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Article by DailyStocks_admin    (12-15-08 02:36 AM)

Filed with the SEC from Nov 27 to Dec 03:

Magellan Health Services (MGLN)
Shamrock also urged MGLN to maximize value and be more "assertive" by repurchasing $300 million in common stock. Shamrock holds 1,295,686 shares (3.2%).


BUSINESS OVERVIEW

Magellan Health Services, Inc. ("Magellan") was incorporated in 1969 under the laws of the State of Delaware. Magellan's executive offices are located at 55 Nod Road, Avon, Connecticut 06001, and its telephone number at that location is (860) 507-1900. Reference in this report to the "Company" includes Magellan, its majority owned subsidiaries, and all variable interest entities ("VIEs") for which Magellan is the primary beneficiary.

Business Overview

The Company is engaged in the specialty managed healthcare business, and its principal offices and operations are in the United States. Through 2005, the Company predominantly operated in the managed behavioral healthcare business. During 2006, the Company expanded into radiology benefits management and specialty pharmaceutical management as a result of its January 31, 2006 acquisition of National Imaging Associates, Inc. ("NIA") and its July 31, 2006 acquisition of ICORE Healthcare LLC ("ICORE"), respectively. The Company provides services to health plans, insurance companies, corporations, labor unions and various governmental agencies. The Company's business is divided into the following six segments, based on the services it provides and/or the customers that it serves, as described below.

Managed Behavioral Healthcare. The Company's managed behavioral healthcare business is composed of three of the Company's segments, each as described further below. This line of business generally reflects the Company's coordination and management of the delivery of behavioral healthcare treatment services that are provided through its contracted network of third-party treatment providers, which includes psychiatrists, psychologists, other behavioral health professionals, psychiatric hospitals, general medical facilities with psychiatric beds, residential treatment centers and other treatment facilities. The treatment services provided through the Company's provider network include outpatient programs (such as counseling or therapy), intermediate care programs (such as intensive outpatient programs and partial hospitalization services), inpatient treatment and crisis intervention services. The Company generally does not directly provide, or own any provider of, treatment services except as relates to the Company's contract to provide managed behavioral healthcare services to Medicaid recipients and other beneficiaries of the Maricopa County Regional Behavioral Health Authority (the "Maricopa Contract"), which is discussed further in Note 10—"Commitments and Contingencies-Maricopa Contract" to the consolidated financial statements set forth elsewhere herein. Under the Maricopa Contract, the Company was required to assume the operations of twenty-four behavioral health direct care facilities for a transitional period and to divest itself of these facilities over the following two years pursuant to a schedule as set forth in the Maricopa Contract.

The Company provides its management services primarily through: (i) risk-based products, where the Company assumes all or a substantial portion of the responsibility for the cost of providing treatment services in exchange for a fixed per member per month fee, (ii) administrative services only ("ASO") products, where the Company provides services such as utilization review, claims administration and/or provider network management, but does not assume responsibility for the cost of the treatment services, and (iii) employee assistance programs ("EAPs") where the Company provides short-term outpatient counseling.

The managed behavioral healthcare business is managed based on the services provided and/or the customers served, through the following three segments:

Health Plan. The Managed Behavioral Healthcare Health Plan segment ("Health Plan") generally reflects managed behavioral healthcare services provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicaid and Medicare members. Health Plan's contracts encompass either risk-based or ASO arrangements or both. As of December 31, 2007, Health Plan's covered lives were 5.6 million, 0.2 million and 20.7 million for risk-based, EAP and ASO products, respectively. For the year ended December 31, 2007, Health Plan's revenue was $530.6 million, $1.3 million and $126.5 million for risk-based, EAP and ASO products, respectively.

Employer. The Managed Behavioral Healthcare Employer segment ("Employer") generally reflects the provision of EAP services and managed behavioral healthcare services under contracts with employers, including corporations and governmental agencies, and labor unions. Employer contracts can be for either EAP or managed behavioral healthcare services, or both. Employer contracts containing provision of managed behavioral healthcare services can be risk-based or ASO, but currently are primarily ASO. As of December 31, 2007, Employer's covered lives were 0.1 million, 13.6 million and 0.5 million for risk-based, EAP and ASO products, respectively. For the year ended December 31, 2007, Employer's revenue was $6.4 million, $102.7 million and $17.0 million for risk-based, EAP and ASO products, respectively.

Public Sector. The Managed Behavioral Healthcare Public Sector segment ("Public Sector") generally reflects managed behavioral healthcare services provided to Medicaid recipients under contracts with state and local governmental agencies. Public Sector contracts encompass either risk-based or ASO arrangements. As of December 31, 2007, Public Sector's covered lives were 2.1 million and 0.2 million for risk-based and ASO products, respectively. For the year ended December 31, 2007, Public Sector's revenue was $1.0 billion and $4.4 million for risk-based and ASO products, respectively.

Radiology Benefits Management. The Company's Radiology Benefits Management segment generally reflects the management of the delivery of diagnostic imaging services to ensure that such services are clinically appropriate and cost effective. The Company's radiology benefits management services currently are provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicaid and Medicare members. The Company has bid and may bid in the future on contracts with state and local governmental agencies for the provision of such services to Medicaid recipients. The Company won one Medicaid contract last year; however, its implementation has been postponed by the agency. The Company offers its radiology benefits management services through ASO contracts, where the Company provides services such as utilization review and claims administration, but does not assume responsibility for the cost of the imaging services and through risk-based contracts, where the Company assumes all or a substantial portion of the responsibility for the cost of providing diagnostic imaging services. The Company's first two risk-based radiology benefits management contracts became effective June 1, 2007 and July 1, 2007, respectively. As of December 31, 2007, covered lives for Radiology Benefits Management were 2.2 million and 19.1 million for risk-based and ASO products, respectively. For the year ended December 31, 2007, revenue for Radiology Benefits Management was $118.2 million and $52.0 million for risk-based and ASO products, respectively.

Specialty Pharmaceutical Management. The Company's Specialty Pharmaceutical Management segment generally reflects the management of specialty drugs used in the treatment of cancer, multiple sclerosis, hemophilia, infertility, rheumatoid arthritis, chronic forms of hepatitis and other diseases. Specialty pharmaceutical drugs represent high-cost injectible, infused, oral, or inhaled drugs which traditional retail pharmacies typically do not supply due to their high cost, sensitive handling, and storage needs. The Company's specialty pharmaceutical management services are provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicare and Medicaid members. The Company's specialty pharmaceutical services include (i) distributing specialty pharmaceutical drugs on behalf of health plans, (ii) administering on behalf of health plans rebate agreements between health plans and pharmaceutical manufacturers, and (iii) providing consulting services to health plans and pharmaceutical manufacturers. The Company's Specialty Pharmaceutical Management segment had contracts with 30 health plans as of December 31, 2007.

Corporate and Other. This segment of the Company is comprised primarily of operational support functions such as sales and marketing and information technology, as well as corporate support functions such as executive, finance, human resources and legal.

Acquisition of National Imaging Associates

On January 31, 2006, the Company acquired all of the outstanding stock of NIA, a privately held radiology benefits management ("RBM") firm, for approximately $121 million in cash, after giving effect to cash acquired in the transaction, and NIA became a wholly-owned subsidiary. The Company reports the results of operations of NIA in the Radiology Benefits Management segment. For further discussion, see Note 3—"Acquisitions and Joint Ventures" to the consolidated financial statements set forth elsewhere herein.

Acquisition of ICORE Healthcare, LLC

On July 31, 2006, the Company acquired all of the outstanding units of membership interest of ICORE, a specialty pharmaceutical management company, and ICORE became a wholly-owned subsidiary. The Company reports the results of operations of ICORE in the Specialty Pharmaceutical Management segment. For further discussion, see Note 3—"Acquisitions and Joint Ventures" to the consolidated financial statements set forth elsewhere herein.

The Company paid or agreed to pay to the previous unitholders of ICORE, all of whom are members of ICORE's management team, (i) $161 million of cash at closing; (ii) $24 million of cash that was used by the unitholders of ICORE to purchase Magellan restricted stock with such restricted stock vesting over three years, provided the unitholders do not earlier terminate their employment with Magellan; (iii) $25 million plus accrued interest (the "Deferred Payment") on the third anniversary of the closing, subject to any indemnity claims Magellan may have under the purchase agreement; (iv) the amount of positive working capital that existed at ICORE on the closing date (the "Working Capital Payments"), which was $18.2 million of which $17.8 million was paid during 2007 with the remainder paid in January 2008; and (v) a potential earn-out of up to $75 million (the "Earn-Out"), provided the unitholders do not earlier terminate their employment with the Company prior to the payment of the Earn-Out. The $161 million of cash paid at closing, the $25 million Deferred Payment and $18.2 million of Working Capital Payments were recorded as purchase price. The $24 million of restricted stock is being recognized as stock compensation expense over the three year vesting period. The $24 million in restricted stock paid at the closing was issued in a transaction pursuant to which the unitholders of ICORE at closing applied $24 million of the purchase price as cash consideration for their purchase of restricted shares of the Company's common stock. The unitholders subscribed to an aggregate of 543,879 restricted shares of the Company's common stock on a basis proportional to each unitholder's economic interest in ICORE at a purchase price of $44.13 per share, which was the average of the closing prices of the Company's common stock on NASDAQ for the twenty trading days immediately preceding the closing. The Deferred Payment and the remaining estimated Working Capital Payments are included in Deferred Credits and Other Long-Term Liabilities and in Accrued Liabilities, respectively, on the Company's accompanying consolidated balance sheets as of December 31, 2006 and 2007. The Earn-Out has two parts: (i) up to $25 million based on earnings for the 18 month period ended December 31, 2007 and (ii) up to $50 million based on earnings in 2008. The Earn-Out, if earned, is payable 33 percent in cash and 67 percent in Magellan restricted stock that vests over two years after issuance. Any Earn-Out will be recognized as compensation expense over the applicable period that it is earned, because in order for potential recipients to receive any Earn-Out consideration, they must be employed by the Company at the time such consideration is distributed. The unitholders did not earn any of the potential Earn-Out of $25 million for the 18 month period ended December 31, 2007, nor has any amount of Earn-Out pertaining to 2008 been accrued as of December 31, 2007.

Industry

According to the Centers for Medicare and Medicaid Services ("CMS"), U.S. healthcare spending was projected to increase 6.6 percent to over $2.2 trillion in 2007, representing more than 16 percent of the gross domestic product. Healthcare is a rapidly evolving field where clinical and technological advancements can create business opportunities for firms with specialized expertise in certain niches of care management. The Company has transformed itself into a specialty managed healthcare company by entering areas of healthcare cost management that represent a meaningful portion of the healthcare dollar and that are growing at a disproportionately higher rate than other areas of healthcare. The Company defines areas of healthcare that can be carved out for specialty healthcare management to be areas where:

•
The management and cost of care are separable from other areas of healthcare management;

•
The Company believes that it can provide value to its customers in managing the care beyond what such customers can achieve on their own;

•
The value that the Company provides to its customers is measurable.

The Company's first specialty healthcare product was the management of behavioral healthcare. In 2006 the Company added both radiology benefits management and specialty pharmaceutical management services to its product offering through acquisitions of companies in these businesses.

Business Strategy

The Company is engaged in the specialty managed healthcare business. It currently provides managed behavioral healthcare services, radiology benefit management services, and specialty pharmaceutical management services. The Company's strategy is to expand its participation in the healthcare management services market through the expansion of its existing businesses and diversification into new specialties and services. The Company believes that its clients would prefer to consolidate outsourced vendors and that as a vendor offering multiple outsourced products, it will have a competitive advantage in the market. The Company seeks to grow its specialty managed healthcare business through the following initiatives:

Expanding the radiology benefits management services business. The Company entered the RBM business through its acquisition of NIA on January 31, 2006. Since that time, the Company has embarked on its strategy of expanding NIA's current product offering into risk-based products. The Company has leveraged its information systems, call center, and claims infrastructure as well as its financial strength and underwriting expertise to facilitate the expansion into risk-based RBM products.

In that regard, the Company has modified its claims system, developed and continues to expand a proprietary network of providers, and upgraded its call centers. During 2007, the Company implemented its first two risk-based contracts. The Company intends to continue marketing its risk-based contracts to current ASO customers as well as to new RBM customers, including through cross-selling to its managed behavioral healthcare and specialty pharmaceutical management customer base.

Expanding the specialty pharmaceutical management business. The Company entered the specialty pharmaceutical management business through its acquisition of ICORE on July 31, 2006. The Company believes it can leverage its operational platform and expertise to expand and enhance ICORE's product offering. The Company intends to cross-sell ICORE's products to its current managed behavioral healthcare and radiology benefits management customer base.

Expanded penetration of products in new or growing markets. The Company seeks to expand its services in new and/or growing markets. In recent years, the Medicaid market has increased its use of specialty managed healthcare services. With Medicaid experience in managed behavioral healthcare, radiology benefits management and specialty pharmaceutical management, the Company believes it is positioned to grow its membership and revenues in the Medicaid market over the long term as a result of its proven expertise in managing these services. The Company also believes that it might be able to expand the use of radiology benefits management into new arenas such as Medicare and/or the direct-to-employer market at some time in the future.

Continued diversification of business. The Company continually evaluates opportunities to enter other specialty healthcare businesses or healthcare services that are complementary to its existing operations, that could accelerate its entrance into new products, and/or that could leverage its existing customer relationships.

The Company's current capital structure provides it with the flexibility to consider potential acquisitions that meet its strategic criteria as a possible means to accomplish its strategic objectives.

Customer Contracts

The Company's contracts with customers typically have terms of one to three years, and in certain cases contain renewal provisions (at the customer's option) for successive terms of between one and two years (unless terminated earlier). Substantially all of these contracts may be immediately terminated with cause and many of the Company's contracts are terminable without cause by the customer or the Company either upon the giving of requisite notice and the passage of a specified period of time (typically between 60 and 180 days) or upon the occurrence of other specified events. In addition, the Company's contracts with federal, state and local governmental agencies generally are conditioned on legislative appropriations. These contracts generally can be terminated or modified by the customer if such appropriations are not made. The Company's contracts for managed behavioral healthcare and radiology benefits management services generally provide for payment of a per member per month fee to the Company. See "Risk Factors—Risk-Based Products" and "—Reliance on Customer Contracts."

The Company's contracts with the State of Tennessee's TennCare program ("TennCare") and with subsidiaries of WellPoint, Inc. ("WellPoint"), each generated revenues that exceeded, in the aggregate, ten percent of revenues for the consolidated Company, for the years ended December 31, 2006 and 2007. See further discussion related to these significant customers in "Risk Factors—Reliance on Customer Contracts." In addition, see "Risk Factors—Dependence on Government Spending" for discussion of risks to the Company related to government contracts.

Provider Network

Except for certain services provided under the Maricopa Contract (see "Business—Managed Behavioral Healthcare"), the Company's managed behavioral healthcare services and EAP treatment services are provided by a contracted network of third-party providers, including psychiatrists, psychologists, other behavioral health professionals, psychiatric hospitals, general medical facilities with psychiatric beds, residential treatment centers and other treatment facilities. The number and type of providers in a particular area depend upon customer preference, site, geographic concentration and demographic composition of the beneficiary population in that area. The Company's managed behavioral healthcare network consists of approximately 75,000 behavioral healthcare providers, including facility locations, providing various levels of care nationwide. The Company's network providers are almost exclusively independent contractors located throughout the local areas in which the Company's customers' beneficiary populations reside. Outpatient network providers work out of their own offices, although the Company's personnel are available to assist them with consultation and other needs.

Non-facility network providers include both individual practitioners, as well as individuals who are members of group practices or other licensed centers or programs. Non-facility network providers typically execute standard contracts with the Company under which they are generally paid on a fee-for-service basis.

Third-party network facilities include inpatient psychiatric and substance abuse hospitals, intensive outpatient facilities, partial hospitalization facilities, community health centers and other community-based facilities, rehabilitative and support facilities and other intermediate care and alternative care facilities or programs. This variety of facilities enables the Company to offer patients a full continuum of care and to refer patients to the most appropriate facility or program within that continuum. Typically, the Company contracts with facilities on a per diem or fee-for-service basis and, in some limited cases, on a "case rate" or capitated basis. The contracts between the Company and inpatient and other facilities typically are for one-year terms and are terminable by the Company or the facility upon 30 to 120 days' notice.

Historically, the Company's radiology benefits management services were provided by a network of third-party providers that are contracted by the customers of the Company to provide such services to the customers' members or enrollees. To support its offering of risk-based arrangements, the Company has developed and continues to expand a proprietary network of providers directly, through the use of its internal networking resources, and indirectly through a network contracting company. Network providers include diagnostic imaging centers, radiology departments of hospitals that provide advanced imaging services on an outpatient basis, and individual physicians or physician groups that own advanced imaging equipment and specialize in certain specific areas of care. The Company contracts with these providers on a fee-for-service basis.

Joint Ventures

Prior to April 11, 2006, Premier Behavioral Systems of Tennessee, LLC ("Premier") was a joint venture in which the Company owned a 50 percent interest. On April 11, 2006, the Company purchased the other 50 percent interest in Premier for $1.5 million, so that Premier is now a wholly-owned subsidiary of the Company.

Premier was formed to manage behavioral healthcare benefits for a certain portion of TennCare. In addition, the Company contracted with Premier to provide certain services to the joint venture. Through 2003, the Company accounted for its investment in Premier using the equity method. Effective December 31, 2003, the Company adopted the Financial Accounting Standards Board's ("FASB") Interpretation No. 46, "Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin ("ARB") No. 51" ("FIN 46"), under which the Company consolidated the balance sheet of Premier in its consolidated balance sheet as of December 31, 2003. Beginning in 2004, the Company consolidated the results of operations of Premier in its consolidated statement of income. The creditors (or other beneficial interest holders) of Premier have no recourse to the general credit of the Company.

As of December 31, 2005, the Company owned a 37.5 percent interest in Royal Health Care, LLC ("Royal"). Royal was a managed services organization that received management fees for the provision of administrative, marketing, management and support services to seven managed care organizations. Royal did not provide any services to the Company.

The Company accounted for its investment in Royal using the equity method. Effective February 2, 2006, the Company sold its Royal ownership interest back to Royal in exchange for cash proceeds of $20.5 million. See Note 3—"Acquisitions and Joint Ventures" to the consolidated financial statements set forth elsewhere herein for further information on Royal.

Competition

The Company's business is highly competitive. The Company competes with other healthcare organizations as well as with insurance companies, including health maintenance organizations ("HMOs"), preferred provider organizations ("PPOs"), third-party administrators ("TPAs"), independent practitioner associations ("IPAs"), multi-disciplinary medical groups, pharmacy benefit managers ("PBMs") and other specialty healthcare and managed care companies. Many of the Company's competitors, particularly certain insurance companies, HMOs and PBM's are significantly larger and have greater financial, marketing and other resources than the Company, and some of the Company's competitors provide a broader range of services. The Company may also encounter competition in the future from new market entrants. In addition, some of the Company's customers that are managed care companies, may seek to provide specialty managed healthcare services directly to their subscribers, rather than by contracting with the Company for such services. Because of these factors, the Company does not expect to be able to rely to a significant degree on price increases to achieve revenue growth, and expects to continue experiencing pricing pressures.

Insurance

The Company maintains a program of insurance coverage for a broad range of risks in its business. The Company has renewed its general, professional and managed care liability insurance policies with unaffiliated insurers for a one-year period from June 17, 2007 to June 17, 2008. The general liability policies are written on an "occurrence" basis, subject to a $0.1 million per claim un-aggregated self-insured retention. The professional liability and managed care errors and omissions liability policies are written on a "claims-made" basis, subject to a $1.0 million per claim ($10.0 million per class action claim) un-aggregated self-insured retention for managed care liability, and a $0.1 million per claim un-aggregated self-insured retention for professional liability.

The Company maintains separate general and professional liability insurance policies with an unaffiliated insurer for its Specialty Pharmaceutical Management business. The Specialty Pharmaceutical Management insurance policies have a one-year term for the period June 17, 2007 to June 17, 2008. The general liability policies are written on an "occurrence" basis, subject to a $0.05 million per claim un-aggregated self-insured retention. The professional liability policy is written on a "claims-made" basis, subject to a $0.05 million per claim un-aggregated self-insured retention.

The Company maintains separate general and professional liability insurance policies with an unaffiliated insurer for its Maricopa Contract business, which include coverage for the behavioral health direct care facilities. The Maricopa Contract insurance policies have a one-year term for the period August 31, 2007 to September 1, 2008. The general liability policies are written on an "occurrence" basis, subject to a $0.35 million per claim un-aggregated self-insured retention. The professional liability policy is written on a "claims-made" basis, subject to a $0.35 million per claim un-aggregated self-insured retention.

The Company is responsible for claims within its self-insured retentions, and for portions of claims reported after the expiration date of the policies if they are not renewed, or if policy limits are exceeded. The Company also purchases excess liability coverage in an amount that management believes to be reasonable for the size and profile of the organization. See "Risk Factors—Professional Liability and Other Insurance," for a discussion of the risks associated with the Company's insurance coverage.

CEO BACKGROUND

William J. McBride was first appointed to the board in 2004. Mr. McBride is currently retired. Prior to his retirement in 1995, Mr. McBride had been a director of Value Health, Inc., a New York Stock Exchange listed specialty managed care company which included Value Behavioral Health, one of the largest behavioral health managed care companies at the time. From 1987 to 1995, Mr. McBride served as President and Chief Operating Officer of Value Health, Inc., overseeing all operational activities of the company and its subsidiaries. Prior to his tenure at Value Health, Mr. McBride spent 15 years in a variety of positions with INA Corporation and its successor, CIGNA Corporation, including serving as President and Chief Executive Officer of CIGNA Healthplan, Inc., Vice President and Controller of INA's Life and Healthcare Group and Vice President of Finance for CIGNA's Affiliated Business Group. Mr. McBride currently serves on the board of directors of AMERIGROUP Corporation, a managed healthcare company focused on providing services to Medicaid recipients; Evolution Benefits, Inc., a private insurance services company; Internet Health Care Group, an early-stage healthcare technology venture fund (" IHCG "), and Women's Health USA, Inc., a private healthcare services company.

Robert M. Le Blanc, the board's lead director, is a Managing Director for Onex Corporation. Mr. Le Blanc was first appointed to the board in 2004. Prior to joining Onex in 1999, Mr. Le Blanc held various positions with Berkshire Hathaway for seven years. He also worked for five years at GE Capital in a variety of positions, including corporate finance and corporate strategy. Mr. Le Blanc is a director of First Berkshire Hathaway Life; Emergency Medical Services Corporation, a publicly-traded provider of emergency medical services; Center for Diagnostic Imaging; ResCare, Inc., a publicly traded human service company for the disabled; The Warranty Group, a provider of warranty and service contracts; Cypress Holdings; and Skilled Healthcare, Inc. He currently serves as chairman of Carestream Health Inc., a provider of medical and dental imaging systems. He is also a director of Connecticut Children's Medical Center.

Allen F. Wise was first appointed to the board on May 16, 2006. Mr. Wise is Chairman of the board of directors of Coventry Health Care, a New York Stock Exchange-listed national managed healthcare company. From October 1996 to December 2004, he served as the President and Chief Executive Officer of Coventry. He previously served as executive vice president of UnitedHealth Group, Inc. Earlier in his career he served as president and chief executive officer of Wise Health System, a healthcare investment company; president and chief executive officer of Keystone Health Plan; and as chief operating officer of Independence Blue Cross. He is a director of Arcadian, Inc., a privately-held healthcare services company; and chairman and a director of Health Markets, Inc., a privately-held insurance provider for self-employed individuals and small businesses.

William D. Forrest was first appointed to the board in July 2007. He is a managing partner and equity owner of Tower Three Partners, LLC, a private equity fund that invests in distressed companies requiring operational and/or financial restructuring. He also serves as the non-executive chairman of Cosi, Inc., a national restaurant chain which is listed on NASDAQ. He served as the executive chairman of Cosi from April 2003 until December 2006. Prior to joining Cosi, Mr. Forrest was a managing director with the restructuring group at the international investment bank, Gleacher Partners. Prior to his position at Gleacher Partners, he was a managing director of Catterton- Forrest LLC, where he was responsible for the acquisition and management of portfolio companies in the troubled business space. Mr. Forrest is a Certified Turnaround Professional. He began his professional career in the consulting division of Laventhol & Horvath. Throughout his career, he has served in executive management, investment banking and investor roles with organizations in a variety of industries including healthcare, manufacturing and food service.

Directors Whose Terms Expire in 2009

Barry M. Smith was first appointed to the board in 2004. Mr. Smith is the founder, Chairman and Chief Executive Officer of Bon Travay, S.A., a charitable organization dedicated to healthcare and educational efforts in Third World countries. Prior to founding Bon Travay, he founded and served as Chairman, President and CEO of VistaCare, Inc., a national provider of hospice services, from 1996 to 2003. Earlier in his career, Mr. Smith served as Chairman and CEO of Value Rx, Inc., then one of the country's largest pharmacy benefit management companies, and, prior to that, served as Vice President of Operations for PCS Health Systems, also a pharmacy benefit management firm. Mr. Smith serves as Chairman and Chief Executive Officer of B&J Associates, Inc. and B&J Investments, LLC. He also serves as Chairman of Keystone National Group, a private equity fund of funds. Mr. Smith also serves on the board of directors of Inpatient Consultants, Inc., the nation's largest provider of hospitalist services delivering patient care in acute care hospitals.

René Lerer, M.D. was appointed President and Chief Executive Officer of the company as of February 19, 2008. Prior to that time, he served as President and Chief Operating Officer of the company from October 2003 and as Chief Operating Officer of the company from January 2003. Dr. Lerer was first appointed to the board in 2004. Prior to joining the company, Dr. Lerer co-founded IHCG, an early stage healthcare technology venture fund, and served as its President from 1999 to 2002. Prior to IHCG, Dr. Lerer was employed by Prudential Healthcare, Inc. as its Chief Operating Officer from 1997 to 1999. Prior thereto, Dr. Lerer was employed by Value Health, Inc., a New York Stock Exchange listed specialty managed healthcare company, and served as Senior Vice President— Operations of its Pharmacy and Disease Management Group from 1995 to 1997. Prior thereto, Dr. Lerer was employed by Value Health Sciences as Senior Vice President of Corporate Development from 1992 to 1994. Dr. Lerer is a member of the board of directors of IHCG, Digital Insurance, a private employee benefits service company, and RealMed, a private insurance software company.

Nancy L. Johnson formerly served in the U.S. House of Representatives as a 12-term Congresswoman from the 5 th District of Connecticut. She is currently a fellow at the Institute of Politics at Harvard University and since May 2007 has served as a senior policy analyst with the federal public policy group of the law firm of Baker, Donelson, Bearman, Caldwell & Berkowitz, P.C. Ms. Johnson was first elected to the House in 1982 and served on the Committee on Ways and Means for nine terms, where she chaired at various times the Oversight, Human Resources and Health Subcommittees. Prior to her election to the House of Representatives, she served in the Connecticut Senate from 1977 to 1983. She currently serves as a member of the board of directors of National Campaign to Prevent Teen Pregnancy and the Information Technology Innovation Foundation. She also currently serves on the United States Naval Academy Board of Visitors, on the board of trustees of John Marshal Law School and on the health policy fellowship advisory board of the Robert Wood Johnson Foundation.

Directors Whose Terms Expire in 2010

Steven J. Shulman is the non-executive chairman of the board of the company. He served as Chief Executive Officer of the company from December 2002 until February 2008 and as chairman of the board from the effective date of the company's plan of reorganization, January 5, 2004. Prior to joining the company, Mr. Shulman founded IHCG, an early stage healthcare technology venture fund, and served as its Chairman and Chief Executive Officer from 2000 to 2002. Prior to IHCG, he was employed by Prudential Healthcare, Inc. as its Chairman, President and Chief Executive Officer from 1997 to 1999. Prior thereto, Mr. Shulman co-founded Value Health, Inc., a New York Stock Exchange listed specialty managed health care company, and served as President of its Pharmacy and Disease Management Group and director from 1991 to 1997. From 1983 to 1986, Mr. Shulman was employed by CIGNA Healthplans as President of its East Central Division. Prior thereto, he served as Director of Medical Economics for Kaiser Permanente from 1974 to 1982. Mr. Shulman is a member of the board of directors of IHCG; Digital Insurance, a private employee benefit service company; BenefitPoint Inc., a private insurance software company; and Health Markets, Inc., a privately-held insurance provider for self-employed individuals and small businesses.

Michael P. Ressner retired from Nortel Networks where between 1980 and 2003 he was a senior executive with functional responsibilities that spanned the areas of finance and general management. Mr. Ressner was an adjunct professor of Finance and Accounting at the North Carolina State University College of Management between 2003 and 2005. He now sits on the advisory board of the Enterprise Risk Management Institute at North Carolina State University. Mr. Ressner currently serves on the boards of directors at three public companies other than our company: Exide Technologies, Tekelec and Entrust. He previously served on the boards of directors of Arsenal Digital Solutions, Riverstone Networks, Proxim Corporation, WilTel, Netgear, and Arris Interactive. As a member of the Executive Service Corps, Mr. Ressner participates in assignments that focus on providing financial management and governance consultancy to not-for-profit organizations in the Raleigh/Durham/Chapel Hill area.

Michael Diament formerly served as Portfolio Manager and Director of Bankruptcies and Restructurings from January 2001 to February 2006 for Q Investments, an investment management firm. From February 2000 until January 2001, Mr. Diament was a Senior Research Analyst for Sandell Asset Management, an investment management firm, and served as Vice President of Havens Advisors, an investment management firm, from July 1998 to January 2000. He was first appointed to the board in 2004. He also serves on the board of J.L. French Automotive Castings, Inc., a privately-held auto parts company. He previously served on the board of directors of i2 Technologies, Inc. and WilTel Communications Group, Inc.

Director Election and Terms of Office

Mr. Forrest is currently nominated for election for a three-year term to extend until the 2011 annual meeting of stockholders and Messrs. McBride, Le Blanc and Wise are currently nominated for reelection for a three-year term to extend until the 2011 annual meeting. Mr. Smith and Dr. Lerer are currently serving for a three-year term, and Ms. Johnson is currently serving for a two-year term, to extend until the 2009 annual meeting of stockholders. Messrs. Shulman, Ressner and Diament are currently serving for a three-year term to extend until the 2010 annual meeting. In each case, the term of office will extend until the indicated annual meeting and the election and qualification of their respective successors, or their earlier death, incapacity, resignation or removal.

Arrangements Regarding the Nomination of Directors

There is no agreement or arrangement whereby any director or other individual has been nominated or will be re-nominated to serve as a director of the company, except in the case of Dr. Lerer and Mr. Shulman. Under his employment agreement entered into on February 19, 2008, Dr. Lerer is to serve as a member of the board and any failure by the company to elect or re-elect him to the board is considered to give him "good reason" to terminate that agreement and receive the compensation and other benefits described under " Executive Officers—Employment Contracts and Termination of Employment and Change of Control Payments " below. Under the company's transition agreement entered into with Mr. Shulman on February 19, 2008 the company agreed that it will, subject to the fiduciary duties of the board, recommend that the shareholders reelect Mr. Shulman for the three-year term of that agreement. See " Executive Compensation—Compensation Discussion and Analysis—Transition Agreement with Mr. Shulman " below. All directors are elected by the holders of common stock, voting as a single voting group.

Certain provisions of the company's certificate of incorporation and by-laws govern the nomination and election of the company's directors. In accordance with the company's bylaws, the board of directors is required to nominate for election at each annual meeting of shareholders candidates who, if elected, will cause a majority of the members of the board of directors of the company to be independent directors, as determined in accordance with the listing standards of NASDAQ (and to meet certain other requirements regarding independence for membership on the Audit, Management Compensation and Nominating/Corporate Governance Committees, as well as corporate governance guidelines adopted by the board). Nominations may also be made by shareholders in accordance with certain procedures established by the by-laws and nominations not made in compliance with the requirements established thereby may not be given effect.


MANAGEMENT DISCUSSION FROM LATEST 10K

This Form 10-K includes "forward-looking statements" within the meaning of the Securities Act and the Exchange Act. Although the Company believes that its plans, intentions and expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such plans, intentions or expectations will be achieved. Prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements. Important factors currently known to management that could cause actual results to differ materially from those in forward-looking statements are set forth under the heading "Risk Factors" in Item 1A and elsewhere in this Form 10-K. When used in this Form 10-K, the words "estimate," "anticipate," "expect," "believe," "should" and similar expressions are intended to be forward-looking statements. Also, capitalized or defined terms included in Item 7 have the meanings set forth in Item 1 of this Form 10-K.

Business Overview

The Company is engaged in the specialty managed healthcare business. Through 2005, the Company predominantly operated in the managed behavioral healthcare business. During 2006, the Company expanded into radiology benefits management and specialty pharmaceutical management as a result of its acquisitions of NIA and ICORE, respectively, as discussed further below. The Company provides services to health plans, insurance companies, corporations, labor unions and various governmental agencies. The Company's business is divided into the following six segments, based on the services it provides and/or the customers that it serves, as described below.

Managed Behavioral Healthcare. The Company's managed behavioral healthcare business is composed of three of the Company's segments, each as described further below. This line of business generally reflects the Company's coordination and management of the delivery of behavioral healthcare treatment services that are provided through its contracted network of third-party treatment providers, which includes psychiatrists, psychologists, other behavioral health professionals, psychiatric hospitals, general medical facilities with psychiatric beds, residential treatment centers and other treatment facilities. The treatment services provided through the Company's provider network include outpatient programs (such as counseling or therapy), intermediate care programs (such as intensive outpatient programs and partial hospitalization services), inpatient treatment and crisis intervention services. The Company generally does not directly provide, or own any provider of, treatment services except as relates to the Company's contract to provide managed behavioral healthcare services to Medicaid recipients and other beneficiaries of the Maricopa County Regional Behavioral Health Authority (the "Maricopa Contract"), which is discussed further in Note 10—"Commitments and Contingencies-Maricopa Contract" to the consolidated financial statements set forth elsewhere herein. Under the Maricopa Contract, the Company was required to assume the operations of twenty-four behavioral health direct care facilities for a transitional period and to divest itself of these facilities over the following two years pursuant to a schedule as set forth in the Maricopa Contract.

The Company provides its management services primarily through: (i) risk-based products, where the Company assumes all or a substantial portion of the responsibility for the cost of providing treatment services in exchange for a fixed per member per month fee, (ii) ASO products, where the Company provides services such as utilization review, claims administration and/or provider network management, but does not assume responsibility for the cost of the treatment services, and (iii) EAPs where the Company provides short-term outpatient counseling.

The managed behavioral healthcare business is managed based on the services provided and/or the customers served, through the following three segments:

Health Plan. The Managed Behavioral Healthcare Health Plan segment ("Health Plan") generally reflects managed behavioral healthcare services provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicaid and Medicare members. Health Plan's contracts encompass either risk-based or ASO arrangements or both. As of December 31, 2007, Health Plan's covered lives were 5.6 million, 0.2 million and 20.7 million for risk-based, EAP and ASO products, respectively. For the year ended December 31, 2007, Health Plan's revenue was $530.6 million, $1.3 million and $126.5 million for risk-based, EAP and ASO products, respectively.

Employer. The Managed Behavioral Healthcare Employer segment ("Employer") generally reflects the provision of EAP services and managed behavioral healthcare services under contracts with employers, including corporations and governmental agencies, and labor unions. Employer contracts can be for either EAP or managed behavioral healthcare services, or both. Employer contracts containing provision of managed behavioral healthcare services can be risk-based or ASO, but currently are primarily ASO. As of December 31, 2007, Employer's covered lives were 0.1 million, 13.6 million and 0.5 million for risk-based, EAP and ASO products, respectively. For the year ended December 31, 2007, Employer's revenue was $6.4 million, $102.7 million and $17.0 million for risk-based, EAP and ASO products, respectively.

Public Sector. The Managed Behavioral Healthcare Public Sector segment ("Public Sector") generally reflects managed behavioral healthcare services provided to Medicaid recipients under contracts with state and local governmental agencies. Public Sector contracts encompass either risk-based or ASO arrangements. As of December 31, 2007, Public Sector's covered lives were 2.1 million and 0.2 million for risk-based and ASO products, respectively. For the year ended December 31, 2007, Public Sector's revenue was $1.0 billion and $4.4 million for risk-based and ASO products, respectively.

Radiology Benefits Management. The Company's Radiology Benefits Management segment generally reflects the management of the delivery of diagnostic imaging services to ensure that such services are clinically appropriate and cost effective. The Company's radiology benefits management services currently are provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicaid and Medicare members. The Company has bid and may bid in the future on contracts with state and local governmental agencies for the provision of such services to Medicaid recipients. The Company won one Medicaid contract last year; however, its implementation has been postponed by the agency. The Company offers its radiology benefits management services through ASO contracts, where the Company provides services such as utilization review and claims administration, but does not assume responsibility for the cost of the imaging services and through risk-based contracts, where the Company assumes all or a substantial portion of the responsibility for the cost of providing diagnostic imaging services. The Company's first two risk-based radiology benefits management contracts became effective June 1, 2007 and July 1, 2007, respectively. As of December 31, 2007, covered lives for Radiology Benefits Management were 2.2 million and 19.1 million for risk-based and ASO products, respectively. For the year ended December 31, 2007, revenue for Radiology Benefits Management was $118.2 million and $52.0 million for risk-based and ASO products, respectively.

Specialty Pharmaceutical Management. The Company's Specialty Pharmaceutical Management segment generally reflects the management of specialty drugs used in the treatment of cancer, multiple sclerosis, hemophilia, infertility, rheumatoid arthritis, chronic forms of hepatitis and other diseases. Specialty pharmaceutical drugs represent high-cost injectible, infused, oral, or inhaled drugs which traditional retail pharmacies typically do not supply due to their high cost, sensitive handling, and storage needs. The Company's specialty pharmaceutical management services are provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicare and Medicaid members. The Company's specialty pharmaceutical services include (i) distributing specialty pharmaceutical drugs on behalf of health plans, (ii) administering on behalf of health plans rebate agreements between health plans and pharmaceutical manufacturers, and (iii) providing consulting services to health plans and pharmaceutical manufacturers. The Company's Specialty Pharmaceutical Management segment had contracts with 30 health plans as of December 31, 2007.

Corporate and Other. This segment of the Company is comprised primarily of operational support functions such as sales and marketing and information technology, as well as corporate support functions such as executive, finance, human resources and legal.

Acquisition of National Imaging Associates

On January 31, 2006, the Company acquired all of the outstanding stock of NIA, a privately held RBM firm, for approximately $121 million in cash, after giving effect to cash acquired in the transaction, and NIA became a wholly-owned subsidiary. The Company reports the results of operations of NIA in the Radiology Benefits Management segment. For further discussion, see Note 3—"Acquisitions and Joint Ventures" to the consolidated financial statements set forth elsewhere herein.

Acquisition of ICORE Healthcare, LLC

On July 31, 2006, the Company acquired all of the outstanding units of membership interest of ICORE, a specialty pharmaceutical management company, and ICORE became a wholly-owned subsidiary. The Company reports the results of operations of ICORE in the Specialty Pharmaceutical Management segment. For further discussion, see Note 3—"Acquisitions and Joint Ventures" to the consolidated financial statements set forth elsewhere herein.

The Company paid or agreed to pay to the previous unitholders of ICORE, all of whom are members of ICORE's management team, (i) $161 million of cash at closing; (ii) $24 million of cash that was used by the unitholders of ICORE to purchase Magellan restricted stock with such restricted stock vesting over three years, provided the unitholders do not earlier terminate their employment with Magellan; (iii) $25 million plus accrued interest (the "Deferred Payment") on the third anniversary of the closing, subject to any indemnity claims Magellan may have under the purchase agreement; (iv) the amount of positive working capital that existed at ICORE on the closing date (the "Working Capital Payments"), which was $18.2 million of which $17.8 million was paid during 2007 with the remainder paid in January 2008; and (v) a potential earn-out of up to $75 million (the "Earn-Out"), provided the unitholders do not earlier terminate their employment with the Company prior to the payment of the Earn-Out. The $161 million of cash paid at closing, the $25 million Deferred Payment and $18.2 million of Working Capital Payments were recorded as purchase price. The $24 million of restricted stock is being recognized as stock compensation expense over the three year vesting period. The $24 million in restricted stock paid at the closing was issued in a transaction pursuant to which the unitholders of ICORE at closing applied $24 million of the purchase price as cash consideration for their purchase of restricted shares of the Company's common stock. The unitholders subscribed to an aggregate of 543,879 restricted shares of the Company's common stock on a basis proportional to each unitholder's economic interest in ICORE at a purchase price of $44.13 per share, which was the average of the closing prices of the Company's common stock on NASDAQ for the twenty trading days immediately preceding the closing. The Deferred Payment and the remaining estimated Working Capital Payments are included in Deferred Credits and Other Long-Term Liabilities and in Accrued Liabilities, respectively, on the Company's accompanying consolidated balance sheets as of December 31, 2006 and 2007. The Earn-Out has two parts: (i) up to $25 million based on earnings for the 18 month period ended December 31, 2007 and (ii) up to $50 million based on earnings in 2008. The Earn-Out, if earned, is payable 33 percent in cash and 67 percent in Magellan restricted stock that vests over two years after issuance. Any Earn-Out will be recognized as compensation expense over the applicable period that it is earned, because in order for potential recipients to receive any Earn-Out consideration, they must be employed by the Company at the time such consideration is distributed. The unitholders did not earn any of the potential Earn-Out of $25 million for the 18 month period ended December 31, 2007, nor has any amount of Earn-Out pertaining to 2008 been accrued as of December 31, 2007.

Critical Accounting Policies and Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The Company considers the following to be its critical accounting policies and estimates:

Stock Compensation. Effective January 1, 2006, the Company adopted the fair value recognition provisions of Statement of Financial Accounting Standards ("SFAS") No. 123 (revised 2004) "Share-Based Payment" ("SFAS 123R"), using the modified prospective transition method. Under this transition method, stock compensation expense for the years ended December 31, 2006 and 2007 includes compensation expense for all stock compensation awards granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"). Stock compensation expense for all stock compensation awards granted after January 1, 2006 is based on the grant date fair value estimated in accordance with the provisions of SFAS 123R. The Company recognizes substantially all of these compensation costs on a straight-line basis over the requisite service period, which is generally the vesting term ranging from three to four years. Prior to the adoption of SFAS 123R, the Company recorded stock compensation under Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25").

The Company estimates the fair value of substantially all stock options using the Black-Scholes-Merton option pricing model that employs certain factors including expected volatility of stock price, expected life of the option, risk-free interest rate and expected dividend yield. For the year ended December 31, 2006, management determined that volatility based on actively traded equities of companies that are similar to the Company was a better indicator of expected volatility and future stock price trends than historical Company volatility, due to the lack of sufficient history of the Company subsequent to the Company's emergence from bankruptcy. For the year ended December 31, 2007, such volatility was based on the historical volatility of the Company's stock price.

The expected term of the option is based on historical employee stock option exercise behavior and the vesting terms of the respective option. Risk-free interest rates are based on the U.S. Treasury yield in effect at the time of grant.

SFAS 123R also requires the Company to recognize compensation expense for only the portion of options, restricted stock or restricted stock units that are expected to vest. Therefore, estimated forfeiture rates are derived from historical employee termination behavior. The Company's estimated forfeiture rate for the years ended December 31, 2006 and 2007 is three percent and two percent, respectively. If the actual number of forfeitures differs from those estimated, additional adjustments to compensation expense may be required in future periods. If vesting of an award is conditioned upon the achievement of performance goals, compensation expense during the performance period is estimated using the most probable outcome of the performance goals, and adjusted as the expected outcome changes.

Managed Care Revenue. Managed care revenue, inclusive of revenue from the Company's risk, EAP and ASO contracts, is recognized over the applicable coverage period on a per member basis for covered members. The Company is paid a per member fee for all enrolled members, and this fee is recorded as revenue in the month in which members are entitled to service. The Company adjusts its revenue for retroactive membership terminations, additions and other changes, when such adjustments are identified, with the exception of retroactivity that can be reasonably estimated. Any fees paid prior to the month of service are recorded as deferred revenue. Managed care revenues approximated $1.8 billion, $1.6 billion and $1.9 billion for the years ended December 31, 2005, 2006 and 2007, respectively.

Cost-Plus Contracts. The Company has certain cost-plus contracts with customers in which the Company recognizes revenue as costs are incurred and as services are performed. Revenues from cost-plus contracts approximated $31.1 million, $32.3 million and $30.5 million for the years ended December 31, 2005, 2006 and 2007, respectively.

Block Grant Revenues. The Maricopa Contract is partially funded by federal, state and county block grant money, which represents annual appropriations. The Company recognizes revenue from block grant activity ratably over the period to which the block grant funding applies. Block grant revenues were approximately $40.6 million for the year ended December 31, 2007.

Distribution Revenue. The Company recognizes distribution revenue, which includes the co-payments received from members of the health plans the Company serves, when the specialty pharmaceutical drugs are shipped. At the time of shipment, the earnings process is complete: the obligation of the Company's customer to pay for the specialty pharmaceutical drugs is fixed, and, due to the nature of the product, the member may not return the specialty pharmaceutical drugs nor receive a refund. Revenues from the distribution of specialty pharmaceutical drugs on behalf of health plans were $46.3 million and $160.6 million for the years ended December 31, 2006 and 2007, respectively.

Performance-based Revenue. The Company has the ability to earn performance-based revenue under certain risk and non-risk contracts. Performance-based revenue generally is based on either the ability of the Company to manage care for its clients below specified targets, or on other operating metrics. For each such contract, the Company estimates and records performance-based revenue after considering the relevant contractual terms and the data available for the performance-based revenue calculation. Pro-rata performance-based revenue is recognized on an interim basis pursuant to the rights and obligations of each party upon termination of the contracts. Performance-based revenues were $14.5 million, $16.4 million and $10.4 million for the years ended December 31, 2005, 2006 and 2007, respectively.

Cost of Care, Medical Claims Payable and Other Medical Liabilities. Cost of care is recognized in the period in which members receive managed healthcare services. In addition to actual benefits paid, cost of care includes the impact of accruals for estimates of medical claims payable. Medical claims payable represents the liability for healthcare claims reported but not yet paid and IBNR related to the Company's managed healthcare businesses.

Such liabilities are determined employing actuarial methods that are commonly used by health insurance actuaries and meet actuarial standards of practice.

The IBNR portion of medical claims payable is estimated based on past claims payment experience for member groups, enrollment data, utilization statistics, authorized healthcare services and other factors. This data is incorporated into contract-specific actuarial reserve models and is further analyzed to create "completion factors" that represent the average percentage of total incurred claims that have been paid through a given date after being incurred. Factors that affect estimated completion factors include benefit changes, enrollment changes, shifts in product mix, seasonality influences, provider reimbursement changes, changes in claims inventory levels, the speed of claims processing, and changes in paid claim levels. Completion factors are applied to claims paid through the financial statement date to estimate the ultimate claim expense incurred for the current period. Actuarial estimates of claim liabilities are then determined by subtracting the actual paid claims from the estimate of the ultimate incurred claims. For the most recent incurred months (generally the most recent two months), the percentage of claims paid for claims incurred in those months is generally low. This makes the completion factor methodology less reliable for such months. Therefore, incurred claims for any month with a completion factor that is less than 70 percent are generally not projected from historical completion and payment patterns; rather they are projected by estimating claims expense based on recent monthly estimated cost incurred per member per month times membership, taking into account seasonality influences, benefit changes and health care trend levels, collectively considered to be "trend factors."

Medical claims payable balances are continually monitored and reviewed. If it is determined that the Company's assumptions in estimating such liabilities are significantly different than actual results, the Company's income statement and financial position could be impacted in future periods. Adjustments of prior period estimates may result in additional cost of care or a reduction of cost of care in the period an adjustment is made. Further, due to the considerable variability of health care costs, adjustments to claim liabilities occur each period and are sometimes significant as compared to the net income recorded in that period. Prior period development is recognized immediately upon the actuary's judgment that a portion of the prior period liability is no longer needed or that additional liability should have been accrued.

MANAGEMENT DISCUSSION FOR LATEST QUARTER

The following discussion and analysis of the financial condition and results of operations of Magellan Health Services, Inc. ("Magellan"), and its majority-owned subsidiaries and all variable interest entities ("VIEs") for which Magellan is the primary beneficiary (together with Magellan, the "Company") should be read together with the Condensed Consolidated Financial Statements and the notes to the Condensed Consolidated Financial Statements included elsewhere in this Quarterly Report on Form 10-Q and the Company's Annual Report on Form 10-K for the year ended December 31, 2007, which was filed with the Securities and Exchange Commission ("SEC") on February 29, 2008.

Forward-Looking Statements

This Form 10-Q includes "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Although the Company believes that its plans, intentions and expectations as reflected in such forward-looking statements are reasonable, it can give no assurance that such plans, intentions or expectations will be achieved. Prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements. Important factors currently known to management that could cause actual results to differ materially from those in forward-looking statements include:

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the Company's inability to renegotiate or extend expiring customer contracts, or the termination of customer contracts;

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the Company's inability to integrate acquisitions in a timely and effective manner;

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changes in business practices of the industry, including the possibility that certain of the Company's managed care customers could seek to provide managed healthcare services directly to their subscribers, instead of contracting with the Company for such services, particularly as a result of further consolidation in the managed care industry and especially regarding managed behavioral healthcare customers which have already done so with a portion of their membership, such as WellPoint, Inc. (which is discussed further below);

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the impact of changes in the contracting model for Medicaid contracts, including certain changes in the contracting model used by states for managed healthcare services contracts relating to Medicaid lives;

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the Company's ability to accurately predict and control healthcare costs, and to properly price the Company's services;

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the Company's dependence on government spending for managed healthcare, including changes in federal, state and local healthcare policies;

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restrictive covenants in the Company's debt instruments;

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present or future state regulations and contractual requirements that the Company provide financial assurance of its ability to meet its obligations;

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the impact of the competitive environment in the managed healthcare services industry which may limit the Company's ability to maintain or obtain contracts, as well as to its ability to maintain or increase its rates;

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the possible impact of healthcare reform;

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government regulation;

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the possible impact of additional regulatory scrutiny and liability associated with the Company's Specialty Pharmaceutical Management segment;

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the inability to realize the value of goodwill and intangible assets;

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future changes in the composition of the Company's stockholder population which could, in certain circumstances, limit the ability of the Company to utilize its Net Operating Losses ("NOLs");

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pending or future actions or claims for professional liability;

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claims brought against the Company that either exceed the scope of the Company's liability coverage or result in denial of coverage;

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class action suits and other legal proceedings; and

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the impact of governmental investigations.

Further discussion of factors currently known to management that could cause actual results to differ materially from those in forward-looking statements is set forth under the heading "Risk Factors" in Item 1A of Magellan's Annual Report on Form 10-K for the year ended December 31, 2007 and Part II, Item 1A of this Form 10-Q. When used in this Quarterly Report on Form 10-Q, the words "estimate," "anticipate," "expect," "believe," "should," and similar expressions are intended to be forward-looking statements. Magellan undertakes no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results over time.

Business Overview

The Company is engaged in the specialty managed healthcare business. Through 2005, the Company predominantly operated in the managed behavioral healthcare business. During 2006, the Company expanded into radiology benefits management and specialty pharmaceutical management as a result of certain acquisitions. The Company provides services to health plans, insurance companies, corporations, labor unions and various governmental agencies. The Company's business is divided into five segments, based on the services it provides and/or the customers that it serves, as described below.

Two of the Company's segments are in the managed behavioral healthcare business. This line of business generally reflects the Company's coordination and management of the delivery of behavioral healthcare treatment services that are provided through its contracted network of third-party treatment providers, which includes psychiatrists, psychologists, other behavioral health professionals, psychiatric hospitals, general medical facilities with psychiatric beds, residential treatment centers and other treatment facilities. The treatment services provided through the Company's provider network include outpatient programs (such as counseling or therapy), intermediate care programs (such as intensive outpatient programs and partial hospitalization services), inpatient treatment and crisis intervention services. The Company generally does not directly provide, or own any provider of, treatment services except as relates to the Company's contract to provide managed behavioral healthcare services to Medicaid recipients and other beneficiaries of the Maricopa County Regional Behavioral Health Authority (the "Maricopa Contract"). Under the Maricopa Contract, the Company was required to assume the operations of twenty-four behavioral health direct care facilities for a transitional period and to divest itself of these facilities over a two year period. During August and October 2008, the Company entered into agreements with two separate Provider Network Organizations ("PNOs") which will result in the transition of thirteen of such behavioral health direct care facilities to the PNOs over various dates through February 2009.

The Company provides its management services primarily through: (i) risk-based products, where the Company assumes all or a substantial portion of the responsibility for the cost of providing treatment services in exchange for a fixed per member per month fee, (ii) administrative services only ("ASO") products, where the Company provides services such as utilization review, claims administration and/or provider network management, but does not assume responsibility for the cost of the treatment services, and (iii) employee assistance programs ("EAPs") where the Company provides short-term outpatient behavioral counseling services.

The managed behavioral healthcare business is managed based on the services provided and/or the customers served, through the following two segments:

Commercial. The Managed Behavioral Healthcare Commercial segment ("Commercial") generally reflects managed behavioral healthcare services and EAP services provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicaid and Medicare members, as well as with employers, including corporations and governmental agencies, and labor unions. Commercial's managed behavioral healthcare contracts encompass either risk-based or ASO arrangements or both. This segment contains the operating segments previously defined as the Managed Behavioral Healthcare Health Plan Segment ("Health Plan") and the Managed Behavioral Healthcare Employer segment ("Employer"). Prior period balances have been reclassified to reflect this change. The Company now considers Commercial as one segment and it is managed as such. As of September 30, 2008, Commercial's covered lives were 4.1 million, 14.7 million and 20.6 million for risk-based, EAP and ASO products, respectively. For the nine months ended September 30, 2008, Commercial's revenue was $311.9 million, $79.9 million and $95.0 million for risk-based, EAP and ASO products, respectively.

Public Sector. The Managed Behavioral Healthcare Public Sector segment ("Public Sector") generally reflects managed behavioral healthcare services provided to Medicaid recipients under contracts with state and local governmental agencies. Public Sector contracts encompass either risk-based or ASO arrangements. As of September 30, 2008, Public Sector's covered lives were 2.2 million and 0.2 million for risk-based and ASO products, respectively. For the nine months ended September 30, 2008, Public Sector's revenue was $1.1 billion and $3.7 million for risk-based and ASO products, respectively.

Radiology Benefits Management. The Company's Radiology Benefits Management segment generally reflects the management of the delivery of diagnostic imaging services to ensure that such services are clinically appropriate and cost effective. The Company's radiology benefits management services currently are provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicaid and Medicare members of the health plan. The Company also has a Medicaid contract with a state agency. The Company has bid and may bid in the future on contracts with state and local governmental agencies for the provision of such services to Medicaid recipients. The Company won one Medicaid contract last year, which was implemented in July 2008. The Company offers its radiology benefits management services through ASO contracts, where the Company provides services such as utilization review and claims administration, but does not assume responsibility for the cost of the imaging services, and through risk-based contracts, where the Company assumes all or a substantial portion of the responsibility for the cost of providing diagnostic imaging services. The Company's first two risk-based radiology benefits management contracts became effective June 1, 2007 and July 1, 2007. As of September 30, 2008, covered lives for Radiology Benefits Management were 2.6 million and 15.5 million for risk-based and ASO products, respectively. For the nine months ended September 30, 2008, revenue for Radiology Benefits Management was $180.1 million and $43.8 million for risk-based and ASO products, respectively.

Specialty Pharmaceutical Management. The Company's Specialty Pharmaceutical Management segment generally reflects the management of specialty drugs used in the treatment of cancer, multiple sclerosis, hemophilia, infertility, rheumatoid arthritis, chronic forms of hepatitis and other diseases. Specialty pharmaceutical drugs represent high-cost injectible, infused, oral, or inhaled drugs which traditional retail pharmacies typically do not supply due to their high cost, sensitive handling, and storage needs. The Company's specialty pharmaceutical management services are provided under contracts with managed care companies, health insurers and other health plans for some or all of their commercial, Medicare and Medicaid members. The Company's specialty pharmaceutical services include (i) distributing specialty pharmaceutical drugs on behalf of health plans, (ii) administering on behalf of health plans rebate agreements between health plans and pharmaceutical manufacturers, and (iii) providing consulting services to health plans and pharmaceutical manufacturers. The Company's Specialty Pharmaceutical Management segment had contracts with 31 health plans as of September 30, 2008.

Corporate and Other. This segment of the Company is comprised primarily of operational support functions such as sales and marketing and information technology, as well as corporate support functions such as executive, finance, human resources and legal.

Significant Customers

Consolidated Company

The Company's contracts with the State of Tennessee's TennCare program ("TennCare") generated net revenues that exceeded, in the aggregate, ten percent of net revenues for the consolidated Company for the nine months ended September 30, 2007. In addition to TennCare, the Company's Maricopa Contract generated net revenues that exceeded, in the aggregate, ten percent of net revenues for the consolidated Company for the nine months ended September 30, 2008. The Company also has a significant concentration of business from contracts with subsidiaries of WellPoint, Inc. ("WellPoint") and from contracts with various counties in the State of Pennsylvania (the "Pennsylvania Counties") which are part of the Pennsylvania Medicaid program.

The Maricopa Contract, which began September 1, 2007 and which extends through June 30, 2010, generated net revenues of $48.1 million and $455.5 million for the nine months ended September 30, 2007 and 2008, respectively.

The Company provides managed behavioral healthcare services for TennCare through contracts that extend through various dates. The TennCare program is divided into three regions, and through March 31, 2007 the Company's TennCare contracts encompassed all of the TennCare membership for all three regions. As of April 1, 2007 substantially all of the membership in the Middle Grand Region was re-assigned to managed care companies in accordance with contract awards by TennCare pursuant to its request for proposals for the management of the integrated delivery of behavioral and physical medical care to the region. Substantially all of the membership in the West Grand and East Grand Regions will similarly be re-assigned to managed care companies in accordance with contract awards by TennCare effective November 1, 2008 and January 1, 2009, respectively. The Company continues to manage behavioral healthcare services for children enrolled in TennCare Select High, statewide, as well as for certain out-of-state TennCare members pursuant to contracts that extend through June 30, 2009. The Company recorded net revenues of $245.2 million and $217.1 million for the nine months ended September 30, 2007 and 2008, respectively, from its TennCare contracts. The portion of the total net revenues associated with the programs for children and out-of-state members referred to above was $33.8 million and $34.2 million for the nine months ended September 30, 2007 and 2008, respectively.

Total net revenues from the Company's contracts with WellPoint were $155.7 million and $145.7 million during the nine months ended September 30, 2007 and 2008, respectively, including radiology benefits management revenue of $44.7 million and $124.7 million, respectively. One of the Company's managed behavioral healthcare contracts with WellPoint was terminated by WellPoint effective March 31, 2007, and generated net revenues of $26.0 million during 2007. A second managed behavioral healthcare contract with WellPoint expired December 31, 2007 and generated net revenues of $63.9 million during the nine months ended September 30, 2007.

In July 2007, WellPoint acquired a radiology benefits management company, and has expressed its intent to in-source all of its radiology benefits management contracts when such contracts expire. The Company has several radiology benefits management contracts with WellPoint including one that converted from an ASO arrangement to a risk arrangement effective July 1, 2007. Such risk contract originally had a three-year term through June 30, 2010, and cannot be terminated early, except for cause, as defined in the agreement. The term of this risk contract has been extended through December 31, 2010. The Company's other radiology benefits management contracts with WellPoint generated $10.8 million of net revenues for the nine months ended September 30, 2008. Substantially all of this revenue relates to contracts that have terms through various dates in 2008.

Net revenues from the Pennsylvania Counties in the aggregate totaled $198.5 million and $216.7 million for the nine months ended September 30, 2007 and 2008, respectively.

By Segment

WellPoint generated greater than ten percent of net revenues for the Commercial segment for the nine months ended September 30, 2007. Two other customers generated greater than ten percent of Commercial net revenues for the nine months ended September 30, 2007 and 2008. The first customer has a contract that extends through December 31, 2010 and generated net revenues of $129.3 million and $159.4 million for the nine months ended September 30, 2007 and 2008, respectively. The second customer has a contract that extends through June 30, 2009 and generated net revenues of $66.8 million and $67.7 million for the nine months ended September 30, 2007 and 2008, respectively.

Maricopa and TennCare were the only customers with revenues greater than ten percent of the net revenues for the Public Sector segment for the nine months ended September 30, 2008. For the nine months ended September 30, 2007, one customer other then TennCare generated greater than ten percent of the net revenues for the Public Sector segment for such period. This customer has a contract that extends through June 30, 2009 and generated net revenues of $92.3 million and $106.0 million for the nine months ended September 30, 2007 and 2008, respectively.

In addition to WellPoint, one other customer generated greater than ten percent of the net revenues for the Radiology Benefits Management segment for the nine months ended September 30, 2007 and 2008. This customer has a contract that extends through May 31, 2011 and generated net revenues of $34.5 million and $73.4 million for the nine months ended September 30, 2007 and 2008, respectively.

Included in the Company's Specialty Pharmaceutical Management segment are four customers that each exceeded ten percent of the net revenues for this segment for the nine months ended September 30, 2007. The four customers generated $44.4 million, $25.5 million, $23.7 million and $18.2 million of net revenues during the nine months ended September 30, 2007. For the nine months ended September 30, 2008, five customers each exceeded ten percent of the net revenues for this segment. Four of such customers generated $52.9 million, $36.3 million, $21.1 million, and $20.2 million of net revenues during the nine months ended September 30, 2008. The other contract generated net revenues of $21.1 million for the nine months ended September 30, 2008, and such customer has indicated that they do not intend to continue the contract in 2009.

Off-Balance Sheet Arrangements

The Company does not maintain any off-balance sheet arrangements that have, or are reasonably likely to have, a current or future effect on the Company's finances that is material to investors.

Critical Accounting Policies and Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Except as noted below, the Company's critical accounting policies are summarized in the Company's Annual Report on Form 10-K, filed with the SEC on February 29, 2008.

Income Taxes

The Company's effective income tax rate was 40.0 percent and 39.6 percent for the nine months ended September 30, 2007 and 2008, respectively. This rate differs from the federal statutory income tax rate primarily due to state income taxes and permanent differences between book and tax income. The Company also accrues interest and penalties related to unrecognized tax benefits in its provision for income taxes.

The Company files a consolidated federal income tax return for the Company and its eighty-percent or more owned subsidiaries, and the Company and its subsidiaries file income tax returns in various state and local jurisdictions. The Company is no longer subject to additional federal income taxes for any tax year ended prior to 2005, although the NOLs from such prior years remain subject to examination by the IRS. With few exceptions, the Company is also no longer subject to additional state or local income taxes for years prior to 2004 or, in a few jurisdictions, for the 2004 tax year as well.

The statutes of limitation regarding substantially all of the remaining unrecognized state and local tax benefits for 2004 will expire during the fourth quarter of 2008. As a result, the Company anticipates that up to $4.0 million of gross unrecognized tax benefits (excluding interest costs) recorded as of September 30, 2008 could be reversed during the fourth quarter, substantially all of which would be recorded (net of the related indirect tax benefits) as a reduction to income tax expense.

Results of Operations

The Company evaluates performance of its segments based on profit or loss from continuing operations before stock compensation expense, depreciation and amortization, interest expense, interest income, gain on sale of assets, special charges or benefits, income taxes and minority interest ("Segment Profit"). Management uses Segment Profit information for internal reporting and control purposes and considers it important in making decisions regarding the allocation of capital and other resources, risk assessment and employee compensation, among other matters. Intersegment sales and transfers are not significant.

Quarter ended September 30, 2008 ("Current Year Quarter"), compared to the quarter ended September 30, 2007 ("Prior Year Quarter")

Commercial

Net Revenue

Net revenue related to Commercial decreased by 14.7 percent or $28.2 million from the Prior Year Quarter to the Current Year Quarter. The decrease in revenue is mainly due to terminated contracts of $43.9 million, which decrease was partially offset by increased membership from existing customers of $8.5 million, favorable rate changes of $4.8 million, revenue from new contracts implemented after (or during) the Prior Year Quarter of $1.1 million, and other net favorable variances of $1.3 million.

Cost of Care

Cost of care decreased by 6.4 percent or $5.9 million from the Prior Year Quarter to the Current Year Quarter. The decrease in cost of care is primarily due to terminated contracts of $24.7 million and favorable medical claims development for the Prior Year Quarter which was recorded after the Prior Year Quarter of $3.5 million, which decreases were partially offset by favorable prior period medical claims development recorded in the Prior Year Quarter of $6.0 million, increased membership from existing customers of $5.4 million, unfavorable prior period medical claims development recorded in the Current Year Quarter of $0.2 million, and care trends and other net variances of $10.7 million. Cost of care increased as a percentage of risk revenue (excluding EAP business) from 66.4 percent in the Prior Year Quarter to 75.6 percent in the Current Year Quarter, mainly due to care trend in excess of rate changes, out of period care development and changes in business mix.

Direct Service Costs

Direct service costs decreased by 3.3 percent or $1.3 million from the Prior Year Quarter to the Current Year Quarter. The decrease in direct service costs is mainly attributable to terminated contracts. Direct service costs increased as a percentage of revenue from 20.5 percent in the Prior Year Quarter to 23.3 percent in the Current Year Quarter, mainly due to changes in business mix.

Public Sector

Net Revenue

Net revenue related to Public Sector increased by 45.8 percent or $114.3 million from the Prior Year Quarter to the Current Year Quarter. This increase is primarily due to higher revenue from the Maricopa Contract which was implemented during the Prior Year Quarter of $104.2 million, net favorable rate changes of $8.3 million, and net increased membership from existing customers of $2.8 million, which increases were partially offset by other net unfavorable variances of $1.0 million.

Cost of Care

Cost of care increased by 43.1 percent or $96.6 million from the Prior Year Quarter to the Current Year Quarter. This increase is primarily due to higher care associated with the Maricopa Contract, which was implemented during the Prior Year Quarter, of $95.3 million, care associated with rate changes for contracts with minimum cost of care requirements of $2.5 million, increased membership from existing customers of $2.0 million, and care trends and other net variances of $1.4 million, which increases were partially offset by favorable prior period medical claims development recorded in the Current Year Quarter of $3.4 million and unfavorable prior period medical claims development recorded in the Prior Year Quarter of $1.2 million. Cost of care decreased as a percentage of risk revenue from 90.1 percent in the Prior Year Quarter to 88.4 percent in the Current Year Quarter mainly due to rate changes in excess of care trend, out of period care development and changes in business mix.

CONF CALL

Renie Shapiro - Senior Vice President of Corporate Finance

Good morning and welcome to Magellan’s third quarter 2008 earnings conference call. This is Rene Shapiro, Senior Vice President of Corporate Finance for Magellan Health Services. Here with me today are Magellan’s President and CEO, René Lerer and our Chief Financial Officer, Jon Rubin. They will discuss the financial and operational results of our third quarter ended September 30, 2008. Also joining us is our CFO, a mayor dust Mark Demilio.

Certain of the statements that will made during this conference call are forward-looking statements contemplated under the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to known and unknown uncertainties and risks which could cause actual results to differ materially from those discussed.

These forward-looking statements are qualified in their entirety by the complete discussion of risks set forth under the caption Risk Factors in Magellan’s Annual Report on Form 10-K for the year ended December 31, 2007 which was filed with the SEC on February 29, 2008, and in the Form 10-Q which will be filed with the SEC later today.

In addition, please note that in this call we refer to segment profits. Segment profits is disclosed and defined in our quarterly report on Form 10-Q and on our annual report on Form 10-K and is equal to net revenues plus cost of care and cost of goods sold, direct service cost and other operating expenses excluding stock compensation expense.

Included in the tables for our press release issued this morning and in our Form 10-Q to be filed later today is the reconciliation from segment profit to the line item income from continuing operations before incomes income taxes and minority interest. We encourage you to review such reconciliations for an understanding of how segment profit compares to that GAAP measure. Our Form 10-Q for the quarter ended September 30 can be found later today on our web site, MagellanHealth.com under the heading Investor Info.

I will now turn the call over to our President and CEO, René Lerer.

René Lerer - President and Chief Executive Officer

Good morning, everyone and thank you for joining us today. Before we go into this quarter’s results, I would like to introduce and welcome our new CFO, Jon Rubin.

Jon has been with us for just under two months now and during that time has been through a world wind orientation and is now fully engaged in his new role. I am truly delighted to have met with Jon.

Let me begin with some brief comments on the third quarter results and then Jon will provide more details on the quarter and our full year outlook, as well as provide directional commentary on 2009. In my closing remarks I will provide a strategic outlook for our business including any update on key priorities and opportunities for growth, as well as comments on the economy and regulatory environment.

I am very pleased to report that this was another excellent quarter for Magellan. As you saw in the press release issued this morning, we have produced $57.6 million of segment profit in the third quarter ending September 30, 2008, and $164.6 million of segment profit for the year-to-date period September 30, 2008. These results were driven by strong performance from our growth segments. Radiology benefits management, specialty pharma and public sector and by slightly lower earnings in the two prior quarters in our commercial behavioral business.

As we continue to achieve strong earnings growth from the acquisitions we made two years ago, we have benefited from the strength of our diversified profit streams, as earnings from radiology and specialty pharma now approach 21% of our total segment profit before corporate expenses.

NIA results reflected continued strong cost of care and administrative cost managing. Well, we are disappointed that we have not yet closed any new business. We continue to be quite bullish on our prospects. I will describe the NIA pipeline later on.

ICORE continue also to produce strong results and maintain consistent growth in the rebate consulting and distribution lines of business. As we discussed last quarter, the focus in our core distribution business is to supplement and support growth in the rebate business. Our continued success with ICORE rebate results is driven by not only our ability to add additional therapeutic classes to existing customers, but also our ability to move market share, as well as successful ongoing negotiation with pharma manufacturers on rebate contracts.

The public sector experience sustained favorable cost trends. We are please with the results in this very important sector and I will address Maricopa commentary later in my remarks.

In the commercial behavioral sector, results were down slightly from the last quarter primarily due to the higher cost of care in one regional account related to the addition of a new group of new members with a different utilization profile. These new members and adjustment and plan design created unanticipated higher cost in this contract. In contrast to announcements by other managed care organization regarding increase in utilization, we continue to not see any increase in utilization as result of the economy. However, the impact of the one regional account combined with the continued uncertainty related to economy will continue to put pressure on commercial margins in 2008.

As you will recall, at the end of the last quarter, we stated that we expected 2008 results to be in the upper half of our previous guidance’s ranges of 205 to $225 million, and $1.73 to $2.17 of earnings per share. Today are we are confirming that we continue to expect 2008 results to fall within those ranges of 215 to 225 million of segment profit and $1.95 to $2.17 of EPS based on the shares outstanding at September 30, and excluding any further share purchases in 2008.

Also, as you know, on July 31, we announced that the Board of Directors had authorized the $200 million share repurchase program to be executed over an 18 month period. During the balance of the third quarter, we repurchased approximately 395,000 shares at a total cost of $16.7 million, which essentially had no impact on third quarter EPS. We will discuss our fourth quarter purchases during our 2009 February call when we review our full year 2008 results. The program remains in place and further purchases will take into account share price opportunities, projected capital needs, M&A prospects, the status of credit markets in our 2009 cash flow outlook. To reiterate, we are very pleased with the third quarter and year-to-date results, and we continue to expect full year 2008 earnings to be strong.

I am now going to turn the call over to our CFO, Jon Rubin who will walk through additional details and our strong third quarter results, our 2008 guidance and our 2009 preliminary outlook. Jon?

Jonathan N. Rubin - Chief Financial Officer

Thanks René and good morning everyone. As indicated in the press release issued this morning and as René has mentioned, our segment profit for the third quarter of 2008 was $57.6 million. This compares to segment profit of $57.4 million for the third quarter of 2007. Revenues in the third quarter of 2008 were $656.5 million compared to $558.1 million for the same period last year.

The revenue increase resulted primarily from new business added of 108 million, including the Maricopa County behavioral health contract, the impact from same store membership increases of $9.9 million, and net rate increases of $16.2 million in our behavioral and radiology segment. An increased revenue from expansion of our business in the specialty pharma segment of $11.7 million. These increases were partially offset by the loss of membership due to contract terminations of $45 million and other net decreases of 2.4 million.

Net income for the third quarter of 2008 was $23.5 million or $0.58 per share on a diluted basis. For third quarter of 2007, the company’s net income was $25.1 million or $0.63 per share on a diluted basis.

Segment profit for the commercial segment was $39.8 million for the quarter, which was a decrease of 21.1 million from the prior year period. This decrease was mainly due to the impact of contract terminations of $17.4 million, care trend in excess of rate increases of $5.9, and the favorable out of period care development recorded in the prior year quarter of 2.5 million. These decreases were partially offset by increased membership from existing customers of $3.1 million and other net favorable changes of 1.6 million. Aside from the one regional account that René mentioned, the care trend for commercial is consistent with our previous expectation and is still estimated to be approximate 5% to 7%.

Current year third quarter segment profit for the public sector segment is $25.9 million, which is $14.4 million better than the prior year third quarter. This increase is mainly due to new business added since the prior year quarter of $6.3 million, the net impact of favorable rate changes of $5.8 million, and favorable prior period care development recorded in the current year quarter of $3.4 million. These increases were partially offset by net unfavorable variances of $1.1 million. Care trends in public sector are expected to be 3% to 5% consistent with previous expectations.

Third quarter 2008 segment profit for the radiology benefit management segment increased by $3.5 million in third quarter of 2007, mainly due to favorable rate changes of $3.1 million and favorable prior period care development recorded in the current year quarter of $2.3 million, which were partially offset by lower performance revenue of $1.2 million relating to timing and other net unfavorable changes of $0.7 million. We continue to see favorable care development in our risk radiology contracts relative to our estimated range of 12% to 15% trend.

Third quarter 2008 segment profit for the specialty pharma segment was $8.1 million compared to $4.6 million in the prior year quarter. With the increase being mainly due to growth in the rebate and consulting businesses.

Corporate cost excluding stock compensation expense were $200,000 higher than the third quarter of 2007, primarily due to the impact of cost inflation partially offset by improved productivity.

Excluding stock compensation expense, total direct service and operating expenses were 14.9% of revenue in the current year quarter compared to 16.9% in the prior year quarter. This decrease is primarily due to our ability to leverage our operating and corporate infrastructure, as we added additional revenues from the radiology risk contracts and Maricopa County contract.

In the third quarter of 2008, we recognized $7.8 million of stock compensation expense compared to $8.2 million in the third quarter of 2007. This decrease was mainly due to the termination of the employment of our former CEO in the first quarter of this year.

Depreciation and amortization expense was $16.1 million for the third quarter of 2008, compared to $14.4 million in the third quarter of 2007. The increase was primarily due to asset addition during or after the prior year quarter, including of assets related to Maricopa County contract partially offset by a decrease in amortization expense due to an intangible asset, which became fully amortized in the prior year.

Interest expense was $600,000 for the third quarter of 2008, compared to $1.6 million in the third quarter of 2007, mainly due to reduction in outstanding debt balances and lower interest rates in the current year quarter.

Interest income was $4.1 million for the current year quarter compared to $6.4 million for the prior year quarter. This decrease is mainly was due to the impact of lower investment yield. Now, this is consistent with our expectations and we are not changing our most recent full year guidance with respect to investment income not including the impact of share repurchases.

The effective income tax rate for the nine months ended September 30, 2008 was 39.6% compared to 40% for the year prior year period. Our effective income tax rate varies from the federal statutory income tax rate primarily due to state income taxes and the permanent difference between book and tax income.

Turning to cash flow and balance sheet highlights, our cash flow from operations for the nine months ended September 30, 2008 was $236.8 million. This amount includes the positive impact of a shift of restricted cash into restricted investments in the amount of $126 million, which is reflected as a source of cash from operations and a use of cash from investing activities.

Absent this transfer for the nine months ending September 30, 2008, the cash from operations was $110.8 million. For the nine months ended September 30, 2008, the company’s total unrestricted cash and investments increased by $75.9 million from $353.5 million at December 31, 2007 to $429.4 million at September 30, 2008.

The increase in unrestricted cash and investments is mainly due to segment profit for the nine months ended September 30, 2008, of $164.6 million, and proceeds from exercises of stock options of $12.6 million. Partially offsetting such items were the funding the funding of restricted cash of $15.2 million for one of the radiology risk contracts. Funding of restricted cash and other working capital of $12.1 million for other regulated subsidiaries, the run out of net contract liabilities for terminated contract of $14.5 million, capital expenditures of $24 million, debt and capital lease payments of $12.7 million, cash settlements for stock repurchases of $13.5 million that were made under the program announced last quarter. And other net changes of $9.3 million, which mainly related to increased to increased working capital support growth in the radiology and pharmacy segments.

Total repurchases of stock through September 30, 2008 were approximate $16.7 million. However, the cash settlements for $3.2 million of such purchases were completed after quarter end.

Our unrestricted cash and investments of $429.4 million at September 30, 2008, consisted of $262.5 million of unrestricted cash and $166.9 million of unrestricted short-term investments. Approximately $56.2 million of the total unrestricted cash and investments at September 30, 2008, relates to excess capital and undistributed earnings held at regulated subsidiaries.

The company’s restricted cash and investments of $290.6 million reflects an increase of $22.4 million since December 31, 2007, $15.2 million of which is attributable to funding in relation to one of the risk radiology contract as previously discussed. And the remainder of which is attributable to the timing of cash flows with our regulated subsidiaries and other regulatory requirements.

Now, mindful of our significant combined restricted and unrestricted cash and investment balances of $720 million. We have closely monitored the markets and the safety of these assets is of utmost importance to us. We have consistently maintained our conservative investment strategy emphasizing a diversified high quality liquid short-term portfolio. Naturally, the tradeoff to such a strategy that it leads to lower investment yields.

In light of our focus on M&A opportunities combined with the tight credit markets and the difficulties in the financial sector, we have maintained our emphases on the liquidity and quality of our investment portfolio. Our current cash and investment portfolio is heavily weighted towards cash and cash equivalents and high quality investment grade corporate debt security.

To-date we have not realized any permanent losses on our investment portfolio. As of September 30, we have $1.8 million of unrealized losses, which represents about 0.3% of our investment portfolio. We do not expect to realize any of these losses or intent to hold the securities for maturity. As of September 30, 2008, our only debt consisted of $1.3 million of capital lease obligations.

Now I will turn to our financial expectations for full year 2008, which are unchanged from what was communicated last quarter. We continue to expect to generate fiscal 2008 segment profit in the range of $215 million to $225 million and EPS in the range of $1.95 to $2.17. This EPS range includes the impact of share repurchases that were completed in the third quarter, but excludes any repurchases that occur during the fourth quarter.

Also, we believe our increase in unrestricted cash and investment for the year will be in the range we previously provided of $116 to $173 million excluding the share repurchases of $16.7 million that were completed in the third quarter as well as any repurchases that occur in the fourth quarter.

For fiscal 2009, we are in the process of finalizing detailed budget and are planning to provide 2009 guidance in December. In advance of that however, I want to provide some color and directional guidance for next year. In total, our directional guidance for 2009 is that segment profit will be moderately lower in our guidance range for 2008 of $215 million to $225 million. This directional guidance for 2009 reflects the following: the loss of 10-K. As a reminder, the 10-K west region goes away today and the east region terminates as of December 31. The loss of the WellPoint Medicaid contracts that were terminated as a result of WellPoint withdrawing from its contract in Ohio and Nevada; Expected margin compression in the commercial segment; earnings improvement in our continuing public sector business, and continued strong growth in radiology and specialty pharmacy. Again, we plan to provide more detailed guidance regarding 2009 at our December call.

And with that I will now turn the call back over to René

René Lerer – President and Chief Executive Officer

Thanks John. Let me spend a few minutes now discussing the Magellan’s business going forward and our strategic priorities. As we said last quarter, we believe that an environment in which managed care plans and governmental entities are struggling with costs helps us in marketing our products particularly in our growth areas of radiology, specialty pharma and public sector. New business opportunities for ICORE very encouraging, we continue to see new rebate done, signed new rebate done with current customers and we have also been quite successful on renegotiation rebate terms with former manufacturers that have improved their fee structure. In additional we continue to drive market share improvements in our preferred products generating greater value as a result of the tiered rebate structure we have in place. We expect to see continued growth as we see increase penetration with existing customers, add new customers and improve rebate contracts as a result of increases in the number of drugs in the therapeutic classes we manage.

We all are also working in new initiative and managing oncology benefits through focusing on drug utilization management, claim processing and reprising for on oncology reimbursement. We have a robust pipeline in our rebate and related distribution business, as well as the strong interest in the market place for oncology management programs. I’m optimistic about the outlook for radiology business, interest for health plans continues to be strong and as increased of late as a result of the market conditions and cost pressures experienced by these plans. As we’ve stated in the past as they health plans fill greater MLR pressure their interest and outsourcing risk grows.

We also continue to see interest from the states on the management of radiology services for Medicaid population. NIA will launch the first state program for the Commonwealth of Pennsylvania earlier this year and we are currently bidding on additional state RFPs. Our efforts in Washington DC continue and we are working hard to identify opportunities that may present themselves through CMS at some part in the future. Although, we are clearly disappointed that we haven’t yet closed any new radiology risk fields at this time, the pipeline is robust and we remain confident in the market and our future growth.

Let me take your couple of minutes to update you on the status of Maricopa County contract. This quarter we have been deferring revenue as we have throughout the year due to uncertainty and meeting certain contractual performance threshold required by the state. In order to determine whether we will be able to recognize any portion of this deferred revenue, you must wait until we’ve obtained adequate data documenting care services rendered, submitted such final and counter information to the state, demonstrating achievement of the thresholds and received agreement from the state that the thresholds were met, following their review and audit.

For deferred revenue related to initial contract period that ended June 30, 2008, we estimate that the earliest that this process will be complete is mid 2009. We continue to work diligently to meet the state’s expectations and will monitor results. As announced in recent press releases we reached agreement with two adult provider network organizations P&Os for the transfer of 13 of the original 23 behavioral direct care clinics that we’ve been operating since we took over this contract. This transition has already begun and through today we have transitioned five clinics successfully and we expect the balance of these first 13 to be fully transitioned by February.

This is significant step towards our goal of transitioning care to community based providers and transforming the systems care Maricopa. We fully expect to complete the transition of all the direct care clinics in the urgent psych center by October of ‘09. We will continue to work to insure that we maintain, we manage this transition in a way that assures continuity of care and keeps the best searches of our service recipients so far.

We’ve made significant strides towards transforming the system of care and Maricopa County into one that’s rooted in principles of recovery and resiliency and a commitment to recipient choice. The quality of care and service to recipients is paramount. Our approach to this concept from the start has sent through and giving stakeholders a voice in shaping the vision, strategy and oversight of this program and we have been able to establish collaborative relationships in the community to do so. We are very proud of our progress in Maricopa and we hope to continue to build upon these achievements in the future.

With respect to the pipeline in Public Sector, the state of New Mexico RP was issued and we have submitted our technical proposal. We will be submitting our cost proposal in the next several weeks. The contract has a planned effective day of July 1, 2009, and we are confident in the quality of the proposal we submitted. However, as you know, it’s always a challenge to seed an incumbent.

The balance of Public Sector opportunities that we expect to complete on in the near term are otherwise small to mid sized. On the commercial side, although the pipeline for commercial business has slowed over time, there continues to be interest and opportunities in that sector that we continue to pursue. Growth and investment in all of our existing businesses and our acquisition focus continue to be important priorities. Relative to our existing businesses we continue to make investments in innovation for existing a new product lines and capabilities to support on growing growth and opportunity.

With respect to acquisitions, we tend to continue to look at acquisitions that have strategic and economic value. As we’ve stated previously, we look for acquisition opportunities in both our current businesses as well as potential new verticals.

Moving now to the regulatory environment, let me spend a couple of minutes updating you on a significant recent legislative development. As many of you are aware the economic reviewing package signed earlier this month included legislation relating to mental health parity, officially known as the Paul Wellstone and Pete V. Domenici mental health parity, an Addiction Equity of 2008, this represents years of efforts by stakeholders towards improved access to behavioral health care by reducing or eliminating financial burdens. Magellan has long been strong proponent of such legislation and we applied its passage.

This act differs from the 1996 parity laws by expanding coverage requirements to include substance of use as well as mental health illness and as did the prior law it only applies to group health plans that offer both behavioral and medical benefits.

Plans may not establish separate financial requirements but treatment limits for mental health benefits such as co-payments, deductibles, limits on doctor visits, limit on days of hospitalization, as well as annual and lifetime limits on coverage. If a plan however, offers medical only coverage it is not required to add behavioral coverage. Small employer plans with fewer, with 50 or fewer employees are exempt from the law.

The new parity requirements will try to help plan beginning with planned years commencing one year after the date of enactment, meaning planned years commencing on or after October 3, 2009. Effectively we believe that means January 1, 2010.

We have previously said that parity will not have material impact on our near term business results. A large portion of our behavioral health businesses is either exempt from the law because it is with Medicaid, Medicare or some employer plans or is in states with already existing parity laws. If the state has no parity law or one that is less to it, the Federal law will prevail. But, in states with broader and more comprehensive parity laws such as those where small employers require to offer parity, the state law sets the border. Only a small portion of risk business exists in the states that do not have parity.

We do believe however, that parity creates opportunities for us to expand our business to existing and new customer where outpatient care is currently unmanaged. In addition to our EAP and coaching products we become increasingly important tools to provide early intervention and a means of managing behavioral deferred cost.

We also announced in our press release today that Barry Smith has resigned from our Board of Directors effective October 29. Barry has accepted an assignment as a non paid official of the Church of Jesus Christ Latter Day Saints in Dallas, Texas for the next three years. He is serving his mission presence for the Church in North Texas and due to his new responsibilities and requirements of the position he is no longer permitted to serve on any public or private boards during this three year tenure, which will continue until July of 2011.

Barry has served in our board since 2004 and has provided the company with outstanding guidance and it’s personally provided me with beneficial insight and counsel. We thank Barry for his excellent service as a Board Member and wish him good luck in the significant role that he has undertaken. We are planning to fill the vacancy and have begun the search for new Director.

In closing, it’s with mix feeling that I announce that our mayor dust CFO, Mark Demilio will now be leaving us and abandoning his mayor dust title for good. Mark has been a vital part of the Magellan family for the past ten years and has been a trusted partner and great friend to me since 2002.

Well, Mark has seen some turbulent times during his ten year, some his making it is fitting that he is leaving at a time when the company is doing well and has enjoyed turnaround in the result and prosperity growth and diversification, all of which he directly contributed to and then played an important role in our success.

Mark, I thank you for your years of advice, hard work and for the sacrifices you and your family have made for Magellan. Your assistance in transitioning Jon into his new role as CFO has been invaluable and I also thank you for you delaying you’re retirement in order to help us with that one last thing. All of us here at Magellan and me personally wish you a fond farewell and a very best in the years ahead.

Let me turn it over to Mark for a few of his own comments.

Mark Demilio – Chief Financial Officer

Thank you, Renedo. Its very kind, well some of it was, and you know I share your sentiment. I too have thoroughly enjoyed our professional and personal relationship and I hope and I believe that will continue from here in some form or fashion. I also appreciate all the support I have received from you as well as others on the management team and the finance team here, Jon and I wish all of you very well as I do all of them to join the family.

I do leave with the satisfaction that the company is in strong financial and strategic condition and poised for growth and continued success. And, I am also very pleased that I’ve been able to turn the reins over to someone, as talented and capable as Jon who I know will serve you and the company well and will be a key contributor to success that lies ahead for all of you. Well, thank you and I wish you all very well. And while I’ve added thanks everyone on the call as well for all of your support and cooperation over the years, I wish you well as well and specially in the near term turbulent times, thanks everyone.

René Lerer – President and Chief Executive Officer

Thanks, Mark. Let me now operator turn the call over to you for any Q&A.

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