We own our corporate office headquarters building located in St. Louis, Missouri. During 2008, our capital expenditures included land and fees for the construction of a new real estate development on the property adjoining our corporate office, which we believe is necessary to accommodate our growing business. We are currently negotiating our involvement as a joint venture partner in the entity that will develop the relevant properties.
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the related notes included elsewhere in this filing. The discussion contains forward-looking statements that involve known and unknown risks and uncertainties, including those set forth under Item 1A. “Risk Factors” of this Form 10-K.
We are a multi-line healthcare enterprise operating in two segments. Our Medicaid Managed Care segment provides Medicaid and Medicaid-related programs to organizations and individuals through government subsidized programs, including Medicaid, the State Children’s Health Insurance Program, or SCHIP, and, Supplemental Security Income including Aged, Blind or Disabled programs, or ABD. Our Specialty Services segment provides specialty services, including behavioral health, individual health insurance, life and health management, long-term care programs, managed vision, nurse triage, and pharmacy benefits management, to state programs, healthcare organizations, employer groups and other commercial organizations, as well as to our own subsidiaries. Our Specialty Services segment also provides a full range of healthcare solutions for the rising number of uninsured Americans.
In October 2008, we began operating under our contract in Arizona to provide Acute Care services in Yavapai county, with 14,900 members at December 31, 2008.
In 2007, we acquired PhyTrust of South Carolina, LLC, as well as Physician’s Choice, LLC, both of which managed care on a non-risk basis for Medicaid members in South Carolina. We became licensed in 2007 to provide risk-based managed care in the State and participated in the transition of the State’s conversion to at-risk managed care. We served 31,300 at-risk members in South Carolina at December 31, 2008.
In February 2007, we began managing care for ABD recipients in the San Antonio and Corpus Christi markets of Texas with 34,600 members at December 31, 2008.
In 2007, we began managing care for ABD members in Ohio, with 13,900 members at December 31, 2008.
In November 2008, we announced the planned acquisition of certain assets of AMERIGROUP Community Care of South Carolina. We expect this acquisition to close during the first quarter of 2009.
Our Medicaid Managed Care segment generates revenues primarily from premiums we receive from the states in which we operate health plans. We receive a fixed premium per member per month pursuant to our state contracts. We generally receive premium payments during the month we provide services and recognize premium revenue during the period in which we are obligated to provide services to our members. In some instances, our base premiums are subject to an adjustment, or risk score, based on the acuity of our membership. Generally, the risk score is determined by the State analyzing encounter submissions of processed claims data to determine the acuity of our membership relative to the entire state’s Medicaid membership. Some states enact premium taxes or similar assessments, collectively, premium taxes, and these taxes are recorded as a component of revenues as well as operating expenses. Some contracts allow for additional premium associated with certain supplemental services provided such as maternity deliveries. Revenues are recorded based on membership and eligibility data provided by the states, which may be adjusted by the states for updates to this data. These eligibility adjustments have been immaterial in relation to total revenue recorded and are reflected in the period known.
Our Specialty Services segment generates revenues under contracts with state programs, healthcare organizations, and other commercial organizations, as well as from our own subsidiaries. Revenues are recognized when the related services are provided or as ratably earned over the covered period of services.
From December 31, 2007 to December 31, 2008 our membership increased as a result of growth in Indiana and Texas. In Texas, we increased our membership through organic growth of SCHIP, especially in the Exclusive Provider Organization, or EPO, market. In addition, we increased Texas membership through our new Foster Care program, with 33,100 members at December 31, 2008. We increased our membership in Indiana through temporary eligibility determinations and network expansions. Our membership decreased in Wisconsin due to the termination of certain provider contracts. In South Carolina, we continue to add at-risk membership as additional counties convert, with 31,300 at-risk members at December 31, 2008. Substantially all of the prior year membership in South Carolina was on a non-risk basis. In Florida, Access served 97,100 members on a non-risk basis at December 31, 2008.
In November 2007, we received a contract amendment from the State of Georgia providing for an effective premium rate increase in Georgia of approximately 3.8% effective July 1, 2007. The state also mandated service changes, retroactively recalculated certain rate cells and adjusted for duplicate member issues. We executed this amendment on November 16, 2007. The State of Georgia returned the fully executed contract in January 2008 and, accordingly, we recorded the additional revenue, retroactive to July 1, 2007, in the first quarter of 2008. This premium revenue, related to the period from July 1, 2007 to December 31, 2007, totals approximately $20.8 million. Approximately $7.3 million of this amount is related to the mandated services, rate cell changes and duplicate member issues, the remaining $13.5 million yields the calculated 3.8% increase.
The following table sets forth our membership by line of business in our Specialty Services segment:
Our medical costs include payments to physicians, hospitals, and other providers for healthcare and specialty services claims. Medical costs also include estimates of medical expenses incurred but not yet reported, or IBNR, and estimates of the cost to process unpaid claims. We use our judgment to determine the assumptions to be used in the calculation of the required IBNR estimate. The assumptions we consider include, without limitation, claims receipt and payment experience (and variations in that experience), changes in membership, provider billing practices, health care service utilization trends, cost trends, product mix, seasonality, prior authorization of medical services, benefit changes, known outbreaks of disease or increased incidence of illness such as influenza, provider contract changes, changes to Medicaid fee schedules, and the incidence of high dollar or catastrophic claims.
Our consolidated HBR for the year ended December 31, 2008 was 82.5%, a decrease of 1.4% over 2007. The decrease for the year ended December 31, 2008 over 2007 is due to the effect of recording the Georgia premium rate increase retroactive to July 1, 2007 in 2008. Our consolidated HBR for the year ended December 31, 2007 was 83.9%, a decrease of 0.2% over 2006. The decrease is primarily attributable to increased premium yield combined with a moderating medical cost trend particularly with a decrease in pharmacy costs, offset by the new ABD business in Ohio and the transition of these new members into a managed care environment.
Our cost of services expense includes the pharmaceutical costs associated with our pharmacy benefit manager’s external revenues. Cost of services also includes all direct costs to support the functions responsible for generation of our services revenues. These expenses consist of the salaries and wages of the professionals and teachers who provide the services and expenses associated with facilities and equipment used to provide services.
Our general and administrative expenses, or G&A, primarily reflect wages and benefits, including stock compensation expense, and other administrative costs associated with our health plans, specialty companies and centralized functions that support all of our business units. Our major centralized functions are finance, information systems and claims processing. G&A increased in both the years ended December 31, 2008 and December 31, 2007 primarily due to expenses for additional facilities and staff to support our growth. G&A also increased in 2008 as a result of the acquisition of Celtic. G&A in 2007 also included charges totaling $12.4 million for fixed asset impairment, severance for an organizational realignment, and a contribution to our charitable foundation with a portion of the proceeds from the sale of FirstGuard Missouri. The fixed asset impairment resulted from abandoning a previously planned headquarters development in Clayton, Missouri.
Our G&A expense ratio represents G&A expenses as a percentage of the sum of Premium revenues and Service revenues, and reflects the relationship between revenues earned and the costs necessary to earn those revenues. The consolidated G&A expense ratio for the years ended December 31, 2008, 2007 and 2006 were 13.6%, 14.3% and 15.0%, respectively. The decrease in the ratio in 2008 primarily reflects the overall leveraging of our expenses over higher revenues, partially offset by the effect of the acquisition of Celtic and of our start-up costs in Florida and for our Texas Foster Care product. The decrease in the ratio in 2007 primarily reflects the overall leveraging of our expenses over higher revenues offset by the effect of our start-up costs in South Carolina and for our Texas Foster Care product, and the $12.4 million charge discussed above.
The following table summarizes the components of investment and other income, net:
In November 2008, we announced our intention to sell certain assets of University Health Plans, Inc, or UHP, our New Jersey health plan. Accordingly, the results of operations for UHP are reported as discontinued operations for all periods presented. UHP was previously reported in the Medicaid Managed Care segment. In November 2008, we announced a definitive agreement to sell certain assets of our New Jersey health plan to AMERIGROUP New Jersey, or AGPNJ. In December 2008, AGPNJ sent us a termination notice. We have filed a complaint seeking specific performance of the contract and damages. Additional information regarding this matter is included in “Item 3. Legal Proceedings” included elsewhere in this Annual Report on Form 10-K.
In August 2006, FirstGuard Health Plan Kansas, Inc., or FirstGuard Kansas, our wholly owned subsidiary, received notification from the Kansas Health Policy Authority that its Medicaid contract scheduled to terminate December 31, 2006 would not be renewed. In 2006, we also evaluated our strategic alternatives for our FirstGuard Missouri health plan and decided to divest the business. The sale of the operating assets of FirstGuard Missouri was completed effective February 1, 2007. Accordingly, the results of operations for FirstGuard Kansas and FirstGuard Missouri are reported as discontinued operations for all periods presented. FirstGuard Kansas and FirstGuard Missouri were previously reported in the Medicaid Managed Care segment. Additionally, the assets and liabilities of the discontinued businesses are segregated in the consolidated balance sheet.
Our investing activities used cash of $153.9 million in 2008, $225.5 million in 2007 and $150.2 million in 2006. Cash flows from investing activities in 2008 included the purchase price of Celtic which we acquired on July 1, 2008, capital expenditures and our investment in the Reserve Primary fund previously discussed. At December 31, 2008, our investment in the Reserve Fund totaled $13.0 million and was included in Short-term investments. Our investing activities in 2007 consisted primarily of additions to the investment portfolios of our regulated subsidiaries including transfers from cash and cash equivalents to long-term investments. Our investment policies are designed to provide liquidity, preserve capital and maximize total return on invested assets within our guidelines. Net cash provided by and used in investing activities will fluctuate from year to year due to the timing of investment purchases, sales and maturities. As of December 31, 2008, our investment portfolio consisted primarily of fixed-income securities with an average duration of 2.4 years. Cash is invested in investment vehicles such as municipal bonds, corporate bonds, instruments of the U.S. Treasury, insurance contracts, commercial paper and equity securities. These securities generally are actively traded in secondary markets and the reported fair market value is determined based on recent trading activity and other observable inputs. The states in which we operate prescribe the types of instruments in which our regulated subsidiaries may invest their cash.
We have a $300 million revolving credit agreement. Borrowings under the agreement bear interest based upon LIBOR rates, the Federal Funds Rate or the Prime Rate. There is a commitment fee on the unused portion of the agreement that ranges from 0.15% to 0.275% depending on the total debt to EBITDA ratio. The agreement contains non-financial and financial covenants, including requirements of minimum fixed charge coverage ratios, maximum debt to EBITDA ratios and minimum net worth. The agreement will expire in September 2011. As of December 31, 2008, we had $63.0 million in borrowings outstanding under the agreement and $24.1 million in letters of credit outstanding, leaving availability of $212.9 million. As of December 31, 2008, we were in compliance with all covenants.
In 2007, we issued $175 million aggregate principal amount of our 7 ¼% Senior Notes due April 1, 2014, or the Notes. The Notes were registered under the Securities Act of 1933, pursuant to a registration rights agreement with the initial purchasers. The indenture governing the Notes contains non-financial and financial covenants, including requiring a minimum fixed charge coverage ratio. Interest is paid semi-annually in April and October. As of December 31, 2008, we were in compliance with all covenants.
We have a stock repurchase program authorizing us to repurchase up to four million shares of common stock from time to time on the open market or through privately negotiated transactions. In October 2008, the repurchase program was extended through October 31, 2009, but we reserve the right to suspend or discontinue the program at any time. During the year ended December 31, 2008, we repurchased 1,218,858 shares at an average price of $19.29. We have established a trading plan with a registered broker to repurchase shares under certain market conditions.
Based on our operating plan, we expect that our available cash, cash equivalents and investments, cash from our operations and cash available under our credit facility will be sufficient to finance our planned acquisition of AMERIGROUP Community Care of South Carolina, our general operations and capital expenditures for at least 12 months from the date of this filing.
3 Unrecognized tax benefits relate to the provision for FASB Interpretation No. 48.
4 Includes $15,949 separate account liabilities from third party reinsurance that will not be settled in cash.
Our subsidiaries are required to maintain minimum capital requirements prescribed by various regulatory authorities in each of the states in which we operate. As of December 31, 2008, our subsidiaries, including UHP, had aggregate statutory capital and surplus of $391.4 million, compared with the required minimum aggregate statutory capital and surplus requirements of $241.5 million and we estimate our Risk Based Capital, or RBC, percentage to be 340% of the Authorized Control Level.
The National Association of Insurance Commissioners has adopted rules which set minimum risk-based capital requirements for insurance companies, managed care organizations and other entities bearing risk for healthcare coverage. As of December 31, 2008, each of our health plans were in compliance with the risk-based capital requirements enacted in those states.
Our significant accounting policies are more fully described in Note 2, Summary of Significant Accounting Policies, to our consolidated financial statements included elsewhere herein. Our accounting policies regarding medical claims liability and intangible assets are particularly important to the portrayal of our financial position and results of operations and require the application of significant judgment by our management. As a result, they are subject to an inherent degree of uncertainty. We have reviewed these critical accounting policies and related disclosures with the Audit Committee of our board of directors.
The completion factor, claims per member per month and per diem cost trend factors are the most significant factors affecting the IBNR estimate. The following table illustrates the sensitivity of these factors and the estimated potential impact on our operating results caused by changes in these factors based on December 31, 2008 data:
Appropriate leveling of care for neonatal intensive care unit (NICU) hospital admissions, other inpatient hospital admissions, and observation admissions, in accordance with Interqual criteria.
In November 2008, as a result of our decision to divest the New Jersey health plan, we concluded it was necessary to conduct an impairment analysis of the identifiable intangible assts. As a result of the analysis and expected selling price, we determined that the identifiable intangible assets were not impaired.
In August 2006, FirstGuard Health Plan Kansas, Inc., or FirstGuard Kansas, our wholly owned subsidiary, received notification from the Kansas Health policy Authority that its Medicaid contract scheduled to terminate December 31, 2006 would not be renewed. As a result of these events, we concluded it was necessary to conduct an impairment analysis of the identifiable intangible assets and goodwill of the FirstGuard reporting unit, which encompasses both the Kansas and Missouri FirstGuard health plans. The fair value of our FirstGuard reporting unit was determined using discounted expected cash flows and estimated market value. The impairment analysis resulted in a total non-cash intangible asset impairment charge of $87.1 million, consisting of $81.1 million of goodwill and $6.0 million of other identifiable intangible assets, which was recorded in discontinued operations in the consolidated statement of operations for the year ended December 31, 2006.
We have audited the accompanying consolidated balance sheets of Centene Corporation and subsidiaries as of December 31, 2008 and 2007, and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2008. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Centene Corporation and subsidiaries as of December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2008, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Centene Corporation’s internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated February 22, 2009 expressed an unqualified opinion on the effectiveness of the operation of internal control over financial reporting.
The accompanying consolidated financial statements include the accounts of Centene Corporation and all majority owned subsidiaries, majority-owned subsidiaries over which the Company exercises control and entities in which the Company has a controlling financial interest. All material intercompany balances and transactions have been eliminated. As discussed below in Note 3, Discontinued Operations: University Health Plan and FirstGuard Health Plans, the assets, liabilities and results of operations of FirstGuard Kansas, FirstGuard Missouri and University Health Plans are classified as discontinued operations for all periods presented.
The Company uses the equity method to account for its investment in entities that it does not control, but where it has the ability to exercise significant influence over operating and financial policies. Consolidated net earnings include the share of the net earnings (losses) of those entities. The difference between consolidation and the equity method impacts certain of the financial ratios because of the presentation of the detailed line items reported in the consolidated financial statements for consolidation entities, compared to a two-line presentation of equity method investments and net earnings.
Short-term and long-term investments are generally classified as available for sale and are carried at fair value. Certain equity investments are recorded using the cost method. Unrealized gains and losses on investments available for sale are excluded from earnings and reported as a separate component of stockholders’ equity, net of income tax effects. Premiums and discounts are amortized or accreted over the life of the related security using the effective interest method. The Company monitors the difference between the cost and fair value of investments. Investments that experience a decline in value that is judged to be other than temporary are written down to fair value and a realized loss is recorded in investment and other income. To calculate realized gains and losses on the sale of investments, the Company uses the specific amortized cost of each investment sold. Realized gains and losses are recorded in investment and other income.
Short-term investments, long-term investments, and restricted deposits, available-for-sale, at fair value: The carrying amount is stated at fair value, based on quoted market prices, where available. For securities not actively traded, fair values were estimated using values obtained from independent pricing services or quoted market prices of comparable instruments.
Additional information regarding fair value measurements is included in Note 7, Fair Value Measurements.
The Company tests goodwill for impairment using a fair value approach. The Company is required to test for impairment at least annually, absent some triggering event that would require an impairment assessment. Absent any impairment indicators, the Company performs its goodwill impairment testing during the fourth quarter of each year.
The Company recognizes an impairment charge for any amount by which the carrying amount of goodwill exceeds its implied fair value. The Company presents a goodwill impairment charge as a separate line item within earnings from operations in the consolidated statements of operations, unless the goodwill impairment is associated with a discontinued operation. In that case, the Company includes the goodwill impairment charge, on a net-of-tax basis, within the results of discontinued operations.
The Company uses discounted cash flows to establish the fair value as of the testing dates. The discounted cash flow approach includes many assumptions related to future growth rates, discount factors, future tax rates, etc. Changes in economic and operating conditions impacting these assumptions could result in goodwill impairment in future periods. When available and as appropriate, the Company uses comparative market multiples to corroborate discounted cash flow results.
The Company uses its judgment to determine the assumptions to be used in the calculation of the required estimates. The assumptions it considers when estimating IBNR include, without limitation, claims receipt and payment experience (and variations in that experience), changes in membership, provider billing practices, health care service utilization trends, cost trends, product mix, seasonality, prior authorization of medical services, benefit changes, known outbreaks of disease or increased incidence of illness such as influenza, provider contract changes, changes to Medicaid fee schedules, and the incidence of high dollar or catastrophic claims.
The Company’s Specialty Services segment generates revenues under contracts with state programs, individuals, healthcare organizations and other commercial organizations, as well as from the Company’s own subsidiaries. Revenues are recognized when the related services are provided or as ratably earned over the covered period of service.
Centene receives the majority of its revenues under contracts or subcontracts with state Medicaid managed care programs. The current contracts, which expire on various dates between March 31, 2009 and December 31, 2011, are expected to be renewed. States whose aggregate annual contract value exceeded 10% of annual revenues and the respective percentage of the Company’s total revenues for the years ended December 31, are as follows:
Deferred tax assets and liabilities are recorded for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date of the tax rate change.
The Company adopted Financial Accounting Standards Board, or FASB, Statement of Financial Accounting Standards No. 123 (revised 2004), Share Based Payment, or SFAS 123R, effective January 1, 2006, using the modified-prospective transition method. Under this method, compensation cost is recognized for awards granted and for awards modified, repurchased or cancelled in the period after adoption. Compensation cost is also recognized for the unvested portion of awards granted prior to adoption. Prior year financial statements are not restated. The fair value of the Company’s employee share options and similar instruments are estimated using the Black-Scholes option-pricing model. That cost is recognized over the period during which an employee is required to provide service in exchange for the award. Excess tax benefits related to stock compensation are presented as a cash inflow from financing activities.
In December 2007, the FASB issued FASB Statement No. 160, Noncontrolling Interests in Consolidated Financial Statements, which was issued to improve the relevance, comparability, and transparency of financial information provided to investors by requiring all entities to report noncontrolling (minority) interests in subsidiaries in the same way, that is, as equity in the consolidated financial statements. Moreover, FASB Statement No. 160 eliminates the diversity that currently exists in accounting for transactions between an entity and noncontrolling interests by requiring they be treated as equity transactions. FASB Statement No. 160 will be effective January 1, 2009. The adoption of FASB Statement No. 160 will not have a material impact on the Company’s financial statements and disclosures.
The Company has determined that all other recently issued accounting pronouncements will not have a material impact on its consolidated financial position, results of operations and cash flows, or do not apply to its operations.
In November 2008, the Company announced its intention to sell certain assets of its New Jersey health plan, University Health Plans, Inc, or UHP. Accordingly, the results and operations of UHP are presented as discontinued operations for all periods presented. The assets, liabilities and results of operations of UHP were classified as discontinued operations for all periods presented beginning in December 2008. UHP was previously reported in the Medicaid Managed Care segment. The Company expects the sale to be completed within 12 months. Additional information regarding the sale of UHP is included in Note 18, Contingencies.
The sale of the operating assets of FirstGuard Missouri was completed effective February 1, 2007 and the Company received a final contingent payment in the second quarter of 2007, resulting in a total gain on the sale of $7,472 in 2007. Goodwill associated with FirstGuard written off as part of the transaction was $5,995.
The Company has incurred FirstGuard exit costs consisting primarily of lease termination fees and employee severance costs. The Company also contributed $3,000 of the sale proceeds received in the second quarter of 2007 to its charitable foundation and recorded the contribution as General and Administrative expense. The change in exit cost liability for FirstGuard is summarized as follows:
In the fourth quarter of 2007, the Company abandoned its previously planned redevelopment project in Clayton, Missouri, related to a corporate office expansion. As a result, the Company conducted an impairment analysis of the related real estate and capitalized construction costs and recorded an impairment charge of $7,207. The impairment charges were recorded as General and Administrative expense under the Medicaid Managed Care segment. At December 31, 2008, the remaining liability for these charges was $850.
Also in the fourth quarter of 2007, the Company completed an organizational realignment, resulting in the elimination of approximately 35 positions. Accordingly, the Company recorded $2,185 in severance costs. This expense was recorded as General and Administrative expense under the Medicaid Managed Care segment. At December 31, 2007, the Company did not have remaining liability for these costs.
The Company did not recognize any restructuring charges during the year ended December 31, 2008.
The purchase price allocation resulted in identifiable intangible assets of $7,100 and associated deferred tax liabilities of $2,523 and goodwill of $39,975. The identifiable intangible assets have an estimated useful life of seven to 20 years. The acquired goodwill is not deductible for income tax purposes. Pro forma disclosures related to the acquisition have been excluded as immaterial.
Short-term and long-term investments and restricted deposits available for sale by investment type at December 31, 2008 consist of the following:
Short-term and long-term investments and restricted deposits available for sale by investment type at December 31, 2007 consist of the following:
The Company monitors investments for other than temporary impairment. Certain investments have experienced a decline in fair value due to changes in credit quality and market interest rates. Based on management’s judgment of the credit quality of the Company’s investments and ability to hold these investments to recovery (which may be maturity), no other than temporary impairment has been recorded. Investments in a gross unrealized loss position at December 31, 2008 are as follows:
Investments in a gross unrealized loss position at December 31, 2007 are as follows:
Additional information regarding investments is included in Note 7, Fair Value Measurements.
The following table summarizes fair value measurements by level at December 31, 2008 for assets and liabilities measured at fair value on a recurring basis:
Depreciation expense for the years ended December 31, 2008, 2007 and 2006 was $28,453, $22,647 and $15,242, respectively.
Goodwill additions in 2008 and 2007 were related to the acquisitions discussed in Note 5, Acquisitions. Goodwill reductions in 2007 were related to the recognition of acquired net operating loss carry forward benefits.
Amortization expense was $2,480, $1,970 and $2,105 for the years ended December 31, 2008, 2007 and 2006, respectively.
The Company's deferred tax assets include federal and state net operating losses, or NOLs, of which $3,751 were acquired in business combinations. Accordingly, the total and annual deduction for those NOLs is limited by tax law. The Company's federal NOLs expire between the years 2011 and 2027 and the state NOLs expire between the years 2009 and 2027. Valuation allowances are recorded for those NOLs the Company believes are more-likely-than not to expire unused. During 2008 and 2007, the Company recorded valuation allowance additions in the tax provision of $1,829 and $1,852, respectively. In 2008 and 2007, the Company recorded valuation allowance reductions of $126 and $2,317, of which the majority offset goodwill.
The Company recognizes interest accrued related to unrecognized tax benefits in the provision for income taxes. As of January 1, 2008, interest accrued was $223, net of federal benefit. No penalties have been accrued. As of December 31, 2008, interest accrued was $560, net of federal benefit.
The federal income tax returns for 2005 through 2008 are open tax years. The Company is currently being examined by the IRS for the 2006 and 2007 tax years. Included in their examination is the treatment of the tax deduction associated with the abandonment of the FirstGuard stock. As discussed in Note 3, Discontinued Operations, in 2007, the Company recognized a $34,846 tax benefit associated with the abandonment of the FirstGuard stock. The Company files in numerous state jurisdictions with varying statutes of limitation. The unrecognized state tax benefits are related to returns open from 2003 through 2008.
The Company had reinsurance recoverables related to medical claims liability of $4,972 and $3,189 at December 31, 2008 and 2007, respectively, included in premium and related receivables.
In March 2007, the Company issued $175,000 aggregate principal amount of 7 ¼% Senior Notes due April 1, 2014, or the Notes. The Notes have been registered under the Securities Act of 1933, as amended, pursuant to a registration rights agreement with the initial purchasers. The indenture governing the Notes contains non-financial and financial covenants, including requirements of a minimum fixed charge coverage ratio. Interest is paid semi-annually in April and October.
The Company has a $300,000 five-year Revolving Credit Agreement dated September 14, 2004 with various financial institutions. Borrowings under the agreement bear interest based upon LIBOR rates, the Federal Funds Rate or the Prime Rate. There is a commitment fee on the unused portion of the agreement that ranges from 0.15% to 0.275% depending on the total debt-to-EBITDA ratio. The agreement contains non-financial and financial covenants, including requirements of minimum fixed charge coverage ratios, maximum debt-to-EBITDA ratios and minimum tangible net worth. The agreement will expire in September 2011. As of December 31, 2008, the Company had $63,000 in borrowings outstanding under the agreement and $24,100 in letters of credit outstanding, leaving availability of $212,900. The outstanding borrowings at December 31, 2008 bore interest at LIBOR plus 1.0%, or the prime rate. The weighted average interest rate of outstanding borrowings was 2.42% at December 31, 2008.
The fair value of outstanding debt was approximately $226,829 and $206,065 at December 31, 2008 and 2007, respectively.
The Company has 10,000,000 authorized shares of preferred stock at $.001 par value. At December 31, 2008, there were no preferred shares outstanding.
Option activity for the year ended December 31, 2008 is summarized below:
For the years ended December 31, 2008 and 2007, the Company used a projected expected life for each award granted based on historical experience of employees’ exercise behavior. For the year ended December 31, 2006, the expected life of each award granted was calculated using the “simplified method” in accordance with the SEC Staff Accounting Bulletin No. 107. For the years ended December 31, 2008, 2007 and 2006, expected volatility is primarily based on historical volatility levels along with the implied volatility of exchange traded options to purchase Centene common stock. The risk-free interest rates are based on the implied yield currently available on U.S. Treasury zero coupon issues with a remaining term equal to the expected life.
As of December 31, 2008, there was $35,321 of total unrecognized compensation cost related to non-vested share-based compensation arrangements granted under the plans; that cost is expected to be recognized over a weighted-average period of 2.2 years. The actual tax benefit realized for the tax deductions from stock option exercises totaled $1,127, $512, and $3,455 for the years ended December 31, 2008, 2007 and 2006, respectively.
The Company has reserved 900,000 shares of common stock for an employee stock purchase plan and the Company issued 36,682 shares, 32,563 shares, and 34,357 shares in 2008, 2007 and 2006, respectively, from the employee stock purchase plan.
Centene has a defined contribution plan which covers substantially all employees who are at least twenty-one years of age. Under the plan, eligible employees may contribute a percentage of their base salary, subject to certain limitations. Centene may elect to match a portion of the employee’s contribution. Company expense related to matching contributions to the plan was $3,810, $2,406 and $1,847 during the years ended December 31, 2008, 2007 and 2006, respectively.
Centene and its subsidiaries lease office facilities and various equipment under non-cancelable operating leases which may contain escalation provisions. The rental expense related to these leases is recorded on a straight-line basis over the lease term, including rent holidays. Tenant improvement allowances are recorded as a liability and amortized against rent expense over the term of the lease. Rent expense was $19,561, $15,108 and $10,107 for the years ended December 31, 2008, 2007 and 2006, respectively. Annual non-cancelable minimum lease payments over the next five years and thereafter are as follows:
The Company evaluates performance and allocates resources based on earnings from operations. The accounting policies are the same as those described in Note 2, Summary of Significant Accounting Policies.
Certain amounts presented in the parent company only financial statements are eliminated in the consolidated financial statements of Centene Corporation. The 2007 income tax benefit reflects a $34,856 tax benefit associated with the stock abandonment discussed in Note 3, Discontinued Operations: University Health Plan and FirstGuard Health Plans.