Evolent Health Q1 2024 Earnings Call Transcript

Quartr
Provided by Quartr
May 9, 2024

There are 13 speakers on the call.

Operator

Welcome to the Evolent Earnings Conference Call for the Q1 Ended March 31, 2024. As a reminder, this conference call is being recorded. Your host for the call today from Evolent are Seth Blackley, Chief Executive Officer and John Johnson, Chief Financial Officer. This call will be archived and available later this evening and for the next week via the webcast on the company's website in the section titled Investor Relations. I will now hand the call to Seth Frank, Evolent's Vice President of Investor Relations.

Operator

Please go ahead.

Speaker 1

Thank you and good evening. This conference call will contain forward looking statements under the U. S. Federal laws. These statements are subject to risks and uncertainties that could cause actual results to differ materially from historical experience or present expectations.

Speaker 1

A description of some of the risks and uncertainties can be found in the company's reports that are filed with the Securities and Exchange Commission, including cautionary statements included in our current and periodic filings. For additional information on the company's results and outlook, please refer to our Q1 press release issued earlier today. Finally, as a reminder, reconciliations of non GAAP measures discussed during today's call to the most direct comparable GAAP measure are available in the summary presentation available in the Investor Relations section of our website or in the company's press release issued today and posted on the IR section of the company's website, ir.evolenthealth.com and Form 8 ks filed with the company with the SEC earlier today. Finally, in addition to the reconciliations, we've provided details on the numbers and operating metrics for the quarter in both our press release and our supplemental investor presentation on the IR website. With that done, I'm going to hand the call over to Evolent's CEO, Seth Blackley.

Speaker 2

Good evening and thanks for joining the call. Evolent had a strong Q1 with above expectations revenue growth and adjusted EBITDA in line with the Q1 guidance. Tonight, we'll cover updates on various fronts, including new customer arrangements, new client go lives, an announcement of the completion of our M and A integration work stream and our technology innovation agenda. Let me first provide a few highlights from our Q1 results. Revenue totaled 639.7 $1,000,000 growth of 49.6 percent year over year.

Speaker 2

This result exceeded the top end of our Q1 revenue guide of 6 $10,000,000 by almost $30,000,000 This high revenue growth is driven by strong membership in our performance suite arrangements and new specialty technology and services agreements. Evolent's specialty care offerings now account for 91% of total revenue, up from 60% just 3 years ago, enabling our organization to focus on our specialty strategy. Year over year, specialty care revenue grew approximately 69% as reported and 62% after normalizing for the NIA acquisition in January 20 23. On the membership front, we averaged 39,900,000 unique members, net of Medicaid redeterminations and new implementations during the quarter. Total product members eclipsed 80,600,000 in the Q1 or just over 2 products per unique number on average.

Speaker 2

On the profitability front, adjusted EBITDA was in line with the midpoint of our guidance at $54,100,000 Our cash position remains strong with $165,100,000 in cash and equivalents after what is always a historically high cash outflow quarter associated with higher working capital requirements that moderate as

Speaker 3

the year progresses. Let me

Speaker 2

now update you on each of our three principles for shareholder value creation of 1, strong organic growth 2, expanding profitability and 3, disciplined capital allocation. On the first principle of organic growth, we announced are announcing today that we signed 3 new revenue agreements during the Q1. 2 of our new revenue agreements are with Molina, building on that highly successful long term partnership. We will be implementing both We anticipate implementing these solutions by the Q4 of this year. Financially, we anticipate the impact of South Carolina and Mississippi to contribute together at least $50,000,000 of new annual revenue contribution once live.

Speaker 2

The addition of these states increases our presence with Molina to 9 states after these two states go live. Our revenue will be below 50% of the total opportunity at Melina within the current scope of services we provide today, excluding new solutions like MSK Performance Suite, leaving what we believe to be a significant opportunity to continue standing Evolent Medicaid health plan on the East Coast. This health plan will be adding our MSK specialty offering to help manage orthopedic surgery costs, utilization and outcomes. We anticipate implementing this solution in the Q3 across several 100,000 Medicaid members. This contract will contribute towards the $4,000,000 of quarterly adjusted EBITDA earnings go get we provided in our bridge illustration for achieving the 2024 year end exit adjusted EBITDA target.

Speaker 2

Today's announcements bring us to 7 new revenue agreements year to date. In addition to new revenue agreements, Q1 was productive for successful go lives. In total, we launched 25 specialty go lives across multiple health plan customers for the Performance Suite and the Technology and Services Suite. These included major go lives and new geographies for Performance Suite including oncology and cardiology for Molina in Florida and cardiology for Florida Blue. During the quarter, we also began a national implementation with Centene for our MSK Technology and Services suite covering several million members.

Speaker 2

Recall, we announced this agreement back in February, fulfilling a significant portion of the promised initial revenue synergies from the NIA acquisition. From a macro perspective, industry demand remains very strong. Beyond our normal product value proposition, healthcare utilization pressure and health plan margin pressure are accelerating our core inbound sales opportunities. Our belief is that typical savings levers outside care are more limited in the current environment, making high cost specialty management a critical and growing focus for health plans. As a result of these factors, our sales pipeline remains very strong, driven by interest in both regional and large national health plans.

Speaker 2

As a result of all of these dynamics, we are raising the midpoint of our revenue guidance for 2024 by $115,000,000 as John will detail shortly. Moving to our 2nd operating priority, expanding profitability. I'm excited to announce that in March, we successfully wound down the NIA transition services agreement we had in place since January of 20 23 with NIA's former owner. The transition was the largest and most complex IT project in the company's history involving hundreds of professionals globally. Most importantly, we were able to continue serving all of our customers with limited disruption.

Speaker 2

I want to thank the Evolent teams who worked tirelessly through weekends to achieve this important transition. This transition in the quarter marks another important step towards our year end run rate EBITDA target and the achievement of our $15,000,000 of NIA cost synergies. Next, I'm pleased to share that we continue investing in the artificial intelligence opportunity at Evolent through our initial product testing. Based on our work thus far, we believe that there's a significant opportunity to reduce the costs for specialty case review while maintaining or even enhancing service quality and providing a superior user experience. As additional benefit of our AI investments, we expect we'd be able to redeploy our human capital pool to higher value word streams that improve our product and our value proposition.

Speaker 2

We expect these benefits to begin making a more significant impact in 2025. 3rd, our results in Q1 demonstrate the benefit of our balanced approach to value based specialty care with earnings growth from both our non risk and risk products and our non risk products continue to account for approximately 70% of our annual adjusted EBITDA. As John will share in detail, we saw increased utilization in our Performance Suite risk business in Q1 and we have lower data visibility than is typical for this point in the year. Those factors do impact our Q2 guide. But because our data visibility will increase across the year, because the increases in utilization have moderated across early Q2 and because of the contractual protections available to us around prevalence and other population changes that John will detail, we remain confident in our 2024 exit run rate adjusted EBITDA commitment of $300,000,000 and our annual guidance.

Speaker 2

Finally, I'm proud of the team for continuing to drive efficiency as we grow with our SG and A expense down sequentially versus Q4 despite substantial revenue growth. And I feel we've been able to drive these efficiencies while maintaining a strong culture and talent orientation. Regarding our 3rd investment theme of disciplined capital allocation, our principles remain consistent with our communications over the last few years, which are ensuring strong organic innovation, carefully managing to our leverage targets and pursuing accretive M and A to accelerate our leadership position in value based specialty care. With respect to organic innovation, we have consistently talked about building more services to help members and their families navigate their conditions in their moments of need. Our strong belief is that shared decision making with an engaged member helps drive the highest quality, most efficient care.

Speaker 2

We've addressed this opportunity thus far through our end of life solution, which we primarily bundle into our performance suite. Our data shows that when our end of life solution is integrated with our oncology and cardiology solutions, we have materially higher member engagement rates, generating greater referrals into palliative care, reducing the overall total cost of care versus the status quo, while most importantly, aligning clinical care with patient identified goals and values in order to improve their quality of life. Last August, we also announced a pilot program with a large Blue Cross Blue Shield plan partner to offer shared decision making and better navigation of the healthcare system for patients diagnosed with cancer. Today, we're accelerating this initial navigation work by announcing a strategic partnership with Careology, a privately held U. K.-based company what we believe to be the most robust digital cancer care platform available.

Speaker 2

The Caryology platform is being used extensively across the U. K. National Health Service to connect patients to caregivers, to monitor and report symptoms associated with chemotherapy and to monitor vital signs and overall well-being. In addition, the platform manages schedules, appointments and the overall care process. We believe this solution will help manage the cost and quality of our Performance Suite members as a bundled offering and potentially become an Evolent technology and services offering in the future.

Speaker 2

From a business perspective, Evolent has secured the exclusive long term right to distribute and integrate the product in the United States for the payer market. We believe this patient navigation arrangement is another good example of both innovating our solution and doing so in a capital efficient way. Before I hand it to John to talk through our financials and guidance, I want to take a step back and comment on where I believe Evolent is headed in the future. First, we are proud to have built an incredible and what we believe is a differentiated specialty platform, currently growing organically at over 50% annually, driving strong profitability and cash flow. The strong growth and profitability we believe are indicators of customer confidence and our ability to innovate and execute over the long term.

Speaker 2

2nd, a rising utilization environment creates significant financial and operational pressures on health plans, requiring more innovative solutions given the need to aggressively manage utilization pressures in specialty care. This will create, I believe, an important opportunity for our company for years to come. And 3rd, our innovation across areas like patient navigation, artificial intelligence and specialty expansion all provide meaningful opportunities to accelerate our platform. We understand the investing environment for small and mid cap publicly traded healthcare organizations has been challenged as of late and Evolent is no exception. However, we remain very optimistic about our future and fully committed to using all the tools available to ensure shareholder value creation.

Speaker 2

With that, let me hand it to John.

Speaker 3

Thanks, Seth. We are pleased with our Q1 results and anticipate the continued solid outlook for 2024. We are raising the midpoint of our revenue guidance by $115,000,000 and reiterating both our in year adjusted EBITDA outlook of $235,000,000 to $265,000,000 and our 2024 year end exit run rate of $300,000,000 in adjusted EBITDA. Revenue growth was nearly 50% year over year versus the same quarter last year, outperforming internal and external expectations from two factors. First, about $25,000,000 from membership growth across our performance suite, and we expect this level to be the new quarterly baseline for the rest of the year.

Speaker 3

2nd, based on CMS data we received in the quarter and our consistent revenue recognition policies, we recognized an additional $18,000,000 in shared savings for MSSP performance year 2023, along with an offsetting expense accrual of $14,000,000 in gainshare for our physician partners for 4,000,000 dollars of adjusted EBITDA. Both items were ahead of our expectations for this time in the year. Note that consistent with our past practice, our cumulative accrual for Py 2023 shared savings remains at the conservative end based on data received to date, and we anticipate an incremental step up once final settlement data is received in Q3. Demand for our technology and services product also continues to be strong. We generated Q1 revenue of $89,000,000 despite losing an estimated $6,000,000 in quarterly tech and services revenue to Medicaid redeterminations and conversions to our performance suite, representing underlying year over year growth of nearly 25%.

Speaker 3

Regarding Medicaid redeterminations, we estimate that the process for our Medicaid population was over 80% complete as of threethirty 1 and we estimate a same store weighted membership decline of 10% as of same date. Recall that our biggest Medicaid states started the process later, so our commentary here differs slightly from national MCOs. Our outlook continues to anticipate a gross decline in the mid teens when the process is complete in the summer, consistent with our expectations and our initial forecast in 2023. Turning to profitability. We continue to drive efficiencies in our cost structure as we grow with adjusted SG and A costs of 8% of revenue, down by 166 basis points sequentially versus Q4.

Speaker 3

Adjusted gross margin in the quarter was 16.4%, down 185 basis points sequentially versus Q4. The change in gross margin is principally driven by growth in our Performance Suite products combined with higher unit medical expenses. The drivers of medical expenses in the quarter are as follows. 1st, net favorable prior year claims development quarter was approximately $15,000,000 consistent with our expectations and demonstrating our continued prudent actuarial processes and conservative approach to reserving in our risk business. This $15,000,000 was associated with revenue refunds to our clients from corridors of approximately $10,000,000 for an approximate net $5,000,000 benefit to gross profits, again consistent with our expectations.

Speaker 3

This favorability was offset by higher estimated medical expenses for Q1, driven both by lower data visibility and our continuous review of leading indicators. On the first, because of dynamics impacting our partners, including the change health care outage, we closed the quarter with lower claims visibility than is typical, even for long standing clients. This is exacerbated by the volume of recently launched Performance Suite revenue, approximately 2.5 times more than the same quarter last year, which typically has lower visibility overall. The mechanics of this lower visibility in our reserving approach combined with macro commentary across the industry regarding elevated utilization create incremental conservatism for the Q1 and our guide for Q2. 2nd, we incorporate leading indicators like volume and disease prevalence from authorization requests into our reserving models and our reliance on these leading indicators is higher if our claims visibility is lower, like it was for this quarter.

Speaker 3

During the latter part of the Q1, we saw increasing activity on these indicators rising to a peak in March. This observed activity from our authorization data was in both oncology and cardiology specialties for particular markets in both MA and Medicaid. Note that these indicators declined in April from their March peak. Now as a reminder, we've previously highlighted 2 distinctive features of our model. The first is that we have intentionally built a diversified business that balances both risk and non risk products, and we continue to generate close to 70% of our expected adjusted EBITDA across the year our Technology and Services business.

Speaker 3

And so any potential impact of higher utilization in our performance suite is buffered by the other 2 thirds of our EBITDA guide. The second is that our Performance Suite products typically contain certain contractual protections that may adjust our capitation rates based on population changes outside of our control. So as Q1 claims complete and our visibility improves, if these elevated leading indicators translate into elevated paid claims, we estimate that over 70% of the reported cost increases in Q1 can be addressed by contractual adjustments resulting in rate changes over the next 3 to 12 months. It is important to note that this is a normal course part of our business. Over the last few years, we have regularly used these mechanisms to work with our partners to update rates for changes at the market and line of business levels.

Speaker 3

You will also recall that we included in our original adjusted EBITDA guidance for 2024 a $10,000,000 buffer for changes in medical utilization based on dynamics in the market. If the leading indicators from Q1 persist beyond March and translate into claims, we will be quickly implementing the contractual changes available to us. However, there may be a timing lag between that elevated cost and increased fees to Evolent, which could cause our results for Q2 to be adversely impacted. As a result, we are taking a conservative approach to our adjusted EBITDA guidance for Q2 with a range of $48,000,000 to $62,000,000 Let me be specific about what could take to the high or the low end of this range for the Q2. In scenarios where the leading indicator data in late Q1 is transitory and or we obtain increases in our capitation rates for the quarter, we could see the top end of our range for the quarter or beyond.

Speaker 3

In scenarios where that leading indicator data translates into persistently elevated claims expense and the process for obtaining corresponding rate increases extends beyond the quarter, we could see the lower end of the range. Because trends mitigated in April and because we have several levers to drive profitability across the year, including but not limited to these contractual protections I mentioned, we remain confident in our full year adjusted EBITDA guidance and our $300,000,000 exit run rate target. Let's go through the path to that exit run rate target further updating the bridge we provided on the February call. On Medicaid redeterminations, currently we are running in line relative to our forecast for a $3,500,000 quarterly headwind versus Q4 2023 with 1 quarter to go. We estimate a Q1 in quarter impact of about $2,500,000 On NIA synergies, as Seth discussed, we are on track to realize the total $8,750,000 quarterly benefit by the end of this year across both cost and revenue items with about half of this value included in Q1 results.

Speaker 3

On the performance suite, we are still early in our journey to capture the first leg of maturation that drives the $12,500,000 quarterly expectation here. But we are pleased with the leading indicators of value creation in populations launched in 2023 2024. Authorization data suggests that new plan members under our management are on average experiencing higher quality, more cost effective treatment regimens in oncology and cardiology, and we look forward to seeing these shifts reflected in the claims data. Finally, on the organic growth side, we estimate that the combination of strong membership performance and recently announced packaged services deals closes approximately 25% of our quarterly adjusted EBITDA go get, leaving just under $3,000,000 as a go get. Shifting to cash generation.

Speaker 3

First, we remain on track to meet or exceed our target of $150,000,000 in cash flow from operations for calendar 2024. Recall that the Q1 of the year is seasonally our biggest use of cash given the timing of working capital changes. 2nd, after the quarter closed, we closed out the NIA earn out for $88,750,000 slightly ahead of our initial expectations based on what has been a very successful acquisition that was additive to our corporate performance during 2023. We elected to fund 100% of this earn out in cash, avoiding dilution to our common shareholders. Turning to guidance.

Speaker 3

For the full year, we are raising our revenue outlook to between $2,530,000,000 $2,600,000,000 and reiterating our adjusted EBITDA outlook of between $235,000,000 and 265 as mentioned above. We continue to expect capitalized software development of approximately $30,000,000 and total cash flow from operations in excess of $150,000,000 including the technology initiatives discussed. For the Q2, we are anticipating revenues between $625,000,000 $645,000,000 and adjusted EBITDA between 48,000,000 $62,000,000 In closing, we remain confident in the value of our unique and diversified platform, and we are excited continue driving value for shareholders, employees and the partners and patients we serve. With that, we will now open it up for Q and A.

Operator

We will now begin the question and answer Our first question today comes from Ann Samuel with JPMorgan. Please go ahead.

Speaker 4

Hi, this is Kyle Aikman on for Annie. Congrats on the quarter and thanks for taking my question. I was wondering if you could touch more on the macro payer landscape, things that you could point to that are pressuring these health plans. Has this gotten incrementally worse in the quarter? And does this mean that deals are closing quicker?

Speaker 4

How is it benefiting Evolent in the long term? Thank you.

Speaker 2

Yes, sure. Happy to take that one. So look, I think it's a bit of a perfect storm on the payers over the last handful of quarters. One piece is reimbursement, one piece is around B-twenty eight risk adjustment, one piece is around pricing and benefits and one piece is around utilization. And I think the fact that those are all hitting kind of over the last 6, 9 months has created a lot of pressure that we all know about.

Speaker 2

And I think one of the remaining levers that's available to the payer community is obviously around specialty management. So that's become, I'd say, one of the top 1 or 2 issues when we talk to most of these payers is how do I better manage specialty costs if I can't do as much on risk adjustment or as much with primary care, much go down the list. And so it has definitely increased interest in what we're doing. I think it's increased the imbalance to the top of the funnel. I wouldn't say it necessarily has accelerated the sales cycle, but I think it's there's just generally a lot more in the funnel.

Speaker 2

And it may we'll see, it may increase sales cycle in certain situations, but it definitely added a lot more to the funnel. And I think it what I really like about this dynamic is even setting aside the more immediate pressures, I think it's very clear this management of these high cost specialties is a very long term issue. A lot of it is driven by pharmacy innovation and the like that's not going away.

Speaker 4

Amazing. Thank you.

Operator

The next question is from Jeff Garo with Stephens. Please go ahead.

Speaker 5

Yes, good afternoon. Thanks for taking the questions. Maybe we can dig in a little bit on the topic of the contractual protections. And you mentioned the 3 to 12 month lag on capturing any potential rate changes. That's a bit of a wide range of time and some of it could fall out of FY 2025 at the high end of that range.

Speaker 5

So maybe you could help us further understand how that timing would most likely play out and how a rate change would also play out in terms of either retrospective or prospective adjustments to your rates and in turn revenue? Thanks.

Speaker 3

Yes. Good questions, Jeff. So I'll hit 3 things. First, on the retrospective question, many of these changes do occur retroactively. That's an important piece here.

Speaker 3

The second thing I'd note is that in each of these contracts, the way it's treated is different. And that has to do with the particular payers' needs and how that particular contract is structured. The last piece that I'd say is that 12 months is from threethirty one, right, from the end of Q1, so in place by Q1 of next year as we're exiting this year.

Operator

The next question is from Kevin Caliendo with UBS. Please go ahead.

Speaker 6

Hi, good afternoon, everyone. It's Andrea Alfonso in for Kevin. John, thank you so much for providing all that color on why sort of the inputs for that wider range in 2Q. I wanted to just dig into that a little bit. I think the key question being how much is that directly related to sort of that lower claims visibility on change versus that leading indicator volume.

Speaker 6

You had talked about guidance building in a $10,000,000 buffer for EBITDA. How does that tie in versus sort of these renewed expectations for 2Q? And then just as a follow-up for that, apologies for the loaded question, but are you embedding onboarding costs for some of these customers versus prior expectations that could be depressing that number as well? Thank you so much.

Speaker 3

Yes, good questions, Andrea. On the mix question, how much of this to the outlook and conservatism is from leading indicators that we're seeing, in particular, we saw in March versus lower claims visibility. I think the truth of the matter there is they're inextricably linked. And in situations where we have lower claims visibility, we have to rely more on leading indicators And the leading indicator reserving is naturally more conservative. And so they sort of reinforce each other.

Speaker 3

And what I would say also is

Speaker 7

in a quarter where

Speaker 3

we have the, we'll call, normal level of visibility where that's less of an issue, we would place less reliance on the change, 1 month's worth of change in leading indicators. So there's that's how we think about that. On your second question around startup costs and otherwise, those are incorporated in the outlook, typically not that significant sort of operational lift get these contracts

Operator

live. The next question is from Charles Rhyee with TD Cowen. Please go ahead.

Speaker 7

Yes. Thanks for taking the question, guys. I wanted to talk a little bit more about these leading indicators and just sort of because I know in the last couple of quarters when you've been asked about how utilization is trending, you've kind of commented that it's been in line with your expectations. Here you're kind of talking that you're seeing some change, but that you've also seen start to moderate. I guess when you're in the context of when you're signing new partnership deals, particularly, let's say, the new ones here with Molina, how do you factor in then the trend that you're seeing at the moment as it gets factored into the agreement?

Speaker 7

Is that a moving target then for each new partner as it gets signed at that moment in time?

Speaker 3

That's a good question, Charles. I'll reiterate what I said earlier that it does depend on the specific contract with a specific partner, it varies. But in most cases, for these sorts of moments, we will have what we call a true up embedded in the contract that resets the capitation rate upon go live based on trends to that point. So for example, if we go live on September 1 or October 1, we would reset the capitation rate for that contract based on claims through that point.

Operator

The next question is from Jessica Toussaint with Piper Sandler. Please go ahead.

Speaker 8

Hi, guys. Thanks so much for taking the question. I just want to verify you guys saw positive prior year development related to MSSP in the Q1 of 2024? And then can you just I guess, our understanding was that these MSSP reconciliations hit in the Q3. So just can you verify that you had not that you have not recognized any prior year development related to MSSP in 3Q 2023 and that I guess this Q1 recon was the first that you've seen?

Speaker 8

Thanks.

Speaker 3

Yes. Let me go through just how we do revenue recognition for MSSP. Typically, we will start recognizing revenue in the Q3 of the performance here. And so the first dollar of revenue we recognized for the 2023 performance year, which is Q3 of last year. And each quarter we received from CMS an updated claims file, other external factors, regional benchmarks and risk adjustment information and so on that allows us to narrow our actuarial range.

Speaker 3

And each quarter, we're then doing a true up based on that narrowed range.

Operator

You know our orientation is to be conservative here. And so

Speaker 3

as we're doing that true up each quarter, we're remaining on the conservative end. We're still booked well below where the percent shared savings came out for QY 2022, for example. And we'd expect to true up to the final number in this Q3 when we get the final settlement information.

Speaker 8

Awesome. That's so helpful. And then my quick last question is on the Medicaid redeterminations, did you see an incremental sequential headwind related to Medicaid redeterminations or was the number you cited in aggregate? Thanks.

Speaker 3

Yes. Good question. That was incremental. And so said another way, cumulatively, since the whole process began, we have seen a headwind of $5,500,000 per quarter, a headwind to adjusted EBITDA. That's consistent with our expectations.

Speaker 3

It's about where we thought the quarter would end.

Speaker 8

Perfect. Thanks.

Operator

The next question is from Ryan Daniels with William Blair. Please go ahead.

Speaker 9

Yes, guys. Thanks for taking the question. Congrats on the strong start to the year. I hate to ask another one on this, but you probably anticipated it. In regards to the leading indicators peaking in March and then declining in April, if we take a broader purview and look at the data through the first 4 months of the year, acknowledging it's somewhat limited due to change.

Speaker 9

But if we look at the 4 month period, how does that period reflect upon your guidance for the full year and assumptions for the performance suite?

Speaker 3

Yes. It's a good question, Ryan. I think what you're seeing here in our Q2 guide is that $10,000,000 buffer that we talked about for the full year. And so the if March is a new normal, right, then we would initiate some of these contractual protections and we may be in the lower end of that guide. If March was an aberration and April is more normal, more like the rest of the year, then we could be close to the higher end of the guide.

Speaker 3

So it's always a little tricky in a risk business to draw a line between just two points. So we've sought not to do that. But given the lower visibility, it feels appropriate at this time.

Speaker 9

And then a quick follow-up, if I could. Regarding the contract provisions you have, are those kind of automatic where you just go back with the data and there's an agreement for things like if there's increased cancer prevalence, that's not your fault. You're paid to manage the cases, not to avoid cases. So is it automatic or do you have to go back and actually kind of negotiate things with these payers? Thanks.

Speaker 3

Yes. It depends on the specific contract. Generally speaking, the contracts will outline the specific sort of calculations and corridors and there is a real mathematical element to it. Okay. Perfect.

Speaker 2

Yes. Ryan, it's Seth. I'll add one other comment to your question, but also Jeff's question earlier. As we said in the prepared remarks, this is not sort of a new territory for us. This is something we regularly participate in each year.

Speaker 2

It's a little bit different this year given the data, but it's not really a different process. So we understand how it works. We've done it multiple times in the past. And this or just Q2, it's with a lot of experience having done this many times before and have a pretty good sense of how it'll play out.

Speaker 9

Yes, that's a good call. And I think there's just heightened sensitivity to it, but that makes a ton of sense. So thank you.

Speaker 2

Yes.

Operator

The next question is from Jayalindra Singh with Chua Securities. Please go ahead.

Speaker 10

Thank you and thanks for taking my question. Actually, I want to go back to the gross margin discussion. Can you speak to your 180 basis point decline in the quarter? So MSSP revenue, which came through, likely helps the gross margin, but offsetting you called out more performance revenue, higher results on claims visibility and authorization. Can you provide a little bit more granularity like on the individual buckets on those gross margin impact?

Speaker 10

And related to that, how do you think about gross margin trends for us of the year?

Speaker 3

Yes. Let me take that last question first, Jalinder, and then I can add a little bit more color. As we've sort of gone through before, the biggest driver of our enterprise percent gross margin is the mix between Performance Suite and Tech and Services. And so what you saw in Q1, what you saw in Q4, true also was the impact of continued rapid growth in the Performance Suite, which has a lower gross margin. It's also true because of a lot of new go lives.

Speaker 3

For example, we had over $125,000,000 of performance revenue in the quarter that was still relatively new and contributing minimally to the gross profit line. If you were to pro form a that closer to target margins, that would increase enterprise gross margins by 230 basis points plus. So as we think about gross margin trends across the year, absent new go lives in the Performance Suite, we would anticipate them ticking up, right? And as we think longer term, it's going to continue to be driven by the mix of our growth between the Performance Suite and the Tech and Services Suite, which as I sort of highlighted in the prepared remarks, we seek to have a balance.

Speaker 10

And then my quick follow-up, actually I want to go back to 2025 MA final notice, clearly a lot of focus there. I want to ask the question to you. Like first, how are your conversation with payers progressing in terms of carving out some risk for new customers or taking more risk with existing customers because of the cost pressure they're seeing? And would be curious on your thoughts regarding potential membership changes that might occur in 2025 as some plants focus on pricing for margin. Just maybe provide some color

Speaker 3

there. Yes. Seth, do you want to talk about the conversations?

Speaker 2

Yes. Look, I think, Joanna, what I would say is that, as I mentioned in the prepared remarks, just a lot of pressure on the payer community right now, which is driving good demand in the product. And I continue to think that our ability to more effectively manage these categories, whether it's under Performance Suite or Tech Services, that is a platform opportunity that I think we accrue over time. And we continue to take market share and grow for that reason. In terms of the negotiations to your very specific question, I don't think a lot has changed there.

Speaker 2

We have always had a number of different protections. It's always part of the conversation. It's always part of the negotiation to get those aligned in terms of how it's set up. One of the things that's also true is that we can do it different ways. We have relationships where baked in the trend is much higher, our trend on our fee, meaning our annual inflator on the fee is pretty significant because we're taking fewer protections and the opposite can also be true.

Speaker 2

And there's not been a huge change there. To the earlier question, obviously, we have to take in the most recent data and pick the right market based trend to use in that negotiation. But that's a fact that's not that hard to get our hands around

Operator

and

Speaker 2

get a line done. So that's sort of the dynamic in the marketplace. And again, there's some puts and takes on these kinds of moments. I think as we've been saying for a while, we think it's a net positive, the pressure that exists in the market in terms of the demand side.

Speaker 10

Thanks a lot.

Operator

The next question is from Sean Dodge with RBC Capital Markets. Please go ahead.

Speaker 11

Yes, thanks. Just on the performance suite indicators, I guess, can you give us any more detail on why you think it stepped up in March? Was it concentrated was this concentrated in any particular geography or payer or population? And was it you said volume, so it sounds like it was more tied to prevalent than it was cost, but correct me if I'm wrong there?

Speaker 3

Yes. You're not wrong, Sean. We see in that authorization data, the majority of the increases driven by what we see as changes in the population, so things like disease prevalence. I'd say they're not localized a particular geography or line of business. There are pockets here, pockets there.

Speaker 3

And something obviously that we're watching closely as we go through this quarter.

Speaker 1

Okay, thanks.

Operator

The next question is from Daniel Grossleit with Citi. Please go ahead.

Speaker 4

Hi. Thanks for taking the question. Last quarter, you mentioned that you would expect to see around 10 percentage points of margin improvement of 2023 Performance Suite launches in 2024 similar to what you saw from 2022 to 2023. Given some of these utilization pressures, are you still comfortable with the assumption around margin improvement of 2023 Performance Suite launches? And as you look at utilization and some of these pressures, is there any difference between newer launches versus more mature launches or more mature Performance Suite arrangements?

Speaker 3

Yes. Both good questions. Let me take the second one first. There is not. So this isn't a specific to a new population or more recent growth.

Speaker 3

It really is in sort of pockets of both older clients and newer populations. To your first question, are we still confident in that 10% execution in the margin maturation for the Performance Suite as we're exiting this year, the answer is definitively yes. We feel very good based on what seeing in terms of the interventions that we're doing, the value that we're creating, the incremental quality that we're delivering to those members. It is true that we may need to adjust a capitation rate or 2, as we sometimes do. But on the our ability to create value by lowering the cost of care, we feel very good about that.

Speaker 3

Got it. Thank you.

Operator

The next question is from Jack Wallace with Guggenheim. Please go ahead.

Speaker 11

Hey, thanks for taking my questions. Just wanted to get an idea for the

Speaker 3

it sounds like the end market is building quite

Speaker 11

a bit of demand. And you're thinking about the Performance Suite, if you're able to pull in more new customers for the Performance Suite and transfer or transition some of your tech and services customers to Performance Suite, is there a potential that enough of that demand would put an impact on your year end EBITDA target? As said differently, would any of the upfront costs and actuarial assumptions for the incremental Performance Suite lives potentially be a drag in a good scenario for the medium and long term? Thank you.

Speaker 2

Yes, Jack. So good question. I don't think so for this year. We continue to, first of all, have a nice pipeline across Performance Suite and the tech and services side, it's pretty balanced if I looked at what's in there. And so I don't see a skew, point 1.

Speaker 2

And then I'd say the second point would be just that, don't think at this stage in the year, there's from a timing perspective likelihood that, that would happen. And even as we look into next year, if you ask the question differently, I think it's the same response, which is we continue to have a pretty balanced pipeline. We like it that way. We've sort of always liked the balance between the two segments for the reasons that we've been talking about and that continues to be what it looks like.

Speaker 11

Excellent. Thank you. And then how should we be thinking about the economics from the Paraology deal? It sounds like it's a pretty interesting partnership. Should we think about that as some potential upside for this year?

Speaker 11

Is that really more of a 20 25 story?

Speaker 2

Yes, Jack. So we are very excited about Careology too. The team is our team has done a great job there, team. It's exciting partnership. I think that it's not going to have an effect on this year.

Speaker 2

We'll probably go live with our first health plan partner late this year, if I had to guess. So it's down the road a little bit. And we're going to really be targeting our Performance Suite relationships first. And at some point, it may become a tech and service product as well, but it's really about embedding it into our Performance Suite relationship similar to what we do with our end of life product.

Speaker 3

Got it. Thank you. Sure.

Operator

The next question is from Stephanie Davis with SVB Leerink. Please go ahead.

Speaker 6

Hey, guys. I'm actually Hood Parkland. Glad to be in my new home. But thank you for taking my question. You provided a really helpful bridge on profitability.

Speaker 6

I was hoping to split hairs a little bit more and ask which of these like the new wind mix would be more of an impact to gross margins and which of these we should think of as a headwind to gross profit dollars?

Speaker 3

I'm not sure I understand the question, Stephanie, sorry.

Speaker 6

So is there a reason you would see a year over year decline in gross profit dollars as opposed to just a headwind to gross margin mix?

Speaker 3

Good question. Yes. So from Q4 to Q1 gross profit is relatively flat, largely driven by the sort of elevated indicators in March, as I mentioned. As we go through this year, continue to drive performance in the performance suite and cost improvements that I mentioned, get the benefit of some of the new launches that we've seen, which are mostly in the tech and services suite in the first half of this year, that should drive it forward. And then when the newly announced Molina deals go live later this year, you'd see another dip on the percentage side, but I wouldn't necessarily anticipate a dip there on the dollar side.

Speaker 3

We expect that to continue to grow as we sort of laid out the EBITDA ramp continuing to grow.

Speaker 6

All right, helpful. Thank you. And just a quick one on the Molina contracts. How should we think about what would happen if Molina loses Florida? Does that have any impact to your business?

Speaker 3

Yes. Too early to say what happens. We're not close to it. I think that we previously spec'd out that sort of Molina, Florida revenue in Medicaid at less than $50,000,000 So that would be the top line impact, if something were to change there.

Speaker 6

All right, helpful. Thank you so much.

Operator

The next question is from David Larsen with BTIG. Please go ahead.

Speaker 12

Hi, congratulations on the good quarter. For the $300,000,000 of annualized EBITDA, should we be thinking about $75,000,000 of EBITDA for the Q4 of 'twenty four? Or does the $300,000,000 of annualized EBITDA mean in December of 'twenty four, you'll trending at like onetwelve of $300,000,000 of annual EBITDA? Thanks very much.

Speaker 3

Yes, Dave. The way that we think about it is it's an exit number. And so Q4 is probably a little under that and Q1 is probably a little over that.

Speaker 12

Okay. And then in terms of the different components to getting to the $300,000,000 there's Performance Suite maturation, there's new growth and then there's earnings from NIA and IPG. Just any update on those numbers would be great, in particular like the new growth figure, I think that was $50,000,000 Just are those all tracking in line with or ahead of expectations?

Speaker 3

Yes, In line. So we mentioned from the NIA synergies anticipating 8 point $75,000,000 in quarterly benefit there. About half of that is already in Q1 and well on track to achieve the rest of that. So you commented on the performance suite already and on the new growth mentions that with the 7 new relationships that we've already announced, 7 new agreements we've already announced this year and strong membership, taking that go get to under just under $3,000,000 a quarter.

Speaker 12

Great. Thanks a lot. And then just quickly on cash, just expectations for cash flow for the year or free cash for the year. And then how should we be thinking about that for 2Q, 3Q, 4Q? And how does that compare to EBITDA, please?

Speaker 12

Thank you.

Speaker 3

Yes. Reaffirmed our expectation of $150,000,000 or more in operating cash flow for the year. Q1 is right in line with our expectations on that metric and we'll build cash across the year.

Speaker 12

Thanks very much. Appreciate it.

Operator

This concludes our question and answer session. I would like to turn the conference back over to Seth Blackley for any closing remarks.

Speaker 3

All right. Thank you for

Speaker 2

the questions tonight and we'll look forward to catching up offline. Have a good evening.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.

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Earnings Conference Call
Evolent Health Q1 2024
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