Evolent Health, Inc. (EVH) FY 2022 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
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
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.
We currently manage our operations and allocate resources across two reportable segments: EHS and Clinical Solutions. The Company’s EHS segment provides an integrated administrative and clinical platform for health plan administration and value-based business infrastructure. Our Clinical Solutions segment addresses a broad spectrum of clinical needs, with tailored solutions for specialty care management in oncology and cardiology and increasingly the musculoskeletal markets 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.
During the first quarter of 2023, as a result of the operational success and growth within its Clinical Solutions segment including the acquisition of NIA, as well as BHG, a health plan operating partner of EHS, which accounted for 11.3% of the Company’s short-term trade accounts receivable, excluding pharmacy claims receivable and premiums receivable as of December 31, 2022, announced its plans to exit its IFP line of business for 2023 and thus negatively impacting the Company’s future revenues from such partner, the Company is making organizational changes and business strategy decisions which necessitate re-evaluating its reportable segments, including potentially changing the number of reportable segments. The Company anticipates its focus in the future will be primarily on maximizing the market opportunity it believes it has in the management of complex specialty conditions, which constituted approximately 70% percent of corporate revenue for the year ended December 31, 2022, prior to the acquisition of NIA which will increase this proportion further.
All of our revenue is recognized in the United States and substantially all of our long-lived assets are located in the United States.
Recent Events
Impact of Inflation
We experience pricing pressures in the form of competitive prices in addition to rising costs for certain inflation-sensitive operating expenses such as labor, employee benefits and facility leases. We do not believe these impacts were material to our revenues or net income during the year ended December 31, 2022. However, significant sustained inflation driven by the macroeconomic environment or other factors could negatively impact our margins, profitability and results of operations in future periods.
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Customers
The following table summarizes those partners who represented at least 10.0% of our consolidated revenue:
| For the Year Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 (1) | 2020 (1) | ||||||
| Cook County Health and Hospitals Systems | 22.4 | % | 28.0 | % | 22.3 | % | ||
| Florida Blue Medicare, Inc. (2) | 11.5 | % | 14.1 | % | N/A | |||
| Passport (3) | * | * | 19.0 | % |
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(1)The denominator excludes $44.8 million and 117.4 million of True Health premium revenue reclassified to discontinued operations for the years ended December 31, 2021 and 2020, respectively.
(2)Customer added during the year ended December 31, 2021. Florida Blue Medicare, Inc. utilizes our specialty care management solutions provided by New Century Health.
(3)Represents revenues from EVH Passport/UHC through the Molina Closing. Subsequent to the Molina Closing on September 1, 2020, the Company has not received any material revenue from EVH Passport. However, as part of the Molina Closing, we entered into a new contract with Molina on similar terms to our prior services contract with EVH Passport through December 31, 2020 which accounted for approximately 9.7% of our consolidated revenues for the year ended December 31, 2020.
* Represents less than 10.0% of the respective balance
As of December 31, 2022, our average contractual relationship with our operating partners was approximately 6.4 years, with an average of 1.3 years of performance remaining per contract.
In October 2022, BHG, an operating partner of the EHS segment, announced that it plans to exit its IFP line of business for 2023. As a result of this announcement, the Company performed a quantitative assessment of the goodwill impairment test for that specific reporting unit which showed that no goodwill impairment had occurred. Revenue from BHG comprised less than 10% of our consolidated revenue for the year ended December 31, 2022.
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.
Acquisition of Vital Decisions
On August 2, 2021, Evolent Health LLC and EV Thunder Merger Sub, LLC, each wholly owned subsidiaries of the Company, and the Company entered into a definitive agreement for the Company to acquire Vital Decisions. On October 1, 2021, we consummated the acquisition of Vital Decisions for $46.5 million in cash and the issuance of 1.8 million shares of Class A common stock. Vital Decisions reports into Evolent’s specialty care management offering, New Century Health, and is consolidated into the Company’s Clinical Solutions segment. The transaction closed on October 1, 2021.
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Acquisition of IPG
On August 1, 2022, the Company completed its acquisition of IPG, including 100% of the voting equity interests. IPG is a leader in providing surgical management solutions for musculoskeletal conditions. The transaction is expected to accelerate our strategy to become a leading provider of value-based specialty care solutions as well as diversify our revenue streams with a larger customer portfolio. The transaction is expected to deepen our capabilities, allowing us to cross-sell across customers and enhance our value proposition to partners.
Total acquisition consideration, net of cash on hand and certain closing adjustments, was $461.7 million, based on the closing price of the Company’s Class A common stock on the NYSE on August 1, 2022. The acquisition consideration consisted of $256.5 million of cash consideration, 3.7 million shares of Class A common stock, fair valued at $130.2 million as of August 1, 2022, and an earn-out of up to $87.0 million, fair valued at $75.0 million as of August 1, 2022, which is payable in cash and/or shares of the Company’s Class A Common Stock, at the Company’s option. IPG will report into Evolent’s specialty care management offering, New Century Health, and will be consolidated into the Company’s Clinical Solutions segment. Refer to “Part II - Item 8. Financial Statements - Note 4” for additional discussion regarding the IPG transactions.
Ares Secured Credit Facilities
On August 1, 2022 (the “Closing Date”), the Company entered into a Credit Agreement, by and among the Company, Evolent Health LLC (“Evolent”), Endzone Merger Sub, Inc. (“Endzone” or “Initial Borrower”), which upon consummation of the transactions contemplated by the Merger Agreement was merged with and into TPG Growth Iceman Parent, Inc., Implantable Provider Group, Inc. (“Implantable”, collectively with Evolent, Endzone and TPG Growth Iceman Parent, the “Borrowers” and each a “Borrower”), certain subsidiaries of the Company, as guarantors, the lenders from time to time party thereto, Ares Capital Corporation, as administrative agent, and ACF Finco I LP, as collateral agent and as revolver agent (the “2022 Credit Agreement”), pursuant to which the lenders agreed to extend credit to the Borrowers in the form of the (i) 2022 Initial Term Loan Facility, with an aggregate principal amount of $175.0 million and (ii) a revolving credit facility in the aggregate principal amount of up to $50.0 million, to be determined by reference to the lesser of $50.0 million and a borrowing base (the “Revolving Facility” and, together with the 2022 Initial Term Loan Facility, the “2022 Credit Facilities”), subject to the satisfaction of specified conditions. The Borrowers borrowed the loan under the 2022 Initial Term Loan Facility on August 1, 2022 (the “Initial Term Loan”), and also borrowed $50.0 million under the Revolving Facility on the Closing Date.
The interest rate for each loan under the 2022 Credit Facilities is calculated, at the option of the Borrowers, (a) in the case of the Term Loan, at either the Adjusted Term SOFR Rate (as defined in the 2022 Credit Agreement) plus 5.50%, or the base rate plus 4.50% and (b) in the case of a Revolving Loan, at either the Adjusted Term SOFR Rate plus 3.50%, or the base rate plus 2.50%. A commitment fee of (a) 2.00% of the aggregate amount of the commitments in respect of the Term Loan Facility as of the Closing Date and (b) 2.00% of the aggregate amount of the commitments in respect of the Revolving Facility was paid as of the Closing Date. Refer to “Part II - Item 8. Financial Statements - Note 10” for additional discussion regarding the 2022 Credit Facilities.
2024 Notes Conversion
On August 11, 2022, the Company entered into exchange agreements with certain holders of the 2024 Notes. Pursuant to the agreements, these holders exchanged $92.8 million in aggregate principal amount of such notes for shares of the Company’s Class A common stock. On August 17 and 18, 2022, the Company consummated the exchanges and issued an aggregate of 5,394,165 shares of Class A common stock to the holders. The August 2022 exchanges of the 2024 Notes resulted in a $10.2 million loss on extinguishment/repayment of debt, net, on the consolidated statements of operations and comprehensive income (loss).
Acquisition of NIA
On November 17, 2022, Evolent Health LLC, a wholly owned subsidiary of the Company, and the Company entered into a definitive agreement for the Company to acquire NIA. On January 20, 2023, we consummated the acquisition of NIA for $400.0 million in cash, $265.0 million in debt financing provided by Ares Capital Corporation and the issuance of 8.5 million shares of Class A common stock. NIA reports into Evolent’s specialty care management offering, New Century Health, and is consolidated into the Company’s Clinical Solutions segment. Refer to “Part II - Item 8. Financial Statements - Note 25” for additional discussion regarding the NIA acquisition.
Credit Agreement Amendment
On January 20, 2023, in connection with the consummation of the acquisition of NIA, we entered into Amendment No. 1 to the Credit Agreement, dated as of August 1, 2022, that provided new secured debt financing in the form of (i) additional commitments under the Priority ABL Incremental Facility in an aggregate principal amount equal to $25.0 million, and (ii) additional commitments under the Company’s Term Loan Incremental Facility in an aggregate principal amount equal to $240.0 million, and effected certain
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amendments to the Existing Credit Agreement. Concurrently with Amendment No. 1, EVH LLC borrowed $25.0 million under the Priority ABL Incremental Facility and $240.0 million under the Term Loan Incremental Facility to finance, together with the proceeds from the sale of the Series A Preferred Stock (as defined below), the cash consideration payable for the acquisition of NIA and pay transaction fees and expenses. Refer to “Part II - Item 8. Financial Statements - Note 25” for additional discussion regarding the amendment to the Credit Agreement.
Series A Preferred Stock
In connection with the consummation of the acquisition of NIA, on January 20, 2023, we entered into a Securities Purchase Agreement (Series A Convertible Preferred Shares) pursuant to which the Company offered and sold an aggregate 175,000 shares of Series A Preferred Stock, at a purchase price of $960.00 per share, resulting in total gross proceeds to us of $168.0 million. The proceeds from the offer and sale of the Series A Preferred Stock were used, together with the proceeds from the Priority ABL Incremental Facility and Term Loan Incremental Facility, to finance the cash consideration payable for the acquisition of NIA and pay transaction fees and expenses. Refer to “Part II - Item 8. Financial Statements - Note 25” for additional discussion regarding the sale of Series A Preferred Stock.
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 that will provide future benefit to the Company. The Repositioning Plan concluded in the fourth quarter of 2021.
The following table provides a summary of our total costs associated with the Repositioning Plan for the years ended December 31, 2021 and 2020, by major type of cost (in thousands):
| For the Year Ended December 31, | Cumulative Amount Incurred through December 31, 2021 | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2020 | |||||||||
| Severance and termination benefits | $ | 185 | $ | — | $ | 185 | ||||
| Office space consolidation | 2,742 | — | 2,742 | |||||||
| Professional services | 4,391 | 1,275 | 5,666 | |||||||
| Total | $ | 7,318 | $ | 1,275 | $ | 8,593 |
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 three reporting units and our annual goodwill impairment review occurs during the fourth quarter of each
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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. Qualitative factors include macroeconomic, industry and market considerations, overall financial performance, industry, legal and other relevant events and factors affecting the reporting unit. Additionally, as part of this assessment, we may perform a quantitative analysis to support the qualitative factors above by applying sensitivities to assumptions and inputs used in measuring a reporting unit’s fair value.
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). We use discounted cash flow analyses and market multiple analyses in order to estimate reporting unit fair values. Discounted cash flow analyses rely on significant judgement and assumptions about expected future cash flows, weighted-average cost of capital, discount rates, expected long-term growth rates and operating margins. These assumptions are based on estimates of future revenue and earnings after considering such factors as general economic and market conditions which drive key assumptions of revenue growth rates, operating margins, capital expenditures and working capital requirements. The weighted average cost of capital is based on market-based factors/inputs but also considers the specific risk characteristics of the reporting unit’s cash flow forecast. A significant change to these estimates and assumptions could cause the estimated fair values of our reporting units and intangible assets to decline and increase the risk of an impairment charge to earnings. Intangible assets with finite lives are assessed for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable.
On October 31, 2022, the Company performed its annual goodwill impairment test for fiscal year 2022. As a result of BHG announcing its plan to exit its IFP line of business in 2023, thus negatively impacting the Company’s future revenues from such partner, the Company elected to forego the qualitative assessment and proceed directly to the quantitative assessment of the goodwill impairment test for that specific reporting unit. In doing so, we estimated the fair value of the reporting unit 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. The quantitative analysis of the EHS reporting unit showed that the fair value exceeded the carrying value. Contracts with our customers may be cancelled or renegotiated and future revenue growth is dependent on winning new contracts. Further, the impairment analysis is particularly sensitive to changes in the projected revenue growth rates and expenses and the discount rate. Changes in these key assumptions such as a significant unfavorable change to our forecasted cash flows due to being unsuccessful in winning certain contracts or certain of our contracts being cancelled or renegotiated by our customers, could result in a revision of management’s estimates and could result in impairment charges in the future, which could be material to our results of operations. We will continue to monitor for such changes in facts or circumstances, which may be indicators of potential impairment triggers.
For the remaining reporting units, after assessing the totality of events and circumstances including the results of our previous valuations, no events 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. For all reporting units, it was determined that as of October 31, 2022, no impairment of goodwill had occurred.
As of December 31, 2022, 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, 2022. The Company determined there had been no such indicators, therefore, we did not perform an interim goodwill impairment assessment as of December 31, 2022.
Revenue Recognition
Contracts with Multiple Performance Obligations
Our contracts with customers may contain multiple performance obligations, primarily when the customer has requested both transformation services and platform and operations services as these services are distinct from one another. When a contract has multiple performance obligations, we allocate the transaction price to each performance obligation based on the relative standalone
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selling price using the expected cost margin approach. This approach requires estimates regarding both the level of effort it will take to satisfy the performance obligation as well as fees that will be received under the variable pricing model. We also take into consideration customer demographics, current market conditions, the scope of services and our overall pricing strategy and objectives when determining the standalone selling price.
Principal vs Agent
We use third parties to assist in satisfying our performance obligations. In order to determine whether we are the principal or agent in the arrangement, we review each third-party relationship on a contract-by-contract basis. We are an agent when our role is to arrange for another entity to provide the services to the customer. In these instances, we do not control the service before it is provided and recognize revenue on a net basis. We are the principal when we control the good or service prior to transferring control to the customer. We recognize revenue on a gross basis when we are the principal in the arrangement.
Income Taxes
Significant management judgment is required in determining our provision for income taxes, our deferred tax assets and liabilities and any valuation allowance recorded against our net deferred tax assets. We estimate our actual current tax expense, including permanent charges and benefits, and temporary differences resulting from differing treatment of items, such as deferred revenue for tax and book accounting purposes. These temporary differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheets.
We assess the likelihood that our deferred tax assets will be recovered from future taxable income by considering both positive and negative evidence relating to their recoverability. If we believe that it is more likely than not that these deferred tax assets will not be recovered, we establish a valuation allowance. To the extent that we increase a valuation allowance in a period, we include an expense in the consolidated statement of operations in the period in which such determination is made.
In assessing the need for a valuation allowance, we considered all available evidence, including recent operating results, projections of future taxable income, our ability to utilize loss and credit carryforwards, and the feasibility of tax planning strategies. A significant piece of objective negative evidence evaluated for jurisdictions in a net deferred tax asset position was cumulative pre-tax losses over the three years ended December 31, 2022.
We account for uncertainty in income taxes by recognizing a tax position only when it is more likely than not that the tax position, based on its technical merits, will be sustained upon ultimate settlement with the applicable tax authority. The tax benefit to be recognized is the largest amount of tax benefit that is greater than fifty percent likely of being realized upon ultimate settlement with the applicable tax authority that has full knowledge of all relevant information.
Our gross unrecognized benefits are $1.6 million as of December 31, 2022. Our evaluation of uncertain tax positions is based on factors including, but not limited to, changes in facts or circumstances, changes in tax law, effectively settled issues under audit, and new audit activity. If actual settlements differ from these estimates, or we adjust these estimates in future periods, we may need to recognize additional tax benefits or charges that could materially impact our financial position and results of operations.
Reserve for Claims and Performance-based Arrangements
Reserves for performance-based arrangements and claims reflect actual payments under performance-based arrangements and the ultimate cost of claims that have been incurred but not reported, including expected development on reported claims, those that have been reported but not yet paid (reported claims in process), and other medical care expenses and services payable that are primarily composed of accruals for incentives and other amounts payable to health care professionals and facilities. The Company uses actuarial principles and assumptions that are consistently applied in each reporting period and recognizes the actuarial best estimate of the ultimate liability along with a margin for adverse deviation. This approach is consistent with actuarial standards of practice that the liabilities be adequate under moderately adverse conditions.
The process of estimating reserves involves a considerable degree of judgment by the Company and, as of any given date, is inherently uncertain. The methods for making such estimates and for establishing the resulting liability are continually reviewed, and adjustments are reflected in current results of operations in the period in which they are identified as experience develops or new information becomes known.
Business Combinations
Companies acquired during each reporting period are reflected in the results of the Company effective from their respective dates of
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acquisition through the end of the reporting period. The Company allocates the fair value of purchase consideration to the assets acquired and liabilities assumed based on their estimated fair values at the acquisition date. Our estimates of fair value are based upon assumptions believed to be reasonable but which are inherently uncertain and unpredictable and, as a result, actual results may differ from estimates. Critical estimates used to value certain identifiable assets include, but are not limited to, expected long-term revenues, future expected operating expenses, cost of capital, and appropriate discount rates.
The excess of the fair value of purchase consideration over the fair value of the assets acquired and liabilities assumed in the acquired entity is recorded as goodwill. Goodwill is assigned to the reporting unit that benefits from the synergies arising from the business combination. If the Company obtains new information about facts and circumstances that existed as of the acquisition date during the measurement period, which may be up to one year from the acquisition date, the Company may record adjustments to the assets acquired and liabilities assumed, with the corresponding offset to goodwill. Upon the conclusion of the measurement period or final determination of the values of assets acquired or liabilities assumed, whichever comes first, any subsequent adjustments are recorded to the Company's consolidated statements of operations and comprehensive income (loss).
For contingent consideration recorded as a liability, the Company initially measures the amount at fair value as of the acquisition date and adjusts the liability, if needed, to fair value each reporting period. Changes in the fair value of contingent consideration, other than measurement period adjustments, are recognized as a change in fair value of contingent consideration and indemnification asset on the Company's consolidated statements of operations and comprehensive income (loss). Acquisition-related expenses and post-acquisition restructuring costs are recognized separately from the business combination and are expensed as incurred.
Adoption of New Accounting Standards
In August 2020, the FASB issued ASU 2020-06, Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity. The ASU simplifies the accounting for certain financial instruments with characteristics of liabilities and equity, including convertible instruments and contracts in an entity’s own equity. Specifically, the ASU removes the separation models for convertible debt with a cash conversion feature or convertible instruments with a beneficial conversion feature and no longer permits the use of the treasury stock method from calculating earnings per share. As a result, after adopting the ASU’s guidance, we will not separately present in equity an embedded conversion feature of such debt. Instead, we will account for a convertible debt instrument wholly as debt unless (i) a convertible instrument contains features that require bifurcation as a derivative or (ii) a convertible debt instrument was issued at a substantial premium. Additionally, the ASU removes certain conditions for equity classification related to contracts in an entity’s own equity (e.g., warrants) and amends certain guidance related to the computation of earnings per share for convertible instruments and contracts on an entity’s own equity. The Company adopted the standard using a modified retrospective method as of January 1, 2022, with adjustments which reduced additional paid-in capital by $106.2 million and increased retained earnings by $39.8 million and increased the net carrying amount of the 2024 Notes and 2025 Notes by $25.1 million and $41.3 million.
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 platform and operations services.
Platform and Operations Services Revenue
Platform and operations services are typically multi-year arrangements with customers to provide various clinical and administrative solutions. In our Clinical Solutions segment, our solutions are designed to lower the medical expenses of our partners and include our total cost of care and specialty care management services. In our Evolent Health Services segment, our solutions are designed to provide comprehensive health plan operations and claims processing services, and also include transition or run-out services to customers receiving primarily TPA services.
Our performance obligation in these arrangements is to provide an integrated suite of services, including access to our platform that is customized to meet the specialized needs of our customers and members. Generally, we will apply the series guidance to the performance obligation as we have determined that each time increment is distinct. We primarily utilize a variable fee structure for these services that typically includes a monthly payment that is calculated based on a specified per member per month rate, multiplied by the number of members that our partners are managing under a value-based care arrangement or a percentage of plan premiums.
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Our arrangements may also include other variable fees related to service level agreements, shared medical savings arrangements and other performance measures. Variable consideration is estimated using the most likely amount based on our historical experience and best judgment at the time.
In our Clinical Solutions segment, we enter into capitation arrangements that may include performance-based arrangements and/or gainshare features. We recognize capitation revenue on a gross basis when we have established control over the services within our scope and recognize capitation revenue on a net basis when we do not have control over the services within our scope.
Due to the nature of our arrangements, certain estimates may be constrained if it is probable that a significant reversal of revenue will occur when the uncertainty is resolved. We recognize revenue from platform and operations services over time using the time elapsed output method. Fixed consideration is recognized ratably over the contract term. In accordance with the series guidance, we allocate variable consideration to the period to which the fees relate.
Contracts with Multiple Performance Obligations
Our contracts with customers may contain multiple performance obligations, primarily when the customer has requested both transformation services and platform and operations services as these services are distinct from one another. When a contract has multiple performance obligations, we allocate the transaction price to each performance obligation based on the relative standalone selling price using the expected cost margin approach. This approach requires estimates regarding both the level of effort it will take to satisfy the performance obligation as well as fees that will be received under the variable pricing model. We also take into consideration customer demographics, current market conditions, the scope of services and our overall pricing strategy and objectives when determining the standalone selling price.
In the ordinary course of business, our reportable segments enter into transactions with one another. While intersegment transactions are treated like third-party transactions to determine segment performance, the revenues and expenses recognized by the segment that is the counterparty to the transaction are eliminated in consolidation and do not affect consolidated results.
Cost of Revenue (exclusive of depreciation and amortization)
Our cost of revenue includes direct expenses and shared resources that perform services in direct support of clients. Costs consist primarily of employee-related expenses (including compensation, benefits and stock-based compensation), expenses for TPA support and other services, as well as other professional fees. In certain cases, our cost of revenue also includes claims and capitation payments to providers and payments for pharmaceutical treatments and other health care expenditures through performance-based arrangements.
Selling, General and Administrative Expenses
Our selling, general and administrative expenses consist of employee-related expenses (including compensation, benefits and stock-based compensation) for selling and marketing, corporate development, finance, legal, human resources, corporate information technology, professional fees and other corporate expenses associated with these functional areas. Selling, general and administrative expenses also include costs associated with our centralized infrastructure and research and development activities to support our network development capabilities, claims processing services, including PBM administration, technology infrastructure, clinical program development and data analytics.
Depreciation and Amortization Expense
Depreciation and amortization expenses consist of the amortization of intangible assets associated with the step up in fair value of Evolent Health LLC’s assets and liabilities for the Offering Reorganization, amortization of intangible assets recorded as part of our various business combinations and asset acquisitions and depreciation of property and equipment, including the amortization of capitalized software.
Lives on Platform and PMPM Fees
Clinical Solutions Lives on Platform in our Performance Suite are calculated by summing members covered for oncology specialty care services and members covered for cardiology specialty care services for contracts not under ASO arrangements. New Century Health Technology and Services Suite Lives on Platform are calculated by summing members covered for oncology specialty care services, members covered for cardiology specialty care services and members covered for advance care planning services for contracts under ASO arrangements. Members covered for more than one category are counted in each category. Clinical Solutions Cases are calculated by summing the number of individuals receiving services through our IPG and Vital Decisions programs in a given period.
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Clinical Solutions Performance Suite Average PMPM fee is defined as platform and operations services revenue pertaining to our Clinical Solutions Performance Suite during the period reported divided by the average of the beginning and ending Clinical Solutions Performance Suite Lives on Platform for the period divided by the number of months in the period. New Century Health Technology and Services Suite Average PMPM fee is defined as platform and operations revenue pertaining to the New Century Health Technology and Services Suite during the period reported divided by the average of the beginning and ending New Century Health Technology and Services Suite Lives on Platform for the period divided by the number of months in the period. Clinical Solutions Revenue per Case is calculated by the revenue pertaining to IPG and Vital Decisions divided by the number of cases for a given period.
Evolent Health Services average PMPM fee is defined as platform and operations revenue pertaining to the Evolent Health Services segment during the period reported divided by the average of the beginning and ending Evolent Health Services Lives on Platform for the period divided by the number of months in the period.
Management uses lives on platform, PMPM fees, cases and revenue per case because we believe that they provide insight into the unit economics of our services. We believe that these measures are also useful to investors because they allow further insight into the period over period operational performance. We believe that these measures are also useful to investors because they allow further insight into the period over period operational performance.
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Evolent Health, Inc. Consolidated Results
| (in thousands, except percentages) | For the Year Ended December 31, | Change Over Prior Period | For the Year Ended December 31, | Change Over Prior Period | |||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | $ | % | 2021 | 2020 | $ | % | ||||||||||||||||||||
| Revenue | $ | 1,352,013 | $ | 907,957 | $ | 444,056 | 48.9% | $ | 907,957 | $ | 924,639 | $ | (16,682) | (1.8)% | |||||||||||||
| Expenses | |||||||||||||||||||||||||||
| Cost of revenue (exclusive of depreciation and amortization expenses presented separately below) | 1,035,429 | 657,551 | 377,878 | 57.5% | 657,551 | 696,581 | (39,030) | (5.6)% | |||||||||||||||||||
| Selling, general and administrative expenses | 269,269 | 219,499 | 49,770 | 22.7% | 219,499 | 210,412 | 9,087 | 4.3% | |||||||||||||||||||
| Depreciation and amortization expenses | 67,195 | 60,037 | 7,158 | 11.9% | 60,037 | 60,835 | (798) | (1.3)% | |||||||||||||||||||
| Loss on disposal of assets and consolidation | — | — | — | —% | — | 698 | (698) | (100.0)% | |||||||||||||||||||
| Goodwill impairment | — | — | — | —% | — | 215,100 | (215,100) | (100.0)% | |||||||||||||||||||
| Change in fair value of contingent consideration | (23,522) | 13,281 | (36,803) | (277.1)% | 13,281 | 3,860 | 9,421 | 244.1% | |||||||||||||||||||
| Total operating expenses | 1,348,371 | 950,368 | 398,003 | 41.9% | 950,368 | 1,187,486 | (237,118) | (20.0)% | |||||||||||||||||||
| Operating income (loss) | $ | 3,642 | $ | (42,411) | $ | 46,053 | 108.6% | $ | (42,411) | $ | (262,847) | $ | 220,436 | 83.9% | |||||||||||||
| Cost of revenue as a % of revenue | 76.6 | % | 72.4 | % | 72.4 | % | 75.3 | % | |||||||||||||||||||
| Selling, general and administrative expenses as a % of revenue | 19.9 | % | 24.2 | % | 24.2 | % | 22.8 | % |
Comparison of the Results for Years Ended December 31, 2022 to 2021
Revenue
Total revenue increased by $444.1 million, or 48.9%, to $1,352.0 million for the year ended December 31, 2022, as compared to 2021. This increase is primarily due to $79.3 million from our acquisitions of IPG and Vital Decisions and $364.8 million from the addition of new partners and expansion with existing partners.
The following table represents Evolent’s revenue disaggregated by segment and end-market (in thousands):
| For the Year Ended December 31, | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | 2022 | 2021 | |||||||||||
| Evolent Health Services | Clinical Solutions | |||||||||||||
| Medicaid | $ | 238,504 | $ | 215,236 | $ | 320,858 | $ | 205,833 | ||||||
| Medicare | 27,092 | 26,358 | 431,321 | 380,973 | ||||||||||
| Commercial and other | 141,906 | 68,219 | 192,332 | 11,338 | ||||||||||
| Total | $ | 407,502 | $ | 309,813 | $ | 944,511 | $ | 598,144 |
Revenue from our Evolent Health Services segment increased by $97.7 million for the year ended December 31, 2022, as compared to 2021 due to growth with existing customers and new customer additions; one of these new customers has entered winddown as of January 1, 2023, and we do not expect future revenues from this customer to remain at these levels. Revenue from our Clinical Solutions segment increased by $346.4 million for the year ended December 31, 2022 as compared to 2021, primarily due to $79.3 million from our acquisitions of IPG and Vital Decisions, new partner additions, transition to risk based contracts with Medicaid customers and expansion into new markets within current New Century Health Technology and Services Suite partners.
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The following table represents the Company’s lives on platform and cases as of December 31, 2022 and 2021 and PMPM fees and revenue per case for the years ended December 31, 2022 and 2021 (Lives on Platform in thousands):
| Revenue | Lives on Platform/ Cases during Period | Average PMPM Fees / Revenue per Case | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| For the Year Ended December 31, | December 31, | For the Year Ended December 31, | ||||||||||||||||||
| 2022 | 2021 | 2022 | 2021 | 2022 | 2021 | |||||||||||||||
| Evolent Health Services(1) | $ | 408,371 | $ | 311,627 | 2,159 | 1,586 | $ | 17.74 | $ | 14.91 | ||||||||||
| Clinical Solutions | ||||||||||||||||||||
| Performance suite | 808,067 | 550,949 | 3,312 | 1,502 | 27.98 | 29.05 | ||||||||||||||
| New Century Health Technology and Services Suite | 52,494 | 42,501 | 15,158 | 14,574 | 0.29 | 0.34 | ||||||||||||||
| Cases | 83,950 | 4,694 | 39 | 4 | 1,800.55 | 1,063.95 | ||||||||||||||
| Intersegment eliminations attributable to EHS | (869) | (1,814) | N/A | N/A | N/A | N/A |
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(1)Evolent Health Services revenue includes $9.7 million and $11.2 million of revenue from transformation services for the years ended December 31, 2022 and 2021, respectively.
Cost of Revenue
The following table provides a summary of our total cost of revenue by segment for the year ended December 31, 2022, as compared to 2021 (amounts in thousands):
| For the Year Ended December 31, | ||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | 2022 | 2021 | 2022 | 2021 | 2022 | 2021 | |||||||||||||||||||||||
| Evolent Health Services | Clinical Solutions | Corporate | Total | |||||||||||||||||||||||||||
| Total | $ | 232,337 | $ | 198,190 | $ | 800,570 | $ | 456,912 | $ | 2,522 | $ | 2,449 | $ | 1,035,429 | $ | 657,551 |
Cost of revenue increased by $377.9 million, or 57.5%, to $1,035.4 million for the year ended December 31, 2022, as compared to 2021, principally as a result of the growth in our revenue. The increase included approximately $253.8 million from higher claims cost in our Clinical Solutions and Evolent Health Services segments from acquisitions and transition from ASO to risk based contracts for certain customers, $33.6 million of higher personnel costs due to increased headcount, employee benefits and bonus accruals for employees primarily in our Clinical Solutions segment, $22.1 million in higher professional fees primarily due to costs incurred for contracts that went live during the year and third-party service fees for existing customers, $40.9 million of surgical management costs at IPG and $12.3 million of severance costs primarily in our Evolent Health Services segment. Approximately $4.4 million and $2.3 million of total personnel costs in costs of revenue was attributable to stock-based compensation expense for the year ended December 31, 2022 and 2021, respectively. Cost of revenue represented 76.6% and 72.4% of total revenue for the year ended December 31, 2022 and 2021, respectively. Our cost of revenue increased as a percentage of our total revenue due to a change in the mix of our service offerings with the rapid growth of our Performance Suite products. We expect our cost of revenue to decrease as a percentage of total revenue over the longer-term subject to the composition of our growth.
Selling, General and Administrative Expenses
The following table provides a summary of our total selling, general and administrative by segment for the year ended December 31, 2022, as compared to 2021 (amounts in thousands):
| For the Year Ended December 31, | ||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | 2022 | 2021 | 2022 | 2021 | 2022 | 2021 | |||||||||||||||||||||||
| Evolent Health Services | Clinical Solutions | Corporate | Total | |||||||||||||||||||||||||||
| Total | $ | 94,581 | $ | 86,480 | $ | 63,820 | $ | 34,696 | $ | 110,868 | $ | 98,323 | $ | 269,269 | $ | 219,499 |
Selling, general, and administrative expenses increased by $49.8 million, or 22.7%, to $269.3 million for the year ended December 31, 2022, as compared to 2021, principally as a result of acquisitions in our Clinical Solutions segment and employee costs across all business units. The increase was primarily driven by higher personnel fees due to increased headcount and expected benefit accruals to employees of $33.1 million primarily in our Clinical Solutions segment, higher stock compensation of $15.2 million due to the achievement and change in projected achievement of certain performance measurements, technology services due to higher headcount
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of $9.1 million, $1.5 million of severance costs and acquisition costs of $7.5 million, offset, in part by lower professional fees from cost savings initiatives of $9.6 million and the termination of certain leases of $3.9 million. Approximately $29.6 million and $14.4 million of total personnel costs were attributable to stock-based compensation expense for the year ended December 31, 2022 and 2021, respectively. Acquisition and severance costs accounted for approximately $24.9 million and $4.4 million of total selling, general and administrative expenses for the year ended December 31, 2022 and 2021, respectively. Selling, general and administrative expenses represented 19.9% and 24.2% of total revenue for the year ended December 31, 2022, as compared to 2021, respectively. While our selling, general and administrative expenses are expected to grow as we integrate NIA operations, we expect them to decrease as a percentage of our total revenue over the long-term due to cost saving initiatives completed in the fourth quarter of 2021 and higher operating performance.
Depreciation and Amortization Expenses
Depreciation and amortization expenses increased $7.2 million, or 11.9%, to $67.2 million for the year ended December 31, 2022, as compared to 2021 due primarily to amortization of intangible assets acquired through our asset acquisitions and business combinations. We expect depreciation and amortization expenses to increase in future periods as we continue to capitalize internal-use software and amortize intangible assets resulting from asset acquisitions and business combinations.
Change in Fair Value of Contingent Consideration
We recorded a loss (gain) on change in fair value of contingent consideration of $(23.5) million for the year ended December 31, 2022, related to the liabilities acquired as a result of the acquisitions of Vital Decisions in October 2021, and IPG in August 2022, and $13.3 million for the twelve months ended December 31, 2021, related to liabilities acquired as a result of the acquisition of Vital Decisions in 2021.
Comparison of the Results for the Year Ended December 31, 2021 to 2020
Revenue
Total revenue decreased by $16.7 million, or 1.8%, to $908.0 million for the year ended December 31, 2021, as compared to 2020.
The following table represents Evolent’s revenue disaggregated by segment and end-market for the years ended December 31, 2021 and 2020 (in thousands):
| For the Year Ended December 31, | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2020 | 2021 | 2020 | |||||||||||
| Evolent Health Services | Clinical Solutions | |||||||||||||
| Medicaid | $ | 215,236 | $ | 236,634 | $ | 205,833 | $ | 274,028 | ||||||
| Medicare | 26,358 | 68,505 | 380,973 | 257,092 | ||||||||||
| Commercial and other | 68,219 | 77,221 | 11,338 | 11,159 | ||||||||||
| Total | $ | 309,813 | $ | 382,360 | $ | 598,144 | $ | 542,279 |
Revenue from our Evolent Health Services segment decreased by $72.5 million for the year ended December 31, 2021, as compared to 2020 due to the consolidation and runout of services for EVH Passport, partially offset by new partner additions. Revenue from our Clinical Solutions segment increased by $55.9 million for the year ended December 31, 2021 as compared to 2020 due to new partner additions including Florida Blue Medicare, Inc., as well as expansion into new markets within current New Century Health Technology and Services Suite partners.
The following table represents the Company’s lives on platform and cases as of December 31, 2021 and 2020 and PMPM fees and revenue per case for the years ended December 31, 2021 and 2020 (Lives on Platform in thousands):
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| Lives on Platform/ Cases during Period | Average PMPM Fees / Revenue per Case | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| December 31, | For the Year Ended December 31, | |||||||||||
| 2021 | 2020 | 2021 | 2020 | |||||||||
| Evolent Health Services | 1,586 | 1,898 | $ | 14.91 | $ | 17.63 | ||||||
| Clinical Solutions | ||||||||||||
| Performance suite | 1,502 | 1,602 | 29.05 | 28.55 | ||||||||
| New Century Health Technology and Services suite | 14,574 | 6,286 | 0.34 | 0.43 | ||||||||
| Cases | 4 | — | 1,063.95 | — |
Cost of Revenue
The following table provides a summary of our total cost of revenue by segment for the year ended December 31, 2021, as compared to 2020 (amounts in thousands):
| For the Year Ended December 31, | ||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2020 | 2021 | 2020 | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||||||
| Evolent Health Services | Clinical Solutions | Corporate | Total | |||||||||||||||||||||||||||
| Total | $ | 198,190 | $ | 216,004 | $ | 456,912 | $ | 474,803 | $ | 2,449 | $ | 5,774 | $ | 657,551 | $ | 696,581 |
Cost of revenue decreased by $39.0 million, or 5.6%, to $657.6 million for the year ended December 31, 2021, as compared to 2020. Cost of revenue decreased by approximately $23.2 million due to lower personnel costs, $8.4 million due to lower claims activity in our Clinical Solutions segment, $4.0 million in lower professional fees and $4.1 million in our technology services, TPA fees, brokerage fees and other costs. The principal driver of these decreases was the wind-down of EVH Passport relative to 2020. Cost of revenue for the year ended December 31, 2021 includes approximately $(0.5) million associated with the wind-down of EVH Passport, inclusive of a reduction in Passport’s claims reserve. Approximately $2.3 million and $1.8 million of total personnel costs was attributable to stock-based compensation expense for the years ended December 31, 2021 and 2020, respectively. Cost of revenue represented 72.4% and 75.3% of total services revenue for the years ended December 31, 2021 and 2020, respectively. Our cost of revenue decreased as a percentage of our total services revenue due to a change in the mix of our service offerings towards higher gross margin services with divestiture of our health plans combined with our Repositioning Plan.
Selling, General and Administrative Expenses
The following table provides a summary of our total selling, general and administrative by segment for the year ended December 31, 2021, as compared to 2020 (amounts in thousands):
| For the Year Ended December 31, | ||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2020 | 2021 | 2020 | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||||||
| Evolent Health Services | Clinical Solutions | Corporate | Total | |||||||||||||||||||||||||||
| Total | $ | 86,480 | $ | 81,778 | $ | 34,696 | $ | 24,033 | $ | 98,323 | $ | 104,601 | $ | 219,499 | $ | 210,412 |
Selling, general, and administrative expenses increased by $9.1 million, or 4.3%, to $219.5 million for the year ended December 31, 2021, as compared to 2020. Professional fees increased by $14.8 million for the year ended December 31, 2021, as compared to 2020, respectively, primarily due to the Repositioning Plan and shareholder advisory services. During the year ended December 31, 2021, personnel costs decreased by $1.3 million period over period due to a reduction in employee headcount, other expenses decreased by $2.8 million due to the termination of leases at EVH Passport during the third quarter of 2020 and legal fees decreased $2.1 million due to the timing and volume of transactions. Approximately $14.4 million and $12.8 million of total personnel costs were attributable to stock-based compensation expense for the year ended December 31, 2021 and 2020, respectively. Acquisition and severance costs accounted for approximately $4.4 million and $9.2 million of total selling, general and administrative expenses for the year ended December 31, 2021 and 2020, respectively. Selling, general and administrative expenses represented 24.2% and 22.8% of total revenue for the year ended December 31, 2021, as compared to 2020, respectively.
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Depreciation and Amortization Expenses
Depreciation and amortization expenses decreased $0.8 million, or 1.3%, to $60.0 million for the year ended December 31, 2021, as compared to 2020. The decrease was due primarily to lower amortization on existing technology intangibles of $3.9 million, offset, in part by, an increase in amortization expense for internal-use software of $2.6 million and customer relationships of $0.6 million.
Loss (Gain) on Disposal of Assets and Consolidation
During 2019, the Company, through a non-wholly owned consolidated subsidiary, entered into an agreement with an unrelated party to provide services and support to providers, independent physician associations, and other provider groups. During the year ended December 31, 2020, the Company sold its interest in the subsidiary and recorded a $6.4 million loss in loss (gain) on disposal of assets and consolidation on the consolidated statements of operations. The Company did not have any continuing involvement with the entity after the consummation of this transaction.
On September 1, 2020, EVH Passport and Molina consummated the Molina Closing, and the Passport Medicaid Contract was novated to Molina. As a result, the Company concluded that a reconsideration event occurred whereby EVH Passport was determined to be a voting interest entity and that Evolent had a controlling financial interest in EVH Passport; accordingly, the Company consolidated EVH Passport as of September 1, 2020 and recorded a $5.7 million bargain purchase gain in gain (loss) on disposal of assets and consolidation in its consolidated financial statements.
Goodwill Impairment
During the year ended December 31, 2020, we recorded a non-cash impairment charge of $215.1 million on our consolidated statements of operations as we determined that the implied fair value of goodwill of one of the two reporting units in the EHS segment was less than the carrying amount. See “Part II - Item 8. Financial Statements - Note 9” for further details of the impairment charge to goodwill.
Change in Fair Value of Contingent Consideration and Indemnification Asset
We recorded a gain on change in fair value of contingent consideration and indemnification asset of $13.3 million and $3.9 million for the year ended December 31, 2021 and 2020, respectively. This variance is the result of changes in the fair values of contingent liabilities incurred from entering into the warrant agreements compared to the liabilities acquired as a result of the acquisition of Vital Decisions in 2021.
Discussion of Non-Operating Results
Interest Expense
Our interest expense is primarily attributable to our 2021 Notes, 2024 Notes and 2025 Notes, as well as our 2022 and 2019 Credit Agreements with Ares Capital Corporation. We recorded interest expense (including amortization of deferred financing costs) of approximately $15.6 million, $25.4 million and $28.3 million for the years ended December 31, 2022, 2021 and 2020, respectively. The decrease in interest expense during the year ended December 31, 2022, compared to 2021 is driven primarily by the adoption of ASU 2020-06 and partial conversion of the 2024 Notes offset, in part by interest expense incurred on our 2022 Credit Agreement. The decrease in interest expense during the year ended December 31, 2021, compared to 2020, is driven primarily by the termination of the Ares Credit Agreement in January 2021, offset, in part by, the issuance of the 2024 Notes in August 2020. We expect interest expense to increase during 2023 as a result of the Acquisition Facilities entered into in January 2023. However, we are focused on deleveraging the balance sheet in the long-term thereby decreasing interest expense. See “Part II - Item 8. Financial Statements - Note 10” in this Form 10-K for more information related to interest expense.
Impairment of Equity Method Investments
As of June 30, 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 have 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 year ended December 31, 2020.
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Gain from Equity Method Investees
The Company allocated its proportional share of the investees’ earnings and losses each reporting period. The Company’s proportional share of the gain from these investments was approximately $4.6 million, $13.2 million and $10.0 million for the years ended December 31, 2022, 2021 and 2020, respectively. The change in gain from equity method investees for the year ended December 31, 2022, compared to 2021 is driven primarily by the sale of our Florida equity investee’s membership during the three months ended March 31, 2021. The change in gain from equity method investees for the year ended December 31, 2021, compared to 2020, is driven primarily by the Company’s investment in Passport during 2020 combined with gains on the sale of our Florida equity investee’s membership during 2021.
Gain from Transfer of Membership
During the year ended December 31, 2021, EVH Passport earned a cash payment from Molina in the amount of $46.0 million based on the number of enrollees above a certain threshold in the D-SNP Business and Molina's Medicaid plan following the open enrollment period for plan year 2021. 50% of the payment was received during the year ended December 31, 2021, and the remaining 50% was received in the first quarter of 2022.
Loss on Extinguishment/Repayment of Debt
On August 11, 2022, the Company entered into exchange agreements with certain holders of the 2024 Notes. Pursuant to the agreements, these holders exchanged $92.8 million in aggregate principal amount of such notes for shares of the Company’s Class A common stock. On August 17 and 18, 2022, the Company consummated the exchanges and issued an aggregate of 5,394,165 shares of Class A common stock to the holders. The August 2022 exchanges of the 2024 Notes resulted in a $10.2 million loss on extinguishment/repayment of debt, net, on the consolidated statements of operations and comprehensive income (loss).
On January 8, 2021, the Company repaid all outstanding amounts owed under, and terminated, the 2019 Credit Agreement with Ares Capital Corporation. The total amount paid to Ares Capital Corporation under the 2019 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. As a result of this transaction, the Company recorded a loss on the repayment of debt of $19.2 million, representing the remaining unamortized debt issuance costs of $9.5 million, the make-whole premium and legal expenses.
In August 2020, as part of the issuance of the 2024 Notes, the Company issued $84.2 million aggregate principal amount of the 2024 Notes in exchange for $84.2 million aggregate principal of its 2021 Notes. These 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.
Change in Tax Receivable Agreement Liability
Due to the reduction in the valuation allowance resulting from deferred tax liabilities established as part of the IPG acquisition, the Company has recorded a partial TRA liability of $46.0 million as of December 31, 2022, which represents 85% of the deferred tax assets related to the Company’s unrealized tax benefits on historical pre-IPO losses and tax basis increases from exchanges, offset with the related valuation allowance. As a result of the NIA acquisition, we expect to record a significant reduction to our valuation allowance paired with a significant increase in our TRA liability.
Provision for (Benefit from) Income Taxes
An income tax provision for (benefit from) of $(43.4) million, $0.5 million and $(2.4) million was recognized for the years ended December 31, 2022, 2021 and 2020, respectively, which resulted in effective tax rates of 69.9%, (1.6)% and 0.7%, respectively. The Company and its U.S. subsidiaries continue to record a valuation allowance against its net deferred tax assets, with the exception of indefinite lived components.
REVIEW OF CONSOLIDATED FINANCIAL CONDITION
Liquidity and Capital Resources
The Company reported operating gains (losses) of $3.6 million, $(42.4) million and $(262.8) million for the years ended December 31, 2022, 2021 and 2020, respectively. Net cash and restricted cash provided by (used in) operating activities was $(11.6) million, $38.7 million and $(16.2) million for the years ended December 31, 2022, 2021 and 2020, respectively.
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As of December 31, 2022, the Company had $188.2 million of cash and cash equivalents and $27.0 million in restricted cash and restricted investments.
We believe our current cash and cash equivalents will be sufficient to meet our working capital and capital expenditure requirements for at least the next twelve months. Our future capital requirements will depend on many factors, including our rate of revenue growth, the expansion of our sales and marketing activities and the timing and extent of our spending to support our investment efforts and expansion into other markets. We may also seek to invest in, or acquire complementary businesses, applications or technologies, which may require us to seek sources of financing.
Cash Flows
The following summary of cash flows (in thousands) has been derived from our financial statements included in “Part II - Item 8. Financial Statements - Consolidated Statements of Cash Flows:”
| For the Year Ended December 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | 2020 | ||||||||
| Net cash and restricted cash provided by (used in) operating activities | $ | (11,553) | $ | 38,747 | $ | (16,225) | ||||
| Net cash and restricted cash provided by (used in) investing activities | (259,115) | (15,786) | 261,072 | |||||||
| Net cash and restricted cash provided by (used in) financing activities | 131,541 | (29,548) | (11,862) |
Operating Activities
Cash flows used in operating activities of $11.6 million for the year ended December 31, 2022 were primarily due to our net loss of $19.2 million, non-cash items including depreciation and amortization expenses of $67.2 million, stock-based compensation expense of $34.0 million, deferred tax benefit of $(45.6) million, amortization of contract cost assets of $23.1 million, loss on extinguishment of debt of $10.2 million, change in fair value of contingent consideration of $(23.5) million and change in our tax receivable liability of $46.0 million. Our operating cash outflows were affected by the timing of our customer and vendor payments primarily driven by increases in accounts receivables from Cook County Health and Hospitals System of approximately $99.2 million, reduction of our accrued liabilities due to a decrease in expected IPG and Vital Decisions contingent consideration payments of $25.7 million and an increase in reserves for liabilities related to payments to providers and pharmacies under performance-based arrangements related to its total cost of care and specialty care management services of $28.4 million.
Cash flows from operating activities of $38.7 million for the year ended December 31, 2021 were primarily due to our net loss of $37.6 million, a loss on the repayment and termination of our Credit Agreement and 2021 Notes of $21.3 million, a gain on the disposal of assets of $6.8 million, gain on the transfer of memberships of $45.9 million, and non-cash items including depreciation and amortization expenses of $60.0 million, stock-based compensation expense of $16.7 million and change in fair value of contingent consideration and indemnification asset of $13.3 million. Our operating cash inflows were affected by the timing of our customer and vendor payments. In addition to these non-cash items, increases in accounts receivables and contract cost assets and reductions in reserves for claims and performance-based arrangements contributed and accrued liabilities approximately $28.9 million to our cash outflows. Those cash outflows were offset, in part by higher accounts payable and accrued compensation and employee benefits of approximately $10.8 million.
Cash flows used in operating activities of $16.2 million in the year ended December 31, 2020 were due primarily to our net loss of $334.2 million, partially offset by non-cash items, including an impairment of goodwill of $215.1 million, an impairment of an equity method investment of $47.1 million, depreciation and amortization expenses of $61.5 million, stock-based compensation expense of $14.6 million and a loss on the disposal of assets and consolidation of $0.7 million. Our operating cash inflows were affected by the timing of our customer and vendor payments. In addition to these non-cash items, increases in accounts receivables and contract cost assets and decreases in claims reserves contributed approximately $94.5 million to our cash outflows. Those cash outflows were partially offset by an increase in accounts payable, accrued expenses and accrued compensation and employee benefits contributed approximately $23.5 million.
Investing Activities
Cash flows used in investing activities of $259.1 million in the year ended December 31, 2022 were primarily attributable to $248.1 million paid for the acquisition of IPG, $9.2 million paid for a purchase price adjustment related to our disposal of True Health New Mexico and $38.4 million of investments in internal-use software and purchases of property and equipment, offset in part, by $31.0 million from the transfer of membership and release of Passport escrow and $5.6 million from returns from our equity method investments.
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Cash flows used in investing activities of $15.8 million in the year ended December 31, 2021 were primarily attributable to cash flows of $46.5 million for the acquisition of Vital Decisions and $25.0 million of investments in internal-use software and purchases of property and equipment offset, in part by, $43.0 million from the transfer of membership and release of Passport escrow and returns of investment on equity method investments of $14.2 million.
Cash flows from investing activities of $261.1 million in the year ended December 31, 2020 were primarily attributable to cash flows from the impact of the initial consolidation of EVH Passport of $159.8 million, maturities and sales of investments primarily held by EVH Passport of $143.4 million, offset, in part by investments in internal-use software and purchases of property and equipment of $29.5 million, disposal of non-strategic assets of $2.3 million and purchases of investments of $11.2 million.
Financing Activities
Cash flows provided by financing activities of $131.5 million in the year ended December 31, 2022, were primarily related to $219.7 million received from our 2022 Credit Agreement, offset in part, by $59.4 million of cash outflows related to claims processing services on behalf of partners and $18.3 million from taxes withheld for restricted stock unit vesting.
Cash flows used in financing activities of $29.5 million in the year ended December 31, 2021, were primarily related to the repayment and termination of our Credit Agreement and settlement of our outstanding warrant agreements with Ares Capital Corporation of $98.4 million, offset, in part, by a $61.2 million increase in net working capital balances held on behalf of our partners for claims processing services and a $13.3 million increase from cash proceeds from stock option exercises.
Cash flows used in financing activities of $11.9 million in the year ended December 31, 2020, were primarily related to a $20.0 million redemption of the Sponsors equity in EVH Passport in accordance with the terms of EVH Passport’s Stockholders’ Agreement as part of the EVH Passport wind-down and repurchase of our 2021 Notes of $16.6 million, $1.9 million of taxes withheld and paid for vests of restricted stock units and a $6.0 million decrease in working capital balances held on behalf of our partners for claims processing services offset, in part by $30.1 million from proceeds of convertible debt. The change in working capital balances held on behalf of partners for claims processing are pass-through amounts and can fluctuate materially from period to period depending on the timing of when the claims are processed.
Cash flows from Discontinued Operations
The consolidated statements of cash flows for all periods have not been adjusted to separately disclose cash flows related to discontinued operations. Cash flows related to the True Health business were as follows:
| For the Year Ended December 31, | ||||||
|---|---|---|---|---|---|---|
| 2021 | 2020 | |||||
| Cash flows provided by operating activities | $ | 5,002 | $ | 6,852 | ||
| Cash flows (used in) provided by investing activities | (2,494) | 2,636 |
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Contractual and Other Obligations
We believe that the amount of cash and cash equivalents on hand and cash flows from operations will be adequate for us to execute our business strategy and meet anticipated requirements for lease obligations, capital expenditures working capital and debt service for 2023. Our estimated contractual obligations (in thousands) as of December 31, 2022, were as follows:
| 2023 | 2024-2025 | 2026-2027 | 2028+ | Total | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Operating leases for facilities(1) | $ | 11,455 | $ | 20,687 | $ | 17,672 | $ | 31,692 | $ | 81,506 | ||||||||
| Purchase obligations related to vendor contracts | 7,621 | 2,266 | — | — | 9,887 | |||||||||||||
| Convertible notes interest payments | 3,437 | 6,025 | — | — | 9,462 | |||||||||||||
| Convertible notes principal repayment | — | 196,781 | — | — | 196,781 | |||||||||||||
| Contingent consideration(2) | 78,000 | — | — | — | 78,000 | |||||||||||||
| Total contractual obligations | $ | 100,513 | $ | 225,759 | $ | 17,672 | $ | 31,692 | $ | 375,636 |
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(1)Operating leases for facilities includes $596 thousand and $76 thousand of leases not yet commenced for the 2023 and 2024-2025 time periods, respectively.
(2)Represents the fair value of earn-out consideration related to the IPG and Vital Decisions transactions. See “Part II - Item 8. Financial Statements - Note 4” for further details of the Company’s contingent consideration obligations.
As of December 31, 2022, we had $175.0 million of aggregate principal amount in a secured term loan and $50.0 million of aggregate principal amount in a secured revolving credit facility, which were subsequently increased on January 20, 2023, through additional secured term loan borrowings of $240.0 million of aggregate principal amount and secured revolving credit facility of $25.0 million of aggregate principal amount entered into as part of the NIA acquisition. All loans under the Credit Agreement (including loans under the Acquisition Facilities and loans outstanding under the Existing Credit Agreement) (collectively, the “Loans”) will mature in 2029. The interest rate for all Loans will be calculated, at the option of the borrowers, (a) in the case of a term loan, at either the Adjusted Term SOFR Rate (as defined in the Credit Agreement) plus 6.00%, or the base rate plus 5.00% and (b) in the case of a revolving loan, at either the Adjusted Term SOFR Rate plus 4.00%, or the base rate plus 3.00%.
In connection with the Closing, on January 20, 2023, we entered into a Securities Purchase Agreement (Series A Convertible Preferred Shares) with the Purchasers listed on Schedule I thereto pursuant to which the Company offered and sold to the Purchasers an aggregate 175,000 shares of the Company’s newly created Cumulative Series A Convertible Preferred Shares. Regular dividends on the Series A Preferred Stock will be paid quarterly in cash in arrears at a rate per annum equal to Adjusted Term SOFR (as defined in the Certificate of Designations) plus 6.00%. The regular dividend rate will also increase by 2.0% per annum upon the occurrence and during the continuance of certain triggering events.
Accounts Receivable, net
Accounts receivable are recorded and carried at the original invoiced amount less an allowance for any potential uncollectible amounts. During the year ended December 31, 2022, accounts receivable, net, increased due primarily to the timing of cash receipts from Florida Blue Medicare, Inc. and Cook County Health and Hospital Systems combined with $34.2 million of receivables acquired as part of the IPG acquisition.
Restricted Cash and Restricted Investments
Restricted cash and restricted investments of $27.0 million is carried at cost and includes cash held on behalf of other entities for pharmacy and claims management services of $13.8 million, collateral for letters of credit required as security deposits for facility leases of $2.3 million, amounts held with financial institutions for risk-sharing arrangements of $10.9 million as of December 31, 2022. See “Part II - Item 8. Financial Statements - Note 2” for further details of the Company’s restricted cash balances.
Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets are carried at cost and includes prepaid expenses and non-trade accounts receivable. During the year ended December 31, 2022, non-trade accounts receivable decreased $23.0 million primarily due to proceeds from the transfer of EVH Passport membership to Molina and $8.0 million of proceeds from other EVH Passport receivables.
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Goodwill and Intangible Assets
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. Identified intangible assets are recorded at their estimated fair values at the date of acquisition and are amortized over their respective estimated useful lives using a method of amortization that reflects the pattern in which the economic benefits of the intangible assets are used. As part of our acquisition of IPG in August 2022, we added $195.7 million of intangible assets and $296.6 million of goodwill. See “Part II - Item 8. Financial Statements - Note 4” for further details of the Company’s restricted cash balances.
Tax Receivable Agreement
In connection with the Offering Reorganization, we entered into the TRA with the holders of Class B common units. The agreement requires us to pay to such holders 85% of the cash savings, if any, in U.S. federal, state and local, and foreign income tax (as applicable) we realize as a result of any deductions attributable to the increase in tax basis following the Class B Exchanges or deductions attributable to imputed interest or future increases in tax basis following payments made under the TRA. Additionally, pursuant to the same agreement we will pay the former stockholders of Evolent Health Holdings 85% of the amount of the cash savings, if any, in U.S. federal, state and local, and foreign income tax that we realize as a result of the utilization of the NOLs of Evolent Health Holdings (and the affiliate of TPG) attributable to periods prior to the Offering Reorganization, approximately $79.3 million, as well as deductions attributable to imputed interest on any payments made under the agreement. Payments under the TRA are due within 100 days of filing the Company’s annual U.S. Federal income tax return. The Company has recorded a partial TRA liability of $46.0 million as of December 31, 2022. See “Part II - Item 8. Financial Statements - Note 15” for further details of the Company’s TRA.
Uses of Capital
Our principal uses of cash are in the operation and expansion of our business, payment of interest on our convertible debt and secured borrowings and payment of preferred dividends. The Company does not anticipate paying a cash dividend on our Class A common stock in the foreseeable future.
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