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May 6, 2021, 6:23 a.m. EDT

10-Q: EVOLENT HEALTH, INC.

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(EDGAR Online via COMTEX) -- Item 2. 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 I - Item 1. Financial Statements" of this Form 10-Q; our 2020 Form 10-K, including the sections entitled "Risk Factors" and "Management's Discussion and Analysis of Financial Condition and Results of Operations"; and our current reports on Form 8-K filed in 2021.

INTRODUCTION

Background

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.

Business Overview

We are a market leader in the new era of value-based care, in which the delivery of health care is increasingly funded by at-risk payment models. We provide integrated solutions to both health care providers, including independent physicians and health systems, as well as payers, including health plans and other risk-bearing organizations, with a common end: to improve health care quality and outcomes while reducing cost. 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 an early innovator in Value-Based Care, founded in 2011 by members of our management team, UPMC, an integrated delivery system based in Pittsburgh, Pennsylvania, and The Advisory Board Company.

Today we manage our operations and allocate resources across two reportable segments: Clinical Solutions and Evolent Health Services. Our Clinical Solutions segment addresses a broad spectrum of clinical needs, with tailored solutions for Specialty Care Management in Oncology and Cardiology and holistic Total Cost of Care improvement. Our economic opportunity in the Clinical Solutions segment, which we believe to be significant, is largely based on (a) the total amount of medical expenses under management, and (b) the amount of savings we are able to generate relative to a benchmark or target. These partnerships, which we refer to as performance-based arrangements, include both capitation and shared savings arrangements. We also generate Clinical Solutions revenue by providing our technology and services platform on a fee basis. We go to market for our Specialty Care Management under the brand name New Century Health, and for our Total Cost of Care solution under the brand name Evolent Care Partners.

The Company's EHS segment provides an integrated administrative and clinical platform for health plan administration and population health management.

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.

As of the date the financial statements were available to be issued, we believe we have sufficient liquidity for the next 12 months.

Recent Events

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 March 31, 2021, we had cash and cash equivalents of $236.0 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 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.

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 and into the first quarter of 2021, 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 trend 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 and through the first quarter of 2021, 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 of 2021 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 largest customers in terms of revenue, Cook County Health and Hospitals Systems and Florida Blue Medicare, Inc., together accounted for approximately 43.5% of revenue for the three months ended March 31, 2021, and Cook County Health and Hospitals Systems accounted for approximately 21.5% of revenue for the three months ended March 31, 2020 and both participate in the Medicaid market. During the three months ended March 31, 2021, 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.

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.

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 agreed 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. The True Health closing occurred on March 31, 2021 and the Company will have no continuing involvement with True Health subsequent to the Closing except an existing services agreement for claims processing and other health plan administrative functions. Refer to "Part I - Item 1. Financial Statements - Note 5" for additional discussion regarding the True Health sale.

In addition, in conjunction with the sale of True Health, the Company made organizational changes, including re-evaluating its reportable segments. Effective during the first quarter of 2021, the Company bifurcated its previous Services segment into two segments. The Company's Evolent Health Services segment ("EHS") includes our administrative simplification solution and certain supporting population health infrastructure. Our Clinical Solutions segment includes our specialty management and physician-oriented total cost of care solutions, along with the New Century Health and Evolent Care Partners brands. Refer to "Part I - Item 1. Financial Statements - Note 21 for a further discussion of our operating results by segment.

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 I - Item 1. Financial Statements - Note 4" for additional discussion regarding the Passport transactions.

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 I - Item 1. Financial Statements

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 business 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 $5.4 million of repositioning costs in selling, general and administrative expenses during the three months ended March 31, 2021 in connection with the Repositioning Plan. The following tables provide a summary of our total costs associated with the Repositioning Plan for the three months ended March 31, 2021, by major type of cost:







                                                                                  Total Amount
                                                     Incurred For the            Expected to be            Cumulative Amount
                                                    Three Months Ended          Incurred in the         Incurred through March
                                                      March 31, 2021           Repositioning Plan              31, 2021
        Severance and termination benefits         $              109          $         2,500          $                109
        Office space consolidation                              2,071                    2,100                         2,071
        Professional services                                   3,200                    4,475                         4,475
        Total                                      $            5,380          $         9,075          $              6,655
        


Critical Accounting Policies and Estimates

The MD&A included in our 2020 Form 10-K contains a detailed discussion of our critical accounting policies and estimates. There have been no material changes to our critical accounting policies and estimates since our 2020 Form 10-K. See "Item 1. Financial Statements - Note 2" in this Form 10-Q for a summary of our significant accounting policies and see "Item 1. Financial Statements - Note 3" in this Form 10-Q for information regarding the Company's adoption of new accounting standards.

Summary of Significant Accounting Policies

Certain GAAP policies that significantly affect the determination of our financial position, results of operations and cash flows, are summarized below. See "Part II - Item 8. Financial Statements and Supplementary Data - Note 2" in our 2020 Form 10-K for a complete summary of our significant accounting policies.

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 three 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 EHS 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 EHS 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 specific reporting unit reference above, 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 October 31, 2020, we determined that the specific reporting unit had an estimated fair value greater than its carrying value and as a result, goodwill is not impaired.

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.

Adoption of New Accounting Standards

In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments and subsequently issued additional guidance that modified ASU 2016-13. The standard requires an entity to change its accounting approach for measuring and recognizing credit losses on certain financial assets measured at amortized cost, including trade receivables, certain non-trade receivables, customer advances and certain off-balance sheet credit exposures, by replacing the existing "incurred loss" framework with an expected credit loss recognition model. The new standard results in earlier recognition of credit losses based on past events, current conditions, and reasonable and supportable forecasts. The standard is effective for entities with fiscal years beginning after December 15, 2019, including interim periods within such fiscal years. We adopted the requirements of this standard effective January 1, 2020 using the modified retrospective approach and recorded a cumulative effect adjustment of $3.0 million to January 1, 2020 retained earnings (accumulated deficit). In our previous accounting policy for trade receivables and non-trade receivables, we maintained an allowance for doubtful accounts based on specific identification. Under the new accounting standard, we utilize several factors to develop historical losses, including aging schedules, customer creditworthiness, and historical payment experience, which are then adjusted for current conditions and reasonable and supportable forecasts in measurement of the allowance. In addition, for customer advances and certain off-balance sheet credit exposures, we evaluate the allowance through a discounted cash flow approach. Refer to Note 7 for additional disclosures related to current expected credit losses.

RESULTS OF OPERATIONS

Evolent Health, Inc. is a holding company and its principal asset is all of the Class A common units in Evolent Health LLC, which has owned all of our operating assets and substantially all of our business since inception. The financial results of Evolent Health LLC are consolidated in the financial statements of Evolent Health, Inc.

Key Components of our Results of Operations

Revenue

We derive revenue primarily from transformation services and platform and operations services.

Transformation Services Revenue

Transformation services consist of implementation services whereby we assist the customer in launching its population health or health plan programs. In certain . . .

May 06, 2021

COMTEX_385989448/2041/2021-05-06T06:22:43

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