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Feb. 26, 2021, 6:18 a.m. EST

10-K: EVOLENT HEALTH, INC.

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(EDGAR Online via COMTEX) -- Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is intended to help the reader understand the Company's financial condition and results of operations. The MD&A is provided as a supplement to, and should be read in conjunction with our consolidated financial statements and the accompanying notes to consolidated financial statements presented in "Part II - Item 8. Financial Statements and Supplementary Data" as well as "Part I - Item 1A. Risk Factors."

INTRODUCTION

Background and Recent Events

Evolent Health, Inc. is a holding company whose principal asset is all of the Class A common units it holds in Evolent Health LLC, and its only business is to act as sole managing member of Evolent Health LLC. Substantially all of our operations are conducted through Evolent Health LLC and its consolidated subsidiaries. The financial results of Evolent Health LLC are consolidated in the financial statements of Evolent Health, Inc.

Evolent Health's Response to COVID-19

On March 11, 2020, the World Health Organization (the "WHO") declared the novel strain of coronavirus (COVID-19) a global pandemic and recommended containment and mitigation measures worldwide. While response to the COVID-19 outbreak continues to rapidly evolve, it has led to aggressive actions to reduce the spread of the disease that have seriously disrupted activities in large segments of the economy. We are continuing to monitor the COVID-19 outbreak and its impact on our business.

Because of the nature of the services we provide, market dynamics in our end markets and with our significant customers, to date the COVID-19 pandemic has not materially impacted our financial condition or results of operations or our outlook. As of December 31, 2020 we had cash and cash equivalents of $340.5 million and as of the date the financial statements were available to be issued we believe our current cash balance is sufficient to meet our liquidity needs for the next twelve months. The COVID-19 crisis has also adversely impacted global access to capital and caused significant volatility in financial markets. Significant deterioration of the U.S. and global economies could have a significant adverse impact on our investment income, the value of our investments, or future liquidity needs. Although the impact of the COVID-19 pandemic on our business has not been severe to date, the long-term impact of the pandemic on our partners and the global economy is uncertain and will depend on various factors, including the scope, severity and duration of the pandemic. A prolonged economic downturn or recession resulting from the pandemic could adversely affect many of our partners which could, in turn, adversely impact our business, financial condition and results of operations.

Evolent's focus throughout this pandemic has been the health and safety of its employees and their families, as well as ensuring that we continue to furnish high quality service to our partners. Evolent has deployed a multi-faceted response to COVID-19, overseen by its Emergency Preparedness Team, led by the General Counsel and Chief Compliance Officer, that focuses on maintaining its workforce in a manner that does not disrupt service delivery or operations. Evolent is closely monitoring and overseeing any issues of noncompliance or deficiencies with client operational service level agreements and continuing to review contractual business requirements in light of state and federal mandates, emergency laws and orders, and available financial support opportunities. Evolent is also mindful of the impact COVID-19 has on its vendors and subcontractors, and we will continue to work with them regarding our collective obligations to Evolent's customers. We require a COVID-19 Business Continuity Attestation from subcontractors and vendors, confirming that operational and financial obligations will be met and aiming to ensure that privacy and security risks or incidents can be mitigated and disclosed in a timely manner.

Summary of Impact of COVID-19

In evaluating the impact of COVID-19 on our Services business, we considered, among other factors, the nature of the services we provide, end market trends and outlook and customer-specific trends. In evaluating our health plan businesses, we focused on possible changes in membership and medical utilization trends.

Services Business

Our two most significant service offerings in terms of revenue are specialty care management and administrative health services. Because both of these services offerings provide critical services to our clients and their members and have relatively long lead times to implement such services, we currently do not anticipate any material near-term disruption to the relevant contracts as a result of the pandemic.

The three key end-markets we serve are Medicaid, Medicare and Commercial.

Across 2020 we saw changes in membership and medical utilization in our end-markets as a result of the COVID-19 pandemic. The pandemic has resulted in a significant increase in unemployment in the United States. Historically, Medicaid enrollment has increased during periods of rising unemployment as individuals lose access to employer sponsored health care and turn to government sponsored health care. In addition, with respect to Medicaid, many states (including Florida, Kentucky and Illinois) put in place new rules during the pandemic eliminating the ability of Medicaid health plans to dis-enroll non-paying members, as well as waiving certain eligibility requirements, which together we expect will result in higher membership during the period of the pandemic. It is possible to see an opposite trends in the commercial market, where employees who are made redundant lose access to employer sponsored health care. We do not expect to see meaningful changes in membership in the Medicare market as a result of COVID-19. In aggregate, as more than 50% of the lives on our platform are currently in Medicaid and we generally earn revenue with respect to those lives based on a per member per month model, we expect to see a net benefit in our business from increased membership in that market in the near-term. We cannot predict the magnitude of this potential benefit, or how long it will last.

With respect to medical utilization, following the declaration of the pandemic by the WHO, many state-wide mandates deferred non-essential medical procedures to allow hospitals to focus on providing care to COVID-19 patients. Across all markets, our partners experienced declines in non-essential care throughout the year ended December 31, 2020, offset in part by increased costs for care of COVID-19 patients. We continue to monitor medical utilization trends closely as the pandemic progresses. Beginning late in the first quarter after declaration of the pandemic and continuing across the year, we have seen a modest benefit in our business from lower utilization trends. However, we cannot predict with any certainty the net impact of lower utilization on our business, as it is possible we will experience a surge in utilization if and when consumer behavior changes (for example if the novel coronavirus is controlled by a vaccine or other measures).

Our two largest customers in terms of revenue, EVH Passport/UHC and Cook County Health and Hospitals Systems, together accounted for approximately 37.1% and 28.2% of revenue for the year ended December 31, 2020 and 2019, respectively, and both participate in the Medicaid market. During the year ended December 31, 2020, we saw a modest increase in the membership at Cook County Health and Hospitals Systems; further increases in unemployment in Illinois could result in higher Medicaid enrollment in the future. In addition, during the year ended December 31, 2020 we saw modestly lower claims volume at both clients tied to State mandates curtailing non-essential care.

Health Plans

Our True Health plan serves approximately 17,000 members in the small and large group market in New Mexico as well as 6,700 members in the individual and federal employee markets in New Mexico. At the end of December 2020, the membership in group plans was not meaningfully changed relative to the year ended December 31, 2019. Beginning at the end of the three months ended March 31, 2020, we observed a decline in medical utilization tied to a state-wide mandate prohibiting non-essential care in the period from March 13, 2020, resulting in slightly lower than expected claims expenses. In our two Medicaid equity method investees (Lighthouse Health Plan and Miami Children's Health Plan in Florida) and our wholly-owned Medicaid plan (EVH Passport), we saw modest increases in membership during the year ended December 31, 2020 however reduced medical utilization resulted in reduced claims expenses in the same period. While we cannot estimate the magnitude of reduced medical utilization and its impact on our business, we expect this trend to continue until the COVID-19 pandemic moderates.

Overall, we are unable to determine or predict the nature, duration, or scope of the overall impact the COVID-19 pandemic will have on our business, results of operations, liquidity, or capital resources. We are actively monitoring the ongoing situation and may take further actions that change our operations if required by law or that we determine are in the best interests of our employees or partners.

Transactions

The Company has undertaken several transactions, some of which may impact year-to-year comparisons. The following is a discussion of certain of those transactions.

Passport

On December 30, 2019, UHC, Passport Health Solutions, LLC ("PHS I"), the Company and EVH Passport, closed a transaction whereby EVH Passport acquired substantially all of the assets and assumed substantially all of the liabilities of UHC, including the Passport Medicaid Contract. The purchase price paid by EVH Passport consisted of $70.0 million in cash and a 30% equity interest in EVH Passport issued to the Sponsors; however, $16.2 million of the foregoing cash purchase price was held back until such time as PHS I delivers to EVH Passport certain owned real property and improvements.

Refer to "Part II - Item 8. Financial Statements - Note 4" for additional discussion regarding the Passport transactions.

GlobalHealth

As of March 31, 2020, the Oklahoma Insurance Division ("OID") informed GlobalHealth, Inc. that in response to the COVID-19 pandemic, the OID required GlobalHealth, Inc. to increase its regulatory capital surplus by May 15, 2020. It would otherwise be placed into receivership if additional financing could not be secured. Certain investors agreed to provide liquidity as necessary to increase statutory capital reserves to no lower than 300%. In connection with the investment, GlobalHealth, Inc. transferred 100% of the equity interests in GlobalHealth, Inc. to the new investors for no consideration. Closing of this transaction occurred on May 13, 2020. As a result of this transaction, we recorded a non-cash impairment charge of approximately $47.1 million, representing the total value of our investment, in impairment of equity method investments on the consolidated statements of operations for the three months ended March 31, 2020.

Convertible Debt Issuance, Extinguishment of Debt and Repayment of Notes

In August 2020, the Company issued $117.1 million aggregate principal amount of its 3.50% Convertible Senior Notes due 2024 (the "2024 Notes") in privately negotiated exchange and/or subscription agreements, with certain holders of its outstanding 2021 Notes and certain new investors. The Company issued $84.2 million aggregate principal amount of 2024 Notes in exchange for $84.2 million aggregate principal amount of the 2021 Notes and an aggregate cash payment of $2.5 million, and issued $32.8 million aggregate principal amount of New Notes for cash at par. We incurred $3.0 million of debt issuance costs in connection with the 2024 Notes. The closing of the private placement of the 2024 Notes occurred on August 19, 2020.

The exchanges were accounted for as an extinguishment resulting in a net loss on extinguishment of debt of $4.8 million, including an aggregate cash payment to noteholders of $2.5 million, which is included in loss on extinguishment of debt, net on the consolidated statement of operations.

In August 2020, we also repurchased $14.0 million of the 2021 Notes with $13.9 million of cash and recorded an immaterial gain on extinguishment of debt. Refer to "Part II - Item 8. Financial Statements - Note 9" for additional discussion relating to the convertible debt issuance, extinguishment of debt and partial repayment of 2021 Notes.

Agreement for the Sale of True Health New Mexico

On January 11, 2021, Evolent LLC, EH Holdings and True Health, each wholly owned subsidiaries of the Company, entered into the SPA with Bright HealthCare, pursuant to which EH Holdings expects to sell all of its equity interest in True Health to Bright HealthCare for a purchase price of $22.0 million plus excess risk based capital, subject to satisfaction of customary closing conditions, including regulatory approvals. The purchase price is subject to a customary purchase price adjustment following the True Health Closing based in part on actual medical claims experience. Refer to "Part II - Item 8. Financial Statements - Note 26" for additional discussion regarding the True Health sale.

Repayment and Termination of Existing Credit Agreement

On January 8, 2021, the Company repaid all outstanding amounts owed under, and terminated, the Credit Agreement with Ares Capital Corporation. The total amount paid to Ares Corporation under the Credit Agreement in connection with the prepayment was $98.6 million, which included $9.7 million for the make-whole premium as well as $0.2 million in accrued interest. In addition to the payment of the Credit Agreement, the Company settled the outstanding warrants associated with the debt for $13.7 million. Refer to "Part II - Item 8. Financial Statements - Note 9" for additional discussion relating to the repayment of the Credit Agreement.

Repositioning Plan

We continually assess opportunities to improve operational effectiveness and efficiency to better align our expenses with revenues, while continuing to make investments in our solutions, systems and people that we believe are important to our long-term goals. Across 2020, we divested or agreed to divest a majority of our health plan assets, including the assets of EVH Passport, which represented a significant revenue stream for the Company. In parallel with these divestitures, we contracted with a third-party vendor to review our operating model and organizational design in order to improve our profitability, create value through our solutions and invest in strategic opportunities in future periods.

In the fourth quarter of 2020, we committed to certain operational efficiency and profitability actions that we are taking in order to accomplish these objectives ("Repositioning Plan"). These actions included making organizational changes across our Services segment as well as other profitability initiatives expected to result in reductions in force, re-aligning of resources as well as other potential operational efficiency and cost-reduction initiatives. The Repositioning Plan is expected to continue through the fourth quarter of 2021.

The Company recorded approximately $1.3 million of repositioning costs in selling, general and administrative expenses during the year ended December 31, 2020. The following tables provide a summary of our total costs associated with the Repositioning Plan, included in the line item within our consolidated statements of operations, for the year ended December 31, 2020, by major type of cost:







                                                                                    Total Amount
                                                                                   Expected to be         Cumulative Amount
                                                    Incurred For the Year         Incurred in the          Incurred through
                                                   Ended December 31, 2020       Repositioning Plan       December 31, 2020
        Severance and termination benefits         $                  -          $         2,500          $             -
        Office space consolidation                                    -                    2,100                        -
        Professional services                                     1,275                    4,200                    1,275
        Total                                      $              1,275          $         8,800          $         1,275
        


Business Overview

We are a market leader in the new era of value-based care, in which leading health systems and physician organizations, which we refer to as providers, as well as health plans, which we refer to as payers, are moving their business models from traditional FFS reimbursement to an increasingly integrated clinical and financial responsibility for populations. We refer to our provider and payer customers as partners. We consider value-based care to be the necessary convergence of health care payment and delivery. We believe the pace of this convergence is accelerating, driven by price pressure in traditional FFS health care, a market environment that is incentivizing value-based care models, growth in consumer-focused insurance programs, such as Medicare Advantage and managed Medicaid, and innovation in data and technology.

We were founded in 2011 by members of our management team, UPMC, an integrated delivery system based in Pittsburgh, Pennsylvania, and The Advisory Board Company. We provide integrated, technology-enabled services to our national network of leading health systems, physician organizations and national and regional payers across Medicare, Medicaid and commercial markets.

During 2020, we managed our operations and allocate resources across two reportable segments, our Services segment and our True Health Segment. The Company's Services segment provides our customers two clinical solutions: (i) total cost of care services and (ii) specialty care management services, and one administrative solution: comprehensive health plan administration services. These services enable payers and providers to manage patient health in a more cost-effective manner. The Company's contracts are structured as a combination of monthly member service fees, percentage of plan premiums, shared medical savings arrangements and/or other performance-based arrangements including taking responsibility for all or substantially all of the cost of care. Our True Health

segment consists of a commercial health plan we operate in New Mexico that focuses on individual and family as well as small and large businesses.

The Company made organizational changes, including re-evaluating its reportable segments, as a result of the entry into the agreement to sell True Health on January 11, 2021. Effective during the first quarter of 2021, the Company will bifurcate its Services segment into two reportable segments as follows:

Evolent Health Services, which houses our Administrative Simplification solution and certain supporting population health infrastructure; and

All of our revenue is recognized in the United States and substantially all of our long-lived assets are located in the United States.

We have incurred operating losses since our inception, as we have invested heavily in resources to support our growth. We intend to continue to invest aggressively in the success of our partners, expand our geographic footprint and further develop our capabilities. We also expect to continue to incur operating losses for the foreseeable future and if we are unable to achieve our revenue growth and cost management objectives, we may not be able to achieve profitability.

Critical Accounting Policies and Estimates

We have identified the accounting policies below as critical to the understanding of our results of operations and our financial condition. In applying these critical accounting policies in preparing our financial statements, management must use critical assumptions, estimates and judgments concerning future results or other developments, including the likelihood, timing or amount of one or more future events. Actual results may differ from these estimates under different assumptions or conditions. On an ongoing basis, we evaluate our assumptions, estimates and judgments based upon historical experience and various other information that we believe to be reasonable under the circumstances. For a detailed discussion of other significant accounting policies, see "Part II - Item 8. Financial Statements and Supplementary Data - Note 2."

Goodwill

We recognize the excess of the purchase price, plus the fair value of any non-controlling interests in the acquiree, over the fair value of identifiable net assets acquired as goodwill. Goodwill is not amortized, but is reviewed at least annually for indications of impairment, with consideration given to financial performance and other relevant factors. We perform impairment tests of goodwill at a reporting unit level. The Company has four reporting units and our annual goodwill impairment review occurs during the fourth quarter of each year. We perform impairment tests between annual tests if an event occurs, or circumstances change, that we believe would more likely than not reduce the fair value of a reporting unit below its carrying amount.

Our goodwill impairment analysis first assesses qualitative factors to determine whether events or circumstances existed that would lead the Company to conclude it is more likely than not that the fair value of a reporting unit is below its carrying amount. If the Company determines that it is more likely than not that the fair value of a reporting unit is below the carrying amount, a quantitative goodwill assessment is required. In the quantitative evaluation, the fair value of the relevant reporting unit is determined and compared to the carrying value. If the fair value is greater than the carrying value, then the carrying value is deemed to be recoverable and no further action is required. If the fair value estimate is less than the carrying value, goodwill is considered impaired for the amount by which the carrying amount exceeds the reporting unit's fair value and a charge is reported in goodwill impairment on our consolidated statements of operations and comprehensive income (loss).

A description of our 2020 goodwill impairment test follows below.

The Company performed an interim goodwill impairment assessment in one of our three reporting units in the Services segment as of March 31, 2020 due to the decline in the Company's stock price during the first quarter of 2020 and lack of excess of fair value over the carrying value considering the $199.8 million impairment charge taken in the fourth quarter of 2019. The Company concluded that the fair value of its reporting unit was more than its carrying value as of March 31, 2020. In addition, the Company performed an interim goodwill impairment assessment as of May 31, 2020 and concluded that the fair value of one of our three reporting units in the Services segment was less than its carrying value by $215.1 million as of May 31, 2020. The decrease in fair value was due to our largest customer, EVH Passport, not obtaining a renewal of its Kentucky managed Medicaid contract, which was its sole business. The non-renewal of EVH Passport's contract caused a reduction in the Company's cash flow projections.

As a result of the impairment charges in the fourth quarter of 2019 and second quarter of 2020, the Company elected to forego the qualitative assessment and proceed directly to the quantitative assessment of the goodwill impairment test for the specific reporting

unit that incurred those impairment charges. This election does not preclude Management from performing the qualitative assessment in any subsequent period. For the remaining reporting units, after assessing the totality of events and circumstances including the results of our previous valuations, the minimal impacts of the Passport loss and COVID-19, the Company does not believe that an event occurred or circumstances changed during the period under consideration that would, more likely than not, reduce the fair value of any reporting unit below their carrying amount. Therefore, the Company concluded that the quantitative assessment was not required.

In performing our October 31, 2020 impairment test for one of the three reporting units in the Services segment, we estimated the fair value of our reporting units by considering a discounted cash flow valuation approach ("income approach"). In determining the estimated fair value using the income approach, we projected future cash flows based on management's estimates and long-term plans and applied a discount rate based on the Company's weighted average cost of capital. This analysis required us to make judgments about revenues, expenses, fixed asset and working capital requirements, capital market assumptions, cash flows and discount rates.

As of December 31, 2020, the Company assessed whether there were additional events or changes in circumstances since its annual goodwill impairment test that would indicate that it was more likely than not that the fair value of the reporting units was less than the reporting unit's carrying amounts that would require an interim impairment assessment after October 31, 2020. The Company determined there had been no such indicators, therefore, we did not perform an interim goodwill impairment assessment as of December 31, 2020. As of December 31, 2020, the remaining goodwill attributable to the reporting unit from which we recognized a non-cash goodwill impairment charge earlier in the year was $214.3 million.

Revenue Recognition

. . .

Feb 26, 2021

COMTEX_381776792/2041/2021-02-26T06:17:50

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