May 14, 2008
Executives
J. Mario Molina, M.D.
- President and Chief Executive Officer John C. Molina, J.D.
- Chief Financial Officer Joseph White – Chief Accounting Officer Michael Siegel – Vice President and Medical Director Terry Bayer, MPH, JD – Chief Operations Officer
Analysts
Bill Georges – JP Morgan Greg Nersessian - Credit Suisse Scott Fidel - Deutsche Bank Darren Miller - Goldman Sachs Carl McDonald - Oppenheimer & Company Tom Carroll - Stifel Nicolaus John Rex - Bear Stearns Josh Raskin - Lehman Brothers Matt Perry - Wachovia David [inaudible]
Operator
Welcome to the Molina Healthcare first quarter 2008 earnings conference call. (Operator Instructions) I would like to turn the conference over to Dr.
Mario Molina, President and CEO, Molina Healthcare.
J. Mario Molina, M.D.
The purpose of this call is to discuss Molina Healthcare’s financial results for the first quarter ended March 31, 2008. The company’s earnings release, reporting its results, was issued today after market close, and is now posted for viewing on our company website.
On the call with me today are several members of our executive management team including, John Molina, our CFO; Terry Bayer, our COO; Dr. Michael Siegel, our Corporate Vice President and Medical Director who will be sitting in for Dr.
Howard, our Chief Medical Officer; and Joe White, our Chief Accounting Officer. After the completion of our prepared remarks, we will open the call to take your questions.
Juan José Orellana, our Vice President of Investor Relations is unable to join us today. I would like to caution you that our comments today contain numerous forward-looking statements under the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995.
All of our forward-looking statements are based on our current expectations and assumptions, and are subject to numerous risks and uncertainties that could cause our actual results to differ materially. A description of such risks and uncertainties can be found in our 2007 Form 10-K annual report filed with the Securities and Exchange Commission, as well as in the earnings release and in the Form 10-Q and Form 8-K reports we filed with the SEC.
All of these reports and filings can be accessed under the Investor Relations tab of our company website or the SEC’s website. All forward-looking statements made during today’s call represent our judgment as of April 29, 2008 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 www.molinahealthcare.com. We are pleased that our first quarter results demonstrate continued solid performance.
Our earnings for the first quarter were $0.46 per share, representing a 35% increase over the first quarter of 2007. We attribute much of our performance in the first quarter to our strategy of becoming more diversified both in terms of geography and membership, and increasing our sources of revenue, as well as effectively controlling our administrative costs and managing our medical costs.
We continue to benefit from the revenue diversification strategy. In the first quarter $52 million of the $173 million increase in year-over-year premium revenue came from our Missouri heath plan.
And about $50 million of that increase came from our Ohio health plan. In particular, that plan’s aged, blind, and disabled population.
These two factors account for 60% of our year-over-year premium growth. We’re also very pleased with the company’s organic membership growth this quarter.
We achieved sequential membership growth in each health plan market with the exception of Texas and Utah. Californian enrollment is at his highest point in nearly two years.
Overall, we were able to achieve a 3% sequential growth in membership. In the second quarter of 2008, we expect additional organic membership growth highlighted by growth in our Ohio plan of approximately 35,000 members.
Members were transferred to our Ohio health plan as a result of WellPoint’s exit from the Ohio central region. At this point it is too early to know how many of these members will be retained, but we are pleased with the initial growth.
Medicare continues to show steady sequential growth and now contributes 3% of overall premium revenue compared to 1.6% in the first quarter of 2007. As we’ve discussed, it has been our experience that some companies are unable to make their business economics work in a difficult reimbursement environment and thus decide to exit certain of their markets.
The exit of such competitors provides us with a membership growth opportunity, as has occurred in San Diego, Sacramento, and now in Ohio. We continue to believe that our administrative efficiency gives us an advantage during tough economic times, and it also enables us to capitalize on such growth opportunities.
We were disappointed to learn that the joint bids we made with UAHC Health Plan of Tennessee for the West and East regions in Tennessee were not selected for a contract award by the TennCare Bureau. We would like to remind everyone that there is no financial impact to Molina as a result of this outcome.
We are continuing to evaluate other business opportunities in both new and existing states. Another important contributing factor to our success in the first quarter was our ability to manage our medical costs.
Today’s press release includes a detailed state-by-state review of our medical costs and provides some brief narrative to assist you in better understanding our business. We believe the three key takeaways regarding our medical costs are: number one, the consolidated medical care ratio was flat year-over-year despite the growth in the aged, blind, and disabled population.
Number two, the medical care ratio in Michigan declined year-over-year; and number three, medical costs in Ohio were flat on a sequential basis and lower year-over-year. Our aged, blind, and disabled enrollment grew by 13% from the first quarter of 2007.
Most of this enrollment gain was in our Ohio health plan. Premiums for aged, blind, and disabled populations are higher than those for TANF populations, but they also have higher associated medical costs.
Medical care ratios for the ABD population start out higher as these populations transition from fee-for-service to managed care. We believe that we can bring MCRs down, as we work with patients and providers to reduce unnecessary utilization in managed care principals such as case management.
Despite a significant increase in our ABD enrollment, we were able to keep our MCR essentially flat from a year ago. In Ohio, our medical care ratio was lower, both on a year-over-year basis, as well as sequentially.
Our efforts in Ohio have focused on more intense medical management, especially in the areas of complex radiology, pain management, and concurrent inpatient review. We continue to carefully manage our pharmacy benefits and we have renegotiated contracts with certain providers.
These efforts have led to an overall reduction in our Ohio medical care ratio. We have provided additional disclosure around our Ohio MCR.
This has been a key area as we discussed when we provided our initial guidance in January. We have entered two new counties in Michigan and enrollment is up 7000 members sequentially from the fourth quarter.
The medical care ratio in Michigan decreased year-over-year and medical costs decreased sequentially from $163 PMPM in the fourth quarter of 2007, to $161 PMPM in the first quarter of 2008. Our Michigan plan has seen a decrease in inpatient utilization perhaps helped by intensive case management programs for patients with congestive heart failure, and a new hospital discharge outreach program to ensure that members get needed follow-up care after a hospital stay.
Historically the company has experienced its highest consolidated medical care ratio during the first quarter of the year. I want to spend some time to make a few general comments about the flu season.
In the first quarter of 2005, we saw a marked increase in medical costs that we attributed in part to the flu season. Since that time, monitoring the flu season has garnered increasing attention in the industry.
When we talk about the flu season, we’re referring to seasonal increases in the respiratory illnesses that typically begin in late November and run through the end of February. This leads to higher utilization of acute care services, which are reflected by a rise in medical costs in the fourth quarter that peaks in the first quarter of the following calendar year.
There are two significant viruses that play an important role in this seasonal increase in respiratory illness. The first is influenza, something with which we all quite familiar now.
The Center for Disease Control monitors flu activity in part through a network of healthcare providers who voluntarily report patient visits for flu-like illness. Flu-like illness is defined as a fever with temperatures greater than 100 degrees Fahrenheit and cough or sore throat in the absence of a known cause.
Since reporting is not mandatory, as it is for illnesses such as hepatitis or tuberculosis, the quality of data is quite variable. Furthermore, having more providers participate could produce an artifact, making flu-like illnesses appear more prevalent when compared to past years.
In other words more reports don’t always mean more flu. Also the CDC monitors hospitalization among children in 12 metropolitan areas around the country.
Of these 12, Molina presently serves only one, Albuquerque, New Mexico. So as you can see, the CDC surveillance data is of limited use to us.
At Molina we rely more on our own internal data sources as a predictor of increased flu-like activity. Another important cause of respiratory illness that exhibits a similar seasonal pattern is RSV.
RSV causes respiratory illness in children. It’s quite common.
Virtually all children in United States will have sustained an RSV infection at some time before the age of three. An annual RSV epidemic typically peaks in the first quarter and is responsible for one quarter to one-half of all pediatric hospitalizations for bronchiolitis and pneumonia.
Neither influenza nor RSV responds well to antibiotics because they are self-limited viral infections. There is a vaccine for influenza, because the influenza virus mutates rapidly however, developing an effective vaccine is difficult.
The vaccine was less effective this year. Synagis is a drug for RSV recommended for children who fall into certain high-risk groups such as premature infants and other at risk children.
It confers some passive immunity. However, Synagis is expensive, and a single-shot does not confer lasting protection against RSV.
The CDC provides surveillance information on the website for both influenza and RSV. These are at best only directional indicators of respiratory illness.
They are limited, because of the voluntary and regional sources of the data. Health plans and the public health sector have launched vigorous education in immunization campaigns in recent years.
The public seems more aware of and accepting of the need for vaccinations. For influenza, it is a single vaccination.
RSV requires a series of injections. At Molina, we have mounted an aggressive outreach campaign to make sure that patients comply with all the injections.
We will continue our programs for influenza and RSV in the future, even though we cannot predict their future success. In addition, it remains to be seen if the shift in our mix of patients with the greater inclusion of the elderly, blind, and disabled members will affect the seasonal variation in health care costs.
With that review of our highlights for the past quarter, let me turn to our expectations for all of year 2008. In light of the many developments from the first quarter, we now feel we have additional information to be able to adjust our 2008 earnings outlook.
Our new earnings per share guidance range is from $2.10 to $2.40 per share. John will discuss the guidance in greater detail during his remarks.
Finally, our Board of Directors has authorized the company to repurchase up to $30 million of common stock. We believe a stock repurchase program is an attractive use of our cash and underscores our belief in the long-term value of our stock, as well as our commitment to deliver shareholder value.
With lower interest rates and growing cash balances, executing this modest stock buyback will enable us to earn a respectable return and still leave us with sufficient cash to pursue growth opportunities. The repurchase program will be funded from working capital and will be based on market conditions and other factors.
I will now turn the call over to John.
John C. Molina, J.D.
As Mario noted, 2008 first quarter results show a sound improvement over 2007 results with earnings of $0.46 per share representing year-over-year growth of 35%. First quarter net income was $13 million compared to 2007 first quarter net income of approximately $10 million.
Our first quarter 2008 revenue increased 31% or $173 million compared to the first quarter of 2007. As outlined in our earnings release today, this increase includes the benefit of the Mercy CarePlus acquisition; higher enrollment in Ohio, New Mexico, Washington, and Texas; as well as higher premium rates in New Mexico, Washington, and Michigan.
Our medical care ratio is essentially flat, going from 85.7% in the first quarter of 2007 to 85.8% in the first quarter of 2008. This is a slight increase of 10 basis points year-over-year despite a significant growth in our ABD population as Mario noted.
The 85.8% medical care ratio represents 220 basis point change over the prior quarter ended December 31, 2007. This is not surprising, as the consolidated company has traditionally experienced its highest medical care ratio during the first quarter.
In the earnings release, we have provided additional disclosure about the medical care costs of the CFC and ABD members in Ohio. We typically do not provide such discrete disclosure, but do so now because of its significance to our first quarter results.
The medical care ratio for our CFC population decreased year-over-year from 92.4% to 88.9%. Decreased hospitalizations as measured by admissions per thousand members and decreases in pharmacy utilization were the main drivers of a lower MCR.
A year-over-year comparison for the ABD population is not meaningful given the low ABD enrollment in the first quarter of 2007. However, the medical care ratio for the ABD population decreased sequentially from 97% in the fourth quarter of 2007, to 92.7% in the first quarter of 2008.
Sequential decreases in hospitalization, as measured by admissions per thousand, and decreases in pharmacy utilization reflect a cumulative effect of our case management strategies. Our guidance assumes an 88% combined medical care ratio for the entire year for the Ohio plan, and we are pleased with progress towards that goal.
General and administrative expenses in the first quarter were 10.6% of total revenue or $78 million, as compared to 11.3% of total revenue or $63 million for the first quarter of 2007. Core G&A expenses, defined as G&A expenses less premium taxes, decreased to 7.8% of total revenue for the first quarter of 2008, as compared to 7.9% for the first quarter of 2007.
This improvement in core G&A is primarily due to the leveraging of the company’s administrative infrastructure over increased enrollment in premium revenue. Income taxes increased in the first quarter of 2008.
The effective tax rate increased to 40.7% in the quarter ended March 31, 2008, from 38% in March 31, 2007. This was primarily due to a change in the Michigan state tax calculation methodology effective January 1, 2008.
Cash flow used in operations for the quarter ended March 31, 2008 was $23 million, compared to cash flow from operations totaling $35.9 million for the same period in 2007, a decrease of $59.3 million. This decline was primarily due to the timing of the receipt of deferred revenue at our Ohio health plan.
The state of Ohio has typically paid premiums to our Ohio health plan for any given month in the prior month. For the April month of enrollment, the state of Ohio did not pay premiums to the Ohio health plan in March but rather waited until April 3, 2008.
This had the effect of altering cash flow for the first quarter of 2008. The April capitation for Ohio health plan is $50.9 million.
Excluding the impact of this deferred revenue, cash provided by operating activities would have been $27.5 million or slightly more than 2x net income. At March 31, 2008, the company had cash and investments, not including restricted investments, of approximately $666 million.
The parent company had cash and investments of approximately $84 million. The company remains consistent in its reserving methodology and claims inventories continue to decline.
Year-over-year, our claims inventory has decreased by one-third. As a result of several recent developments, we believe we have sufficient additional information to adjust our 2008 earnings outlook.
We are therefore revising our earnings per share guidance for the full year 2008 to a range of $2.10 per share to $2.40 per share. This adjusted guidance revises our original guidance of $2.25 to $2.45 per share as issued on January 22, 2008.
We believe the following six factors have contributed most significantly to our guidance revision. First, the company expects that declining interest income will reduce its previously anticipated 2008 earnings per share by approximately $0.16.
The revised guidance assumes that the Federal Reserve will implement two rate cuts of 0.25% each on April 30, 2008 and June 30, 2008. The revised guidance assumes that the company’s return on invested cash for all of 2008 will be approximately 3.1% rather than the 4.0% included in the original 2008 guidance.
To remind you, a 0.25% change in interest equates to a $1.8 million annualized change in pre-tax earnings. Second, we expect the California health plan’s premium rates to be reduced on July 1.
We expect that the California health plan will experience a revenue reduction of approximately 5% to 6% for the second half of the year, some of which can be offset by cost reductions. We believe the net effect will reduce earnings per share by approximately $0.10.
Third, the company expects higher than anticipated state taxes in Michigan will reduce its previously anticipated 2008 earnings per share by approximately $0.08. Fourth, enrollment in the CFC or TANF segment of our Ohio health plan will increase above previously anticipated guidance.
We believe that this will add approximately $0.10 per share based predominantly on leverage of administrative costs over a larger enrollment base. Fifth, the company expects the purchase of shares will decrease our share count, resulting in an increase in 2008 earnings per share of $0.02 to $0.04.
Finally, continuing improvements in our operations will increase 2008 earnings per share by approximately $0.11. The revised guidance assumes an effective tax rate of 40.6%, and weighted average diluted shares outstanding of 28.7 million, excluding the effect of any share repurchases.
This concludes our prepared remarks. We are ready to take questions.
Operator
Your first question comes from Bill Georges – JP Morgan.
Bill Georges – JP Morgan
Could you start off by addressing a little bit in more detail both your lower SG&A in the quarter, which is I think the lowest really in recent memory, as well as maybe a little more detail around the $0.11 catchall positive impact that you referred to in the revised guidance.
John C. Molina, J.D.
Bill, we’ve talked a lot about controlling administrative costs, starting about the fourth quarter of last year, we really clamped down on hiring and other admin expenditures. Given the sequential growth in enrollment, we have been able to leverage that over a larger enrollment base and larger premiums.
That’s basically, why admin came down. As far as the $0.11 improvement of other operations, there are a lot of moving pieces; we see some improvement in Michigan for example, some improvement in New Mexico.
We’re going to see a little bit I think of a decline in expectations as far as Missouri went. So you’re seeing different pieces moving up and back and so we put it all into one line.
Joseph White
We’re seeing some administrative cost improvement overall which is part of that.
Bill Georges – JP Morgan
In terms of thinking about the lower G&A, is that a fair run rate for the balance of the year?
J. Mario Molina, M.D.
I would say yes.
Joseph White
Yes, I think we can see it, maybe bounce around a little bit, but that’s a pretty good run rate.
Bill Georges – JP Morgan
About your Ohio MLR, but 200 basis points improvement still needed for the balance of the year, and you are taking on arguably a challenging population with the addition of the former WellPoint members. So can you talk a little bit about where you derive the confidence from to get that improvement when you also layer in the additional thirty some thousand members from WellPoint?
Joseph White
Bill, we have been able to make fairly steady progress throughout 2007 into the first quarter of 2008 to bring our costs down. So that gives us some degree of confidence that what we’ve been doing has been showing some results.
We were able to renegotiate a number of key provider contracts and those new rates didn’t kick in until either late fourth quarter or early first quarter. We don’t know how challenging or not challenging the WellPoint population is.
They had trouble with it, but we’re going to manage it as we’ve managed the rest of the CFC population in the Central region.
John C. Molina, J.D.
The additional membership in the Central region is helpful, because it helps us with our administrative costs in Ohio. The new patients that are coming over will be using our provider contracts, not WellPoint’s contracts.
We think that there’s some benefit to that. And just in looking at hospital utilization and preliminary pharmacy costs, we are not seeing that this population is behaving significantly differently than our current CFC members.
So given our systems, our contracts, and our experience, we think that this is going to be beneficial.
Bill Georges – JP Morgan
You did mention on new contracts with pharmacy in Ohio, anything going on there?
John C. Molina, J.D.
No the new contracts with some hospital systems not with the pharmacy, but we had, Dr. Siegel might be able to comment on this, were some changes in how we case manage some of the ABD population for our pharmacy.
Michael Siegel
Yes, we have a fairly intensive case management program and we’re integrating more of our pharmacy information in terms of case finding and management of these cases.
Operator
Your next question comes from Greg Nersessian - Credit Suisse.
Greg Nersessian - Credit Suisse
You provide the walk through, but when I make those adjustments to the previous guidance, I get to a different range. I get a range of $2.14 to $2.36.
Well you came short of my estimate anyway for the quarter by $0.04, so that explains the low end of the guidance, but that actually brings the high-end of the guidance down even further from the $2.40, so I’m just trying to figure out what is the delta when I add back all those components to the $2.10 to $2.40?
John C. Molina, J.D.
Honestly Greg there is a bit of a fudge factor in there. We’re not sure for example if there’s interest rates declines in both quarters, we assume that there is.
There may or may not be also the underlying performance of other plans, the $0.11 we put in there. It could be a couple of cents higher or lower.
So it’s not strictly the mathematical sum of, there are various ups and downs. We give ourselves a little bit of a buffer, both high and low.
J. Mario Molina, M.D.
The other thing the way I look at it Greg, as I started up by looking at our midpoint of the range at $2.35 and then I made the adjustments that we walk through based on that, and that’s the way I look at it.
Greg Nersessian - Credit Suisse
Mario, you provide a lot of detailed commentary on the flu which is very helpful, but could you just give us a ballpark quantification of what you estimate the respiratory illness costs related to the flu and the RSV were in the quarter?
J. Mario Molina, M.D.
Well we don’t normally break it out that way Greg. What we saw was in some states we saw higher utilization than expected.
California for example and Missouri, but other states we actually saw little utilization, so I think it’s one of the things I was trying to emphasize. This can be quite regional, and if you’re going in a state where there is heavy epidemic, it can have a big impact on you.
Our operations stretch across the country, but in particular regions, in particular states. So that’s why it’s difficult to extrapolate a lot of this data.
If you’re looking at the flu rates in Connecticut and we are not in the Northeast, it’s not really relevant.
Greg Nersessian - Credit Suisse
You had $6.8 million favorable New Mexico rebate revenue benefit and I was just trying to get to a run rate first quarter number. My understanding is that you don’t expect another one of those going forward, so that maybe was a one-time benefit to the quarter, but then maybe a little bit offset by the higher flu costs, which presumably you don’t anticipate going forward, so how would I net those two against one another?
Joseph White
First of all we entered the year with about, I want to say $12.8 million payable to the state of New Mexico under medical costs, but that’s now dropped to $6 million. So you’re correct about half of that is exhausted.
But, there is still some room there. As far as New Mexico, I think they are predominantly dealing with issues of premature births and I think pharmacy costs.
Greg Nersessian - Credit Suisse
But would you say that $6.8 million was more than offset by the flu related costs in the quarter?
John C. Molina, J.D.
It’s really hard to single that out Greg. Again we saw some, as Mario said, some increase in cost in California that’s certainly evident from the earnings release.
But in places like Missouri where we heard anecdotally that January was a very tough month in terms of the ER visits. We really have no comparable previous year that we could rely on for a benchmark.
I’m also not convinced that what happened in Q1 is necessarily a one-time. We saw the second quarter in New Mexico where we don’t know what the medical costs are going to be that liability could go up or down.
So it’s hard to isolate that as a one-time event.
Joseph White
Suffice to say our guidance is not predicated on a MCR in New Mexico as low as it was this quarter.
Greg Nersessian - Credit Suisse
The California rate cut, the guidance do you’ve provided the 10%, to get to that is that implying you can pass through around 60% of the 5% to 6% rate cut to you. Is that about right?
John C. Molina, J.D.
We are looking at a combination of administrative cuts in California, cuts based on changes in the fee schedule, some renegotiation with providers, and other measures that we hope to offset the decrease in revenue.
J. Mario Molina, M.D.
Remember too that this is a 10% cut in the provider fee schedule. Some of our providers are capitated and some of them are fee-for-service, and it largely exempts hospital inpatients.
And that’s why, when you see this and you hear the 10% rate cut, we don’t see it as translating into a 10% revenue cut for us. So we think it’s going to be somewhere between 5% and 6% top line and that will be mitigated somewhat by re-contracting efforts and passing along some of the cuts to providers whose contracts are based on a fee-for-service Medicaid fee schedule.
Greg Nersessian - Credit Suisse
The buyback, would those be open market purchases or there will be some family stock that you’d be selling?
J. Mario Molina, M.D.
That’s going to be open market repurchases.
Operator
Your next question comes from Scott Fidel - Deutsche Bank.
Scott Fidel - Deutsche Bank
First question just around California and if you can provide an update on how the re-contracting efforts are going so far and the receptivity level of providers to that? And then just relative to the California MLR in the first quarter, maybe just talk about the increase there year-over-year.
How much of that is you saw as seasonal, and maybe just in the context of the moving pieces in California your view around what you view as a full year California MLR run rate for the year?
J. Mario Molina, M.D.
Well as you can imagine, Scott none of the providers were happy about the rate cut whether it’s coming from us or directly from the state. It’s going to be a big problem for all the physicians in California.
I think that we can deal with it. We also have excess capacity in our clinics to absorb some patients if providers terminate their contracts.
But I frankly don’t see that happening. In terms of costs in California, they were up largely because of inpatient costs and some higher pharmacy costs.
Some of that was due to changes we made in the formulary to be more competitive, and I think that’s helped in terms of enrollment. On the other hand I think that if you look at states that are predominantly TANF, and California and Missouri certainly fit that pattern.
They’re probably going to be, I believe more affected by the seasonal variation in these respiratory illnesses, especially RSV.
Scott Fidel - Deutsche Bank
And then for the full year, do you think the 88% is that a good range going into the back half of the year with already incorporating at a bit of higher look, or any range you can give us around the California MLR?
Joseph White
I don’t want to give it a specific number, but we expect that MCR to be dropping in the half second quarter, and then probably a little upward tick in it as a result of the rate situation in the second half of the year. So we expect that overall to be coming down.
Scott Fidel - Deutsche Bank
On Texas, actually that looks like you had a big improvement year-over-year, I think around 1,600 basis point. And maybe if you can talk about the drivers, I think you cited the STAR+PLUS in the press release as being favorable there and whether you had any one-time reserved development there or whether you think that’s a good run rate for the rest of the year in Texas?
John C. Molina, J.D.
I think that’s a probably a bit low in Texas for the whole year. I think we had an original guidance expected of 85%, so we’re still experiencing some favorable medical costs in Texas.
We have reserved some for the experience rebates, similar to other plans in the state.
Scott Fidel - Deutsche Bank
Where do you think that you stand with any upcoming state budget discussions in any of your markets and obviously moving pieces right now with Florida being in flux a bit and just whether there is any discussion that you can maybe spike out in some of your markets that we should be thinking about?
J. Mario Molina, M.D.
No, we typically pass on that information as it develops. I don’t really have anything new to report at this time.
Operator
Your next question comes from Darren Miller - Goldman Sachs.
Darren Miller - Goldman Sachs
On the California provider cut, what is the EPS impact you’re assuming from the renegotiation efforts?
John C. Molina, J.D.
We’re expecting net, a $0.10 EPS hit.
Darren Miller - Goldman Sachs
And what is the benefit from the renegotiation and is it bringing that down like $0.12 or $0.15?
J. Mario Molina, M.D.
No, the net effect is $0.10.
Darren Miller - Goldman Sachs
What the benefit is of renegotiating, if I think that in terms of that’s something that’s ongoing, that could or could not happen?
Joseph White
We’ve spoken about roughly an $11 million premium cut. We think we can offset about 40% of that cut with medical savings and another 20% with admin cuts.
So that’s how you work down to a net $0.10 impact on a $11 million revenue cut in the second half of the year. Does that help?
Darren Miller - Goldman Sachs
So the renegotiation would be 40% of the $11?
Joseph White
Medical cuts overall would be some of that renegotiation, it’s a variety of efforts, but some of it’s a pass through on the change of the Medi-Cal fee schedules and that kind of thing, so it’s not all renegotiation.
Darren Miller - Goldman Sachs
I am trying to spike out the difference between what’s pass through and what’s renegotiation?
J. Mario Molina, M.D.
Well, probably a third of our costs right now are fee-for-service tied to Medicaid fee schedule on the physician side I think so, and that will probably just be a pass through.
Darren Miller - Goldman Sachs
So two-thirds of the 40% is renegotiation?
J. Mario Molina, M.D.
Roughly.
Darren Miller - Goldman Sachs
On Ohio, will you talk a little bit about your MCR expectations for the 35,000 lives that you’re picking up?
J. Mario Molina, M.D.
I think we believe there are going to be consistent with the current CFC membership, and we think there will be some additional benefit in terms of decreasing administrative costs on a percentage basis because we will be spreading more membership across that administrative infrastructure.
Operator
Your next question comes from Carl McDonald - Oppenheimer & Company.
Carl McDonald - Oppenheimer & Company
On the Ohio membership, if I take the 35,000 lives to get the $0.10, you have assumed a margin somewhere in the vicinity of 7%. And it looks like the assumption is the CFC business will run in a range of 2% to 4% this year.
So could you just walk through, when you take on a block of business like that 35,000 lives, how much do you have to add in terms of new people to process claims, answer the phones, versus just the fixed, the cost leverage you get from all of the fixed costs that you have?
John C. Molina, J.D.
It’s actually fairly minimal, Carl, in terms of the incremental people you’ve got to add for claims and phones, etc. That’s why we think that it will add $0.10 because the incremental marginal revenue on those patients is going to be much greater than the marginal costs.
So you could just assume that from the CFC patients, which we’re expecting to be around 86% I believe in terms of the MCR the incremental admin is not anywhere close to the average admin.
J. Mario Molina, M.D.
We have been working on the issues around answering phone calls and what are the top reasons members call us and how we are handling those.
Terry Bayer, MPH, JD
Instead of looking at the Ohio situation as static, and then just incremental benefit of the new enrollment, you have to really look at it as the ongoing improvement we are putting in place in all of our health plans, and specifically in Ohio. So as we are growing in size and greater experience in these states, we are taking on a number of projects, which allow us to move to more self-service modalities.
I’ll give you an example, we’ve recently rolled out an Interactive Voice Response, IVR system, where a member calling in for an ID card, and our members frequently misplace or lose their ID cards, are able to simply hit a button on the phone and have a card automatically mailed out to them. We don’t have to take that phone call anymore, although our reps stand ready for those members who chose to go to the live operator.
The same thing applies for our provider information on eligibility and claims status. So we are constantly reducing what we call controllable admin across the company, and the additional membership just gives us a greater opportunity to leverage the improvements we’re making.
J. Mario Molina, M.D.
And what we’ve been doing with this Carl is when members are calling in now for these services, we are walking them through it and teaching them how to use the IVR, so the next time they call they don’t have to go to an operator, but they can go directly to the IVR and get some of the things that they need. Because the most common things that we’re getting calls on, one of the most common one is, maybe the most common one is new ID card and that can be handled pretty simply.
So with those things we are becoming more efficient over time.
Terry Bayer, MPH, JD
A lot of our calls come from providers. So a provider now has more members assigned.
Same provider that’s used to using our system, although there is not one-on-one match, many of the providers overlap. So the provider that called in to us for eligibility on the automated system now is calling in for the new members.
That didn’t generate any additional work.
Operator
Your next question comes from Tom Carroll - Stifel Nicolaus.
Tom Carroll - Stifel Nicolaus
I’ve heard your discussion on the Ohio market, in terms of the $0.10 impacting your revised guidance, and you have the other category, which adds-back the $0.11 in terms of other items. Could you maybe just give us a little more color on what those items are that are going to potentially add $0.11 a share.
In New Mexico the $6.8 million, is that all revenue with no associated expense to it, maybe just touch on that and clarify it for me. I realize it was just last week that this happened, but have you had a chance to maybe look at your Tennessee bid and think about the scores that you got back and perhaps what you did right, what you did wrong, maybe a short discussion on that.
John C. Molina, J.D.
Tom, in terms of New Mexico we have not gotten any additional information rather than the score.
Tom Carroll - Stifel Nicolaus
I mean Tennessee, you said New Mexico.
John C. Molina, J.D.
We need to get the responses and take a look at it. It was a little unusual because we partnered with an independent company, something we don’t typically do.
So we’ll learn from that.
Joseph White
I think the way to look at New Mexico is to remember that we’re committed to a minimum medical expenditure of 80% of MCR currently. And to the extent we built up a reserve by the end of last year of around $12.8 million that in effect it accretes back to revenue in order to reduce our MCR during the quarter to 80%.
So I think the way, if you want to look at it is, if you wanted to isolate that the single quarter, yes, you could say that 6.8% of the revenue is essentially a re-adoption of an amount we had booked back to the state as of 12/31/07. There is still another $6 million of that available.
Tom Carroll - Stifel Nicolaus
And then on the $0.11 maybe couple of comments for us?
Joseph White
I think John touched on it. I would just say in general we are looking at better performance in Michigan than we anticipated, better performance in New Mexico than we anticipated, Missouri not quite so well as we anticipated, that’s the big one on the health plan side.
And then overall from an admin perspective, particularly at the parent, we’re expecting favorable results versus the guidance we put out back in January. John touched on how we’ve been planting down our administrative costs, growth in that area has been much less than we anticipated.
J. Mario Molina, M.D.
In Tennessee we did not qualify in the Eastern region, but we did qualify in the Western region and did participate in the oral presentations. We were disappointed that we didn’t do better.
I think that we were probably the most experienced health plan applying in Tennessee for that contract. So it was a little bit of a surprise to us that we didn’t do better in that procurement.
Tom Carroll - Stifel Nicolaus
How much oversight to the bid process did you have specifically or was it more on the UAHC side of things?
J. Mario Molina, M.D.
Yes, it was a joint bid. We did participate in the writing of that and we did participate in the oral presentations, and we felt that the WMIP program was a great model, very similar to what they wanted to do in Tennessee, and it’s been independently evaluated and rated as one of the best programs going for an integrated health care model, which is why we were a little surprised that we didn’t fare better in that procurement.
Operator
Your next question comes from John Rex - Bear Stearns.
John Rex - Bear Stearns
Could you focus on the Washington market just for a moment here? At the sequential move in MCR in particular here, so I would have anticipated given the way the fee schedule increase occurred late last year, and your higher premiums didn’t kick in into the 1Q.
I wouldn’t have expected this sequential move in the MCR, would have expected 4Q to actually be the worst, which is actually the best for the year and then the ramp up in the 1Q. Can you tell us what was going on in that market particular?
And then again focusing on the sequential?
J. Mario Molina, M.D.
Yes, Washington is another one of our states that is predominantly TANF. So it’s not surprising that it bounces around a bit.
We did see some increases especially in January in I believe it was pharmacy and inpatient utilization that started to come back down in March, so it’s not surprising that the costs were higher in the first quarter.
John Rex - Bear Stearns
I am trying to size impact from flu. Is that a market that we could say then, without flu having been higher, the seasonal impact, you should have had, given the rate increase that you got layered on in January; you should have been sequentially improved in loss ratio from 4Q to 1Q?
J. Mario Molina, M.D.
It’s hard to know John, and the problem that we have to a certain extent is by providing a lot more information on a market-by-market basis, that people are spending a lot of time trying to dissect the individual markets. Things move up and things move down and this is a little bit like making sausage.
With most health plans, all you see is the final product. With Molina you get to see the whole thing from beginning to end.
It’s a little messy at times, but I think that the end product, which was the consolidated EPS, was about where we had hoped to be. So, you got to remember, you may not see this without health plans but there are fluctuations from quarter-to-quarter in the different markets.
And that’s part of our strategy in geographic diversification so that we balance this out a little bit and aren’t so susceptible to individual market fluctuations. And for example, although we had a very heavy inpatient month in terms of hospital costs in January, the overall compared to the previous year, hospitalizations at least in the TANF category were down.
So, it’s a whole mix of things and in the end it’s the final product that is most important.
John Rex - Bear Stearns
On Michigan, the highlight on the taxes there and then your comment on the potential to mitigate that, when you say that you mean you may be able to do something about the higher tax rate or that you offset it with savings, other administrative savings in Michigan?
J. Mario Molina, M.D.
The tax has changed in Michigan and it’s our understanding that it was not meant to affect the Medicaid plans. So, there may be a mitigation of that, but for the time being we are going with the higher tax rate.
John C. Molina, J.D.
But John, the improvement in Michigan that we talked about is really underlying performance of the health plan pre-tax, so lower medical costs.
John Rex - Bear Stearns
So, on that $0.08 is there something going on that could get revised in terms of the higher tax rate that was not supposed to impact Medicaid plans.
J. Mario Molina, M.D.
The short answer is yes.
John Rex - Bear Stearns
You’re just not counting on it at this point of course, but.
J. Mario Molina, M.D.
We are not counting on it but it could happen.
John Rex - Bear Stearns
And then can you update me on what your full year cash flow guidance would be now?
John C. Molina, J.D.
Our pet answer is depreciation plus amortization plus net income. Although we caveat that with cash flow generally is higher when we’re growing and we’ve grown sequentially.
And then we’re going to grow more, looks like in Ohio. So, could be a bit higher than net income plus depreciation and amortization.
John Rex - Bear Stearns
It could be reasonably higher; it could still be in 1.5 plus in terms of a net income metric. Is that out of the range?
John C. Molina, J.D.
I think that’s reasonable.
John Rex - Bear Stearns
And then can you comment on just what progression you’re thinking about in terms EPS for the year? Given all the moving parts we have in there and thinking about California when that kicks in.
John C. Molina, J.D.
I think which we are going to see is probably a dip in the, little bit of a slowdown in the back half of the year because you’ve got the California issue which is really a second path event.
J. Mario Molina, M.D.
Yes, but remember given that we’re projecting somewhere in the neighborhood of $2.9 billion in revenue and we are looking at what, California shortfall revenue being $11 million? It’s not going to have a big impact on overall revenue.
We are seeing improvements in the medical costs in multiple markets. So, we are still projecting that we could get to double-digit EPS growth for the year.
John C. Molina, J.D.
And we’re not expecting really much of a seasonal change in terms of the medical costs, after the California change.
J. Mario Molina, M.D.
Things should improve from here first quarter is typically the highest cost quarter.
John Rex - Bear Stearns
With California kicking in, would you still expect maybe even balancing first half, second half earnings contribution here? How would you expect it to roughly play out in percentage terms?
John C. Molina, J.D.
I think didn’t we give something, some guidance on that in January about how the quarters typically breakdown?
J. Mario Molina, M.D.
Yes we did.
John Rex - Bear Stearns
Yes, and I didn’t know how that had changed given the update on earnings.
J. Mario Molina, M.D.
I really don’t think it’s going to change dramatically because, as John said while we’ve got the downside in California second half of the year, we got the Ohio membership coming on now. I don’t think it’s going to change materially.
John Rex - Bear Stearns
Joe, when you talked about New Mexico you said it was 80%, hadn’t that been 85% prior, did that get updated?
Joseph White
It’s been 80% since July of 2007.
Operator
And our next question comes from the line of Josh Raskin - Lehman Brothers.
Josh Raskin - Lehman Brothers
We can just start with the second quarter earnings. To John’s point, there’s a lot of moving parts here whether it’s the interest rates are kicking in in April, or the California cuts that don’t come to later in the year.
So, will you expect a decent ramp up in the second quarter earnings because as Mario mentioned the costs are typically higher, or should we think about there being mitigating factors given in the second quarter, like New Mexico?
J. Mario Molina, M.D.
Typically utilization is lower in the second quarter, so we expect medical costs to come down. The California issue doesn’t kick in until third quarter, because that’s a July 1 event.
I don’t know what else to add.
Josh Raskin - Lehman Brothers
If I think about last year, the second quarter was 35% to 40% higher on a sequential basis. Obviously it’s off of bigger numbers this year, so maybe how should we think about that sequential increase.
Would you say it was abnormally stronger last year or should we think about similar types of ramp up?
John C. Molina, J.D.
I think it was abnormal last year. I think there might have been in second quarter some retroactive rate increases in California.
Typically what we see is the highest medical costs in January. They lower in the first quarter; they lower in second quarter, hit bottom in the third quarter, go up in the fourth quarter.
And we are not expecting that to change much, in terms of the progression. What is changing are some rate increases.
If we get anything in Missouri, it will be July. If we get something in Michigan, it will be October.
Joseph White
The Missouri expansions are a bit of an unknown and when and if it’s going to happen.
Josh Raskin - Lehman Brothers
In terms of California broadly speaking as you think about additional rate cut here, it’s not as though California has been particularly helpful with rates over the last several years. I’m just thinking, what is this strategic thought process around the state and understanding that your MLR is still indicative of profit in the state which is sort of how do you think about it longer term?
J. Mario Molina, M.D.
I think that we can be profitable in California. California follows Sutton’s law.
The reason to be in California is because it’s the largest Medicaid market in the country. It’s also the largest Medicare market and largest Medicare SNP market.
So there are lot of good reasons to be in California, although it is a very difficult and very competitive market. At the same time, what you’re seeing as we get into other states, and we see the growth in health plans like Ohio, is that the contribution to the California makes is smaller and smaller.
And that goes along with our strategy to diversify geographically, and also to diversify by product. We are trying to get more of the ABD membership.
We are trying to grow our SNP membership. And as I mentioned in the call, our SNP contract, our Medicare contract, is now contributing 3% of overall revenue.
A year ago at this time it was 1.6%, and before that it was essentially zero. And we have seen although not spectacular growth, steady growth in our Medicare product which we expect to continue.
Josh Raskin - Lehman Brothers
On the Texas profit sharing, I think I understand how that works in term of giving back based on a minimum MLR, when you book that back, does that come from an accounting standpoint maybe Joe, how does that exactly flows to the income statement? Is that just a revenue reduction or additional medical cost or SG&A, how does that go?
Joseph White
It’s analogous to what we do in New Mexico in terms of it’s an adjustment to revenue either positive or negative. The difference in Texas so that’s actually on a pre-tax profit basis not an MCR.
Josh Raskin - Lehman Brothers
But you just simply adjust the revenues to get you to a pre-tax margin.
Joseph White
That’s correct.
Operator
Your next question comes from Matt Perry - Wachovia.
Matt Perry - Wachovia
In reference to your prior full year revenue and medical loss ratio guidance again, given the moving parts here in the new guidance have those changed?
Joseph White
As revenue, not dramatically other than for adjusting for the new Ohio membership, and then in MCR too are up slightly from an MCR perspective. Again which is consistent with the addition of Ohio membership, where we run a little bit higher MCR.
Matt Perry - Wachovia
Mario, I am curious maybe to get your perspective, given the fact that the company has been operating in California for quite some time. If we’re entering a recession, looking back at history, what things happen in terms of enrollment, funding of Medicaid, potential enrollment declines or increases, and is there any broader implications you can draw from your experience in maybe past tough times economically and apply it to other markets?
J. Mario Molina, M.D.
Well, we have been doing business in the Medicaid space in California since 1980, and we have seen the Medicaid business called Medi-Cal here cycle and it does cycle. And we are in one of those downturns right now.
If you go back to what our father used to say, when you are faced with a storm, you pull in the oars and you lay down in the bottom of the boat and you wait for it to pass. Because this is a company whose mission is to serve low-income patients, who receive their care through government programs, we’re going to stay in the market.
And we are going to hunker down, wait for the storm to pass, and I think we’ll come out even stronger on the other side. That’s typically what’s happened and that explains a lot of growth that we have had in our company in California, by being able to weather these storms.
Matt Perry - Wachovia
If you can take that one-step further, do these tough times maybe spur states to think about using managed care and cost saving initiatives to an even greater degree?
J. Mario Molina, M.D.
Absolutely, a great example of that is the legislative analyst office puts out a report on the budget and they specifically remarked in this year’s report, California should be doing a better job of using managed care and should be shifting their aged, blind, and disabled into managed care. There are five county organized health systems in California where all the Medicaid beneficiaries are enrolled, and these health plans have all the TANF and all the ABDs.
So, we have a tested model in California that has been proven to be successful both in managing the cost and providing the quality care and access. In the two plan model counties and in the GMC counties, that hasn’t been done yet.
But for both I think quality reasons because I do think managed care provides higher quality then fee-for-service, and for cost saving reasons, I think state needs to look seriously at that. In addition, if you look at states like Texas, New Mexico, Michigan, Ohio, they have all moved to this and done it successfully.
So, there’s also a good deal of precedent not only in California with the county organized health systems, but in other states. I think that this is going to be an issue that’s not going to go away and that states are going to have to make a broader use of managed care in the future, not only to control cost but to improve access and quality.
Matt Perry - Wachovia
And just one last from me, any emerging or new RFPs or opportunities you’re looking at?
John C. Molina, J.D.
Well, we are always looking at new opportunities.
Operator
Your last question comes from the line of David [inaudible].
David [inaudible]
So, just to be clear on the Fed cut if the Fed chooses to keep rates steady either at tomorrow or the next meeting. Your guidance would go up accordingly, is that correct?
J. Mario Molina, M.D.
Well, it’s just what I was saying that we had given you the sensitivity analysis, how to correct the earnings numbers for changes in interest income. We have provided a range.
So, there may be some movement but I think that right now even with that, if that would it comes to pass it would be minor change overall and we would not reissue guidance. That’s why we have given ourselves a range.
David [inaudible]
But intellectually it would be the lower end and the higher end of the range would go up by the $0.08 or whatever the math works out to be but, what you are saying is no, you are not going to adjust a little bit.
J. Mario Molina, M.D.
The way I look at it is looking at it is that I think that the actual number lies somewhere within that range, and if the interest rates were not to go down, then we would expect our earnings expectation to rise within that range.
David [inaudible]
Separately, if I take to $1.8 million per quarter point annualize change and I do a quarter point cut in April and a quarter point cut in June, and divide it by your share account tax adjusted. I get an $0.08 change.
Is there any other math that goes into that or is there another impact on any auction rate securities or anything else that’s going into the Fed commentary?
J. Mario Molina, M.D.
No. The difference is the rate cuts that the Fed has already put in place.
David [inaudible]
So that’s just annualizing those?
J. Mario Molina, M.D.
Correct.
David [inaudible]
The change in your guidance, you do a great job in categorizing all the changes, but the one part that I don’t know if you commented on is that the range has gotten wider. Is there a reason for that, are things less predictable going forward or what was the decision or the thought process behind that?
J. Mario Molina, M.D.
Yes. That was deliberate on our part.
There is probably a little bit greater degree of uncertainty and I think that one of the issues is the Michigan tax rate. Also, there are some other things that are moving around and at this point we brought the lower end of guidance down.
We brought the top end of guidance down, but not as much. We still see a lot of upside potential this year and the wider range really reflects the degree of uncertainty.
John C. Molina, J.D.
We don’t want to get into the habit of changing guidance a penny here, a penny there every quarter. So, given the uncertainty as Mario said with Michigan, there is going to be a lot of turmoil in California.
With lot of the providers upset and threatening to file suit to block these rate changes, we want to leave ourselves enough room within the guidance range that we are not going to come back every quarter and fine tune it.
David [inaudible]
On the Ohio premiums that got in after the close of the quarter, what was that payment? Does that make up for the swing in the operating cash generation?
John C. Molina, J.D.
I believe it was $50.9 million and that’s the amount that we normally would have paid at the end of March for April month of service and instead it came in at the beginning of April, so it was just normalized, we would had $27 million in cash flow.
Operator
Dr. Molina that ends the question-and-answer session.
J. Mario Molina, M.D.
I want to thank everyone for joining us. I want to remind you that we have our Investor Day coming up in New York at the end of May.
I believe it is May 29, so we hope to see you in New York. Thank you.