Description
Filed with the SEC from Aug 09 to Aug 15:
Metropolitan Health Networks (MDF)
Red Mountain Capital Partners reported owning 2,235,282 shares (5%) after buying 1,355,715 from June 29 through Aug. 10 at prices that ranged from $7.74 to $9.50.
Red Mountain said it had met with, and expects to maintain a dialogue with, Metropolitan regarding, among other things, Metropolitan's "operations, strategic direction, capital structure, and corporate governance," as well as the expectation on the part of Red Mountain that management will "pursue appropriate measures to enhance shareholder value."
BUSINESS OVERVIEW
Overview
Our primary business is the operation of the PSN through our wholly owned subsidiaries, Metcare of Florida, Inc. and Continucare, the latter of which we acquired on October 4, 2011. See “Acquisition of Continucare” below. The PSN provides and arranges for the provision of healthcare services to Medicare Advantage and Medicaid beneficiaries in the State of Florida. At December 31, 2011, we operated the PSN through our 33 wholly-owned primary care practices, a wholly owned oncology practice, and contracts with almost 450 independent primary care practices (each an “IPA”). As of December 31, 2011, the PSN operated in 18 Florida counties, including the Miami, Ft. Lauderdale, West Palm Beach, Tampa and Daytona metropolitan areas. On January 1, 2012, the PSN began operations in Escambia and Santa Rosa counties in Florida’s panhandle region under a mutually exclusive arrangement with Humana’s Medicare Advantage plan.
Prior to the acquisition of Continucare, substantially all of our revenue was derived from Medicare Advantage health plans operated by Humana, one of the largest participants in the Medicare Advantage program in the United States. As a result of the acquisition of Continucare, we now have managed care agreements under the Medicare Advantage and Medicaid programs and with commercially insured customers with several other health maintenance organizations (“HMOs”). Our most significant managed care agreements continue to be Medicare Advantage plan agreements with Humana. For the year ended December 31, 2011, 94.2%, of our revenue was earned through our contracts with Humana. As a result of the acquisition, we also have agreements with United, Coventry and Wellcare as well as other HMOs. We anticipate that our percentage of revenue from these payers will increase in 2012 when we will realize a full year of revenue from these agreements.
Our agreements with these HMOs are primarily risk agreements under which we receive for our services a monthly capitated fee with respect to the Participating Customers. The capitated fee is a significant percentage of the premium that the HMOs receive from the Centers for Medicare and Medicaid Services (“CMS”) of the United States Department of Health and Human Services (“HHS”) for Medicare and the State of Florida for Medicaid with respect to the subject Participating Customers. In return, we assume full financial responsibility for the provision of all necessary medical care to such Participating Customers, even for services we do not provide directly. We also have non-risk agreements with these HMOs under which we receive a monthly fee based on the number of Participating Customers for which we are providing services and, under certain of these agreements, we also receive a percentage of the surplus generated , as determined by the respective contract. The fees and our portion of the surplus are recorded as revenue in the period in which services are provided.
As of December 31, 2011, we were responsible for providing or arranging for the provision of healthcare services to or for approximately 63,400 Participating Customers on a risk basis and approximately 8,300 Participating Customers on a non-risk basis. We also provide services to non-Participating Customers on a fee-for- service basis.
Since the acquisition of Continucare, we have operated a sleep diagnostic business which operates and manages over 70 sleep diagnostic centers in 15 states. On February 27, 2012, the Board of Directors approved a plan to sell the sleep diagnostic business in 2012.
Acquisition of Continucare
On October 4, 2011, we completed the acquisition of Continucare. The acquisition was structured as a merger of our wholly-owned subsidiary, CAB Merger Sub, Inc. (“Merger Sub”), with and into Continucare (the “Merger”) in accordance with the terms of the Agreement and Plan of Merger, dated June 26, 2011. As a result of the Merger, Continucare became our wholly-owned subsidiary effective October 4, 2011. The business and results of Continucare are reflected in our financial results from the date of acquisition.
At the date of acquisition, Continucare provided and managed care for approximately 36,400 Participating Customers through its 19 medical centers and contracted IPAs. Continucare also operated a sleep diagnostic business. Substantially all of its revenues were derived from managed care agreements with four HMOs, Humana, United, Coventry and Wellcare. As of October 4, 2011, Continucare provided services to or for approximately 28,000 Participating Customers on a risk basis and approximately 8,400 Participating Customers on a non-risk basis. Prior to the acquisition, substantially all of Continucare’s 2011 revenue was generated by providing services to Medicare-eligible and Medicaid-eligible Participating Customers under such risk arrangements.
Upon consummation of the Merger, each outstanding share of Continucare common stock, other than any shares owned by Continucare or us or any of their or our respective wholly owned subsidiaries, was converted into the right to receive $6.25 per share in cash and 0.0414 of a share of our common stock. In addition, each issued and outstanding option to purchase Continucare common stock became fully vested and was cancelled in exchange for the right to receive an amount of cash equal to $6.45 less the per share exercise price of the option, subject to withholding taxes . We paid an aggregate of $404 . 4 million in cash and issued an aggregate of 2.5 million shares of our common stock to Continucare’s stockholders and option holders in consideration for their shares of Continucare common stock and options to purchase shares of Continucare common stock. The total value of the transaction was $415.9 million, excluding expenses and financing fees. Immediately after the effective time of the Merger, the former stockholders of Continucare owned 5.8% of our outstanding common stock.
Concurrently with the completion of the Merger, we entered into the First Lien Credit Agreement and the Second Lien Credit Agreement, each of which is described in greater detail below. To fund the cash component of the purchase price, transaction expenses and financing costs, we and Continucare used a total of $143.2 million of cash and borrowed a total of $315.0 million under the First Lien Credit Agreement and the Second Lien Credit Agreement.
First Lien Credit Facility
The First Lien Credit Agreement provides for a $240 .0 million senior secured first lien term loan facility (the “First Lien Term Loan Facility”) and a $40 .0 million revolving credit facility (the “Revolving Loan Facility” and, together with the First Lien Term Loan Facility, the “First Lien Facilities”).
Subject to various terms and conditions, we may from time to time, borrow and repay funds under the Revolving Loan Facility until the maturity date, October 4 , 2016. The Revolving Loan Facility includes subfacilities for up to $15.0 million for letters of credit and $5.0 million for same day, “swingline” borrowings. At the closing of the Merger , we borrowed $240 .0 million under the First Lien Term Loan Facility. In addition, we terminated our $3 . 0 million secured one - year commercial line of credit agreement and replaced it and Continucare’s existing letters of credit with letters of credit totaling approximately $4.6 million under the Revolving Loan Facility. Upon termination of the secured line of credit, the restricted cash and investments securing the one-year commercial line of credit agreement were released. At December 31, 2011, we had borrowed $5.0 million under the Revolving Loan Facility. The entire amount was repaid in January 2012.
The First Lien Facilities are guaranteed jointly and severally by substantially all of our existing and future subsidiaries (collectively, the “Guarantors”), and are secured by a first-priority security interest in substantially all of our and the Guarantors’ existing and future assets (the “Collateral”).
Borrowings under the First Lien Facilities bear interest at a rate per annum equal, at our option, to LIBOR plus 5.5% or the Base Rate plus 4.5% for term loans, and LIBOR plus 5 .0 % or the Base Rate plus 4 .0 % for revolving loans. The “LIBOR” rate is determined by reference to the London Interbank Offered Rate, subject to a minimum rate of 1.5%. The “Base Rate” is determined by reference to the highest of (1) the “Prime Rate” quoted by the Wall Street Journal, (2) the applicable federal funds rate plus 0.50% and (3) LIBOR, subject to a minimum rate of 1.5%. Upon the occurrence of certain events of default under the First Lien Credit Agreement, borrowings under the First Lien Facilities will automatically be subject to an additional 2 .0 % per annum interest charge and , upon the occurrence of certain other events of default, may be subject to an additional 2 .0 % per annum interest charge We have elected the LIBOR rate for the First Lien Facilities and, as of December 31, 2011, the interest rate under the First Lien Term Facility was 7.0% and under the Revolving Loan Facility was 6.5%.
Second Lien Credit Facility
The Second Lien Credit Agreement provides for a $75 .0 million secured second lien term loan facility (the “Second Lien Term Facility”) guaranteed jointly and severally by the Guarantors and secured by a second-priority interest in the Collateral. At December 21, 2011, we had $75 .0 million outstanding under the Second Lien Credit Agreement.
Borrowings under the Second Lien Credit Agreement bear interest at a rate per annum equal to, at our option, LIBOR plus 11.75% or the Base Rate plus 10.75%. Under the Second Lien Credit Agreement the minimum LIBOR rate is equal to 1.75%. Upon the occurrence of certain events of default under the Second Lien Credit Agreement, borrowings under the Second Lien Credit Agreement will automatically be subject to an additional 2 .0 % per annum interest charge and upon the occurrence of certain other events of default may be subject to an additional 2 .0 % per annum interest charge. We have elected the LIBOR rate under the Second Lien Credit Agreement and as of December 31, 2011 the interest rate was 13.5%.
Borrowings under the Second Lien Credit Agreement are generally due and payable on the maturity date, October 4, 2017. Prior to the repayment of all borrowings under the First Lien Credit Agreement, we may not prepay any borrowings under the Second Lien Credit Agreement without the prior consent of the First Lien Lenders.
To the extent a prepayment of borrowings under the Second Lien Credit Agreement is permitted, the payment is subject to the following charges: 5.0% of the $75.0 million if the prepayment is made between May 4, 2013 and October 3, 2013; 3.0% if the prepayment is made between October 4, 2013 and October 3, 2014; and 2.0% if the prepayment is made between October 4, 2014 and October 3, 2015. For prepayments prior to May 4, 2013, we will also be required to pay an amount equal to the estimated, discounted net present value of any interest payments that would have been required to have been made on or before May 4, 2013 and that are avoided by us as a result of the prepayment plus 5% of the principal amount prepaid.
After May 4, 2013, and provided all borrowings under the First Lien Credit Agreement have been repaid and the facility has been terminated, we will, subject to certain basket amounts and exceptions, be required to make Mandatory Prepayments to the Second Lien Lenders on substantially the same terms and conditions as Mandatory Prepayments are required under the First Lien Credit Agreement. Mandatory prepayments as a result of asset sales or debt or equity issuances will be subject to the prepayment charges described in the preceding paragraph.
The Second Lien Credit Agreement contains substantially the same negative covenants and financial covenants (other than the senior leverage ratio) as the First Lien Credit Agreement, except that the permitted basket amounts in the Second Lien Credit Agreement are generally higher than under the First Lien Credit Agreement and the financial covenants ratios are 10-15% less restrictive than under the First Lien Credit Agreement.
The Second Lien Credit Agreement also contains substantially the same events of default as under the First Lien Credit Agreement, except that (i) the thresholds included in the Second Lien Credit Agreement are generally higher than under the First Lien Credit Agreement, and (ii) the Second Lien Credit Agreement includes a cross-acceleration provision tied to any acceleration of the obligations under the First Lien Facilities) as well as a cross-default tied to the failure to make principal payments when due under the First Lien Credit Agreement.
In accordance with the requirements of the First Lien Credit Agreement and the Second Lien Credit Agreement, effective December 4, 2011, we entered into an interest rate cap agreement with a financial institution, pursuant to which we will be entitled to receive certain payments in the event the LIBOR rate exceeds 1.5%. The notional amount of the interest rate cap, which expires on September 30, 2014, is initially $157.5 million and will decrease to $134.1 million over the life of the agreement. The effect of this interest rate cap is to hedge our risk of a rise in the LIBOR rate above 1.5% with respect to a portion of the outstanding indebtedness under the First Lien Credit Agreement and the Second Lien Credit Agreement equal to the notional amount of the cap.
As of December 31, 2011, we were in compliance with the covenants under each of the First Lien Credit Agreement and the Second Lien Credit Agreement.
Our credit agreements are subject to various risks. The information in this section should be read in connection with the risk factors referenced in Item 1A. – “Risk Factors.”
Plan to Sell Sleep Diagnostic Business
On February 27, 2012, the Board of Directors approved a plan to sell the sleep diagnostic business acquired as part of the Continucare acquisition. We do not consider the sleep business a core business of the ongoing organization and we determined that we should focus our management efforts and resources on expanding and growing our core PSN business. We have retained an investment banking firm to assist us with the sale process and expect to have the sale completed before the end of 2012.
Provider Services Network
The PSN provides and manages the healthcare services to Medicare and Medicaid beneficiaries in certain Florida counties who have elected to receive benefits under a plan of an HMO with which we have an agreement to provide and manage the care of a member of the HMO (“Plan Customers”). Our agreements with the HMOs include risk and non-risk agreements.
The HMOs directly contract with CMS for Medicare and with the State of Florida for Medicaid and are paid a monthly premium payment for each Plan Customer. For Medicare, the monthly premium varies by customer, demographic and severity of health status as well as other factors. Under risk agreements, we provide or arrange for the provision of covered medical services for each Participating Customer. In return the PSN receives from the HMO a capitation fee for each Participating Customer covered under our agreement with the HMO. The amount we receive represents a substantial percentage of the monthly premiums received by the HMO from CMS or the State of Florida with respect to Participating Customers.
Under risk agreements, our PSN assumes full responsibility for the provision or management of all necessary medical care for each of the approximately 63,400 Participating Customers covered by the Medicare and Medicaid risk agreements with the HMOs, even for services we do not provide directly. For approximately 24,9 00 of these Participating Customers, our PSN shares in the cost of inpatient hospital services with the HMO and is responsible for the full cost of all other medical care provided to the Participating Customers. For the remaining Participating Customers covered under our other agreements, our PSN is responsible for the cost of all medical care provided. To the extent the costs of providing such medical care are less than the related fees received from the HMOs our PSN generates a gross profit. Conversely, if medical expenses exceed the fees received by our PSN from the HMOs, our PSN experiences a deficit in gross profit. To mitigate our exposure to high cost medical claims, we have insurance arrangements that provide for reimbursement of certain medical expenses. See “Insurance Arrangements,” below.
We have non-risk agreements covering approximately 8,300 Participating Customers. Under our non-risk agreements, we receive a monthly fee based on the number of Participating Customers for which we are providing services and, under certain of these agreements, we also receive a percentage of the surplus generated as determined by the respective agreement. Under non-risk agreements, we are not responsible for cost of the medical care provided to the Participating Customer. The fees and our portion of the surplus are recorded as revenue in the period in which services are provided .
We have built our PSN by developing and acquiring physician practices and contracting with IPAs for their services. Through the HMO contracts, we have established referral relationships with a large number of specialist physicians, ancillary service providers, pharmacies and hospitals throughout the counties in which we operate.
Government Regulation
The Medicare Program and Medicare Managed Care
Medicare
Medicare is the national, federally administered health insurance program that covers the cost of medical care, hospitalization and some related health services for individuals aged 65 who qualify for Social Security or Rail Retirement Board benefits, qualifying disabled persons and persons suffering from end-stage renal disease. The Medicare program offers both hospital insurance, known as Medicare Part A, and medical insurance, known as Medicare Part B. In general, Medicare Part A covers hospital care and some nursing home, hospice, and home care. Although there is no monthly premium for Medicare Part A, beneficiaries are responsible for paying deductibles and co-payments. All individuals residing in the United States who are collecting or eligible to collect Social Security or Railroad Retirement Board benefits are automatically enrolled in Medicare Part A when they turn 65 and all eligible others must enroll in Medicare Part A unless they are working and are covered by employer insurance. Enrollment in Medicare Part B is voluntary. In general, Medicare Part B covers outpatient hospital care, physician services, laboratory services, durable medical equipment, and some other preventive tests and services. Beneficiaries that enroll in Medicare Part B pay a monthly premium, which is usually withheld from their Social Security checks. Medicare Part B generally pays 80% of the cost of services to a beneficiary, and the beneficiary is required to pay the remaining 20% after he or she has satisfied a deductible. To fill the gaps in original fee-for-service Medicare coverage, individuals may purchase Medicare supplement products, commonly known as “Medigap,” to cover deductibles, copayments, and coinsurance.
Originally, Medicare was offered only on a fee-for-service basis. Under the Medicare fee-for-service payment system, an individual can choose any licensed physician accepting Medicare payments and use the services of any hospital, healthcare provider, or facility certified by Medicare. CMS will reimburse a provider for any service provided if Medicare covers the service and CMS considers it “medically necessary.” Subject to limited exceptions, Medicare fee-for-service does not cover transportation, eyeglasses and hearing aids. However, the Medicare Improvements for Patients and Providers Act (“MIPPA”) permits the Secretary of HHS to extend fee-for-service coverage to certain additional preventive services that are reasonable and necessary for the prevention or early detection of an illness or disability.
Medicare Advantage
As an alternative to the original fee-for-service Medicare program, in geographic areas where a managed care plan has contracted with CMS pursuant to the Medicare Advantage program, Medicare beneficiaries may choose to receive benefits from a managed care plan. Pursuant to Medicare Part C and Medicare Part D, Medicare Advantage plans contract with CMS to provide benefits at least comparable to those offered under the original fee-for-service Medicare program in exchange for a monthly per customer premium payment from CMS.
Participation of private health plans, such as those offered by the Contracting HMOs, in the Medicare Advantage Program began in the 1980’s and grew to 6.6 million enrollees in 1999. According to information provided by the Henry J. Kaiser Family Foundation, after a drop to 5.1 million enrollees in 2003, the number of enrollees in Medicare Advantage plans in the United States has increased to 11.5 million in 2011 which represents 25.6% of all Medicare beneficiaries.
The Medicare Advantage program provides a comprehensive array of health insurance benefits, including wellness programs, to Medicare eligible persons under HMO, Preferred Provider Organizations (“PPO”), and Private Fee-For-Service (“PFFS”) plans in exchange for contractual payments received from CMS, usually a per customer per month (“PCPM”) payment. Under a Medicare Advantage HMO plan, the beneficiary receives benefits in excess of original Medicare, including reduced cost sharing, enhanced prescription drug benefits, eye exams, hearing aids, care coordination, data analysis techniques to help identify customer needs, complex case management, tools to guide customers in their healthcare decisions, disease management programs, wellness and prevention programs, and, in some instances, a reduced monthly Part B premium. Most Medicare Advantage plans offer the prescription drug benefit under Part D as part of the basic plan, subject to cost sharing and other limitations. Medicare Advantage plans may charge beneficiaries monthly premiums and other co-payments for Medicare-covered services or for certain extra benefits.
CMS uses monthly rates per person for each county to determine the monthly per-customer payments made to health benefit plans. These rates are adjusted under CMS’s risk-adjustment model which uses health status indicators, or risk scores, to improve the adequacy of payment. The risk-adjustment model, which CMS implemented pursuant to the Balanced Budget Act of 1997 and the Benefits and Improvement Protection Act of 2000, generally pays more for Participating Customers with predictably higher costs and uses principal hospital inpatient diagnoses as well as diagnosis data from ambulatory treatment settings (hospital outpatient department and physician visits). Under the risk-adjustment methodology, all Medicare Advantage plans must capture, collect, and submit the necessary diagnosis code information to CMS within prescribed deadlines.
HMO plans covered under Medicare Advantage contracts with CMS are renewed generally for a one-year term each December 31, unless CMS notifies the plan of its decision not to renew by August 1 of the year in which the contract would end, or the plan notifies CMS of its decision not to renew by the first Monday in June of the year in which the contract would end. All material contracts between the HMOs and CMS relating to our PSN have been renewed through 2012.
Medicare Part D
All Medicare beneficiaries are eligible to receive assistance paying for prescription drugs through Medicare Part D. The drug benefit is not part of the original fee-for-service Medicare program, but rather is offered through private insurance plans. Medicare beneficiaries are able to choose and enroll in a prescription drug plan through Medicare Part D. Prescription drug coverage under Part D is voluntary. Fee-for-service beneficiaries may purchase Part D coverage from a stand-alone prescription drug plan (a “stand-alone PDP”) that is included on a list approved by CMS.
CEO BACKGROUND
MICHAEL M. EARLEY has served as our Chief Executive Officer since March 2003. He has also served as our Chairman of the Board since September 2004, with the exception of the period between December 7, 2009 and April 23, 2010. He previously served as a member of our Board of Directors from June 2000 to December 2002. From January 2002 until February 2003, Mr. Earley was self-employed as a corporate consultant. Previously, from January 2000 to December 2001, he served as Chief Executive Officer of Collins Associates, an institutional money management firm. From 1997 to December 1999, Mr. Earley served as Chief Executive Officer of Triton Group Management, a corporate consulting firm. From 1986 to 1997, he served in a number of senior management roles, including CEO and CFO of Intermark, Inc. and Triton Group Ltd., both publicly traded diversified holding companies and from 1978 to 1983, he was an audit and tax staff member of Ernst & Whinney. From 2002 until its sale in 2006, Mr. Earley served as a director and member of the audit committee of MPower Communications, a publicly traded telecommunications company. Mr. Earley received undergraduate degrees in accounting and business administration from the University of San Diego.
Key Attributes, Experience and Skills:
Mr. Earley was nominated to serve as a director on our Board due to his many years of experience serving as our CEO as well as his experience serving in a variety of senior executive, director and/or consulting roles with publicly traded companies. Mr. Earley’s service as our CEO creates a critical link between management and the Board, assisting the Board to perform its oversight function with the benefits of management’s perspectives on the business.
MICHAEL CAHR was appointed to our Board in April 2010. He had previously served as a member of our Board from 2000 through November 2002. Mr. Cahr has more than 30 years of experience as a venture capitalist, CEO and director of public and private companies. Since 2004, he has been a general partner at Focus Equity Partners (“Focus”), a private equity investment and management firm that acquires middle-market companies and assists them in reaching their performance potential. From September 2004 to June 2006, Mr. Cahr served as CEO of one of Focus’s investments, C&M Pharmacy, a Glenview, Illinois, specialty pharmacy company, and engineered the sale of the company to Walgreen Co. Since October 2006, Mr. Cahr has acted as a board member and advisor to another Focus investment, Business Only Broadband (BOB), a premier provider of carrier-class, fixed wireless primary and co-primary data network solutions for the business sectors in Chicago and the New York metropolitan area. Prior to joining Focus, from 2001 to 2003, Mr. Cahr was president of Saxony Consultants, a provider of financial and marketing expertise, and from 1994 to 1999, served variously as president, CEO and chairman of publicly held Allscripts, Inc. (“Allscripts”), the leading developer of hand-held devices that provide physicians with real-time access to health, drug and other critical medical information. Prior to Allscripts, from 1987 to 1994, Mr. Cahr was venture group manager for Allstate Venture Capital, where he oversaw domestic and international investments in technology, healthcare services, biotech and medical services. Mr. Cahr has served since May 2002 as a director of PacificHealth Laboratories, an OTCBB-traded nutritional products firm that develops and commercializes functionally unique nutritional products. From January 2009 to November 2010, he served as a director of MakeMusic, Inc., a NASDAQ-listed provider of music education technology. Mr. Cahr was also a director of Lifecell Corporation from 1990 to 2008, where he served as the chairman of the audit committee.
Key Attributes, Experience and Skills:
The Board believes that Mr. Cahr’s many years of experience serving in a variety of senior executive, director and/or consulting roles with publicly traded companies and specifically with companies in the healthcare industry enables him to bring unique and valuable management insights to the Board. In addition, the Board believes that Mr. Cahr contributes financial expertise to the Board, including through his service on (and in some cases chairmanship of) the audit committees of other public companies, as well as executive compensation experience, including through his service on the compensation committees of other public companies.
RICHARD A. FRANCO, SR. was appointed to our Board in April 2010. Mr. Franco has been a leader in the pharmaceutical and medical industry for more than 35 years. From January 2009 until his retirement in December 2011, Mr. Franco served in various roles with DARA BioSciences, Inc. (“DARA”), a NASDAQ-listed biopharmaceutical development company, including as Chief Executive Officer and director from January 2009, President from February 2009 and Chairman of the Board from March 2009. Previously, Mr. Franco served as DARA’s Chairman of the Board from October 2007 until March 2008, as President and CEO from January 1, 2007 until March 2008 and as President and a member of the Board of Directors from 2005 until March 2008. Prior to joining DARA, Mr. Franco co-founded LipoScience, Inc. (“LipoScience”), a private medical technology and diagnostics company, and served as president, CEO and chairman of that company, from 1997 to 2002. Prior to founding LipoScience, Mr. Franco served as president, CEO and director of Trimeris, Inc., a NASDAQ-listed biopharmaceutical company, from 1994 to 1997. Mr. Franco was employed for more than a decade, from 1982 to 1994, with Glaxo Inc. (now GlaxoSmithKline), where he served as a member of the Executive Committee, vice president and general manager of Glaxo Dermatology and the Cerenex Division and vice president of Commercial Development and Marketing. Since May 2000, Mr. Franco has served as a director of Salix Pharmaceuticals, Ltd., a NASDAQ-listed specialty pharmaceutical company. He also serves as Chapter Director of the Research Triangle Chapter of the National Association of Corporate Directors (NACD). Previously, he served as a director of TriPath Imaging, EntreMed Inc. and Tranzyme, Inc. Mr. Franco earned a Bachelor of Science degree in pharmacy from St. John’s University and did his graduate work in pharmaceutical marketing and management at Long Island University.
Key Attributes, Experience and Skills:
Mr. Franco has had a prominent role in multiple publicly traded companies in the pharmaceutical and medical industries, including as co-founder, director and CEO of a private medical technology and diagnostics company and as CEO and director of multiple publicly traded biopharmaceutical companies. The Board believes that these experiences demonstrate his significant management and leadership capabilities within the medical and pharmaceutical industry and enable him to bring a wealth of industry knowledge and expertise to the Board.
CASEY GUNNELL was appointed to our Board in April 2010. Mr. Gunnell has thirty-nine years of broad business experience in entrepreneurial, startup, troubled and rapid-growth sales based companies. Since January 2009, he has served as President and as a member of the Board of Directors of NeedleNurse, Inc., a privately owned startup medical device company that he co-founded. Since December 2005, he has also served as a Managing Director of Cornerstone Management, LLC, a private firm providing advisory, interim staffing and project management solutions to distressed companies. He has also served, since April 1998, as President of Gunnell Family Corp., a private firm focused on interim management solutions. Mr. Gunnell served as CFO of Holiday RV Superstores, Inc. d/b/a/ Recreation USA, a NASDAQ-listed retailer of recreational vehicles and marine products, from May 2001 to November 2001, Chief Operating Officer and President from November 2001 to May 2002, interim CEO from January 2003 to May 2003, and a director from November 2001 to May 2003. In October 2003, Holiday RV Superstores, Inc. filed a voluntary petition under Chapter 11 of the Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware. He also served from May 2000 to May 2001 as COO and CFO of PNV, Inc., a NASDAQ-listed cable television, communications, broadband wireless, internet service provider and portal to the trucking industry. From May 2007 to December 2010, Mr. Gunnell served as a member of the Board of Directors of Enable Holdings, Inc., an OTCBB-traded asset recovery solution provider. Mr. Gunnell earned a Bachelor of Business Administration degree from Florida Atlantic University.
Key Attributes, Experience and Skills:
The Board believes that Mr. Gunnell’s 39 years of business experience as an entrepreneur driving the growth of a private medical device company (which he co-founded), an executive in multiple consulting and management solutions firms and as an executive and director of various publicly traded companies provides the Board with valuable business, leadership and management experience. Further, the Board believes that his entrepreneurial experience provides the Board with unique perspectives and guidance on our strategic direction and growth. The Board considers Mr. Gunnell’s strong operational background as an additional asset to the Board.
ARTHUR D. KOWALOFF was appointed to our Board in April 2010. Mr. Kowaloff served as a Managing Director of BNY Capital Markets, Inc. from 1998 until his retirement in 2003. From 1991 to 1998, he was COO and Senior Managing Director of Patricof & Co. Capital Corporation. Prior to that, Mr. Kowaloff was an attorney at the New York City firm of Willkie Farr & Gallagher, from 1971 to 1991, where he served as Senior Partner and Executive Committee Member and specialized in corporate and securities law and mergers and acquisitions. Mr. Kowaloff is currently President and Director of the PBP Foundation of New York, a member of the Board of Directors of the Orange Regional Medical Center and a trustee of Carleton College. Mr. Kowaloff received a Bachelor of Arts degree from Carleton College and holds a Juris Doctor degree from Yale Law School. Since 2004, Mr. Kowaloff has served as a director of Sirona Dental Systems, Inc., a NASDAQ-listed manufacturer of high quality, technologically advanced dental equipment.
Key Attributes, Experience and Skills:
The Board believes that Mr. Kowaloff’s careers in law and investment banking, including serving as Managing Director of both BNY Capital Markets, Inc. and Patricof & Company Capital Corporation, provides the board with valuable business experience and critical insights on the roles of law, finance and strategic transactions. In addition, the Board believes that Mr. Kowaloff’s experience as an attorney, practicing in the areas of corporate and securities law and mergers and acquisitions enables him to provide a unique and valuable perspective on the various securities law and general corporate law issues that we may face.
MARK STOLPER was appointed to our Board in April 2010. He has served as Executive Vice President and Chief Financial Officer of RadNet, Inc., a NASDAQ-listed company, since 2004. RadNet is the largest owner and operator of medical diagnostic imaging centers in the United States. From 1999 to 2004, Mr. Stolper was a partner at Broadstream Capital Partners and West Coast Capital, two Los Angeles-based investment and merchant banking firms focused on advising middle market companies engaged in financing and merger and acquisition transactions. Mr. Stolper began his career in 1993 as a member of the corporate finance group at Dillon, Read and Co., Inc. (“Dillon Read”), executing mergers and acquisitions, public and private financings and private equity investments with Saratoga Partners LLP, an affiliated principal investment group of Dillon Read. From 1995 to 1998, Mr. Stolper was a Vice President at Archon Capital Partners, which made private equity investments in media and entertainment companies. From 1998 to 1999, Mr. Stolper worked at Eastman Kodak, where he was responsible for business development for Kodak’s Entertainment Imaging subsidiary ($1.5 billion in sales). Since May 2007, Mr. Stolper has served on the Board of Directors of CompuMed, Inc., a publicly traded medical informatics and software company, and since July 2011, Mr. Stolper has served on the Board of Directors of Tix Corporation, an OTCQX-traded entertainment company providing discount ticketing services and branded event merchandising. Mr. Stolper graduated magna cum laude from the University of Pennsylvania, receiving a Bachelors of Science degree in Economics with a concentration in Finance from the Wharton School, and earned a post-graduate award in Accounting from UCLA.
Key Attributes, Experience and Skills:
Mr. Stolper brings to the Board comprehensive knowledge of the health care industry. Since 2005, he has served as the principal financial executive at a NASDAQ-listed healthcare company with over $500 million of annual revenues. In addition to his leadership experience, through his work at RadNet and his service as Chairman of the Board of CompuMed, Mr. Stolper brings extensive knowledge of corporate governance practices, especially for publicly traded companies in the health services industry. Mr. Stolper also has diverse experiences in investment banking, private equity, venture capital investing and operations.
JOHN S. WATTS, JR. was appointed to the Board in April 2010. Since January 2008, Mr. Watts has been a partner at John Watts Consulting, Inc., where he provides management consultation, market development services and health care system navigation support to start up and growth companies. Prior to starting his consulting firm, Mr. Watts spent over 12 years at Wellpoint, Inc. (“Wellpoint”), one of the nation’s largest health insurers. He served in numerous roles at Wellpoint during his tenure, including as President and CEO of Wellpoint’s commercial and consumer business from September 2006 through December 2007, as President and CEO of Anthem national accounts from December 2004 through September 2006 and as President and CEO of Blue Cross Blue Shield of Georgia from 2002 through 2004. Since November 2010, Mr. Watts has served as Executive Chairman of Health Plan Holdings, Inc., a privately owned company providing outsourcing and third-party administration services to life and health insurance companies. From September 2009 through September 2011, Mr. Watts served as a member of the Board of Directors at CareCentrix, a privately owned provider of home health benefits management services to the managed care industry. He also served as Executive Chairman of Implantable Provider Group, a privately owned company providing implantable device management, from September 2008 through November 2009.
Key Attributes, Experience and Skills:
Mr. Watts brings to the Board more than 25 years of experience in building, growing and leading large health plan organizations. It is the Board’s understanding that he has a strong track record of building successful new ventures and achieving high growth rates for Wellpoint and other health plans he has led. The Board believes that his knowledge of the health plan space and experience in competitive analysis and strategy development are significant assets for the Board.
MANAGEMENT DISCUSSION FROM LATEST 10K
Overview
We are a for profit corporation incorporated under the laws of Florida. We primarily operate a PSN through our wholly-owned subsidiaries, Metcare of Florida, Inc. and Continucare, the latter of which we acquired on October 4, 2011. The results of Continucare are included in our operating results from the date of acquisition.
The PSN provides and arranges for medical care to Medicare Advantage and Medicaid beneficiaries in the State of Florida. We operate the PSN through our 33 wholly-owned primary care practices, a wholly-owned oncology practice and contracts with almost 450 independent primary care practices (each, an “IPA”). As of December 31, 2011, the PSN operated in 18 Florida counties, including the Miami, Ft. Lauderdale, West Palm Beach, Tampa and Daytona metropolitan areas. On January 1, 2012, we began operations in Escambia and Santa Rosa counties in Florida’s panhandle under a mutually exclusive contract with Medicare Advantage Participating Customers with Humana for these years.
Prior to the acquisition of Continucare, substantially all of our revenue was derived from Medicare Advantage health plans operated by Humana, one of the largest participants in the Medicare Advantage program in the United States. As a result of the acquisition of Continucare, we now have managed care agreements with several other HMOs. Our most significant managed care agreements are Medicare Advantage risk agreements with Humana. As a result of the Continucare acquisition, we also have agreements with United, Coventry and Wellcare. In addition, we now also provide or manage the care for Medicaid eligible and commercial Participating Customers. Our managed care agreements with these HMOs are primarily risk agreements under which we receive a monthly capitated fee with respect to the Participating Customers. The capitated fee is a significant percentage of the premium that the HMOs receive with respect to Participating Customers. In return, we assume full financial responsibility for the provision of all necessary medical care to Participating Customers even for services we do not provide directly. We also have non-risk agreements with these HMOs, under which we receive a monthly fee based on the number of Participating Customers for which we are providing services and under certain of these agreements, we also receive a percentage of the surplus generated as determined by the respective contract. The fees and our portion of the surplus generated under these arrangements are recorded as revenue in the period in which services are provided as determined by the respective contract.
The sleep diagnostic business is operated as a wholly-owned subsidiary of Continucare and was included in the acquisition of Continucare. We do not consider the sleep diagnostic business a core business of the ongoing organization and we determined that we should focus our management efforts and resources on expanding and growing our core PSN business. On February 27 , 2012, the Board of Directors approved a plan to sell the sleep diagnostic business and we have retained an investment banking firm to assist us with the sale process. We expect to have the sale completed before the end of 2012. Our sleep diagnostic operations have been included in operations in 2011. We did not operate the sleep diagnostic business prior to October 4, 2011, the date of the Continucare acquisition.
We recognized goodwill of $260.4 million related to the acquisition of Continucare, a portion of which was allocated to the sleep diagnostic business. The annual impairment review performed as of December 31, 2011, resulted in goodwill impairment for the sleep diagnostic business of $3.5 million. The impairment related primarily to our evaluation that it was more likely than not that we would sell the sleep diagnostic business in 2012 and that the anticipated sales price would be less than the carrying value of the net assets.
Critical Accounting Policies
Our significant accounting policies are more fully described in Note 2 of the “Notes to Consolidated Financial Statements” included in this Form 10-K. As disclosed in Note 2, the preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the accompanying financial statements. Actual results may ultimately differ materially from those estimates. We believe that the following discussion addresses our most critical accounting policies, including those that are perceived to be the most important to the portrayal of our financial condition and results of operations and that require complex and/or subjective judgments by management.
We believe that our most critical accounting policies include “Use of Estimates, Revenue, Expense and Receivables” and “ Consideration of Impairment Related to Goodwill and Other Intangible Assets .”
Use of Estimates, Revenue, Expense and Receivables
Substantially all of our revenue is derived from risk-based managed care agreements with HMOs under which we receive for our services a monthly capitated fee, which fee varies depending on the demographics and health status of the Participating Customer. We assume the economic risk of funding our Participating Customers’ healthcare services and related administrative costs. Capitation fee revenue is recognized in the period in which the Participating Customers are entitled to receive healthcare services. Because we have the obligation to fund medical expenses, we recognize gross revenue and medical expenses associated with these risk agreements in our consolidated financial statements.
Under our non-risk agreements with HMOs, we receive a fee based on the number of Participating Customers for which we are providing services on a monthly basis. Under certain agreements, we also receive a percentage of the surplus generated as determined by the respective contract. The fees and our portion of the surplus are recorded as revenue in the period in which services are provided .
Periodically we receive retroactive adjustments to the risk based capitation fees paid to us based on the updated health status of our Participating Customers (known as a Medicare risk adjustment or “MRA” score). The factors considered in this update include changes in demographic factors, risk adjustment scores, customer information and adjustments required by the risk sharing requirements for prescription drug benefits under Part D of the Medicare program. In addition, the number of Participating Customers for whom we receive capitation or non-risk fees may be retroactively adjusted due to enrollment changes not yet processed, or not yet reported. These retroactive adjustments could, in the near term, materially impact the revenue that has been recorded. We record any adjustments to revenue at the time that the information necessary to make the determination of the adjustment is available and the collectability of the amount is reasonably assured, or the likelihood of repayment is probable.
Medical expenses are recognized in the period in which services are provided and include an estimate of our obligations for medical services that have been provided to our Participating Customers but for which we have neither received nor processed claims, and for liabilities for physician, hospital and other medical expense disputes. We develop our estimated medical claims payable by using an actuarial process that is consistently applied. The actuarial models consider factors such as time from date of service to claim receipt, claim backlogs, care provider contract rate changes, medical care consumption and other medical expense trends. The actuarial process and models develop a range of projected medical claims payable and we record to the amount within the range that is our best estimate of the ultimate liability. The actual liability incurred could differ materially from the amount recorded.
Each period we re-examine previously established medical claims payable estimates based on actual claim submissions and other changes in facts and circumstances. As the estimate of medical claims payable recorded in prior periods becomes more exact, we adjust the amount of our liability estimates, and include the changes in such estimates in medical expense in the period in which the change is identified. In each reporting period, our operating results include the effects of more completely developed medical expense payable estimates associated with previously reported periods. While we believe our medical expenses payable is adequate to cover future claims payments required, such estimates are based on claims experience to date and various assumptions. Therefore, the actual liability could differ materially from the amounts recorded. See Notes 2 and 11 to the Consolidated Financial Statements and “Item 1A Risk Factors - A Failure To Estimate Incurred But Not Reported…”
Acquisition Accounting
We completed the acquisition of Continucare in 2011. The acquisition method of accounting requires companies to assign values to assets and liabilities acquired based upon their fair values. In most instances, there is not a readily defined or listed market price for individual assets and liabilities acquired in connection with a business, including intangible assets. The determination of fair value for assets and liabilities in many instances requires a high degree of estimation. The valuation of intangibles assets, in particular, is very subjective. The use of different valuation techniques and assumptions can change the amounts and useful lives assigned to the assets and liabilities acquired, including goodwill and other intangible assets and related amortization expense. We account for the acquisition under the provisions of ASC 805, Business Combinations , which was effective January 1, 2009.
Consideration of Impairment Related to Goodwill and Other Intangible Assets
Our balance sheet includes intangible assets, including goodwill and other separately identifiable intangible assets, of approximately $364.9 million, which represented 77.7% of our total assets at December 31, 2011. Substantially all of the intangible assets consist of the intangible assets recorded in connection with the acquisition of Continucare. The purchase price, including acquisition costs, of approximately $415.9 million was allocated to the estimated fair value of acquired tangible assets of $102.6 million, identifiable intangible assets of $105.0 million and assumed liabilities of $52.1 million, resulting in goodwill totaling $260.4 million.
We do not amortize goodwill and intangible assets with indefinite useful lives. We review such assets for impairment on an annual basis or more frequently if certain indicators of impairment arise. We amortize intangible assets with definite useful lives over their respective useful lives to their estimated residual values and also review for impairment annually or more frequently if certain indicators of impairment arise. Indicators of impairment include, among other things, a significant adverse change in legal factors or the business climate, the loss of a key HMO contract, an adverse action by a regulator, unanticipated competition, and the loss of key personnel or allocation of goodwill to a portion of business that is to be sold.
The goodwill impairment test requires the allocation of goodwill and all other assets and liabilities to reporting units. We have determined that we have two reporting units: the PSN and the sleep diagnostic business. Our goodwill impairment reviews are determined using a two-step process. The first step of the process is to compare the fair value of a reporting unit with its carrying amount, or book value, including goodwill. If the fair value of a reporting unit exceeds its carrying amount, the goodwill of the reporting unit is not impaired and the second step of the impairment review is not necessary. If the carrying amount of a reporting unit exceeds its fair value, the second step of the goodwill impairment review is required to be performed to estimate the implied fair value of the reporting unit’s goodwill. The implied fair value of the reporting unit’s goodwill is compared with the carrying amount of that goodwill. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess. The impairment review performed as of December 31, 2011 resulted in goodwill impairment in the sleep diagnostic business of $3.5 million. The impairment related primarily to our evaluation that it was more likely than not that we would sell the sleep diagnostic business in 2012 and that the anticipated sales price would be less than the carrying value of the net assets.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.
Summary
Net income in 2011 was $22.7 million compared to $25.7 million in 2010, a decrease of $3.0 million or 11.7%. The decrease in net income was primarily a result of the after tax impact of the impairment loss related to sleep diagnostic business, transaction costs related to the acquisition of Continucare, interest expense associated with the acquisition debt and an increase in our effective tax rate offset, in part, by an increase in the net income from our PSN business, primarily as a result of the net income of Continucare. From the date of acquisition to year-end, Continucare contributed $7.5 million to net income. Our effective tax rate in 2011 was 42.7% compared to 38.2% in 2010, the increase being a result of certain transaction costs in 2011 not being deductible for tax purposes.
Basic earnings per share in 2011 were $0.56 compared to $0.65 in 2010. Diluted earnings per share were $0.53 in 2011 compared to $0.62 in 2010. The impairment charge reduced both basic and diluted earnings per share by $0.05. Transaction costs reduced both basic and diluted earnings per share by $0.16.
Revenue increased to $459.8 million in 2011 from $368.2 million in 2010, an increase of $91.6 million or 24.9%. The increase in revenue is primarily attributable to Continucare, which contributed $78.6 million. We also realized an increase in revenue as a result of an increase in the average risk scores of the Participating Customers we serve.
Total medical expense for 2011 was $363.4 million compared to $302.4 million for 2010, an increase of approximately $61.0 million or 20.2%. Continucare’s medical expenses contributed $58.8 million of the increase. Medical cost inflation and utilization also contributed to this increase.
MANAGEMENT DISCUSSION FOR LATEST QUARTER
BACKGROUND
Our primary business is the operation of a PSN through our wholly owned subsidiaries, Metcare of Florida, Inc. and Continucare, the latter of which we acquired on October 4, 2011. The PSN provides and arranges for the provision of healthcare services to Medicare Advantage, Medicaid and commercially insured customers in the State of Florida. At June 30, 2012, we operated the PSN through our 33 wholly-owned primary care practices, a wholly-owned oncology practice, and contracts with independent physician affiliates (each an “IPA”). As of June 30, 2012, the PSN operated in 20 Florida counties, including the counties in which the cities of Miami, Ft. Lauderdale, West Palm Beach, Tampa, Daytona and Pensacola are located.
Humana Agreements
Pursuant to our agreements with Humana (the “Humana Agreements”), at June 30, 2012, the PSN provided or arranged for the provision of healthcare services to Medicare Advantage, Medicaid and commercial customers in 20 Florida counties and has contract rights to expand its service offerings to an additional 12 Florida counties. Our PSN assumes full financial responsibility for the provision or management of all necessary medical care for each Participating Customer covered by the Humana Agreements (each a “Humana Participating Customer”), even for services we do not provide directly. For approximately 25,000 Humana Participating Customers, our PSN and Humana share in the cost of inpatient hospital services and the PSN is responsible for the full cost of all other medical care provided to the Humana Participating Customers. For the remaining Humana Participating Customers, our PSN is responsible for the cost of all medical care provided, including the cost of inpatient hospital services. In return for the provision of these medical services, our PSN receives from Humana a capitation fee for each Humana Participating Customer established pursuant to the Humana Agreements. The amount we receive from Humana represents a substantial percentage of the monthly premiums received by Humana from the Centers for Medicare and Medicaid Services (“CMS”) or the State of Florida with respect to Humana Participating Customers.
The Humana Agreements covering a majority of the Humana Participating Customers have one-year terms, subject to automatic renewal unless either party provides the other party notice of non-renewal 90, 120 or 180 days prior to the end of the subject agreement’s term (as applicable). The remaining Humana Agreements have terms that extend to between August 31, 2013 and July 31, 2014, subject to automatic renewal for additional terms of one to three years, unless either party provides the other party notice of non-renewal 90 or 120 days prior to the end of the subject agreement’s term (as applicable).
Under several of our PSN’s Humana Agreements, Humana may amend the benefit and risk obligations and compensation rights from time to time by providing the PSN 30 days’ prior written notice of the proposed amendment. Thereafter, the PSN will generally have 30 days to object to or be deemed to have accepted the proposed amendment. Upon receipt of such an objection, Humana may terminate the subject agreement upon 90 days’ notice. In the 13 years that we have been working with Humana, after Humana and we have agreed upon the terms pursuant to which we will provide services for an upcoming year, Humana has only occasionally requested contract amendments and has never requested a contract amendment that has materially, negatively impacted our benefit obligations, risk obligations or compensation rights.
Humana may immediately terminate a Humana Agreement and/or the services of any individual physician in our primary care physician network if: (i) the PSN’s or such physician’s continued participation may adversely affect the health, safety or welfare of any Humana customer or bring Humana into disrepute; (ii) Humana loses its authority to do business in total or as to any limited segment or business provided that, in the event of a loss of authority with respect to a limited segment, Humana may only terminate a Humana Agreement as to that segment; (iii) the PSN or such physician violates certain provisions of Humana’s policies and procedures manual; and (iv) under certain of the Humana Agreements, the PSN or any of its physicians fails to meet Humana’s credentialing or re-credentialing criteria or is excluded from participation in any federal healthcare program.
In addition to the foregoing termination provisions, each of the Humana Agreements permits the PSN or Humana to terminate any such agreement upon 60 to 90 days prior written notice (subject to certain cure periods) in the event the other party breaches other provisions of the agreement.
Under most of the Humana Agreements, our subsidiary that is party to such agreement and its affiliated providers are generally prohibited, during the term of the applicable agreement plus one year, from: (i) engaging in any activities that are in competition with Humana’s health insurance, HMO or benefit plans business; (ii) having a direct or indirect interest in any provider sponsored organization or network that administers, develops, implements or sells government sponsored health insurance or benefit plans; (iii) contracting or affiliating with another licensed managed care organization for the purpose of offering and sponsoring HMO, preferred provider organization (“PPO”) or point of service (“POS”) products where such subsidiary and/or its affiliated providers obtain an ownership interest in the HMO, PPO or POS products to be marketed; and (iv) under certain provisions of the Humana Agreements, entering into agreements with managed care entities, insurance companies, or provider sponsored networks for the provision of healthcare services to Medicare HMO, POS and/or replacement Participating Customers at the same office sites or within five miles of the office sites where services are provided to the Humana Plan Customers.
In addition, under the Humana Agreements covering a majority of the areas we serve, or are eligible to serve, our subsidiary that is party to any such agreement and/or its participating physicians and affiliated entities (including us) are prohibited from entering into a risk contract with any non-Humana Medicare Advantage HMO or provider sponsored organization in the counties subject to the agreement. These restrictions lapse between January 1, 2013 and January 1, 2015, as applicable, and are not applicable to certain previously established contracts our subsidiaries have with non-Humana HMOs with respect to a number of designated counties.
In addition, under each of our Humana Agreements, our subsidiary that is party to any such agreement and/or its participating physicians and affiliated entities (including us) are prohibited from causing groups of Medicare Participating Customers assigned to an individual physician to disenroll from a Humana plan and to enroll in a competing HMO plan.
Agreements With Other HMOs
As of June 30, 2012, the PSN also had agreements to provide or arrange for the provision of medical services to Participating Customers of other Medicare Advantage plans including those offered by United, Coventry and Wellcare. The majority of such services are provided on a risk basis pursuant to which our PSN receives a capitated fee with respect to each of these Participating Customers.
Our agreements with United, Coventry and Wellcare have one-year terms expiring between December 31, 2012 and June 30, 2013, subject to automatic renewal for an additional one-year term each unless either party provides the other with 60, 90 or 120 days’ notice of its intent to terminate such agreement, as applicable. These agreements are generally subject to the same type of amendment, termination, non-solicitation and/or non-competition provisions as those included in the Humana Agreements.
Our Physician Network
At June 30, 2012, the 33 primary care practices owned and operated by the PSN were responsible for providing and arranging for medical care to 51.8% of the PSN’s Participating Customers under risk agreements.
The PSN contracts with IPAs to provide and manage care for our remaining Participating Customers. Some of these contracts provide for payment to the provider of a fixed per customer per month (“PCPM”) amount and require the provider to provide all the necessary primary care medical services to Participating Customers. The monthly amount is negotiated and is subject to change based on certain quality of service metrics. Other contracts provide for payments on a fee-for-service basis, pursuant to which the provider is paid only for the services provided.
Appropriate Risk Coding
We strive to ensure that our Participating Customers are assigned the proper risk scores. Our processes include ongoing training of medical staff responsible for coding and routine auditing of Participating Customers’ charts to assure risk-coding compliance. Participating Customers with higher risk codes generally require more healthcare resources than those with lower risk codes. Proper coding helps to ensure that we receive capitation fees consistent with the cost of treating these Participating Customers. Our efforts related to coding compliance are ongoing and we continue to dedicate considerable resources to this important discipline.
Insurance Arrangements
To mitigate our exposure to high cost medical claims under our risk agreements, we have reinsurance arrangements that provide for the reimbursement of certain customer medical expenses. At June 30, 2012, for 58.2% of our Participating Customers under risk agreements, we purchase reinsurance through the HMOs with which we contract. The HMOs charge us a per customer per month fee that limits our healthcare costs for any individual Participating Customer. Healthcare costs in excess of an annual deductible, which generally ranges from $30,000 to $40,000 per Participating Customer, are paid directly by the HMOs and we are not entitled to and do not receive any related insurance recoveries.
The remaining Participating Customers are covered under one policy with an annual per customer deductible of $250,000 in 2012 and $225,000 in 2011. Reinsurance recoveries under these policies are remitted to us and are recorded as a reduction to medical claims expense.
All policies have a maximum annual benefit per customer of $1.0 million. Although we maintain insurance of the types and in the amounts that we believe are reasonable, there can be no assurances that the insurance policies maintained by us will insulate us from material expenses and/or losses in the future.
Healthcare Reform Legislation
The healthcare reform legislation described below is not directly applicable to us since we are not a Medicare Advantage plan. However, this legislation will directly impact Medicare Advantage plans such as those offered by the Contacting HMOs, and, therefore, are expected to indirectly affect PSNs such as ours.
The United States’ healthcare system, including the Medicare Advantage program, is subject to a broad array of laws and regulations as a result of the Patient Protection and Affordable Care Act, which became law on March 23, 2010 as amended by the Health Care and Education Reconciliation Act of 2010, which became law on March 30, 2010 (collectively, the “Reform Acts”). The Reform Acts are considered by some to be the most dramatic change to the country’s healthcare system in decades. This legislation made significant changes to the Medicare program and to the health insurance market overall. Among other things, the Reform Acts limit Medicare Advantage payment rates, stipulate a prescribed minimum ratio for the amount of premium revenues to be expended on medical costs, give the Secretary of Health and Human Services the ability to deny Medicare Advantage plan bids that propose significant increases in cost sharing or decreases in benefits, and make certain changes to Medicare Part D. Because substantially all of our revenue is directly or indirectly derived from reimbursements generated by Medicare Advantage health plans, any changes that limit or reduce Medicare reimbursement levels, such as reductions in or limitations of reimbursement amounts or rates under programs, reductions in funding of programs, expansion of benefits without adequate funding, elimination of coverage for certain benefits, or elimination of coverage for certain individuals or treatments under programs, could have a material adverse effect on our business.
There are numerous steps required to implement the Reform Acts, and Congress may seek to alter or eliminate some of their provisions. In June 2012, the United States Supreme Court upheld most of the provisions of the Affordable Care Act, including the health insurance mandate. While Federal regulatory agencies are moving forward with implementation of the provisions of the Reform Act, Congress is attempting to pass legislation which would reverse the Reform Acts. Furthermore, various health insurance reform proposals are also emerging at the state level. Due to the unsettled nature of these reforms and the numerous steps required to implement them, we cannot predict to what extent (if at all) Congress will succeed in limiting or reversing the Reform Acts, whether (and if so, what) additional health insurance reforms will be implemented at the Federal or state level and/or the effect that any future legislation or regulation will have on our business.
For additional information on the Reform Acts see “ Business - Healthcare Reform Legislation in 2011 and 2010” included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2011 and the Risk Factor captioned “Risk Factors - Reductions in Funding for Medicare Programs and Other Provisions Under the Recent Healthcare Reform Legislation…” included in Part II, Item 1A of this Quarterly Report on Form 10-Q.
CRITICAL ACCOUNTING POLICIES
A description of our critical accounting policies is contained in our Annual Report on Form 10-K for the year ended December 31, 2011. Included within these policies are certain policies that contain critical accounting estimates and, therefore, have been deemed to be “critical accounting policies.” Critical accounting estimates are those which require management to make assumptions about matters that were uncertain at the time the estimate was made and for which the use of different estimates, which reasonably could have been used, or changes in the accounting estimates that are reasonably likely to occur from period to period, could have a material impact on the presentation of our financial condition, changes in financial condition or results of operations.
COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED JUNE 30, 2012 AND JUNE 30, 2011
Summary
Net income for the second quarter of 2012 was $2.9 million compared to $5.9 million in the second quarter of 2011. Although we experienced significant growth in both revenue and gross profitability, our quarterly net income declined primarily due to the $3.6 million pre-tax loss in the second quarter of 2012 under an agreement with a Contracting HMO other than Humana (the “Contracting HMO Agreement”) and an increase in professional fees of $0.9 million in the second quarter of 2012 compared to the second quarter of 2011.
In the second quarter of 2012, we realized a pre-tax loss of $3.6 million on approximately 6,600 new Participating Customers added in 2012 under the Contracting HMO Agreement. The second quarter loss for this agreement includes unfavorable claims development from the first quarter of 2012 of $1.6 million. The loss represents the excess of medical costs over revenue earned from the agreement and is the result of a number of factors including utilization that was higher than anticipated by both the Contracting HMO and us. We are currently in discussions with the Contracting HMO to modify the contract terms to reduce the loss being incurred under this agreement. While no amendment to this agreement is in place, the Contracting HMO has indicated a willingness to amend the agreement. Therefore, we anticipate that the revenue we realize under this agreement in the second half of 2012 will be sufficient to offset the projected medical costs under this agreement during the same period. If we are unable to amend the agreement, we anticipate that our losses under this agreement incurred in the second half of 2012 would be similar to or greater than the pre-tax loss of $4.4 million under this agreement in the first half of 2012. The contract can be terminated with 120 days’ notice.
Basic and diluted earnings per share were $0.07 for the second quarter of 2012 as compared to $0.15, basic, and $0.14, diluted, for the same period in 2011. The after tax loss on the Contracting HMO Agreement reduced both basic and diluted earnings per share by $0.05. Basic and diluted earnings per share from income from continuing operations was $0.06 for the second quarter of 2012 as compared to $0.15, basic, and $0.14, diluted, for the same period in 2011. Basic and diluted earnings from discontinued operations for the second quarter of 2012 were $0.01 per share .
Revenue for the second quarter of 2012 was $193.4 million compared to $97.3 million for the second quarter of 2011, an increase of $96.1 million or 98.8%. The increase in revenue was primarily attributable to Participating Customers added with the acquisition of Continucare, the net addition of new Participating Customers under risk arrangements since December 31, 2011 and increased risk scores for our Participating Customers. Revenue for the second quarter of 2012 included $1.6 million from the mid-year retroactive adjustment that was earned in the first quarter of 2012. Revenue for the second quarter of 2011 included $2.0 million from the mid-year retroactive adjustment that was earned in the first quarter of 2011.
Total medical expense for the second quarter of 2012 was $165.0 million compared to $80.7 million for the second quarter of 2011, an increase of $84.3 million or 104.5%. This increase is primarily attributable to the additional medical claims expense associated with the Contracting HMO Agreement, the addition of the Continucare Participating Customers, the medical costs associated with the net addition of new Participating Customers under risk arrangements in 2012, the addition of the 19 Continucare medical practices, the addition of three practices we purchased in the first half of 2011, and an increase in benefits, utilization and medical cost inflation.
Gross profit was $28.4 million for the second quarter of 2012 as compared to $16.6 million for the same quarter in 2011, an increase of $11.8 million or 71.1%.
CONF CALL
Michael Earley - Chairmand & CEO
Thank you Monica. Good morning everyone and welcome to our call. This call is been broadcast over this conference line and is also available via the web as noted in our press release. It will be available in recorded format through the conference service and on our website. Many of you are probably noting our first use of a PowerPoint in today's presentation. We are now finally two-dimensional, we think this is an improvement and will help you better visualize our results and how we look at them. We are being the first time please bear with us, with me this morning are Dr. Joe Guethonour, President and Chief Operating Officer, Bob Sabo, our CFO and Roberto Palenzuela, our General Counsel.
A press release was issued this morning outlining our earnings for the second quarter in a quarterly report on Form 10Q will be filed with the Securities and Exchange Commission shortly. Today I will discuss the continuing growth of our company and related news. Bob will review our financial results for the quarter and first half of the year, Joe will cover some exciting news for us as we move beyond quarter with Humana. And I will close with a few comments, then we will get to Q&A.
Before we go further, let’s have Roberto cover our Safe Harbor statement.
Roberto Palenzuela - General Counsel & Corporate Secretary
Thanks Mike. In order to comply with the forward-looking statements, Safe Harbor, I want to advise you that except for historical matters contained herein. Statements made during this conference call are forward-looking and are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Without limiting the generality of the foregoing, words such as may, will, to, plan, expect, believe, anticipate, intend, could, would, estimate or continue or the negative other variations thereof or comparable terminology are intended to identify forward-looking statements. Investors and others are cautioned that a variety of factors including certain risks may affect our business and cause actual results to differ materially from those set forth in the forward-looking statements.
These risk factors include without limitation, the impact of our significantly increased levels of indebtedness on our funding costs, operating flexibility and ability to fund ongoing operations with additional borrowing, particularly in light of ongoing volatility in the credit and capital markets, our ability to operate pursuant to the terms of our debt obligations, are our ability to integrate the acquired operations of Continucare and to realize the anticipated revenues, economies of scale, cost synergies and productivity gains in connection with the merger and any other acquisitions that we may undertake as and when planned including the potential for unanticipated issues, expenses and liabilities associated with those acquisitions and the risk that Continucare fails meet its expected financial and operating targets.
The potential for diversion of management time and resources in seeking to integrate Continucare operations. Our ability to successfully establish a presence in new geographic markets, our ability to meet our cost projections under various provider agreements with Humana, our ability to reach an agreement to amend the new payer contract on favorable terms, our failure to accurately estimate incurred but not reported medical benefit expense. Pricing pressures exerted on us by managed care organizations and the level of payments we indirectly receive under governmental program or from other payers. Our still limited ability to predict the direct and indirect effects of the healthcare reform laws adopted in 2010, future legislation and changes in governmental regulations, the impact of Medicare risk adjustments on payments we received for our managed care operations and a loss of any of our significant contracts or our ability to increase the number of Medicare eligible patient lives we manage under these contracts.
Metropolitan is also subject to risks and uncertainties described in its filings with the Securities and Exchange Commission including its annual report on Form 10K for the year ended December 31, 2011 and its quarterly report on Form 10Q for the quarter ended June, 2012 which is expected to be filed shortly.
With that said I will turn it back to Mike.
Michael Earley - Chairmand & CEO
Thanks Roberto. If 2011 Metropolitan’s year, our transformational change with the acquisition of Continucare, 2012 is shaping up to be a year of growth, and some growing things. We are seeing increasing opportunities to work with Humana and other payers and helping him better manage Medicare advanced memberships and other lives as healthcare report takes root, health plans are realizing the need to align with risk providers who can deliver and who have delivered true accountable care.
A look at the graphs and pie-charts on the slide show the growth that we have achieved over the last 12 months. Growth both in terms of customer account and in terms of types of customers. The Continucare acquisition bought us both bringing new markets, additional payers and expanding our business and expertise beyond Medicare Advantage.
We have entered into non-risk arrangements giving us entry into a broader group of customers, we have continued to grow in 2012. We have taken the liberty of including the 9900 new customers that we just are announcing today in the far left charts here. Joe will provide more detail on this shortly. Going forward, we’re responsible for approximately 87,500 customers up from 34,000 at June 30, 2011.
There are a few ways to bring in new customers in our business; organic growth and provider consolidation by payers are a couple of ways. We can also buy memberships through acquisition of medical practices or other risk providers presumably paying a market multiple based on the performance of that customer base. We have done all three of these and expect to do more as we move forward.
Another way to grow is to enter or assume management of underperforming or relatively new memberships, in structure arrangements that provide long-term upside as we work with the plans, members, provided communities and customers. There is often limited short-term downside in these situations, while we won't generate earnings we are used to in the short term, the out of pocket by in is much less when compared to buying into a performing situation. Our investment if you will is working in a limited risk, limited upside format as we install our systems and practices. In the end, we believe we can create real long-term value. The concept of graduating risk arrangements comes into play here, Joe will describe our entry into the Midwest with Humana where we are using this type of arrangement. Now let’s talk about a 2012 situation where we’ve stumbled a bit, with the contract covering about 6600 Medicare Advantage customers in Florida with a major Medicare Advantage Payer not Humana.
We took risk immediately with this contract and have lost $4.4 million in the first six months of the year. The good news is that we are making progress in rectifying the situation and we are working with the payer to modify the contract, to eliminate future losses and to recover or offset losses incurred to-date under this agreement. Even if we can't get this modification completed which we believe we will, the impact is containable as we exit the contract in a relatively short period of time. Some more detail, the 6600 new customers are in both Medicare Advantage HMO plans and Medicare Advantage Point of Service plans. The Point of Service is different from an HMO plan as the patients are able to see physicians without referrals and are more challenging to manage.
Unfortunately the medical cost of the new customers under this agreement are higher than anticipated by both the HMO and by us, and we are also higher than the revenue earned from the agreement resulting in a loss. Another factor relates to revenues, historically we find that new customers have lower resource and thus lower revenues compared to those customers who over time have had their health conditions properly documented and captured as they access the healthcare delivery system.
As I mentioned we are currently in discussions with the HMO to modify the contract terms to eliminate future losses and to recover or offset losses incurred today under this agreement. While no amendment to the agreement is in place today the HMO has indicated a willingness to amend the agreement. Both parties believe a long-term relationship is beneficial and we hope to properly structure this arrangement for the underlying circumstances. However, as I indicated earlier the losses containable and that this agreement can be terminated with a 120 days’ notice.
And I will ask you to refer to our second quarter 10-Q for further details. This one contract unfortunately has had an impact on our operating results in 2012. A lot of are factors are responsible for this situation. Needless to say both parties are working hard to rectify the situation so we can move forward appropriately. Let me stop here, and turn it over to Bob to review our financial results.
Bob Sabo - CFO
Thanks Mike and good morning everybody. Before I begin to talk about the second quarter and first six months of 2012, I want to cover some items that are impacting our results. As occurs each year in the second order we receive the actual retroactive midyear risk for adjustment. In the first quarter of each year, we estimate the amount and we throughup ours ended of June, 30 when we are notified of the actual amount.
We were notified that the midyear adjustment will total $11.4 million, $6 of which relates to the first quarter of 2012. We had estimated the amount in the first quarter to be $4.4 million, as a result our revenue for the second quarter of 2012 was increased by $1.6 million, the difference between the originally estimated $4.4 million and the $6 million of retroactive revenue for that period.
This difference is comparable to the second quarter of 2012, when the difference was $2 million. The retroactive adjustments also positively impact capitation fees we received under our risk arrangements for the balance of the year as it resets the customer's risk score and resulting premium. We expect to receive the 11.4 million in mid-August as well we expect to receive a smaller final risk score adjustment of 2.7 million for 2011, this amount will be received in mid-September.
We continue to operate the sleep diagnostic business in the second quarter and account for this business is a discontinued operation. We expect to have sold this business prior to the end of 2012, our sales processes well along here. As Mike noted, our operating results in 2012 are impacted by a new risk agreement that we had entered into with the Medicare Advantage plan at the beginning of the year. As a result of this contract in the second quarter of 2012, we realized a loss of $3.6 million from this agreement. The loss under this agreement includes unfavorable claims development from the first quarter of 2012 of $1.6 million, for the first six months of 2012 the loss under this contract is $4.4 million. In addition, throughout my commentary I'll be speaking about nonrecurring legal and accounting fees related to certain SEC filings including our self-registration and other projects. These amounted to $900,000 and $1.4 million in the second quarter and for the first half of the year respectively.
Let’s turn to the second quarter results, our customer base at June 30, 2012, was 77,600 compared to 34,000 at June 30, 2011. With customer months for the quarter coming in at 233,900 compared to a 102,200 for the same period in 2011. Customers on a risk arrangements increased to 69,400 at June 30, 2012 from 34,000 at June 30, 2011.
Revenue for the second quarter of 2012 was a 193.4 million compared to 97.3 million for the second quarter of 2011, an increase of 96.1 million or 98.8%, the increase in revenue was primarily attributable to customers added with the acquisition of Continucare, the net addition of new customers under risk arrangements since December 31, 2011 including the 6600 added under the new HMO agreement, an increased risk scores of our customers. Our per customer per month percent PCPM Medicare risk revenue increased by $60 for the second quarter of 2012 compared to the same period in 2011.
Total medical risk expense for the second quarter of 2012 was a $165 million compared to 80.7 million for the second quarter of 2011, an increase of 84.3 million or 104.5%. This increase is primarily attributable to new the customers added the addition of the cost of the 19 Continucare medical practices, the addition of the three practices we purchased in the first half of 2011 and an increase in benefits, utilization and medical cost inflation. Our PCPM Medicare risk expense increased by $45 for the second quarter of 2012 compared to the same period in 2011, this was lower than the $60 increase in our PCPM revenue for this period.
The medical expense ratio or MER which is computed by dividing total medical expense by revenue, represents a statistic used to measure gross margin. In the second quarter of 2012 our MER was 85.3% compared to 83% for the second quarter of 2011. Excluding the revenue and medical costs associated with the new HMO agreement, our MER for the second quarter would have been 82.1%. Operating expenses, increased by $9.8 million for the second quarter of 2011 from the second quarter of 2011 primarily due to expenses of Continucare and an increase in amortization expense of $3.1 million related to the amortization of intangible assets recorded with the Continucare acquisition.
The $900,000 nonrecurring professional fees discussed earlier also were part of this increase, other expense increased by $7.4 million due primarily to an increase in interest expense of $8.1 million for the second quarter of 2012, related to the debt used to finance the Continucare acquisition. Net income for the second quarter of 2012 was $2.9 million compared to 5.9 million in the second quarter of 2011.
Although we experienced significant growth in both revenue and gross profit, our quarterly net income declined primarily due to the $3.6 million loss related to the previously discussed new HMO agreement and the increase in professional fees of $900,000. Moving on to the six-month period, customer months for the six-month period were 470,100 compared to 205,100 for the same period in 2011. Revenue for the first six months of 2012, was 388.7 million compared to a 192 million for the first six months of 2011, an increase of a $196.7 million or a 102.4%.
The increase in revenue was primarily attributable to the customers added with the acquisition of Continucare, the net addition of new customers risk arrangements in 2012 and increased risk scores for our customers.
Our PCPM Medicare risk revenue increased by $77 for the first six months of 2012 compared to the same period in 2011. Total medical for the first six months of 2012 were $322.3 million compared to a 156.2 million for the first six months of 2011, an increase of a 166.1 million or 106.3%. This increase is primarily attributable to the new customers added, the addition of the 19 Continucare medical practices, the addition of three medical practices and repurchase in the first half of 2011 and an increase in benefits utilization and medical cost inflation.
Our PCPM Medicare risk expense increased by $48 for the six months of 2012, compared to the same period in 2011. The increase in our PCPM expense was primarily generated by the acquisition of Continucare and the higher than average medical claims expense associated with the new HMO agreement. The increase in PCPM medical costs was lower than the $77 PCPM increase in revenue.
Our MER was 82.9% for the first six months of 2012 as compared to an MER of 81.4% for the first six months of 2011. Excluding the revenue in medical costs associated with the HMO agreement, our MER for the first six months of 2012 would have been 80.3%. To put this in perspective this compares to 81.4% and 79% for the first six months and full year of 2011 respectively.
Operating expenses increased by $20.1 million in the first half of 2012 compared to the first six months of 2011. The increase in operating expenses is primarily due to the additional expense of the Continucare and increase in amortization expense of $6.2 million and related to the amortizable intangible assets recorded in the Continucare acquisition and the increase in professional fees as a result of various projects we did not have in 2011.
Other expense increased by 15.8 million due primarily to an increase in interest expense of 16.4 million for the first six months of 2012. This related to the debt used to finance the Continucare acquisition. Net income for the first six months of 2012 was $10.8 million compared to 13.9 million for the first six months of 2011. As with the second quarter we did experience significant growth in both revenue and gross profitability during the first six months of 2012 as compared to the same period in 2011. The year-over-year decline in earnings was primarily due to the $4.4 million from the HMO agreement and 800,000 decrease in favorable claims variance in the first six months of 2012 compared to 2011 and an increase in professional fees of 1.4 million in the first six months of 2012 compared to 2011.
Now let’s look at EPS and adjusted EBITDA for both this quarter and six months, basic and diluted earnings per share were $0.07 for the first quarter of 2012 as compared to $0.15 basic and $0.14 diluted for the same period in 2011, combined the loss of the contract plus the non-recurring professional fees reduced both basic and diluted earnings per share by $0.06. Basic and diluted earnings per share for the six month period were $0.26 and $0.24 respectively as compared to $0.35 and $0.33 respectively for the same period in 2011. The EPS with the adjustments for the HMO loss and professional fees are $0.34 basic and $0.32 diluted.
Our outstanding shares at June 30, 2012 were 44.2 million, weighted average basic shares for the three and six months periods in 2012 were 43.2 million and 43 million respectively. Weighted averaged dilutive shares from the three and six month periods in 2012 were 45.6 million and 45.5 million respectively. Adjusted EBITDA from continuing operations for the current quarter were 17.6 million compared to 10.3 million in the year ago period.
If we add back the HMO loss adjusted EBITDA is $21.2 million, I should note that adjusted EBITDA from continuing operations is not defined under U.S. GAAP and may not be comparable to similar titled measures reported by other companies.
We believe adjusted EBITDA from continuing operations is useful to investors and is widely used measured performance and adjustments we make to adjust EBITDA from continuing operations provide further clarity on our profitability.
For the six months adjusted EBITDA from continuing operations for the first half of 2012 was $43.7 million up 81% from 24.2 million in the first half of 2011. With the aforementioned adjusted EBITDA is $48.1 million.
Moving on to the balance sheet, cash, cash equivalents and short term investments at June 30, 2012 totaled $44.4 million as compared to 18.3 million at December 31, 2011, an increase of $26.1 million. Our working was increased by 8.6 million since December 31 to $51.8 million and total stockholders’ equity was a 118.2 million at June 30, 2012 and a 104.6 million at December 31, 2011.
Long term debt including current portion amounted to 310.5 million compared to 320.7 million at December 31, 2011, this of course relates to the Continucare acquisition. In summary, we had a bit of bump with our new contract and we learned to transition this business overtime as we were doing with the contracts we announced this morning and I would like to note that while we focused a lot of the new HMO business, the balance of the business continues to do well. Thank you for your attention. I will now turn the call over to Joe.
Joe Guethonour - President & COO
Thank you Bob. Good morning everyone, during the conference call in May, I gave a brief report on our growth strategies, these include practice acquisitions, expansion into new markets and expanded partnerships with Medicare Advantage plans. Today I'm pleased to deliver concrete steps towards that growth strategy. As we expanded into Florida’s panhandle in January of this year, we began discussions with Humana about an opportunity to take our business model outside the state. We are pleased to announce that after several months of due diligence and negotiations, Metropolitan and Humana have agreed to enter into a joint venture. Rather than the typical contractual relationship or operating agreement, the joint venture reflects a stronger commitment between these two companies. Metropolitan will operate under its newly branded wholly-owned subsidiary Symphony Health Partners, Inc. This business unit will be responsible for markets outside of Florida and the joint venture it has entered into with Humana will service the operating model for our initial foray into Cincinnati and Indianapolis. Humana has identified markets across several states were strong partnership with proven risk providers make sense, our first expansions are in Cincinnati and Indianapolis service areas, so let me provide a brief overview beginning with Cincinnati.
The Cincinnati market is comprised of nine counties, four of which are double bonus counties in Northern Kentucky and Southern Ohio with over 235,000 Medicare eligible. While the Medicare HMO plan is only in its third year, it is a 3.5 star rated plan and has grown to approximately 7600 customers. The area boasts several sophisticated health systems with physicians who've made a commitment to the patient centered medical home model of care, in fact a significant number of practices there are recognized level three NCQA medical home. As you recall our medical practices were the first to receive this type of recognition in State of Florida. Indianapolis is a relatively new HMO market with 2300 customers after just two enrollment periods. This service area is comprised of seven counties with approximately 220,000 Medicare eligible. Mike mentioned the graduating risk of great arrangements under these contracts earlier, what this means is that the first two years we will work under a management fee while we evaluate the market build relationships with the physicians and begin to implement our various programs and systems.
We are staffing a business unit there in Cincinnati, to handle provider services, provider education, coding, data analysis and medical management functions. We believe that this is a prudent approach to new markets like Cincinnati and Indianapolis. Beginning in calendar year 2014, the joint venture will assume partial risks and moves to full risk in 2015. These markets combined represent an additional 9900 customers under management for Metropolitan. We believe that we’re appropriate addressing these new markets, they present significant opportunity as well as increased challenges since and our approach with the graduating risk arrangement. Additionally this will allow us to demonstrate to our payer partner that our model is indeed transportable. In addition to this new business, we continue to pursue other similar opportunities. I'm pleased to say that we're not lacking for opportunities at this time and we continue to pursue medical practice acquisitions in Florida and we expect to be able to announce a couple of this transaction shortly.
It's been a busy year but we're confident that we can continue to deliver value and that our results will get back on track as we move forward. A quick thanks to our medical professionals and support staff for their continued support and dedication. Let me turn the call over to Mike.
Michael Earley - Chairmand & CEO
Thanks Joe. Let me wrap up here, good report guys. Hopefully we've done a good job covering our results, talking about our growth and talking about our growing pains (ph). Ours is a risk business as it is true for most businesses really, in our healthcare industry more specifically in our government program oriented sector and business, rapid change driven by economic and reform are increasing both the level of risk and range of opportunities. We are working hard to take advantage of the experience and expertise of the highly dedicated and capable teams that we have in our terrific operating businesses, MetCare, Continucare, and now Symphony. Opportunities are expanding for us and we're choosing to stretch and to grow. With that comes some bumps but if we respond appropriately, learn and get better it will strengthen our franchise and allow for even more growth.
In some, we are better and smarter as a company than we were a year ago. We are enthusiastic about the future and look forward to next steps. We appreciate the support of many, customers, our payer partners, our clinicians, staff and managers, our investors and our lenders. Without them, without you we wouldn’t be succeeding. Thank you. Now Monica can we have your help with the question please?
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