Unless noted as discontinued operations, Operating Data excludes First Health Services Corporation (“FHSC”) operating results for each year presented due to the sale of this business in July 2009. Balance Sheet Data does not exclude FHSC balances for 2008 and prior periods as such amounts are immaterial. See Note D, Discontinued Operations, to the consolidated financial statements for additional information about our discontinued operations presentation.
: Management’s Discussion and Analysis of Financial Condition and Results of Operations
We incur medical costs related to our products for which we assume underwriting risk. Our medical costs include medical claims paid under contractual relationships with a wide variety of providers and capitation arrangements. Medical costs also include an estimate of claims incurred but not reported.
We maintain provider networks that furnish health care services through contractual arrangements with physicians, hospitals and other health care providers. Prescription drug benefits are provided through a formulary comprised of an extensive list of drugs. Drug prices are negotiated at discounted rates through a national pharmacy benefit manager. Drug costs for our risk products are included in medical costs.
We have capitation arrangements for certain ancillary health care services, such as laboratory services and, in some cases, physician and radiology services. A small percentage of our membership is covered by global capitation arrangements. Under the typical arrangement, the provider receives a fixed percentage of premiums to cover costs of all medical care or of the specified ancillary services provided to the capitated members. Under some professional or other capitation arrangements, physicians may also receive additional compensation from risk sharing and other incentive arrangements. Capitation arrangements limit our exposure to the risk of increasing medical costs but expose us to risk as to the adequacy of the financial and medical care resources of the provider organization. We are ultimately responsible for the coverage of our members pursuant to the customer agreements. To the extent a provider organization faces financial difficulties or otherwise is unable to perform its obligations under the capitation arrangements, we will be required to perform such obligations. Consequently, we may have to incur costs in excess of the amounts we would otherwise have to pay under the original global or ancillary capitation through our contracted network arrangements. Medical costs associated with capitation arrangements made up approximately 8.2% of our total medical costs for the year ended December 31, 2011.
Managed care premiums are recorded as revenue in the month in which members are entitled to service. Premiums are based on both a per subscriber contract rate and the number of subscribers in our records at the time of billing. Premium billings are generally sent to employers in the month preceding the month of coverage. Premium billings may be subsequently adjusted to reflect changes in membership as a result of retroactive terminations, additions or other changes. Due to early timing of the premium billing, we are able to identify in the current month the retroactive adjustments included on two subsequent months’ billings. Current period revenues are adjusted to reflect these retroactive adjustments.
As of December 31, 2011, we maintained allowances for retroactive billing adjustments of approximately $19.7 million, compared with approximately $25.8 million at December 31, 2010. We also maintained allowances for doubtful accounts of approximately $4.7 million and $7.1 million as of December 31, 2011 and 2010, respectively. The decrease from the prior year is due to fewer members in 2011. The calculation for these allowances is based on a percentage of the gross accounts receivable with the allowance percentage increasing for older receivables.
CMS periodically performs audits and may seek return of premium payments made to us if risk adjustment factors are not properly supported by underlying medical record data. We estimate and record reserves for CMS audits based on information available at the time the estimates are made. The judgments and uncertainties affecting the application of these policies include, among other things, significant estimates related to the amount of HCC revenue subject to audit, anticipated error rates, sample methodologies, confidence intervals, enrollee selection, and payment error extrapolation methodology. Certain of the Company’s health plans may be selected for audit. Although we maintain reserves for our exposure to the risk adjustment data validation (“RADV”) audits, actual results could differ materially from those estimates.
Actuarial estimates of claim liabilities are then determined by subtracting the actual paid claims from the estimate of the ultimate incurred claims.
The negative medical cost amounts noted as “prior year development” are favorable adjustments for claim estimates being settled for amounts less than originally anticipated. As noted above, these favorable developments from original estimates occur due to changes in medical utilization, mix of provider rates and other components of medical cost trends. Medical claim liabilities are generally paid within several months of the member receiving service from the provider. Accordingly, the 2011 prior year development relates almost entirely to claims incurred in calendar year 2010.
The significant favorable / (unfavorable) factors driving the overall favorable prior year development for 2011 include:
The change in Medicare Part D related subsidy liabilities identified in the table above represents subsidy amounts received from CMS for reinsurance, coverage gap and for cost sharing related to low income individuals. These subsidies are recorded in medical liabilities and we do not recognize premium revenue or claims expense for these subsidies.
Changes in the completion factors, trend factors and utilization factors can have a significant effect on the claim liability. The following example (in thousands, except percentages) provides the estimated effect to our December 31, 2011 unpaid claims liability assuming hypothetical changes in the completion, trend, and inpatient day factors. While we believe the selection of factors and ranges provided are reasonable, certain factors and actual results may differ.
We believe that the amount of medical liabilities is adequate to cover our ultimate liability for unpaid claims as of December 31, 2011. However, actual claim payments and other items may differ from established estimates.
adverse conditions specifically related to the security, an industry or geographic area;
the historical and implied volatility of the fair value of the security;
We use prices from independent pricing services and, when necessary, indicative (non-binding) quotes from independent brokers to measure the fair value of our investment securities. We utilize multiple independent pricing services and brokers to obtain fair values; however, we generally obtain one price/quote for each individual security.
We perform an analysis on market liquidity and other market related conditions to assess if the evaluated prices represent a reasonable estimate of their fair value. Examples of the procedures performed include, but are not limited to, an on-going review of pricing service methodologies, review of the prices received from the pricing service and comparison of prices for certain securities with two different price sources for reasonableness. We monitor pricing inputs to determine if the markets from which the data is gathered are active. As further validation, we sample a security’s past fair value estimates and compare the valuations to actual transactions executed in the market on similar dates.
Generally, we do not adjust prices received from pricing services or brokers unless it is evident from our verification procedures the fair value measurement is not consistent with ASC Topic 820, “Fair Value Measurements and Disclosures.” Based upon our internal price verification procedures and review of fair value methodology documentation provided by independent pricing services, we have concluded that the fair values provided by pricing services and brokers are consistent with the guidance in ASC Topic 820.
Our municipal bond investments remain at an investment grade status based on their own merits (excluding monoline insurers). Although we do not rely on bond insurers exclusively to maintain our high level of investment credit quality, $244.9 million of our $1,032.9 million total state and municipal bond holdings are insured through a monoline insurer. For our mortgage-backed and asset-backed securities, our holdings remain at investment grade with AA+ and AAA ratings, respectively. We participate in only the higher level investment tranches. For our asset-backed securities, we only participate in offerings that are over collateralized to further protect our principal investment.
Goodwill is subject to an annual assessment and periodic assessments if other indicators are present for impairment by applying a fair-value-based test. We performed a goodwill impairment analysis, at the reporting unit level, as of October 1, our annual impairment test date. However, each year we could be required to evaluate the recoverability of goodwill and other indefinite lived intangible assets prior to the required annual assessment if there is any indication of a potential impairment. Those indications may include experiencing disruptions to business, unexpected significant declines in operating results, regulatory actions (such as health care reform) that may affect operating results, divestiture of a significant component of the business or a sustained decline in market capitalization.
In order to further validate the fair values determined using the income and market approach for each of our reporting units, we compare the aggregate fair value of our reporting units to our market capitalization. The objective of this comparison is to determine whether the quoted market price is indicative of the fair value of its reporting units. In addressing the relationship of the determined fair value of our reporting units to our market capitalization, we considered factors outlined in ASC Topic 350, “Intangibles - Goodwill and Other,” including:
the market price of an individual equity security (and thus the market capitalization of a reporting unit with publicly traded equity securities) may not be representative of the fair value of the reporting unit as a whole; and
the quoted market price of an individual equity security, therefore, need not be the sole measurement basis of the fair value of a reporting unit.
We reconcile the aggregate fair value of our reporting units to our market capitalization, the difference of which is generally referred to as an implied control premium. We then collect data on historical control premiums that resulted from business combinations of entities of a similar size and/or within our industry and concluded that our implied control premium was reasonable. Additionally, the excess of fair value over the carrying value for our reporting units ranged from 17% to 96%. While we believe we have made reasonable estimates and assumptions to calculate the fair values of the reporting units and other intangible assets, it is possible a material change could occur. Under the income approach, we assumed certain growth rates, capital expenditures, discount rates and terminal growth rates in our calculations. If the assumptions used in our fair-value-based tests differ from actual results, the estimates underlying our goodwill impairment tests could be adversely affected.
See Note E, Goodwill and Other Intangible Assets, to the consolidated financial statements for additional disclosure related to our goodwill and other intangible assets, which is incorporated herein by reference.
In accordance with ASC Topic 350-30, “General Intangibles Other than Goodwill,” we test intangible assets not subject to amortization for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. The impairment test consists of a comparison of the fair value of an intangible asset with its carrying amount. If the carrying amount of the intangible asset exceeds its fair value, an impairment loss shall be recognized in an amount equal to that excess. We have chosen October 1 as our annual impairment testing date. Our only intangible asset that is not subject to amortization is a trade name which we determined was not impaired based on the result of the October 1, 2011 analysis.
We account for share-based compensation in accordance with the provisions of ASC Topic 718 “Compensation - Stock Compensation.” Under the fair value recognition provisions of ASC Topic 718, determining the appropriate fair value model and calculating the fair value of share-based payment awards require the input of subjective assumptions, including the expected life of the share-based payment awards and stock price volatility. We believe that a blend of the implied volatility of our tradeable options and the historical volatility of our share price is a better indicator of expected volatility and future stock price trends than historical volatility alone. Therefore, the expected volatility was based on a blend of market-based implied volatility and the historical volatility of our stock. The assumptions used in calculating the fair value of share-based payment awards represent our best estimates. In addition, we are required to estimate the expected forfeiture rate and recognize expense only for those shares expected to vest. If our actual forfeiture rate is materially different from our estimate, the stock-based compensation expense could be significantly different from what we have recorded in the current period. See Note I, Stock-Based Compensation, to the consolidated financial statements for additional information on stock-based compensation, which is incorporated herein by reference.
The following table presents our membership as of December 31, 2011 and 2010 (in thousands).
The following table is provided to facilitate a discussion regarding the comparison of our consolidated results of continuing operations for each of the three years in the period ended December 31, 2011 (in thousands, except diluted earnings per share amounts). For additional financial information, see the consolidated financial statements and the accompanying notes, which is incorporated herein by reference.
Managed care premium revenue increased from the prior year primarily as a result of the acquisition of MHP, Inc. (“MHP”) in the fourth quarter of 2010. Revenue also increased as a result of organic membership growth and an increase in the average realized premium per member per month. The increase was also attributed to Medicaid Risk revenue due to new markets entered during August 2010 in the State of Nebraska and the launch of the new Kentucky Medicaid contract, effective November 1, 2011. These increases were partially offset by a decrease in Medicare Part D revenue as a result of the loss of membership resulting from the aforementioned loss of auto assign regions and reduction in product offerings. The increases mentioned above were also partially offset by an accrual for the minimum medical loss ratio rebate for our Commercial business required by PPACA.
Medical costs increased from the prior year primarily as a result of the acquisition of MHP, new Medicaid Risk markets entered during 2010 and 2011, and organic membership growth and medical trends. This was partially offset by the decrease in Medicare Part D membership, as noted above. The overall total medical costs as a percentage of premium revenue, MLR, increased 2.7% over the prior year to 82.1% from 79.4%. The increase is primarily as a result of the minimum MLR mandates previously described as well as the MLR increases during the current year for the Medicare Advantage and Medicaid products, as described in the segment results of operations discussion that follows. The MLR increase was partially offset by a lower MLR during the current year for the Medicare Part D MLR as a result of improved performance in our basic benefit product in 2011.
Selling, general and administrative expense increased primarily due to the addition of normal operating costs associated with MHP including, but not limited to, salaries and benefits, professional fees and premium taxes. The increase is also due to start-up costs associated with the implementation of the Kentucky Medicaid contract and increased marketing expenses associated with the rollout of expanded Medicare products for 2012. The increase is partially offset by lower legal fees in the current year as the prior year included incremental legal fees related to the provider class action in Louisiana that were not incurred in 2011. Selling, general and administrative expense as a percentage of operating revenues decreased as a result of the growth in operating revenues in the current year.
Other income, net increased as income in the current year included more realized gains on the sales of investments compared to 2010.
The provision for income taxes increased from the prior year due to an increase in earnings. The effective tax rate on continuing operations increased to 36.7% as compared to 36.1% for the prior year due primarily to the proportion of our earnings in states with higher tax rates and by compliance with new health care reform regulations.
Depreciation and amortization expense was lower primarily due to the prior year including a write down in value of certain long-lived assets as well as certain assets becoming fully depreciated. In 2009, an impairment charge to the customer list balances was recorded as a result of lower than expected customer retention levels in the Health Plan and Medical Services operating segment and the Specialized Managed Care operating segment.
Interest expense decreased due to the lower average debt balance outstanding compared to the prior year.
Includes the results for all commercial risk business including individual, small group and large group.
Revenue per member per month (“PMPM”) excludes the effect of CMS risk-share premium adjustments and revenue ceded to external parties.
The decrease in gross margin was driven primarily by the Medicare Part D membership losses. This is partially offset by improved MLR on the Medicare Part D product and improved performance in our Mental Health products. The Medicare Part D MLR was lower than the prior year as a result of improved performance in our basic benefit product in 2011.
Health Plan and Medical Services Division revenue decreased primarily due to our exit from the Medicare PFFS product line which resulted in a decline of $2.9 billion. Partially offsetting this decrease in revenue was an increase in revenue across each of our other risk products. The increase in Commercial Risk revenue was due to the acquisitions of PHS and MHP in 2010. There was an increase in the average realized premium per member per month for the Commercial Risk business due to renewal rate increases.
Gross margin increased primarily due to the improved medical loss ratios for the Health Plan Commercial Risk and Medicare Advantage CCP products. The Commercial Risk MLR decreased primarily due to the lower than expected utilization trends and more benign flu season than 2009. The Medicare Advantage CCP MLR decrease resulted from lower than expected utilization trends and demographic changes within the product. Partially offsetting these increases in gross margin was a decrease in gross margin resulting from our exit from the Medicare PFFS product.
The increase in gross margin was primarily driven by improved MLR for the Medicare Part D product in 2010 compared to 2009. The improvement in MLR was primarily attributed to improved performance in our mainstream products which make up the majority of our Part D business.
Our cash and investments, consisting of cash, cash equivalents, short-term investments, and long-term investments, but excluding deposits of $74.0 million restricted under state regulations, increased $281.0 million to $4.3 billion at December 31, 2011 from $4.0 billion at December 31, 2010.
The demand for our products and services is subject to many economic fluctuations, risks and uncertainties that could materially affect the way we do business. See Part I, Item 1A, “Risk Factors,” in this Form 10-K for more information. Management believes that the combination of our ability to generate cash flows from operations, cash and investments on hand, and the excess funds held in certain of our regulated subsidiaries will be sufficient to fund continuing operations, capital expenditures, debt interest costs, debt principal repayments and any other reasonably likely future cash requirements. In addition, our long-term investment portfolio is available for further liquidity needs including satisfaction of policy holder benefits.
Our net cash from operating activities in 2011 increased $128.9 million from the corresponding 2010 period. The increase was primarily a result of the unusually low cash flows in the prior year due to payments of medical claims liabilities associated with run out of the Medicare PFFS product. The nature of our business is such that premium revenues are generally received in advance of the expected cash payment for the related medical costs. This results in strong cash inflows upon the implementation of a benefit program and cash outflows upon the termination. Partially offsetting these increased inflows are the increase in current year subsidy receivables for our Medicare Part D business due from CMS and $150.5 million paid to settle the provider class action litigation in Louisiana.
Capital expenditures in 2011 of approximately $62.1 million consisted primarily of computer hardware, software and related costs associated with the development and implementation of improved operational systems. Projected capital expenditures in 2012 of approximately $75 to $85 million consist primarily of computer hardware, software and other equipment.
Net cash from investing activities for the year ended December 31, 2011 was an outflow primarily due to a large amount of investment purchases during the period. This outflow was partially offset by the proceeds received from the sales and maturities of investments.
Net cash from financing activities was an outflow, primarily due to share repurchases during the year ended December 31, 2011 and the repayment of the $380.0 million outstanding balance on the previous revolving credit facility, partially offset by the proceeds from the issuance of the 2021 Notes, net of discount and issuance costs.
Our Board of Directors has approved a program to repurchase our outstanding common stock. Stock repurchases may be made from time to time at prevailing prices on the open market, by block purchase or in private transactions. As a part of this program, 10.7 million shares were purchased in 2011 at an aggregate cost of $327.7 million, no shares were repurchased in 2010 and 1.5 million shares were purchased in 2009 at an aggregate cost of $30.0 million. As of December 31, 2011, the total remaining common shares we are authorized to repurchase under this program is 16.5 million. Excluded from these share repurchase program amounts are shares purchased in connection with the vesting of restricted stock awards to satisfy employees’ minimum statutory tax withholding obligations as these purchases are not part of the program.
Our regulated HMO and insurance company subsidiaries are required by state regulatory agencies to maintain minimum surplus balances, thereby limiting the dividends the parent may receive from our regulated entities. During 2011, we received $489.4 million in dividends from our regulated subsidiaries and we made $122.0 million in capital contributions to them.
The majority of states in which we operate health plans have adopted a RBC policy that recommends the health plans maintain statutory reserves at or above the “Company Action Level,” which is currently equal to 200% of their RBC. Some states in which our regulated subsidiaries operate require deposits to be maintained with the respective states’ departments of insurance. The table below summarizes our statutory reserve information, as of December 31, 2011 and 2010 (in millions, except percentage data).
The decrease in capital and surplus for our regulated subsidiaries primarily resulted from dividends paid to the parent company partially offset by net earnings and capital contributions made by the parent company.
Excluding funds held by entities subject to regulation and excluding our equity method investments, we had cash and investments of approximately $1.4 billion and $1.1 billion at December 31, 2011 and 2010, respectively. The increase primarily resulted from the issuance of the 2021 Notes discussed previously, dividends received from our regulated subsidiaries, and earnings generated from our non-regulated entities. This is partially offset by share repurchases, repayment of debt related to our revolving credit facility, a cash payment related to the provider class action litigation in Louisiana and capital contributions made by the parent company.
Health Plan and Medical Services Division - We expect our Commercial Risk membership to decline slightly in 2012 as compared to our approximately 1.6 million members as of year-end 2011. The forecasted Commercial MLR is expected to be in the range of 81.0% to 82.0%, consistent with the 2011 MLR of 81.6%.
For our Medicaid business, we are forecasting 2012 membership to be approximately 950,000, with an MLR of approximately 90%. The expected membership growth is primarily due to the Children’s Mercy’s Family Health Partners acquisition effective January 2012. For additional information regarding the acquisition, see Note T, Subsequent Events, to the consolidated financial statement, which is incorporated herein by reference.
Specialized Managed Care Division - We anticipate membership in our Medicare Part D product to increase by nearly 300,000 members in early 2012, from 1.1 million members as of year-end 2011, with continued growth throughout 2012. This increase reflects the addition of eight auto assign regions as well as membership gains driven by an increase in product offerings from two in 2011 to three in 2012. Our MLR expectation for 2012 is in the low to mid 80%s.
Workers’ Compensation Division - We expect our Workers’ Compensation Division revenue, cost of sales and selling, general and administrative expense will decrease in 2012 driven by the loss of a customer account. We expect the gross margin for this division to be down by 2% to 5% due to the account loss.
We have audited the accompanying consolidated balance sheets of Coventry Health Care, Inc. as of December 31, 2011 and 2010, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2011. Our audits also included the financial statement schedule listed in the Index at Item 15(a)(2). These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
Basis of Presentation - The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States and include the accounts of the Company and its subsidiaries. All inter-company transactions have been eliminated. Certain prior year amounts have been reclassified to conform to the current year presentation.
Significant Customers - The Company’s health plan commercial risk products are diversified across a large customer base and no customer group comprises 10% or more of Coventry’s managed care premiums. The Company received 32.7%, 35.6% and 50.7% of its managed care premiums for the years ended December 31, 2011, 2010 and 2009, respectively, from the federal Medicare program throughout its various health plan markets and from national Medicare Part D and Medicare Advantage Private-Fee-For-Service (“Medicare PFFS”) products. The decline in 2011 is primarily due to lower Medicare Part D membership as a result of the loss of auto assign regions as well as a reduction in product offerings from five in 2010 to two in 2011. The decline in 2010 is primarily a result of the Company’s non-renewal of the Medicare PFFS product effective January 1, 2010. The Company also received 12.5%, 10.9% and 8.4% of its managed care premiums for the years ended December 31, 2011, 2010 and 2009, respectively, from state-sponsored Medicaid programs throughout its various health plan markets. For the years ended December 31, 2011, 2010 and 2009, the State of Missouri accounted for 36.9%, 45.2%, and 51.2% of the Company’s Medicaid premiums. Additionally, the Company received 10.0%, 11.2% and 11.3% of its management services revenue from a single customer, Mail Handlers Benefit Plan (“MHBP”), for the years ended December 31, 2011, 2010 and 2009, respectively.
if the Company has decided to sell the security or it is more-likely-than-not that the Company will be required to sell the security before recovery of its amortized cost.
For debt securities, if the Company intends to either sell or determines that it will more-likely-than-not be required to sell a debt security before recovery of the entire amortized cost basis or maturity of the debt security, the Company recognizes the entire impairment in earnings. If the Company does not intend to sell the debt security and the Company determines that it will not more-likely-than-not be required to sell the debt security but it does not expect to recover the entire amortized cost basis, the impairment is bifurcated into the amount attributed to the credit loss, which is recognized in earnings, and all other cases, which are recognized in other comprehensive income. Realized gains and losses on the sale of investments are determined on a specific identification basis.
Property and Equipment - Property, equipment and leasehold improvements are recorded at cost. Depreciation is computed using the straight-line method over the shorter of the estimated lives of the related assets or over the term of the respective leases, if applicable. The estimated useful lives of the Company’s property and equipment are between three to thirty years. In accordance with ASC 350-40, “Internal-Use Software,” the cost of internally developed software is capitalized and included in property and equipment. The Company capitalizes costs incurred during the application development stage for the development of internal-use software. These costs primarily relate to payroll and payroll-related costs for employees along with costs incurred for external consultants who are directly associated with the internal-use software project. See Note F, Property and Equipment, to the consolidated financial statements for additional information.
Long-term Assets - Long-term assets primarily include assets associated with senior note issuance costs and reinsurance recoveries. The reinsurance recoveries were obtained with the acquisition of First Health Group Corporation (“FHGC”) and are related to certain life insurance receivables from a third party insurer for liabilities that have been ceded to that third party insurer.
The fair value of the indefinite-lived intangible asset is estimated and compared to the carrying value. The Company estimates the fair value of the indefinite-lived intangible asset using an income approach. The Company recognizes an impairment loss when the estimated fair value of the indefinite-lived intangible asset is less than the carrying value.
Discontinued Operations - The Company accounts for discontinued operations in accordance with ASC Topic 360-10, “Accounting for the Impairment or Disposal of Long-Lived Assets.” The Company determines whether the group of assets being disposed of comprises a component of the entity, which requires cash flows that can be clearly distinguished from the rest of the entity. The Company also determines whether the cash flows associated with the group of assets have been or will be eliminated from the ongoing operations of the Company as a result of the disposal transaction and whether the Company has no significant continuing involvement in the operations of the group of assets after disposal. If these determinations result in an affirmative response, the results of operations of the asset group being disposed of, as well as the gain or loss on disposal are aggregated for separate presentation apart from the continuing operating results of the Company in the Consolidated Statements of Operations. See Note D, Discontinued Operations, to the consolidated financial statements for additional disclosure related to discontinued operations.
The Medicare Part D program gives beneficiaries access to prescription drug coverage. The Company has been awarded contracts by CMS to offer various Medicare Part D plans on a nationwide basis, in accordance with guidelines put forth by the agency. Payments from CMS under these contracts include amounts for premiums, amounts for risk corridor adjustments, and amounts for coverage gap, reinsurance and low-income cost subsidies.
The Company recognizes premium revenue for the Medicare Part D program ratably over the contract period for providing insurance coverage. Regarding the CMS risk corridor provision, an estimated risk sharing receivable or payable is recognized based on activity-to-date. Activity for CMS risk sharing is accumulated at the contract and plan benefit package level and recorded within the consolidated balance sheet in other receivables or other accrued liabilities depending on the net contract balance at the end of the reporting period with corresponding adjustments to premium revenue. Costs for covered prescription drugs are expensed as incurred.
The table below summarizes the CMS receivables and payables, for all contract years, at December 31, 2011 and 2010, respectively (in thousands).
The CMS risk sharing receivables are included in other receivables while the CMS risk sharing payables are included in accounts payable and other accrued liabilities. The coverage gap, reinsurance and low-income subsidy receivables are included in other receivables while the coverage gap, reinsurance and low-income subsidy payables are included in medical liabilities.
Management services revenue is generally a fixed administrative fee, provided on a predetermined contractual basis or on a percentage-of-savings basis, for access to the Company’s health care provider networks and health care management services, for which it does not assume underwriting risk. Percentage of savings revenue is determined using the difference between charges billed by contracted medical providers and the contracted reimbursement rates for the services billed and is recognized based on claims processed. The management services the Company provides typically include health care provider network access, clinical management, pharmacy benefit management, bill review, claims repricing, claims processing, utilization review and quality assurance.
Revenue for pharmacy benefit management services for the Workers' Compensation business is derived on a pre-negotiated amount per pharmacy claim which includes the cost of the pharmaceutical. Revenue and a corresponding cost of sales to a third-party vendor related to the sale of pharmaceuticals is recorded when a pharmacy transaction is processed by the Company. No pharmacy rebate revenue is collected or recorded related to the Company’s Workers’ Compensation business.
Effective in 2011, as required by the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act of 2010 (collectively, “PPACA”), commercial health plans with medical loss ratios (“MLR”) on fully insured products that fall below certain targets are required to rebate ratable portions of their premiums annually. The mandated minimum MLR targets (as calculated under the definitions in PPACA and related regulations), for health plans such that the percentage of health coverage premium revenue spent on health care medical costs and quality improvement expenses, are set at 85% for large employer groups, 80% for small employer groups and 80% for individuals, subject to state-specific exceptions. The potential for and size of the rebates are measured by regulated subsidiary, state and market segment (individual, small group and large group). Accordingly, in the current year, the Company has recorded a rebate estimate in the “accounts payable and other accrued liabilities” line in the accompanying balance sheet and as contra-revenue in “managed care premiums” in the accompanying statements of operations. The Company estimates the rebate liability based on judgments and estimated information, including utilization, unit cost trends, quality improvement costs, and product pricing, features and benefits. If actual experience varies from the Company’s estimates or future regulatory guidance differs from its current judgments, the actual rebate liability could differ from the Company’s estimates.
In July 2011, the FASB issued ASU 2011-06, “Other Expenses (Topic 720): Fees Paid to the Federal Government by Health Insurers.” ASU 2011-06 addresses the timing, recognition and classification of the annual health insurance industry assessment fee imposed on health insurers by the PPACA. The mandatory annual fee of health insurers will be imposed for each calendar year beginning on or after January 1, 2014. This update requires that the liability for the fee be estimated and recorded in full once the entity provides qualifying health insurance in the applicable calendar year in which the fee is payable with a corresponding deferred cost that is amortized to expense using a straight-line method of allocation unless another method better allocates the fee over the calendar year that it is payable. Although the federally mandated annual fee may be material, the adoption of ASU 2011-06 only affects the timing of the expense recognition within the Company’s financial position and results of operations.
The Health Plan and Medical Services Division is primarily comprised of the Company’s traditional health plan commercial risk, commercial management services, Medicare Advantage Coordinated Care Plans (“Medicare Advantage CCP”) and Medicaid businesses and products. Additionally, through this Division the Company contracts with various federal employee organizations to provide health insurance benefits under the Federal Employees Health Benefits Program (“FEHBP”) and offers managed care and administrative products to businesses that self-insure the health care benefits of their employees. This Division also contains the dental services products. Through December 31, 2009, this Division also provided services to members participating in Medicare PFFS. Effective January 1, 2010, the Company did not renew the Medicare PFFS products for the 2010 plan year.
The Workers’ Compensation Division is comprised of fee-based, managed care services such as provider network access and bill review, pharmacy benefit management, durable medical equipment and ancillary services, and care management services to underwriters and administrators of workers’ compensation insurance and to large employer groups.
On February 1, 2010, the Company completed its acquisition of PHS, a commercial health plan based in Wichita, Kansas serving approximately 100,000 commercial group risk members and 20,000 commercial self-funded members. The acquisition of PHS strengthened Coventry’s presence in the Kansas market. As part of the acquisition, the Company recognized a liability for potential contingent earn-outs that are attributed to certain performance measures by PHS. At December 31, 2011, the liability was not significant.
The PHS and MHP acquisitions are not material to the Company’s consolidated financial statements, individually or in the aggregate. As a result of the PHS and MHP acquisitions, the Company recorded $30.9 million of goodwill, none of which is expected to be deductible for tax purposes.
On July 31, 2009, the Company completed the sale of its fee-based Medicaid services subsidiary FHSC for $117.5 million in cash, which included adjustments for changes in working capital. FHSC was a component of the Company’s business operations within its Specialized Managed Care operating segment. In accordance with ASC Topic 205-20, “Discontinued Operations,” FHSC’s operations and disposal costs are presented as a loss from discontinued operations, net of tax in the Company’s consolidated statements of operations.
The Company considered the sale of FHSC a potential indicator of impairment and in accordance with ASC Topic 350, “Intangibles - Goodwill and Other,” it was determined that the carrying value of the reporting unit was in excess of fair value. Accordingly, the Company performed an estimate of the probable impairment loss, determined that the goodwill allocated to the reporting unit was impaired, and recorded a gross impairment charge of $72.4 million during the quarter ended June 30, 2009.
The changes in the carrying amount of goodwill, by reporting segment, for the years ended December 31, 2011 and 2010 were as follows (in thousands):
The Company performed an impairment test of its unamortized other intangible asset (trade name) as of October 1, 2011, and determined that the asset was not impaired.
Other intangible asset amortization expense for the years ended December 31, 2011, 2010 and 2009 was $64.4 million, $64.1 million, and $71.0 million, respectively. For the years ending December 31, 2012, 2013, 2014, 2015, and 2016, the Company’s estimated intangible amortization expense is $64.5 million, $64.2 million, $63.7 million, $32.1 million and $14.5 million, respectively. The weighted-average amortization period is approximately 10 years for other intangible assets.
Depreciation expense for the years ended December 31, 2011, 2010 and 2009 was $72.5 million, $76.6 million and $80.8 million, respectively. Included in the depreciation expense for the years ended December 31, 2011, 2010 and 2009 was $21.6 million, $25.2 million and $25.4 million, respectively, of amortization expense for developed software.
The following table shows the Company’s investments’ gross unrealized losses and fair value at December 31, 2011 and December 31, 2010, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position (in thousands).
The Company obtains one price for each security from an independent third-party valuation service provider, which uses quoted or other observable inputs for the determination of fair value as noted above. As the Company is responsible for the determination of fair value, the Company performs quarterly analyses on the prices received from the third-party provider to determine whether the prices are reasonable estimates of fair value.
The Company’s Level 1 securities primarily consist of U.S. Treasury securities and cash. The Company determines the estimated fair value for its Level 1 securities using quoted (unadjusted) prices for identical assets or liabilities in active markets.
State and Municipal Bonds, Corporate Debt and Other Securities: The fair value of the Company’s debt securities is determined by observable market inputs which include quoted prices for identical or similar assets that are traded in an active market, benchmark yields, new issuances, issuer ratings, reported trades of comparable securities and credit spreads.
Residential and Commercial Mortgage-Backed Securities and Asset-Backed Securities: The fair value of these securities is determined either by observable market inputs, which include quoted prices for identical or similar assets that are traded in an active market, or by a cash flow model which utilizes the following inputs: benchmark yields, prepayment speeds, collateral performance, credit spreads and default rates that are observable at commonly quoted intervals.
The following table presents the fair value hierarchy for the Company’s financial assets measured at fair value on a recurring basis at December 31, 2011 and 2010 (in thousands):
The Company no longer relies upon broker quotes or other models involving unobservable inputs to value these securities, as there are sufficient observable inputs (e.g., trading activity) to validate the reported fair value. As a result, the Company transferred all securities from Level 3 to Level 2 during the quarter ended March 31, 2011.
The Company continues to use the Black-Scholes-Merton option pricing model and amortizes compensation expense over the requisite service period of the grant. The methodology used in 2011 to derive the assumptions used in the valuation model is consistent with that used in prior years. The following average values and weighted-average assumptions were used for option grants.
The Company recorded compensation expense related to stock options of approximately $15.6 million, $21.0 million and $30.6 million, for the years ended December 31, 2011, 2010 and 2009, respectively. Cash received from stock option exercises was $44.6 million, $15.5 million and $1.2 million, for the years ended December 31, 2011, 2010 and 2009, respectively.
The following table summarizes stock option activity for the year ended December 31, 2011:
Under the Incentive Plan, restricted stock awards generally vest in 25% increments per year. The fair value of restricted stock awards is based on the market price of the Company’s common stock on the date of grant and is amortized over various vesting periods through 2015. Restricted stock awards may also include a performance measure that must be met for the restricted stock award to vest.
The Company recorded compensation expense related to restricted stock grants, including restricted stock granted in prior periods, of approximately $24.9 million, $19.5 million and $16.5 million for the years ended December 31, 2011, 2010 and 2009, respectively. The total unrecognized compensation cost (net of expected forfeitures) related to the restricted stock was $33.2 million at December 31, 2011, and is expected to be recognized over a weighted-average period of 1.7 years. The weighted-average fair value of restricted stock granted was $34.51, $21.45 and $16.43 per share for the years ended December 31, 2011, 2010 and 2009, respectively. The total fair value of shares vested during the years ended December 31, 2011, 2010 and 2009 was $25.6 million, $14.4 million and $8.5 million, respectively.
The following table summarizes restricted stock award activity for the year ended December 31, 2011:
Performance share units (“PSUs”) represent hypothetical shares of the Company’s common stock. The holders of PSUs have no rights as stockholders with respect to the shares of the Company’s common stock to which the awards relate. The PSUs vested based upon the achievement of certain performance goals and other criteria as of December 31, 2011. All PSUs that vest will be paid out in cash or stock based upon the price of the Company’s common stock. The PSUs were classified as a liability by the Company. The related liability on the Company’s books at December 31, 2011 and 2010 was $27.7 million and $23.1 million, respectively, which was paid out in the subsequent quarter following each year-end. The Company recorded compensation expense related to the PSUs of approximately $22.8 million and $20.2 million for the years ended December 31, 2011 and 2010, respectively.
The following table summarizes PSU activity for the twelve months ended December 31, 2011 (in thousands):
Includes $181.8 million and $339.6 million classified as other current assets at December 31, 2011 and 2010, respectively, and $154.2 million and $159.1 million classified as other long-term liabilities at December 31, 2011 and 2010, respectively.
At December 31, 2011, the Company had approximately $121.4 million of federal and $278.2 million of state tax net operating loss carryforwards. The Federal net operating losses were primarily acquired through various acquisitions and are subject to limitation under Internal Revenue Code Section 382. The net operating loss carryforwards can be used to reduce future taxable income and expire over varying periods through the year 2031. A valuation allowance of approximately $4.2 million and $3.6 million has been recorded as of December 31, 2011 and 2010, respectively, for certain net operating loss deferred tax assets as the Company believes it is not more-likely-than-not that these deferred tax assets will be realized before expiration of the net operating losses.
A reconciliation of the total amounts of unrecognized tax benefits for the years ended December 31, 2011, 2010 and 2009 is as follows (in thousands):
The Company is regularly audited by federal, state and local tax authorities, and from time to time these audits result in proposed assessments. Tax years 2008-2010 remain open to examination by these tax jurisdictions. Additionally, the statute for tax year 2007 has been extended with the Internal Revenue Service (“IRS”) for another year due to an on-going audit. The Company believes appropriate provisions for all outstanding issues have been made for all jurisdictions and all open years.
During the year ended December 31, 2011, the Company settled certain income tax examinations with various state and local tax authorities. Tax assessed as a result of these examinations was not material. During the year ended December 31, 2009, the IRS completed its examination of the income tax returns for the Company for the years ended December 31, 2005 and 2006. Tax assessed as a result of this examination was not material. FHGC is also subject to ongoing examinations by certain state tax authorities for pre-acquisition years. The Company believes that adequate accruals have been provided for all FHGC open tax years.
The Company sponsors one defined contribution retirement plan qualifying under the Internal Revenue Code Section 401(k): the Coventry Health Care, Inc. Retirement Savings Plan (the “Savings Plan”). All employees of Coventry Health Care, Inc. and employees of its subsidiaries can elect to participate in the Savings Plan. T. Rowe Price is the custodial trustee of all Savings Plan assets, participant loans and the Coventry Health Care, Inc. common stock in the Savings Plan.
For information regarding the Company’s stock-based compensation, please refer to Note I, Stock-Based Compensation, to the consolidated financial statements.
The Company’s outstanding debt was as follows at December 31, 2011 and 2010 (in thousands):
During 2009, the Company repaid a total of $68.9 million principal of outstanding senior notes for payments of $59.9 million, resulting in a gain of $8.4 million. These gains were net of the write off of deferred financing costs. The funds for the repayments were provided by cash from operations. During 2009, the Company repaid $235.0 million on its revolving credit facility.
The Company’s senior notes and Credit Facility contain certain covenants and restrictions regarding, among other things, liens, asset dispositions and consolidations or mergers. Additionally, the Company’s Credit Facility requires compliance with a leverage ratio of 3 to 1 and limits subsidiary debt. As of December 31, 2011, the Company was in compliance with the applicable covenants and restrictions under its senior notes and Credit Facility.
As of December 31, 2011, the aggregate maturities of debt based on their contractual terms, gross of unamortized discount, were as follows (in thousands):
As of December 31, 2011, the Company is contractually obligated to make the following minimum lease payments, including arrangements that may be noncancelable and may include escalation clauses, within the next five years and thereafter (in thousands):
The Company operates in leased facilities with original lease terms of up to thirteen years with options for renewal. Total rent expense was $33.3 million, $32.4 million and $35.6 million for the years ended December 31, 2011, 2010 and 2009, respectively.
In the normal course of business, the Company has been named as a defendant in various legal actions such as actions seeking payments for claims denied by the Company, medical malpractice actions, employment related claims and other various claims seeking monetary damages. The claims are in various stages of proceedings and some may ultimately be brought to trial. Incidents occurring through December 31, 2011 may result in the assertion of additional claims. The Company maintains general liability, professional liability and employment practices liability insurances in amounts that it believes are appropriate, with varying deductibles for which it maintains reserves. The professional errors and omissions liability and employment practices liability insurances are carried through its captive subsidiary. Although the results of pending litigation are always uncertain, the Company does not believe the results of such actions currently threatened or pending, including those described below, will individually or in the aggregate, have a material adverse effect on its consolidated financial position or results of operations.
On February 25, 2008, the Company received a subpoena from the U.S. Attorney for the District of Maryland, Northern Division, requesting information regarding the operational process for confirming Medicare eligibility for its Workers’ Compensation set-aside product. The Company is fully cooperating and is providing the requested information. The Company cannot predict what, if any, actions may be taken by the U.S. Attorney. However, based on the information known to date, the Company does not believe that the outcome of this investigation will have a material adverse effect on its financial position or results of operations.
On February 2, 2011, FHGC, counsel for the class representatives and the class representatives executed a definitive settlement agreement which was acceptable to FHGC. FHGC would pay $150.5 million to satisfy in full the amount of the partial summary judgment and to resolve and settle all claims of the class, including claims for pre- and post- judgment interest, attorney’s fees and costs. In addition, Coventry would assign to the class certain rights it has to the proceeds of FHGC’s insurance policies relating to the claims asserted by the class. In exchange for the settlement payment by FHGC, class members would release FHGC and all of its affiliates and clients for any claims relating in any way to re-pricing, payment for, or reimbursement of a workers’ compensation bill, including but not limited to claims under the Act. Plaintiffs also agreed to a notice procedure that FHGC may follow in the future to comply with the Act. Accordingly, the Company made a $150.5 million cash payment into escrow. On May 27, 2011, the court entered an order of final approval of the settlement and thus all contingencies in the definitive settlement agreement were satisfied. As a result of the resolution of the settlement agreement contingencies, including final court approval, the Company recorded a non-recurring pre-tax adjustment to earnings of $159.3 million, or $0.68 per diluted share after tax, in the second quarter of 2011. The $150.5 million escrow amount was released to the Settlement Administrator for the class action plaintiffs on the settlement effective date of August 9, 2011.
On September 3, 2009, a shareholder filed a putative securities class action against the Company and three of its current and former officers in the federal district court of Maryland. Subsequent to the filing of the complaint, three other shareholders and/or investor groups filed motions with the court for appointment as lead plaintiff and approval of selection of lead and liaison counsel. By agreement, the four shareholders submitted a stipulation to the court regarding appointment of lead plaintiff and approval of selection of lead and liaison counsel. In December 2009, the court approved the stipulation and ordered the lead plaintiff to file a consolidated and amended complaint. The purported class period is February 9, 2007 to October 22, 2008. The consolidated and amended complaint alleges that the Company’s public statements contained false, misleading and incomplete information regarding the Company’s profitability, particularly the profit margins for its Medicare PFFS products. The Company filed a motion to dismiss the complaint. By Order, dated March 31, 2011, the court granted in part, and denied in part, the Company’s motion to dismiss the complaint. The Company has filed a motion for reconsideration with respect to that part of the court’s March 31, 2011 Order which denied the Company’s motion to dismiss the complaint. The motion for reconsideration was denied but the court did rule that the class period was further restricted to April 25, 2008 to June 18, 2008. The Company will vigorously defend against the allegations in the lawsuit. Although it cannot predict the outcome, the Company believes this lawsuit will not have a material adverse effect on its financial position or results of operations.
On October 13, 2009, two former employees and participants in the Coventry Health Care Retirement Savings Plan filed a putative ERISA class action lawsuit against the Company and several of its current and former officers, directors and employees in the U.S. District Court for the District of Maryland. Plaintiffs allege that defendants breached their fiduciary duties under ERISA by offering and maintaining Company stock in the Plan after it allegedly became imprudent to do so and by allegedly failing to provide complete and accurate information about the Company’s financial condition to plan participants in SEC filings and public statements. Three similar actions by different plaintiffs were later filed in the same court and were consolidated on December 9, 2009. An amended consolidated complaint has been filed. The Company filed a motion to dismiss the complaint. By Order, dated March 31, 2011, the court denied the Company’s motion to dismiss the amended complaint. The Company filed a motion for reconsideration of the court’s March 31, 2011 Order and filed an Alternative Motion to Certify the Court’s March 31, 2011 Order For Interlocutory Appeal to the Fourth Circuit Court of Appeals. Both of those motions were denied. The Company will vigorously defend against the allegations in the consolidated lawsuit. Although it cannot predict the outcome, the Company believes this lawsuit will not have a material adverse effect on its financial position or results of operations.
The Company operates in a regulatory environment that may require the Company to participate in assessments under state insurance guaranty association laws. The Company’s exposure to guaranty fund assessments is based on its share of business it writes in the relevant jurisdictions for certain obligations of insolvent insurance companies to policyholders and claimants.
The Pennsylvania Insurance Commissioner has placed Penn Treaty Network America Insurance Company and its subsidiary (collectively, “Penn Treaty”), neither of which is affiliated with the Company, in rehabilitation (an intermediate action before insolvency) and has petitioned a Pennsylvania state court for liquidation. If Penn Treaty is liquidated, the Company’s health plans and other insurers may be required to pay a portion of Penn Treaty’s policyholder claims through guaranty association assessments in future periods from various states in which Penn Treaty policyholders reside and in which the Company’s health plans and insurance subsidiaries write premiums.
The Company is unable to estimate losses or ranges of losses because the Company cannot predict when the Pennsylvania state court will render a decision, the amount of the insolvency, if any, the amount and timing of any associated guaranty fund assessments or the availability and amount of any potential offsets, such as an offset of any premium taxes otherwise payable by the Company. Based on information known to date, the Company cannot predict the outcome of this matter. However, an assessment could have a material adverse effect on the Company’s financial position and results of operations.
The Company has capitation arrangements for certain ancillary health care services, such as laboratory services and, in some cases, physician and radiology services. A small percentage of the Company’s membership is covered by global capitation arrangements. Under the typical arrangement, the provider receives a fixed percentage of premiums to cover costs of all medical care or of the specified ancillary services provided to the capitated members. Under some capitated and professional capitation arrangements, physicians may also receive additional compensation from risk sharing and other incentive arrangements. Capitation arrangements limit the Company’s exposure to the risk of increasing medical costs, but expose the Company to risk as to the adequacy of the financial and medical care resources of the provider organization. The Company is ultimately responsible for the coverage of its members pursuant to the customer agreements. To the extent that a provider organization faces financial difficulties or otherwise is unable to perform its obligations under the capitation arrangements, the Company will be required to perform such obligations. Consequently, the Company may have to incur costs in excess of the amounts it would otherwise have to pay under the original global or ancillary capitation through contracted network arrangements. Medical costs associated with capitation arrangements made up approximately 8.2%, 6.4% and 2.9% of the Company’s total medical costs for the years ended December 31, 2011, 2010 and 2009, respectively.
The Company is a provider of health insurance coverage to the State of Illinois employees and their dependents. In August 2009, the State of Illinois notified the Company of the State’s significant budget deficit and subsequently the State has limited payments to the Company based on available cash.
As of December 31, 2011, the Company has an outstanding premium receivable balance from the State of Illinois of approximately $49.9 million which represents seven months of health insurance premiums. As the receivable is from a governmental entity which has been making payments, the Company believes that the full receivable balance will ultimately be realized and therefore the Company has not reserved against the outstanding balance. The Company’s regulated subsidiaries are required to submit statutory-basis financial statements to state regulatory agencies. For those financial statements, in accordance with state regulations, this receivable is being treated as an admitted asset in its entirety.
The majority of states in which the Company operates health plans have adopted a RBC policy that recommends the health plans maintain statutory reserves at or above the “Company Action Level,” which is currently equal to 200% of their RBC. Some states in which the Company’s regulated subsidiaries operate require deposits to be maintained with the respective states’ departments of insurance. The table below summarizes the Company’s statutory reserve information as of December 31, 2011 and 2010 (in millions, except percentage data).
The decrease in capital and surplus for the Company’s regulated subsidiaries primarily resulted from dividends paid to the parent company partially offset by net earnings and capital contributions made by the parent company.
The following is a summary of unaudited quarterly results of operations (in thousands, except per share data) for the years ended December 31, 2011 and 2010. Due to rounding of quarterly results, total amounts for each year may differ immaterially from the annual results.
As a result of the Louisiana appellate court’s decision on July 1, 2010 to affirm the state trial court’s summary judgment order, the Company recorded a $278 million pre-tax charge to earnings and a corresponding accrued liability during the quarter ended June 30, 2010.
Allen F. Wise, Chief Executive Officer and Chairman of the Company, held a beneficial interest in Health Risk Partners (“HRP”), an organization that entered into a written contract with the Company to provide claims analysis services relating to the Company’s Medicare line of business. Additionally, Mr. Wise’s son owned a minority interest in HRP and served as an executive officer. The contract was negotiated and entered into on an arms-length basis, and consistent with the Company’s Related Person Transaction policy, disinterested members of the Board of Directors and the Board’s Nominating/Corporate Governance Committee considered the transaction and determined that the services provided would be beneficial to the Company and that the amounts paid were immaterial to the Company and that the terms of the contract with HRP were fair and competitive with market rates for such services. Two other Directors of the Company owned minority interests in HRP. In June 2011, HRP was acquired by a third-party, which assumed the contract with the Company and is not a related party. Except for post-closing purchase price adjustments, Mr. Wise, his son and the two Directors have ceased to have any direct or indirect interest in HRP’s contract with the Company. For the years ended December 31, 2010 and 2009, the Company paid approximately $15.4 million and $12.2 million, respectively, to HRP for services rendered under the contract. During the period in 2011 in which Mr. Wise held a beneficial interest, the Company paid approximately $2.7 million to HRP for services rendered under the contract. At December 31, 2010, the Company had accrued amounts to HRP of approximately $1.8 million, recognized within accounts payable and other accrued liabilities in the Company’s consolidated balance sheets.
Mr. Daniel N. Mendelson, a director of the Company, is the Chief Executive Officer and majority owner of Avalere Health Inc. Avalere Health LLC, a wholly owned subsidiary of Avalere Health Inc., is a healthcare policy and strategic advisory firm that provides syndicated research and market information products for clients in the healthcare industry, government and the not-for-profit sector. During 2011, 2010 and 2009, the amount the Company paid to Avalere Health LLC for these services was $0.2 million, $0.2 million and $0.1 million. Consistent with the Company’s Related Person Transactions Policy, disinterested members of the Board considered the transaction and determined that the services provided would be beneficial to the Company and the amounts to be paid were immaterial to both Avalere Health, Inc. and the Company and that the terms of the contract with Avalere Health, Inc. are fair and competitive with market rates for such services.
On January 1, 2012 the Company completed its previously announced acquisition of Children’s Mercy’s Family Health Partners, a Medicaid health plan that was affiliated with Children’s Mercy Hospital in Kansas City. With this acquisition of Children’s Mercy’s Family Health Partners, Coventry has added approximately 210,000 Medicaid members, with approximately 155,000 members in the State of Kansas and 55,000 members in the State of Missouri. This acquisition is not material to the Company’s consolidated financial statements.
In January 2012, at maturity, the Company repaid the $233.9 million outstanding balance of its 5.875% Senior Notes. See Note L, Debt, to the consolidated financial statements, which is incorporated herein by reference.
On February 24, 2012, CMS released a “Notice of Final Payment Error Calculation Methodology for Part C Medicare Advantage Risk Adjustment Data Validation (RADV) Contract-Level Audits.” Most importantly, CMS has made significant changes regarding which contract years will be subject to the CMS RADV audits. The Company maintains reserves for its exposure to the RADV audits, and it is anticipated that the changes made by CMS will result in a reduction of the Company’s reserves in the first quarter of 2012, which could have a material favorable effect on the Company’s financial position and results of operations.