2019 % Change
Total Revenues
Managed Care $ 26,740 $ 17,546 52 %
Specialty Services 4,092 3,403 20 %
Eliminations (3,120 ) (2,593 ) (20 )%
Consolidated Total $ 27,712 $ 18,356 51 %
Earnings from Operations
Managed Care $ 1,909 $ 587 225 %
Specialty Services 109 56 95 %
Consolidated Total $ 2,018 $ 643 214 %
Managed Care
Total revenues increased 52% in the three months ended June 30, 2020 , compared
to the corresponding period in 2019, due to the acquisition of WellCare, growth
in the Health Insurance Marketplace business, expansions, new programs and
growth in many of our states, particularly Iowa and Pennsylvania , and the
reinstatement of the health insurer fee in 2020, partially offset by the
divestiture of our Illinois health plan. Earnings from operations increased $1.3
billion between years, primarily due to the acquisition of WellCare, lower
medical utilization due to the COVID-19 pandemic and the reinstatement of the
health insurer fee in 2020, partially offset by normalized margins in the Health
Insurance Marketplace business.
Specialty Services
Total revenues increased 20% in the three months endedJune 30, 2020 , compared to the corresponding period in 2019, resulting primarily from increased services associated with membership growth in the Managed Care segment, acquisitions, increased volume in our specialty pharmacy business, and non-specialty pharmacy sales to our recently divestedIllinois health plan. Earnings from operations increased$53 million in the three months endedJune 30, 2020 , compared to the corresponding period in 2019, driven by a significant decrease in dental and vision claims due to the COVID-19 pandemic.
Six Months Ended
Total Revenues
The following table sets forth supplemental revenue information for the six
months ended
2020 2019 % Change
Medicaid $ 35,170 $ 24,727 42 %
Commercial 8,255 7,517 10 %
Medicare (1) 6,554 2,848 130 %
Medicare PDP 1,274 - n.m.
Other 2,484 1,708 45 %
Total Revenues $ 53,737 $ 36,800 46 %
(1) Medicare includes Medicare Advantage, Medicare Supplement, Special Needs Plans, and MMP. n.m.: not meaningful
Total revenues increased 46% in the six months endedJune 30, 2020 over the corresponding period in 2019 primarily due to the acquisition of WellCare, growth in theHealth Insurance Marketplace business, expansions, new programs and growth in many of our states, particularlyIowa andPennsylvania , and the reinstatement of the health insurer fee in 2020, partially offset by the divestiture of ourIllinois health plan and the timing of pass through payments from the state ofNew York andCalifornia . During the six months endedJune 30, 2020 , we received premium rate adjustments which did not yield a net composite change across all of our markets. 30
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Table of Contents Operating Expenses Medical Costs The HBR for the six months endedJune 30, 2020 was 84.9%, compared to 86.2% in the same period in 2019. The decrease was attributable to lower medical utilization due to the COVID-19 pandemic and, to a lesser extent, the reinstatement of the health insurer fee. The decrease was partially offset by theHealth Insurance Marketplace business, where margins continue to normalize. The decrease was also offset by new or expanded markets, which initially operate at a higher HBR. Cost of Services Cost of services increased by$499 million in the six months endedJune 30, 2020 , compared to the corresponding period in 2019, primarily attributable to an increase in specialty pharmacy volume, non-specialty pharmacy sales to our recently divestedIllinois health plan and growth from newly acquired businesses. The cost of service ratio for the six months endedJune 30, 2020 , was 85.6%, compared to 84.0% in the same period in 2019. The increase was driven by a higher mix of specialty pharmacy business and non-specialty pharmacy sales to our recently divestedIllinois health plan, which carry a higher cost of service ratio.
Selling, General & Administrative Expenses
SG&A increased by$1.5 billion in the six months endedJune 30, 2020 , compared to the corresponding period in 2019. The SG&A increase was primarily due to the addition of the WellCare business, expansions, new programs and growth in many of our states, and$365 million of acquisition related expense in the six months endedJune 30, 2020 . The SG&A expense ratio for the six months endedJune 30, 2020 was 9.3%, compared to 9.3% for the corresponding period in 2019. The SG&A expense ratio was negatively affected by higher acquisition related expenses due to the recent closing of the WellCare acquisition, offset by the addition of the WellCare business, which operates at a lower SG&A ratio, and the leveraging of expenses over higher revenues.
The Adjusted SG&A expense ratio for the six months ended
Health Insurer Fee Expense
Health insurer fee expense was
Impairment
During the first quarter of 2020, we recorded
Other Income (Expense)
The following table summarizes the components of other income (expense) for the
six months ended
2020 2019
Investment and other income $ 280 $ 219
Debt extinguishment costs (44 ) -
Interest expense (367 ) (200 )
Other income (expense), net
Investment and other income. Investment and other income increased by
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decreased in order to preserve liquidity due to the economic environment created by COVID-19 and by a decline in the performance of our deferred compensation investment fund portfolio, which fluctuates with its underlying investments. The losses from our deferred compensation portfolio were substantially offset by decreases in deferred compensation expense, recorded in SG&A expense. Debt extinguishment costs. InFebruary 2020 , we redeemed all of our outstanding$1.0 billion 6.125% Senior Notes, dueFebruary 15, 2024 (the 2024 Notes) and recognized a pre-tax loss on extinguishment of approximately$44 million . The loss includes the call premium, the write-off of unamortized debt issuance costs and the loss on the termination of the$1.0 billion interest rate swap associated with the 2024 Notes. Interest expense. Interest expense increased by$167 million in the six months endedJune 30, 2020 , compared to the corresponding period in 2019, driven by an increase in borrowings related to the issuance of an additional$7.0 billion in senior notes inDecember 2019 to finance the cash consideration of the WellCare Acquisition as well as the$1.9 billion of WellCare Notes assumed upon acquisition. The increase was also driven by incremental interest expense related to our decision to defer the redemption of our$1.0 billion 2022 Senior Notes as well as incremental borrowings on our revolving credit facility, both as measures to preserve liquidity due to the economic environment created by COVID-19. Income Tax Expense For the six months endedJune 30, 2020 , we recorded income tax expense of$827 million on pre-tax earnings of$2.1 billion , or an effective tax rate of 39.9%, which reflects the reinstatement of the health insurer fee in 2020, the non-deductibility of certain acquisition related expenses, and the tax impact associated with theIllinois divestiture. For the six months endedJune 30, 2019 , we recorded income tax expense of$336 million on pre-tax earnings of$1.3 billion , or an effective tax rate of 24.9%, which reflects the health insurer fee moratorium. Segment Results
The following table summarizes our consolidated operating results by segment for
the six months ended
2020 2019 % Change
Total Revenues
Managed Care $ 51,776 $ 35,268 47 %
Specialty Services 7,995 6,610 21 %
Eliminations (6,034 ) (5,078 ) (19 )%
Consolidated Total $ 53,737 $ 36,800 46 %
Earnings from Operations
Managed Care $ 2,126 $ 1,202 77 %
Specialty Services 80 126 (37 )%
Consolidated Total $ 2,206 $ 1,328 66 %
Managed Care
Total revenues increased 47% in the six months ended June 30, 2020 , compared to
the corresponding period in 2019, primarily due to the acquisition of WellCare,
growth in the Health Insurance Marketplace business, expansions, new programs
and growth in many of our states, particularly Iowa and Pennsylvania , and the
reinstatement of the health insurer fee in 2020, partially offset by the
divestiture of our Illinois health plan and the timing of pass through payments
from the state of New York and California . Earnings from operations increased
$924 million between years driven by the acquisition of WellCare, lower medical
utilization due to the COVID-19 pandemic, and the reinstatement of the health
insurer fee in 2020, partially offset by higher acquisition related expenses and
normalized margins in the Health Insurance Marketplace business.
Specialty Services
Total revenues increased 21% in the six months endedJune 30, 2020 , compared to the corresponding period in 2019, resulting primarily from increased services associated with membership growth in the Managed Care segment, acquisitions, increased volume in our specialty pharmacy business, and non-specialty pharmacy sales to our recently divestedIllinois health plan. Earnings from operations decreased$46 million in the six months endedJune 30, 2020 , compared to the corresponding period in 2019, primarily due to the previously discussed$72 million impairment related to our third-party care management software business 32
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and our move to transparent pharmacy pricing, which began in the second quarter
of 2019, partially offset by a decrease in dental and vision claims due to the
COVID-19 pandemic.
LIQUIDITY AND CAPITAL RESOURCES
Shown below is a condensed schedule of cash flows used in the discussion of liquidity and capital resources ($ in millions).
Six Months
Ended
2020 2019
Net cash provided by operating activities$ 3,474 $ 2,233 Net cash used in investing activities (3,032 ) (929 ) Net cash provided by financing activities 379
236
Effect of exchange rate changes on cash and cash equivalents 3 2 Net increase in cash, cash equivalents, and restricted cash and cash equivalents $ 824
Cash Flows Provided by Operating Activities
Normal operations are funded primarily through operating cash flows and borrowings under our revolving credit facility. Operating activities provided cash of$3.5 billion in the six months endedJune 30, 2020 compared to providing cash of$2.2 billion in the comparable period in 2019. Operating cash flow provided by operations in 2020 was due to net earnings, an increase in accounts payable and accrued liabilities, driven by a delay in tax payments related to the COVID-19 extensions to payment deadlines, the impact of the Health Insurer Fee, an increase net payables related to our PDP business, and an increase in other long-term liabilities, driven by the recognition of the risk adjustment payable forHealth Insurance Marketplace in 2020. Operating cash flow provided by operations in 2020 was partially offset by an increase premium and related receivables, driven by pharmacy rebate receivables. Cash flows provided by operations in 2019 was due to net earnings, an increase in other long-term liabilities, driven by the recognition of the risk adjustment payable forHealth Insurance Marketplace in 2019, and an increase in medical claims liabilities, primarily resulting from growth in theHealth Insurance Marketplace business and the commencement or expansion of theArkansas ,Florida ,Pennsylvania andNew Mexico health plans. Cash flows from operations in each year can be impacted by the timing of payments we receive from our states. As we have seen historically, states may prepay the following month premium payment, which we record as unearned revenue, or they may delay our premium payment, which we record as a receivable. We typically receive capitation payments monthly; however, the states in which we operate may decide to adjust their payment schedules which could positively or negatively impact our reported cash flows from operating activities in any given period.
Cash Flows Used in Investing Activities
Investing activities used cash of$3.0 billion in the six months endedJune 30, 2020 , and$929 million in the comparable period in 2019. Cash flows used in investing activities in 2020 primarily consisted of our acquisition of WellCare and net additions to the investment portfolio of our regulated subsidiaries (including transfers from cash and cash equivalents to long-term investments), partially offset by divestiture proceeds. InJanuary 2020 , we completed the acquisition of WellCare for$19.6 billion , including the assumption of debt. Total consideration for the acquisition was$17.6 billion , consisting ofCentene common shares valued at$11.4 billion ,$6.1 billion in cash, and$95 million related to the fair value of replacement equity awards associated with pre-combination service. Cash flows used in investing activities in 2019 primarily consisted of the net additions to the investment portfolio of our regulated subsidiaries (including transfers from cash and cash equivalents to long-term investments), capital expenditures and acquisitions.
We spent
As ofJune 30, 2020 , our investment portfolio consisted primarily of fixed-income securities with an average duration of 2.5 years. We had unregulated cash and investments of$2.0 billion atJune 30, 2020 , compared to$7.2 billion atDecember 31, 2019 . Of the$2.0 billion ,$1.1 billion represents cash and cash equivalents held by unregulated entities. 33
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Cash Flows Provided by Financing Activities
Our financing activities provided cash of$379 million in the six months endedJune 30, 2020 , compared to$236 million in the comparable period in 2019. During 2020 and 2019, our net financing activities were due to increased borrowings, partially offset by common stock repurchases.
Liquidity Metrics
In connection with the WellCare Acquisition, inJanuary 2020 , we completed an exchange offer for$1.2 billion of 5.25% Senior Notes due 2025 and$750 million of 5.375% Senior Notes due 2026 (collectively, the WellCare Notes) issued by WellCare and issued$1.1 billion aggregate principal amount of 5.25% Senior Notes due 2025 and$747 million aggregate principal amount of 5.375% Senior Notes due 2026. Additionally, our wholly owned subsidiary,WellCare Health Plans, Inc. , assumed the remaining unexchanged WellCare Notes. InFebruary 2020 , we issued$2.0 billion 3.375% Senior Notes due 2030 (the 2030 Notes). We used the net proceeds from the 2030 Notes to redeem all of our outstanding 2024 Notes. We recognized a pre-tax loss on extinguishment of approximately$44 million , including the call premium, the write-off of unamortized debt issuance costs and a loss on the termination of the$1.0 billion interest rate swap associated with the 2024 Notes. We intended to use remaining proceeds to redeem our$1.0 billion 4.75% Senior Notes due 2022 (the 2022 Notes). However, as a result of the spread of COVID-19 and the resulting disruption and volatility in the global capital markets, we deferred the redemption of the 2022 Notes. InFebruary 2020 , we terminated the interest rate swap agreements associated with the 2022 Notes and the Senior Notes dueJanuary 15, 2025 , (the 2025 Notes). The interest rate swaps associated with the 2024 Notes were also terminated in connection with the redemption of those notes as discussed above. In total, we terminated three interest rate swap contracts with a notional amount of$2.1 billion . InApril 2020 , we completed an exchange offer, whereby we offered to exchange all of the outstanding$2.0 billion 3.375% Senior Notes dueFebruary 15, 2030 ,$1.0 billion 4.75% Senior Notes due 2025,$2.5 billion 4.25% Senior Notes, and$3.5 billion 4.625% Senior Notes due 2029 for identical securities that have been registered under the Securities Act of 1933. The credit agreement underlying our Revolving Credit Facility and Term Loan Facility contains customary covenants as well as financial covenants including a minimum fixed charge coverage ratio and a maximum debt-to-EBITDA ratio. Our maximum debt-to-EBITDA ratio under the credit agreement may not exceed 4.0 to 1.0. As ofJune 30, 2020 , we had$89 million of borrowings outstanding under our Revolving Credit Facility,$1.45 billion of borrowings under our Term Loan Facility, and we were in compliance with all covenants. As ofJune 30, 2020 , there were no limitations on the availability of our Revolving Credit Facility as a result of the debt-to-EBITDA ratio. We have a$200 million non-recourse construction loan to fund the expansion of our corporate headquarters. The loan bears interest based on the one month LIBOR plus 2.70% and matures inApril 2021 with an optional one-year extension. The agreement contains financial and non-financial covenants aligning with our revolving credit agreement. We have guaranteed completion of the construction project associated with the loan. As ofJune 30, 2020 , we had$165 million in borrowings outstanding under the loan. We had outstanding letters of credit of$120 million as ofJune 30, 2020 , which were not part of our revolving credit facility. We also had letters of credit for$13 million (valued at theJune 30, 2020 conversion rate), or €12 million, representing our proportional share of the letters of credit issued to supportRibera Salud's outstanding debt which are a part of the revolving credit facility. Collectively, the letters of credit bore weighted interest of 0.7% as ofJune 30, 2020 . In addition, we had outstanding surety bonds of$1.0 billion as ofJune 30, 2020 .
The indentures governing our various maturities of senior notes contain
restrictive covenants. As of
AtJune 30, 2020 , we had working capital, defined as current assets less current liabilities, of$4.9 billion , compared to$7.4 billion atDecember 31, 2019 . We manage our short-term and long-term investments with the goal of ensuring that a sufficient portion is held in investments that are highly liquid and can be sold to fund short-term requirements as needed.
At
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2020 Expectations
During the remainder of 2020, we expect to make net capital contributions to our insurance subsidiaries of approximately$40 million and spend approximately$525 million in additional capital expenditures primarily associated with system enhancements and market and corporate headquarters expansions. These amounts are expected to be funded by unregulated cash flow generation in 2020 and borrowings on our Revolving Credit Facility and construction loan. However, from time to time we may elect to raise additional funds for these and other purposes, either through issuance of debt or equity, the sale of investment securities or otherwise, as appropriate. In addition, we may strategically pursue refinancing or redemption opportunities to extend maturities and/or improve terms of our indebtedness if we believe such opportunities are favorable to us. Based on our operating plan, we expect that our available cash, cash equivalents and investments, cash from our operations and cash available under our Revolving Credit Facility will be sufficient to finance our general operations and capital expenditures for at least 12 months from the date of this filing. While we are currently in a strong liquidity position and believe we have adequate access to capital, we may elect to increase borrowings on our Revolving Credit Facility, and we have deferred the intended early redemption of the 2022 Notes as a result of the spread of COVID-19 and the related disruption and volatility in the global capital markets.
Contractual Obligations
Our contractual obligations, including medical claims liabilities, debt and
interest, and lease obligations were significantly impacted due to the WellCare
Acquisition, which closed in the first quarter of 2020. For additional
information regarding the WellCare Acquisition and the impact to our estimated
contractual obligations, refer to Note 2. Acquisitions, Note 5. Medical Claims
Liability, Note 7. Debt and Note 8. Leases, included in Part I, Item 1. "Notes
to the Consolidated Financial Statements" of this filing.
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REGULATORY CAPITAL AND DIVIDEND RESTRICTIONS
Our operations are conducted through our subsidiaries. As managed care
organizations, most of our subsidiaries are subject to state regulations and
other requirements that, among other things, require the maintenance of minimum
levels of statutory capital, as defined by each state, and restrict the timing,
payment and amount of dividends and other distributions that may be paid to us.
Generally, the amount of dividend distributions that may be paid by a regulated
subsidiary without prior approval by state regulatory authorities is limited
based on the entity's level of statutory net income and statutory capital and
surplus.
Our regulated subsidiaries are required to maintain minimum capital requirements
prescribed by various regulatory authorities in each of the states in which we
operate. During the six months ended June 30, 2020 , we made net capital
contributions of $80 million to our regulated subsidiaries. For our subsidiaries
that file with the National Association of Insurance Commissioners (NAIC), the
aggregate RBC level as of December 31, 2019 , which was the most recent date for
which reporting was required, was in excess of 350% of the Authorized Control
Level. We intend to continue to maintain an aggregate RBC level in excess of
350% of the Authorized Control Level during 2020 (excluding the interim impact
of the health insurer fee).
Under the California Knox-Keene Health Care Service Plan Act of 1975, as amended
("Knox -Keene "), certain of our California subsidiaries must comply with tangible
net equity (TNE) requirements. Under these Knox-Keene TNE requirements, actual
net worth less unsecured receivables and intangible assets must be more than the
greater of (i) a fixed minimum amount, (ii) a minimum amount based on premiums
or (iii) a minimum amount based on healthcare expenditures, excluding capitated
amounts. In addition, certain of our California subsidiaries have made certain
undertakings to the California Department of Managed Health Care (DMHC) to
restrict dividends and loans to affiliates, to the extent that the payment of
such would reduce such entities' TNE below the required amount as specified in
the undertaking.
Under the New York State Department of Health Codes, Rules and Regulations Title
10, Part 98, our New York subsidiary must comply with contingent reserve
requirements. Under these requirements, net worth based upon admitted assets
must equal or exceed a minimum amount based on annual net premium income.
The NAIC has adopted rules which set minimum risk based capital requirements for
insurance companies, managed care organizations and other entities bearing risk
for healthcare coverage. As of June 30, 2020 , each of our health plans was in
compliance with the risk-based capital requirements enacted in those states.
As a result of the above requirements and other regulatory requirements, certain
of our subsidiaries are subject to restrictions on their ability to make
dividend payments, loans or other transfers of cash to their parent companies.
Such restrictions, unless amended or waived or unless regulatory approval is
granted, limit the use of any cash generated by these subsidiaries to pay our
obligations. The maximum amount of dividends that can be paid by our insurance
company subsidiaries without prior approval of the applicable state insurance
departments is subject to restrictions relating to statutory surplus, statutory
income and unassigned surplus.
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