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SXC HEALTH SOLUTIONS CORP. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations
(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion should be read in conjunction with the Management's
Discussion and Analysis ("MD&A") section of the Company's 2011 Annual Report on
Form 10-K. Results of the periods presented are not necessarily indicative of
the results to be expected for the full year ending December 31, 2012.
Caution Concerning Forward-Looking Statements
Certain information in this MD&A, in various filings with regulators, in reports
to shareholders and in other communications is forward-looking within the
meaning of certain securities laws and is subject to important risks,
uncertainties and assumptions. This forward-looking information includes, among
other things, information with respect to the Company's objectives and the
strategies to achieve those objectives, as well as information with respect to
the Company's beliefs, plans, expectations, anticipations, estimates and
intentions. Numerous factors could cause actual results to differ materially
from those in the forward-looking statements, including without limitation, our
dependence on, and ability to retain, key customers; our ability to achieve
increased market acceptance for our product offerings and penetrate new markets;
consolidation in the healthcare industry; the existence of undetected errors or
similar problems in our software products; our ability to identify and complete
acquisitions, manage our growth, integrate acquisitions and achieve expected
synergies from acquisitions; our ability to compete successfully; potential
liability for the use of incorrect or incomplete data; the length of the sales
cycle for our healthcare software solutions; interruption of our operations due
to outside sources; maintaining our intellectual property rights and litigation
involving intellectual property rights; our ability to obtain, use or
successfully integrate third-party licensed technology; compliance with existing
laws, regulations and industry initiatives and future changes in laws or
regulations in the healthcare industry; breach of our security by third parties;
our dependence on the expertise of our key personnel; our access to sufficient
capital to fund our future requirements; potential write-offs of goodwill or
other intangible assets; and the outcome of any legal proceeding that has been
or may be instituted against us. This list is not exhaustive of the factors that
may affect any of our forward-looking statements and is subject to change.
In addition, numerous factors could cause actual results with respect to the
proposed Catalyst transaction to differ materially from those in the
forward-looking statements, including without limitation, the possibility that
the expected efficiencies and cost savings from the proposed transaction will
not be realized, or will not be realized within the expected time period; the
risk that the Company's and Catalyst businesses will not be integrated
successfully; the ability to obtain governmental approvals of the proposed
transaction on the proposed terms and schedule contemplated by the parties; the
failure of shareholders of the Company or Catalyst to approve the proposed
transaction; disruption from the proposed transaction making it more difficult
to maintain business and operational relationships; the risk of customer
attrition; the possibility that the proposed transaction does not close,
including, but not limited to, due to the failure to satisfy the closing
conditions; and the ability to obtain the financing contemplated to fund a
portion of the consideration to be paid in the proposed transaction and the
terms of such financing.
When relying on forward-looking information to make decisions, investors and
others should carefully consider the foregoing factors and other uncertainties
and potential events. In making the forward-looking statements contained in this
MD&A, the Company does not assume any significant future acquisitions,
dispositions or one-time items. It does assume, however, the renewal of certain
customer contracts. Every year, the Company has major customer contracts that
come up for renewal. In addition, the Company also assumes new customer
contracts. In this regard, the Company is pursuing large opportunities that
present a very long and complex sales cycle which substantially affects its
forecasting abilities. The Company has assumed certain timing for the
realization of these opportunities which it thinks is reasonable but which may
not be achieved. Furthermore, the pursuit of these larger opportunities does not
ensure a linear progression of revenue and earnings since they may involve
significant up-front costs followed by renewals and cancellations of existing
contracts. The Company has assumed certain revenues which may not be realized.
The Company has also assumed that the material factors referred to in the
previous paragraphs will not cause such forward-looking information to differ
materially from actual results or events. The foregoing list of factors is not
exhaustive and is subject to change and there can be no assurance that such
assumptions will reflect the actual outcome of such items or factors. For
additional information with respect to certain of these and other factors, refer
to the Risk Factors section contained in Item 1A of the Company's 2011 Annual
Report on Form 10-K, and subsequent filings on Forms 10-Q and 8-K.
THE FORWARD-LOOKING INFORMATION CONTAINED IN THIS MD&A REPRESENTS THE COMPANY'S
CURRENT EXPECTATIONS AND, ACCORDINGLY, IS SUBJECT TO CHANGE. HOWEVER, THE
COMPANY EXPRESSLY DISCLAIMS ANY INTENTION OR OBLIGATION TO UPDATE OR REVISE ANY
FORWARD-LOOKING INFORMATION, WHETHER AS A RESULT OF NEW INFORMATION, FUTURE
EVENTS OR OTHERWISE, EXCEPT AS REQUIRED BY APPLICABLE LAW.
Overview
PBM Business
The Company provides comprehensive PBM services to customers, which include
managed care organizations, local governments, unions, corporations, HMOs,
employers, workers' compensation plans, third party health care plan
administrators and federal and state government programs through its network of
licensed pharmacies throughout the United States. The PBM services include
electronic point-of-sale pharmacy claims management, retail pharmacy network
management, mail service pharmacy, specialty service pharmacy, Medicare Part D
services, benefit design consultation, preferred drug management programs, drug
review and analysis, consulting services, data access and reporting and
information analysis. Included in the Company's PBM offerings are the
fulfillment of prescriptions through the Company's own mail and specialty
pharmacies. In addition, the Company is a national provider of drug benefits to
its customers under the federal government's Medicare Part D program.
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Revenue primarily consists of sales of prescription drugs, together with any
associated administrative fees, to customers and participants, either through
the Company's nationwide network of retail pharmacies or its own mail and
specialty pharmacies. Revenue related to the sale of prescription drugs is
recognized when the claims are adjudicated and the prescription drugs are
shipped. Claims are adjudicated at the point-of-sale using an on-line processing
system. Profitability of the PBM segment is largely dependent on the volume and
type of prescription drug claims adjudicated and sold. Growth in revenue and
profitability of the PBM segment is dependent upon attracting new customers,
retaining the Company's current customers and providing additional services to
the Company's current customer base by offering a flexible and cost-effective
alternative to traditional PBM offerings. The Company's PBM offerings allow its
customers to gain increased control of their pharmacy benefit dollars and
maximize cost savings and quality of care through a full range of pharmacy spend
management services, including: formulary administration, benefit plan design
and management, pharmacy network management, drug utilization review, clinical
services and consulting, reporting and information analysis solutions, mail and
specialty pharmacy services and consumer web services.
Under the Company's customer contracts, retail pharmacies are solely obligated
to collect the co-payments from the participants. As such, the Company does not
include participant co-payments to retail pharmacies in revenue or cost of
revenue. If these amounts were included in revenue and cost of revenue,
operating income and net income would not have been affected.
The Company evaluates customer contracts to determine whether it acts as a
principal or as an agent in the fulfillment of prescriptions through its retail
pharmacy network. The Company acts as a principal in most of its transactions
with customers, and revenue is recognized at the prescription price (ingredient
cost plus dispensing fee) negotiated with customers, plus an administrative fee,
if applicable ("gross reporting"). Gross reporting is appropriate when the
Company (i) has separate contractual relationships with customers and with
pharmacies, (ii) has responsibility for validating and managing a claim through
the claims adjudication process, (iii) commits to set prescription prices for
the pharmacy, including instructing the pharmacy as to how that price is to be
settled (co-payment requirements), (iv) manages the overall prescription drug
relationship with the patients, who are participants of customers' plans, and
(v) has credit risk for the price due from the customer. In instances where the
Company merely administers a customer's network pharmacy contract to which the
Company is not a party and under which the Company does not assume pricing risk
and credit risk, among other factors, the Company only records an administrative
fee as revenue. For these customers, the Company earns an administrative fee for
collecting payments from the customer and remitting the corresponding amount to
the pharmacies in the customer's network. In these transactions, the Company
acts as an agent for the customer. As the Company is not the principal in these
transactions, the drug ingredient cost is not included in revenue or in cost of
revenue ("net reporting"). As such, there is no impact to gross profit based
upon whether gross or net reporting is used.
HCIT Business
The Company is also a leading provider of HCIT solutions and services to
providers, payors, and other participants in the pharmaceutical supply chain in
North America. The Company's product offerings include a wide range of software
products for managing prescription drug programs and for drug prescribing and
dispensing. The Company's solutions are available on a license basis with
on-going maintenance and support or on a transaction fee basis using an ASP
model. The Company's payor customers include managed care organizations, health
plans, government agencies, employers and intermediaries such as pharmacy
benefit managers. The solutions offered by the Company's services assist both
payors and providers in managing the complexity and reducing the cost of their
prescription drug programs and dispensing activities.
Profitability of the HCIT business depends primarily on revenue derived from
transaction processing services, software license sales, hardware sales,
maintenance and professional services. Recurring revenue remains a cornerstone
of the Company's business model and consists of transaction processing services
and maintenance. Growth in revenue from recurring sources has been driven
primarily by growth in the Company's transaction processing business in the form
of claims processing for its payor customers and switching services for its
provider customers. Through the Company's transaction processing business, where
the Company is generally paid based on the volume of transactions processed, the
Company continues to benefit from the growth in pharmaceutical drug use in the
United States. The Company believes that aging demographics and increased use of
prescription drugs will continue to generate demand in the transaction
processing business. In addition to benefiting from this industry growth, the
Company continues to focus on increasing recurring revenue in the transaction
processing area by adding new transaction processing customers to its existing
customer base. The recognition of revenue in the HCIT business depends on
various factors, including the type of service provided, contract parameters and
any undelivered elements.
Operating Expenses
The Company's operating expenses primarily consist of cost of revenue, product
development costs, selling, general and administrative ("SG&A") costs,
depreciation and amortization. Cost of revenue includes the cost of drugs
dispensed and shipped, costs related to the products and services provided to
customers in the HCIT segment and costs associated with the operation and
maintenance of the transaction processing centers. These costs include salaries
and related expenses for professional services personnel, transaction processing
centers' personnel, customer support personnel, any hardware or equipment sold
to customers and depreciation expense related to data center operations. Product
development costs consist of staffing expenses to produce enhancements and new
initiatives. SG&A costs relate to selling expenses, commissions, marketing,
network administration and administrative costs, including legal, accounting,
investor relations and corporate development costs. Depreciation expense relates
to the depreciation of property and equipment used by the Company. Amortization
expense relates to definite-lived intangible assets from business acquisitions.
Industry Overview
The PBM industry is intensely competitive, generally resulting in continuous
pressure on gross profit as a percentage of total revenue. In recent years,
industry consolidation and dramatic growth in managed healthcare have led to
increasingly aggressive pricing of PBM services. Given
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the pressure on all parties to reduce healthcare costs, the Company expects this
competitive environment to continue for the foreseeable future. In order to
remain competitive, the Company looks to continue to drive purchasing
efficiencies of pharmaceuticals to improve operating margins and target the
acquisition of other businesses to achieve its strategy of expanding its product
offerings and customer base. The Company also looks to retain and expand its
customer base by improving the quality of service provided by enhancing its
solutions and lowering the total drug spend for customers.
The HCIT industry is increasingly competitive as technologies continue to
advance and new products continue to emerge. This rapidly developing industry
requires the Company to perpetually improve its offerings to meet customer's
rising product standards. Recent governmental stimulus initiatives to improve
the country's electronic health records should assist the growth of the industry
in addition to increased regulatory reporting forecasted by the recent
healthcare reform legislation. However, it may also increase competition as more
players enter the expanding market.
The complicated environment in which the Company operates presents it with
opportunities, challenges, and risks. The Company's customers are paramount to
its success; the retention of existing customers and winning of new customers
and members pose the greatest opportunities, and the loss thereof represents an
ongoing risk. The preservation of the Company's relationships with
pharmaceutical manufacturers and the Company's network of participating retail
pharmacies is very important to the execution of its business strategies. The
Company's future success will hinge on its ability to drive volume at its
specialty and mail order pharmacies and increase generic dispensing rates in
light of the significant brand-name drug patent expirations expected to occur
over the next several years. The Company's ability to continue to provide
innovative and competitive clinical and other services to customers and
patients, including the Company's active participation in the Medicare Part D
benefit and the rapidly growing specialty pharmacy industry, also plays an
important part in the Company's future success.
The frequency with which the Company's customer contracts come up for renewal,
and the potential for one of the Company's larger customers to terminate or
elect not to renew its existing contract with the Company, creates the risk that
the Company's results of operations may be volatile. The Company's customer
contracts generally do not have terms longer than three years and, in some
cases, are terminable by the customer on relatively short notice. The Company's
larger customers generally seek bids from other PBM providers in advance of the
expiration of their contracts. If existing customers elect not to renew their
contracts at the same service levels previously provided with the Company at the
expiration of the current terms of those contracts, and in particular if one of
the Company's largest customers elects not to renew, the Company's recurring
revenue base will be reduced and results of operations will be adversely
affected.
The Company operates in a competitive environment where customers and other
payors seek to control the growth in the cost of providing prescription drug
benefits. The Company's business model is designed to reduce the level of drug
cost. The Company helps manage drug cost primarily through programs designed to
maximize the substitution of expensive brand drugs with equivalent but much
lower cost generic drugs, obtaining competitive discounts from suppliers,
securing rebates from pharmaceutical manufacturers and third party rebate
administrators, securing discounts from retail pharmacies, applying the
Company's sophisticated clinical programs and efficiently administering
prescriptions dispensed through the Company's mail and specialty pharmacies.
Various aspects of the Company's business are governed by federal and state laws
and regulations, and because sanctions may be imposed for violations of these
laws, compliance is a significant operational requirement. The Company believes
it is in substantial compliance with all existing legal requirements material to
the operation of its business. There are, however, significant uncertainties
involving the application of many of these legal requirements to its business.
The U.S. healthcare reform legislation enacted in March 2010 could provide drug
coverage for millions of people in the form of expanded Medicaid coverage. The
Company is active in this market and believes that expansion could create growth
opportunities for the Company. In addition, the reform bill provides a pathway
for follow-on biologic development, giving more cost effective generic options
to customers and the potential opportunity for margin expansion for the Company.
As many aspects of the reform bill do not go into effect for several years, the
Company cannot predict the overall impact the legislation will have on the
Company's financial results, particularly in light of the U.S. Supreme Court
ruling on the Affordable Care Act expected within the next several months. In
addition, there are numerous proposed health care laws and regulations at the
federal and state levels, many of which could adversely affect the Company's
business, results of operations and financial condition. The Company is unable
to predict what additional federal or state legislation or regulatory
initiatives may be enacted in the future relating to its business or the health
care industry in general, or what effect any such legislation or regulations
might have on it. The Company also cannot provide any assurance that federal or
state governments will not impose additional restrictions or adopt
interpretations of existing laws or regulations that could have a material
adverse effect on its business or financial performance.
Competitive Strengths
The Company has demonstrated its ability to serve a broad range of customers
from large managed care organizations and state governments to employer groups
with fewer than a thousand members. The Company believes its principal
competitive strengths are:
Flexible, customized and independent services: The Company believes a key
differentiator between itself and its competitors is not only the Company's
ability to provide innovative PBM services, but also to deliver these services
on an à la carte basis. The informedRx suite offers the flexibility of broad
product choice along the entire PBM continuum, enabling enhanced customer
control, solutions tailored to the customers' specific requirements, and
flexible pricing. The market for the Company's products is divided between large
customers that have the sophisticated technology infrastructure and staff
required to operate a 24-hour data center and other customers that are not able
or willing to operate these sophisticated systems.
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The Company's business model allows its large customers to license the Company's
products and operate the Company's systems themselves (with or without taking
advantage of the Company's significant customization, consulting and systems
implementation services) and allows its other customers to utilize the Company's
systems' capabilities on a fee-per-transaction or subscription basis through ASP
processing from the Company's data center.
Leading technology platform: The Company's technology is robust, scaleable and
web-enabled. The Company's payor offerings efficiently supported over
558 million transactions in 2011. The platform is able to instantly cross-check
multiple processes, such as reviewing claim eligibility and adverse drug
reaction and properly calculating member, pharmacy and payor payments. The
Company's technology is built on flexible, database-driven rule sets and broad
functionality applicable for most types of business. The Company believes it has
one of the most comprehensive claims processing platforms in the market.
The Company's technology platform allows it to provide more comprehensive PBM
services through informedRx by offering customers a selection of services to
choose from tailored to meet their unique needs instead of requiring them to
accept a one-size-fits-all solution. The Company believes this à la carte
offering is a key differentiator from its competitors.
Measurable cost savings for customers: The Company provides its customers with
increased control over prescription drug costs and drug benefit programs. The
Company's pricing model and flexible product offerings are designed to deliver
measurable cost savings to the Company's customers. The Company believes its
pricing model is a key differentiator from its competitors for the Company's
customers who want to gain control of their prescription drug costs. For
example, the Company's pharmacy network contracts and rebate agreements are made
available by the Company to each customer. For customers who select the
Company's pharmacy network and manufacturer rebate services on a fixed fee per
transaction basis, there is clarity to the rebates and other fees payable to the
customer. The Company believes that its pricing model, together with the
flexibility to select from a broad range of customizable services, helps
customers realize measurable results and cost savings.
Selected Trends and Highlights for the Three Months Ended March 31, 2012 and
2011
Business trends
Our results for the three months ended March 31, 2012 reflect the successful
execution of our business model, which emphasizes the alignment of our financial
interests with those of our clients through greater use of generics and low-cost
brands, as well as our mail and specialty pharmacies. The positive trends we saw
in 2011, including drug purchasing synergies from increased scale due to
acquisitions and growth in our customer base and increased generic usage, have
continued to offset the negative impact of various marketplace forces affecting
pricing and plan structure, among other items, and thus continue to generate
improvements in our results of operations. Additionally, as the regulatory
environment evolves, we will continue to make significant investments designed
to keep us ahead of the competition.
We successfully implemented HealthSpring, Inc.'s ("HealthSpring") newly acquired
Bravo Health, Inc. subsidiaries ("Bravo Health") effective January 1, 2012 and
have begun the process of fully integrating our recent acquisition of HealthTran
LLC ("HealthTran") into our business. These events have helped drive overall
growth in our top line revenue as well as overall operating results. We also
continue to benefit from better management of ingredient costs through increased
competition among generic manufacturers. The average generic dispensing rate
(GDR) or the number of generic prescriptions as a percentage of the total number
of prescriptions dispensed for informedRx clients reached 80% in Q1 2012, a 2%
trend increase from the same period in 2011. This increase was achieved through
a broad range of plan design solutions, helped considerably by a continuing wave
of major generic releases. This trend is expected to continue throughout 2012.
Financial results for the three months ended March 31, 2012 and 2011
Total revenue for the three months ended March 31, 2012 was $1.7 billion as
compared to $1.1 billion for the same period in 2011. The increase is largely
attributable to an increase in PBM revenue of $0.6 billion, primarily due to the
implementation of new customer contracts in 2012 and the Company's completion of
the HealthTran acquisition, which was effective January 1, 2012. As a result of
these items, the Company's PBM segment adjusted prescription claim volume
increased 61.5% to 34.4 million for the first quarter of 2012, as compared to
21.3 million for the first quarter of 2011. Adjusted prescription claim volume
equals the Company's retail and specialty prescriptions, plus mail pharmacy
prescriptions multiplied by three. The mail pharmacy prescriptions are
multiplied by three to adjust for the fact that they typically include
approximately three times the amount of product days supplied compared with
retail and specialty prescriptions.
Operating income increased $13.4 million, or 48.4%, for the three months ended
March 31, 2012, to $41.0 million as compared to $27.6 million for the same
period in 2011. This increase was driven by increased gross profit in the PBM
segment due to new customer starts and the HealthTran acquisition, offset by an
increase in SG&A expense and amortization expense related to the acquisition of
HealthTran.
The Company reported net income of $26.3 million, or $0.42 per share
(fully-diluted), for the three months ended March 31, 2012, as compared to $18.3
million, or $0.29 per share (fully-diluted), for the same period in 2011. The
increase is driven by higher gross profit attributable to an increase in PBM
revenues due to new customer starts and the HealthTran acquisition offset by an
increase in SG&A expense to support the new business growth, as well as
increased amortization of intangibles due to acquisitions. Amortization expense
included in net income was $10.3 million for the three months ended March 31,
2012 as compared to $3.6 million for the same period in 2011.
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Business combinations
On April 18, 2012, the Company announced that it had entered into a definitive
Agreement and Plan of Merger (the "Merger Agreement") with Catalyst Health
Solutions, Inc. ("Catalyst"), a full-service PBM serving more than 18 million
lives in the United States and Puerto Rico, pursuant to which, upon the terms
and subject to the conditions set forth in the Merger Agreement, a newly-formed
wholly-owned subsidiary of the Company will be merged with and into Catalyst,
with Catalyst surviving as a wholly-owned subsidiary of the Company (the
"Merger"). Each share of Catalyst common stock outstanding immediately prior to
the effective time of the Merger (other than shares owned by the Company or
Catalyst or any of their respective wholly-owned subsidiaries or shares with
respect to which appraisal rights have been properly exercised) will be
converted in the Merger into the right to receive 0.6606 of a Company common
share and $28.00 in cash. Based on the outstanding shares of Catalyst common
stock as of December 31, 2011, approximately 34 million shares of the Company
will be issued to complete the Merger. The completion of the Merger is subject
to certain conditions, including, among others, (i) approval and adoption by
Catalyst stockholders of the Merger Agreement, (ii) approval by Company
shareholders of the issuance of Company common shares in connection with the
Merger, (iii) the expiration or termination of the waiting period under the
Hart-Scott-Rodino Antitrust Improvements Act and the receipt of certain
governmental approvals and (iv) other customary closing conditions. The Merger
is expected to close in the second half of 2012.
In January 2012, the Company completed the acquisition of all of the outstanding
equity interests of HealthTran, in exchange for $250 million in cash, subject to
certain customary post-closing adjustments, in each case upon the terms and
subject to the conditions contained in the HealthTran Purchase Agreement.
HealthTran was an existing HCIT customer and utilizes one of the Company's
platforms for its claims adjudication services. The acquisition provides an
opportunity to create new revenue streams and generate cost savings through
purchasing synergies.
On October 3, 2011, the Company completed its acquisitions of PTRX, a
full-service PBM, and its exclusive mail-order pharmacy provider, SaveDirectRx,
both based in San Antonio, Texas. The purchase price was $77.2 million in cash,
with an opportunity for the former owners of SaveDirectRx to earn an additional
$4.5 million, subject to the achievement of certain performance targets through
2012. The acquisitions of PTRX and SaveDirectRx are in line with the Company's
strategy to acquire assets that currently utilize the Company's technology
platform in order to ease the integration into the Company's business. Further,
these acquisitions have allowed the Company to extend its presence in the
southwestern part of the U.S. and expand its mail pharmacy business.
On June 1, 2011, the Company completed its acquisition of substantially all of
the assets of MedMetrics, the full-service PBM subsidiary of Public Sector
Partners, Inc., which is affiliated with a major medical school. The acquisition
of MedMetrics allows the Company the opportunity to sell additional services,
such as mail and specialty services, to MedMetrics' customers. The acquisition
has also helped extend the Company's footprint in the northeastern part of the
U.S.
On December 28, 2010, the Company completed its acquisition of MedfusionRx, LLC
and certain affiliated entities and certain assets of Medtown South, L.L.C.
(collectively, "MedfusionRx"), a specialty pharmacy provider with expertise in
providing clinical services to patients with complex chronic conditions. The
purchase price for MedfusionRx was $101.5 million in cash, subject to a
customary post-closing working capital adjustment, and an opportunity for the
former owners of MedfusionRx to earn an additional $5.5 million in cash, subject
to the satisfaction of certain performance targets in the 2012 fiscal year, in
each case based on the terms and subject to the conditions contained in the
MedfusionRx Purchase Agreement. The Company expects the acquisition to transform
the Company's specialty service pharmacy business by expanding its presence and
enhancing its capabilities in this rapidly growing sector of the PBM industry.
Recent developments
On January 31, 2012, Cigna Corporation ("Cigna") announced that it had completed
its acquisition of HealthSpring in an all-cash transaction. HealthSpring
accounted for 46% of the Company's total revenues for the three months ended
March 31, 2012. The Company's contract with HealthSpring (the "HealthSpring
contract") was effective on January 1, 2011 and has an initial three-year term
(with two additional one-year extensions). Neither party to the HealthSpring
contract has the right to terminate the agreement prior to the end of the
initial term, except in the event of a material breach. While the Company does
not currently anticipate any adverse impact to its financial results through the
initial term of the HealthSpring contract, we can give no assurances that we
will be able to continue to generate a substantial portion of our revenues from
HealthSpring for the foreseeable future, or that we will be able to extend or
renew the HealthSpring contract past the initial period.
On December 16, 2011, the Company entered into a Credit Agreement (the "Credit
Agreement") with JPMorgan Chase Bank, N.A. ("JPMCB"), as a lender and as
administrative agent, Bank of America, N.A., SunTrust Bank, Fifth Third Bank,
PNC Bank, N.A. and The Toronto-Dominion Bank, as lenders and co-syndication
agents, Barclays Bank PLC, Morgan Stanley Bank, N.A., Credit Suisse AG, Cayman
Islands Branch, The Northern Trust Company, PNC Bank Canada Branch, U.S. Bank
National Association and U.S. Bank National Association, Canadian Branch, as
lenders, other lenders from time to time party thereto (collectively, the
"Lenders") and J.P. Morgan Securities LLC, as sole bookrunner and sole lead
arranger, with respect to a new five-year senior unsecured revolving credit
facility (the "Revolving Credit Facility"). The Credit Agreement provides that,
upon the terms and subject to the conditions set forth therein, the Lenders will
make loans to the Company from time to time, with an initial aggregate revolving
commitment of $350 million, subject to increase from time to time up to a
maximum aggregate revolving commitment of $450 million. The Company will use the
proceeds from the Revolving Credit Facility for general corporate purposes,
including to finance certain acquisitions. On January 3, 2012, the Company
borrowed $100 million under the Revolving Credit Facility to pay a portion of
the consideration in connection with the acquisition of HealthTran and certain
transaction fees and expenses related to the acquisition.
Concurrently, and in connection with entering into the merger agreement with
Catalyst, the Company entered into a debt commitment letter with with J.P.
Morgan Securities LLC ("JPMorgan") and JPMorgan Chase Bank, N.A. ("JPMCB"),
pursuant to which, subject to the conditions set
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forth therein, JPMCB committed to provide senior secured credit facilities in an
aggregate amount of up to $1.8 billion, consisting of (i) a five-year senior
secured term loan A facility in the amount of $650 million, (ii) a seven-year
senior secured term loan B facility in the amount of $800 million and (iii) a
five-year senior secured revolving facility in the amount of $350 million.
Borrowings under the term loan facilities will be used to finance the cash
portion of the aggregate Merger consideration and payment of related fees and
expenses. Borrowings under the revolving facility may be used for general
corporate purposes, including the financing of the cash portion of the aggregate
merger consideration and other permitted acquisitions and payment of related
fees and expenses. The term loan A facility and the revolving facility will
mature five years following the closing date of the merger and the term loan B
facility will mature seven years following the closing date of the merger.
Results of Operations
Three months ended March 31, 2012 as compared to the three months ended
March 31, 2011
Three Months Ended
March 31,
In thousands, except per share data 2012 2011
Revenue $ 1,717,097 $ 1,097,652
Cost of revenue 1,606,708 1,034,074
Gross profit 110,389 63,578
Product development costs 3,074 3,360
SG&A 53,640 27,438Depreciation of property and equipment 2,356 1,594
Amortization of intangible assets
10,318 3,560
Operating income 41,001 27,626
Interest and other expense, net 1,240 287
Income before income taxes 39,761 27,339
Income tax expense 13,419 9,068
Net income $ 26,342 $ 18,271
Diluted earnings per share $ 0.42 $ 0.29
Revenue
Revenue increased $0.6 billion, or 56.4%, to $1.7 billion for the three months
ended March 31, 2012, primarily due to the implementation of new customer starts
in 2012 and the acquisition of HealthTran on January 1, 2012. Accordingly,
adjusted prescription claim volume for the PBM segment increased 61.5% to 34.4
million for the three months ended March 31, 2012 as compared to 21.3 million
for the three months ended March 31, 2011.
Cost of Revenue
Cost of revenue increased $0.6 billion, or 55.4%, to $1.6 billion for the three
months ended March 31, 2012, primarily due to increased PBM transaction volumes
in 2012 as noted above in the revenue discussion. During the three months ended
March 31, 2012, the cost of prescriptions dispensed from the Company's PBM
segment accounted for 99% of the cost of revenue. The cost of prescriptions
dispensed is substantially comprised of the actual cost of the prescription
drugs sold, plus any applicable shipping costs.
Gross Profit
Gross profit increased $46.8 million, or 73.6%, to $110.4 million for the three
months ended March 31, 2012 as compared to the same period in 2011, mostly due
to incremental PBM revenues generated from new customer starts in 2012 and the
HealthTran acquisition. Gross profit has increased from 5.8% of revenue to 6.4%
of revenue during the three months ended March 31, 2012 as compared to the same
period in 2011 due to the higher gross profit percentage from the HealthTran
acquisition, offset partially by new customer contracts carrying a lower gross
profit percentage.
Product Development Costs
Product development costs were $3.1 million and $3.4 million for the three
months ended March 31, 2012 and 2011, respectively. Product development
continues to be a key focus of the Company as it continues to pursue
enhancements of existing products, as well as the development of new offerings,
to support its market expansion.
SG&A Costs
SG&A costs for the three months ended March 31, 2012 were $53.6 million as
compared to $27.4 million for the three months ended March 31, 2011, an increase
of $26.2 million, or 95.5%. SG&A costs consist primarily of employee costs in
addition to professional services costs, facilities
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Table of Contents
and costs not related to cost of revenue. SG&A costs have increased due to the
addition of operating costs related to the Company's recent acquisitions of
HealthTran, PTRX, SaveDirectRx and MedMetrics that were not present during the
three months ended March 31, 2011, as well as additional resources added to
support the growth of the PBM segment. SG&A costs also include stock-based
compensation cost of $2.6 million and $1.5 million for the three months ended
March 31, 2012 and 2011, respectively. The increase in stock-based compensation
during the three months ended March 31, 2012 as compared to the same period in
2011 is due to additional awards granted during the year, and a higher value per
award as compared to those granted in previous years.
Depreciation
Depreciation expense relates to property and equipment used in all areas of the
Company, except for those depreciable assets directly related to the generation
of revenue, which is included in cost of revenue in the consolidated statements
of operations. Depreciation expense was $2.4 million and $1.6 million for the
three months ended March 31, 2012 and 2011, respectively. Depreciation expense
will fluctuate based on the level of new asset purchases, as well as the timing
of assets becoming fully depreciated. Depreciation expense increased mainly as a
result of fixed assets acquired from the HealthTran acquisition, as well as new
asset purchases made by the Company in 2012 and 2011.
Amortization
Total amortization expense for the three months ended March 31, 2012 and 2011
was $10.3 million and $3.6 million, respectively, an increase of $6.8 million,
or 189.8%. The increase in amortization expense was driven mainly by the
amortization of intangible assets acquired in the HealthTran, PTRX and
SaveDirectRx acquisitions. Amortization expense on all the Company's intangible
assets is expected to be approximately $26.6 million for the remainder of 2012.
Refer to Note 5-Goodwill and Other Intangible Assets in the notes to the
unaudited consolidated financial statements for more information on amortization
expected in future years.
Interest and Other Expense, net
Interest and other expense, net increased to $1.2 million for the three months
ended March 31, 2012 from $0.3 million for the same period in 2011, primarily
due to additional interest expenses related to the $100 million draw from the
Company's Revolving Credit Facility in January 2012. Refer to Note 7-Debt in the
notes to the unaudited consolidated financial statements for more information
related to the Revolving Credit Facility.
Income Taxes
The Company recognized income tax expense of $13.4 million for the three months
ended March 31, 2012, representing an effective tax rate of 33.7%, as compared
to $9.1 million, representing an effective tax rate of 33.2%, for the same
period in 2011.
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