Alignment Healthcare, Inc. (ALHC) Q3 2026 Earnings Call Transcript

Operator: Good afternoon, and welcome to Alignment Healthcare Third Quarter 2026 Earnings Conference Call and Webcast. [Operator Instructions] Please be advised that today's conference is being recorded. Leading today's call are John Kao, Chairman and CEO; and Jim Head, Chief Financial Officer. Before we begin, we would like to remind you that certain statements made during this call will be forward-looking statements as defined by the Private Securities Litigation Reform Act. These forward-looking statements are subject to various risks and uncertainties and reflect our current expectations based on our beliefs, assumptions and information currently available to us. Descriptions of some of the factors that cause actual results to differ materially from these forward-looking statements are discussed in more detail in our filings with the SEC, including the Risk Factors sections of our annual report on Form 10-K for the fiscal year ended December 31, 2025, and our Form 10-Q for the fiscal quarter end September 30, 2026. Although we believe our expectations are reasonable, we undertake no obligation to revise any statements to reflect changes that occur after this call. In addition, please note that the company will be discussing certain non-GAAP financial measures that they believe are important in evaluating performance. Details on the relationship between these non-GAAP measures to the most comparable GAAP measures that reconciliation of historical non-GAAP financial measures can be found in the press release that is posted on the company's website and our Form 10-Q for the fiscal quarter ended September 30, 2026.

John Kao: Good afternoon, and thank you for joining us on our third quarter earnings conference call. For the third quarter 2026, health plan membership of 301,200 represented growth of 31% year-over-year and drove overall revenue of approximately $1.4 billion, a 37% increase year-over-year. Adjusted gross profit of $142 million represented an adjusted MBR of 89.5%, a 240 basis point increase year-over-year. Meanwhile, adjusted SG&A of $120 million represented an SG&A ratio of 8.9%, which improved by 70 basis points year-over-year. Taken together, adjusted EBITDA was $22 million within the range of our guidance. I want to spend a few minutes on the headwinds that emerged this quarter and the actions we have taken in response. As part of our broader scaling initiatives, we began a comprehensive claims system migration last year designed to improve our payment speed, auto adjudication rates and payment integrity capabilities. During this transitional period, we experienced greater volatility in claims processing. As this volatility normalized, we identified a notable increase in aggressive provider appeal and disputes in our paid claims data, which resulted in higher cost trends. Separately, during the quarter, we saw pockets of higher costs in areas such as catastrophic cases and skilled nursing, which also pressured medical expenses. To address the headwinds we experienced, we acted swiftly over the past several months to build out a more robust payment integrity function, including industry standard prepaid claims edits and more rigorous post-pay review. Additionally, we have moved quickly to manage and deploy our clinical resources more effectively and are making targeted investments to ensure clinical best practices and operating rigor are applied systematically across our markets to reduce the variability in member outcomes. We are confident that the actions we are taking to scale our clinical programs will enable us to achieve the level of clinical effectiveness that we are accustomed to. We are pleased with the progress we have made across our multiple initiatives and saw institutional acute cost trends stabilized as we closed out September and entered October. Furthermore, we've experienced positive momentum across other cost categories. Despite our progress, we are taking a prudent approach to the increased trend seen in Q3 and assume that higher costs in the third quarter will continue to weigh on our results for the remainder of the year. Given this position, we lowered our annual guidance to no less than adjusted gross profit of $575 million and adjusted EBITDA of $100 million. I want to emphasize that the guidance we have provided today is a guidance that we are confident in delivering. Furthermore, we have thoroughly reviewed each market to identify the issues that impacted our financial performance this year and mobilized quickly with plans to address them. Our revised outlook reflects both a prudent posture toward the cost pressures we are seeing today and a disciplined approach to forecasting the balance of the year. Our focus is now on execution, delivering against the commitments we are making today and positioning ourselves well for 2027. As we enter 2027, we feel well positioned to achieve our top line growth target of at least 20% given the early results of this AEP. Importantly, we bid prudently, reconciled those assumptions in the bids to the trends we are seeing today and have made adjustments in areas we saw room for improvement. At this time, we have a firm grasp of the underlying market dynamics we faced in '26 and the actions required to address them. Taken together, we believe we will strike the right balance between growth and margins for 2027. We will share our thoughts in greater detail following AEP results in January. I'd like to take a moment to address our star ratings for payment year 2028, which reflects performance for 2025 dates of service. We maintained a 4-star or higher rating in six of our seven eligible plans, demonstrating our ability to deliver strong stars performance across much of our portfolio. At the same time, our California HMO contract earned a 3.5 star rating, which was below our expectations. The shortfall in our California HMO contract was primarily driven by misses on several triple-weighted measures, particularly in HOS and Part D as well as higher-than-expected industry cut points. We have already identified data and workflow opportunities within our stars infrastructure and initiated actions across our enterprise to drive better and more consistent Stars performance. We have conducted more provider and member engagement initiatives to improve performance and survey measures, address data issues that impacted gap closure in Part D and accelerated our progress in HEDIS gap closures to further strengthen our position in these metrics. These changes are in place and operationalized for the 2026 performance cycle. In conclusion, we continue to demonstrate profitable growth and are addressing the challenges that impacted our performance this year. We have taken decisive action in those areas and our revised outlook reflects a prudent view of the cost pressures we are seeing today. At the same time, we continue to invest in capabilities and operational changes that are important to support our next phase of growth. Over the past couple of years, we have evolved our leadership, processes and technology architecture to support greater scale. We are already seeing benefits from some of these changes. This includes greater visibility and control over inpatient utilization through our partnerships with providers to delegate institutional acute UM functions. We also continue to seek opportunities to assert more control over our preservice UM for outpatient and professional costs where appropriate. Additionally, our clinical model remains a core strength of our business and primary driver of our unit cost advantages. The investment in claims processes, clinical operations and Stars infrastructure build on that foundation. With that, I'll turn the call over to Jim to further discuss our financial results and outlook. Jim?

James Head: Thanks, John. I'll dive into our third quarter results. For the quarter ended September 2026, health plan membership of 301,200 increased 31% year-over-year, supported by strong member additions and high retention in our existing membership base. This drove revenue of approximately $1.4 billion in the quarter, representing approximately 37% growth year-over-year. Third quarter adjusted gross profit of $142 million represented an adjusted MBR of 89.5%, approximately 100 basis points above the implied midpoint of our third quarter guidance and an increase of approximately 240 basis points year-over-year. Approximately half of the year-over-year increase in MBR was driven by changes in Part D seasonality and additional clinical model investments, consistent with the comments we made on the Q2 call. As John mentioned earlier, we also observed a notable increase in provider-led appeals and disputes in the quarter, along with elevated costs within our skilled nursing and catastrophic case categories. These components drove the remaining increase in MBR. Turning to operating expenses. Our adjusted SG&A was $120 million, an increase of 27% year-over-year. As a percentage of revenue, adjusted SG&A of 8.9% improved 70 basis points year-over-year and outperformed the midpoint of our guidance range by approximately 90 basis points. We delivered this result even as we made incremental investments in our business previously mentioned in the Q2 call and John's commentary today. Additionally, included in the quarter was a benefit from lower incentive compensation accruals given our year-to-date performance against targets. Taken together, third quarter adjusted EBITDA of $22 million produced an adjusted EBITDA margin of 1.6%. Moving on to cash flow and the balance sheet. We generated $158 million in operating cash flow during the first nine months of the year, and our liquidity profile remains strong. We concluded the quarter with $743 million in cash, cash equivalents and short-term investments. Overall, our reserves remain well positioned in both current and prior years, and we are confident our cash flow generation will continue to support our growth going forward. Lastly, our funded leverage ratio at the end of Q3 was 2.4x our trailing 12 months EBITDA. Moving to our guidance. For the fourth quarter, we expect health plan membership to be no less than 305,000 members, revenue of no less than $1.32 billion, adjusted gross profit of no less than $104 million and adjusted EBITDA of no less than negative $28 million. For the full year 2026, we expect revenue of no less than $5.25 billion, adjusted gross profit of no less than $575 million and adjusted EBITDA of no less than $100 million. Our fourth quarter adjusted gross profit guidance of at least $104 million implies an MBR of 92.1%. In our guidance, we have assumed a continuation of the elevated medical claims expense we experienced in Q3 with no contemplation of the stabilizing trends we observed in both September and October. Furthermore, while we are not including any benefits from the initiatives currently in progress, the cost of these initiatives are fully burdened in our guidance. Lastly, on seasonality. Our revised guidance continues to embed an assumption for increased costs relative to typical medical expense and Part D seasonality. Additionally, we are assuming a continuation of the higher costs we experienced in the third quarter related to elevated appeals and disputes activity, along with increased costs in certain categories. On SG&A, we expect higher expenses during the fourth quarter associated with growth-related costs and marketing expenses related to AEP, consistent with our past experience. In closing, our updated outlook reflects prudence in our positioning as we address the pressures we discussed today as well as the seasonal factors typical of the fourth quarter. We expect the actions we have taken this quarter to provide visibility and control and support improved performance as we position ourselves for 2027. With that, let's open the call to questions. Operator?

Operator: [Operator Instructions] And our first question comes from the line of Matthew Gillmor of KeyBanc.

Matthew Gillmor: I guess I just wanted to start off with the cost trends that you've identified. There was a discussion that John started off with in terms of this new claims processing system. I think it's called Facets and the deploying of that system sort of led, I think, to the better identification or sort of faster claims processing. I was just hoping you could talk a little bit about that new system and how that's either contributed to you identifying these claims? Or was that just concurrent with you sort of seeing higher claims? I'm just hoping you could unpack that a little bit.

John Kao: Yes, Matt, Facets is the industry-leading claims adjudication application. We migrated off of something that we thought was subscale. One of the benefits of this is we felt that we needed better auto adjudication rates so we could pay our providers faster. We needed to make sure that we had kind of state-of-the-art payment integrity programs to offset the AI initiatives from a lot of the larger providers. And anybody that's gone through one of these conversions knows it's a messy process. I'm actually pretty happy with where we ended up in terms of getting through most of this in July. And so we're three months past that now. And I feel very happy about where we are from a stability point of view. But really, what happened is, we saw volatility in our paid claims, and we started seeing that in July. And once we realized we had a lot more appeals and disputes coming through, we had to react on that. And I'm happy to say that the amount of appeals has dropped off significantly in August, September and October. As Jim said, in spite of that kind of stabilization, we are still taking a very prudent approach toward the rest of the year. And I feel good about where we are in that regard. I feel good about where we are with our reserves. And that's the main issue on Facets.

Matthew Gillmor: Great. Just to make sure we understand, was it the case that the claims just happen to be running higher after you had implemented Facets? Or was Facets helping to identify some of these higher cost trends?

John Kao: It created volatility. And so when you go through one of these system conversions, what happened was, we were making sure that the configuration of the system was correct. And so you had some timing differences between when claims are coming through and we saw a higher trend really peaking in July. And once we saw that, we made all the requisite changes and got all of that through in terms of getting paid claims stabilized, but that created the higher trend really starting in July. And we start seeing that. And actually trend is starting to actually tail off a little bit in August, September and October. But again, we're just being extra careful to make sure that we're kind of assuming that trend continues into Q4 despite the fact that I think some of the trends are already starting to stabilize.

Operator: Our next question comes from the line of Kevin Fischbeck of Bank of America.

Joaquin Eduardo Martinez: This is Joaquin on for Kevin Fischbeck. Can you guys hear me now? Sorry about that. So could I just get your initial thoughts on 2027 bid positioning to start off?

John Kao: Yes, it's a good question. We did a deep dive, as you might expect, on the assumptions that we made into the bids. We kind of compared that to the trends that we anticipate and the mitigation efforts that we have in place for the balance of this year, which just to underscore, we did not factor into the guidance. And the result of that is we made some changes with respect to certain networks. We made some changes with respect to how fast we're going to grow certain products or not grow certain products specifically. But overall, we feel good about where we are in 2027. We feel good about finding, again, that balance between growth and margin expansion. I think we've been pretty good at that over the years, and we'll get back to that same cadence. And you can imagine we would -- we did a pretty thorough dive as to how much we should grow and how we're positioned relative to competitors in Plan Finder. And again, I think we feel pretty good with solid profitable growth at that 20% level.

Joaquin Eduardo Martinez: Got it. And then just last one. So a lot of companies have taken action to diversify the membership across plans. Is that something you guys are looking to do? And do you have any targets on how big any one contract as a percentage of membership should be?

John Kao: Well, I think with respect to us, we have so much membership in the California H number. That's something that we're looking at, obviously. And I'm not going to comment too much on the tactics associated with that, but more so focused on really getting to the root issues in Stars. And really, what I think is going on is we still got six out of seven 4-star and above. We've got three 4.5 star plans, just to remind everybody. But those are still being well run really because we're smaller in those markets. California has got so big that we just have to continue to invest in automation. We have to continue investing and really incentivizing our provider partners and our IPAs to work with us and focus on Stars more and better. But that's kind of where we're zeroing in on. It's like we might have some kind of -- what kind of crosswalk types of tactics, but we got to get to the root issues. We got to get to the rooted and fix it. Just to remind everybody, when we started the company, we bought a plan that was 3.5 stars. It dropped to 3. This is way before we had anything to do with it. We're still the only company to get from 3 stars to 4.5 stars. And the way we did that was underscore the fact that Stars is not a functional department. Stars is a cultural requirement. And we have so many new people here. We're growing so big with new people, new leadership. That's something that we're going to be underscoring yet again is this is something that everybody in the company has to focus on serving that senior, and we'll get this fixed. That I can promise you.

Operator: Our next question comes from the line of John Stansel of JPMorgan.

John Stansel: Just thinking about the reduction in guidance here in the back half. I appreciate that, generally speaking, your profit is a little bit more front half weighted. Can you just spend a little bit time thinking about -- I appreciate the conservatism in the back half of the year, but what the jumping off point is when we think about kind of like a fully burdened gross profit and EBITDA number to grow-off of in '27?

James Head: Yes. John, I'll take this one and then John Kao can follow. But just in terms of developing our Q4 guidance, we did want to reflect the cost trends that we identified in the call and put ourselves in a position where we could deliver on the revised expectations. And obviously, you're seeing some prudence in that. So in our guide, we're assuming a couple of things, and we're not assuming a couple of things. So that's important to understand from the jumping off. In our guide, we're assuming that we're continuing the higher appeals and disputes at what I describe a peak rate, okay? So putting some prudence in the appeals and dispute expectation. And as John mentioned, John Kao mentioned, that's already starting to come down. We also are assuming a continuation of the SNF length of stay issues that we've talked about, but also cat cases kind of continuing. And as we exited Q3, we saw both of these things kind of moderate. What we are not assuming is any favorability from payment integrity or payment accuracy activities. So that's not in the assumption. We're not assuming any returns from the clinical investments that we called out in Q2. So in that, we're kind of making sure that we can deliver and not baking in any of what we think is going to be run rate benefits for 2027. And then finally, we just put an extra layer of conservatism on that. So the question, and maybe I'll push this over to John Kao, who is at the right starting point for 2027.

John Kao: Yes, John, I would strongly advise not to use the Q4 MLR as an annualized starting point for '27. That would be, I think, a mistake. We have a lot of initiatives going on. And again, just took a -- made a decision that this is a bit of a reset. And if we're going to do the reset, let's just make sure we can convey confidence to the Street as to what we can achieve. And I think there's potential for upside. And we're going to be focusing on that. And that would be my suggestion for you without getting into '27 guidance.

John Stansel: Got it. And then just thinking about kind of -- as you think about '27 AEP, how are you thinking -- I know '26 was a year where you had kind of a higher mix of chronic and higher acuity enrollment. As you think about your 20% growth in 2027 as a baseline, your confidence there, do you think the mix will look more like '26 or more of a normal year where it's maybe less skewed to chronic and high acuity enrollment?

John Kao: Yes, that's a great question. And just to underscore one piece of detail. The margins associated with that C-SNP membership even in year for this year has been pretty good. That's a big deal. And so really, I think the points that we highlighted with respect to appeals, disputes, revenue cycle, aggressiveness of providers, a couple of outpatient kinds of costs were the drivers. The mix issue is not something that we think contributed to this. Having said that, for '27, I think you're going to see a balanced -- more balanced on HMO products. I think there are still some pockets that we think C-SNP makes sense for us. But yes, I mean, that was the first thing I looked at is part of this mix, and it's actually performing quite well in year. Does that answer, John, your question?

John Stansel: Yes, very helpful.

Operator: Our next question comes from the line of Justin Lake of Wolfe Research.

Justin Lake: Just following up there on the fourth quarter. One way to look at it is your third quarter MLR was up about 200 basis points year-over-year. It looks like the fourth quarter implied is up closer to 400 basis points year-over-year. Is there any way to parse out that extra 200 bps? Is that just, like you said, conservatism? Is there increased spending on initiatives that you've added for the fourth quarter that wasn't there in the third quarter? Anything more that you can give us there?

James Head: I think the one thing that we would say that was present in Q3 as well in terms of a little bit extra burden that was in the baseline was just Part D, which has a little bit of an uptick in the MBR in the fourth quarter. That's just structural and kind of how the bids work out and the risk orders, et cetera. And we did have a little extra layer of investment in the clinical side. So that is -- if you're doing a year-over-year, you have to kind of apply that same factor. So then you sequentially, you've got, I would call it a pretty full run rate of these costs that we described, the appeals and disputes, tax cases and kind of pushing into Q4. And what we're really doing is saying it's a bit one sided, which is we are putting a full count for what we think the trend could be without any offset that we've already been actioning and actually starting to see some results. Payment Integrity is a perfect example of that. So we are being prudent on that, but that's how the bill came about, Justin.

John Kao: Yes, Justin, I'd add to Jim's comments, really the operative word from our point of view is prudence. We really looked at the Q3 numbers. We saw an uptick in those appeals and disputes. Those are in our world called adjustments with respect to claims payment. We've seen a positive trend with those coming back down starting in August, September and October, stabilizing. We see ADK stabilizing. We have initiatives with respect to cat case management, SNF length of stay management, all of the blocking and the tackling is implemented. But really, we just like let's just be super prudent and not assume any of that's going to start being reflected until we actually get the paid claims in place.

Justin Lake: Okay. And then kind of same question on SG&A. It looks like it's relatively flat 3Q to 4Q, typically up $12 million, $15 million, which kind of makes sense just given selling costs during AEP. What's going on 3Q to 4Q that's keeping SG&A flat despite that?

James Head: Yes. But for a little bit of incentive comp that we mentioned on Q3, it's tracking exactly as to what our expectations were in terms of quarter. We were $120 million in Q3 and $132 million, I believe, in Q4. So it actually does pick up, Justin.

Justin Lake: How much was the incentive comp benefit to 3Q?

James Head: We said it would track according to plan. So maybe we'd be in the high 120s in Q3, I think, was our guide, our original guide, picking up to we really haven't made any material changes. In fact, we've been investing in the SG&A areas because we want to position ourselves for 2027. We called that out in Q2. It was going to be a little extra investment made in Q3 and Q4.

Operator: Our next question comes from the line of Michael Ha of Baird.

Michael Ha: So I know you're pursuing Stars litigation now, but assuming no litigation release, is restoring 4 Stars in time for next October impacting payment year '29 achievable? Are there any milestones from now until next October that would demonstrate that to us? And also, can you help us frame the gross Stars funding headwind for '28 and the portion that would remain after things like provider sharing and benefit cost actions and if you would take benefit cuts potentially in '28?

John Kao: Yes. So with respect to dates of service 2026, Payment 29, obviously, it's a bit early to comment on that, but I will give you some input that we feel good about our HEDIS gap closure initiatives. We feel good about our Part D data issues that got cleaned up. And just really as a reminder, even heading into plan Preview 2 just a couple of months ago, and I was feeling optimistic just because we had such a good CAT score come in. And we really got a little bit blindsided with HAS. And so that's still one area that is a little bit elusive for us, which really caused me to pause about '26 in aggregate. But a lot of the changes in operations, I'm comfortable with. But give us a little bit more time. And obviously, I think CATs and HOS is going to be more and more important. I think our Part D is going to be strong this year in terms of dates of service. With respect to -- I think your third question, you got to remind me what the second one was. But yes, I mean, I think we're going to look at this like we always do, finding the right balance between growth and margin. I will say that the kind of the confidence I have with our ex California markets and our operationalizing of those markets, I feel good about. I think we have a handle on the issues. We have a handle on utilization. And we have so much growth in those areas that the embedded earnings is going to start to steer the right way with us in those ex-California markets that would allow us to grow there. And I think there's still more room for us in California to still get decent growth. I don't think we need to slow down growth in California, maybe a little bit, particularly given where everybody else is. And so we'll make the right decisions with respect to benefit design. We're pretty good at that. Michael, what was your second question again?

Michael Ha: Second question, I guess, just the growth stars headwind after provider sharing benefit cost actions, like mitigation plans you have in place.

John Kao: Yes. Let us get back to you on that one, please, because the mitigation initiatives is pretty material. And I underscore two areas. One is embedded earnings. A lot of the investments that we made in obviously, '26 and the C-SNPs, I think, is going to start paying off. It's going to help bridge some of that gap with respect to Stars. And then -- and MRA, I think we are, as we have shared with you in the past, pretty conservative as it relates to risk adjustment. And I think that there's lots of opportunity for us. We took a very -- I would just say, conservative approach philosophically to coding. We did not want to be dependent on that. But I think it's also fair to say we can do a better job, and we're doing -- I think we're starting to dive into that, we've determined there's lots of opportunity for us on risk adjustment. And so we'll be in a position to share a lot of that with you when we give you the kind of the full plan. We expect to do that after the Q4 call.

Michael Ha: Got it. And I wanted to clarify, I know you're still targeting 20% membership for next year. But I just want to clarify, your star rating decline in California, has it not affected early AEP sales at all or even broker feedback? And then for 2020 --

John Kao: It's a great question. The answer, it has not. The brokers are fine -- the brokers are -- just we have such a strong set of relationships with them built over the last 12 years. We've earned their respect. We do what we say. They have confidence in us. And we feel really good about 2027 AEP. I mean, really good. And I'd say the right products in the right markets with the right margins. I mean, I'm very happy about that. Just to note a couple of things that we've announced. We've added some pretty important provider partners this year. Hoag Memorial Presbyterian is a premier delivery system in Orange County in our backyard. And so we've got a very, very good win-win contract with them. And then our expansion in L.A. with Astrana. And so I feel really good about that. There are a couple of other markets with certain products we're going to probably deemphasize heading into '27. And even with that, I feel good about the growth. But yes, and even the providers, particularly the ones I just mentioned, are going to work with us because they have confidence in us that we'll get this thing corrected. That is a very good question. And so the next logic was, okay, well, how do you think about the growth in '27? How do you think that will impact your bids and your product strategy in '28? I think we've contemplated that, and I think we're going to be fine. And I think it's really going to be what does the margin profile look like in California with respect to benefit design relative to how much we grow ex California. I think that's what we'll start looking at as we head into '28.

Michael Ha: Got it. If I can squeeze one more in on '28. So it sounds like you're still focused on growth in California. But I mean, does your stars shortfall change your thinking at all on your plans for new state, new market expansion? I know you are sort of slated for that in '28 or --

John Kao: Yes, the whole point of this, everybody is to get this care model everywhere in this country. It's a good care model. And we needed to do this. We needed to scale. We needed to put these processes in place and to automate more of what we do so that we can get this model in more states. And I feel good about where we are in what we've done so far heading into '27. We're going to be entering San Antonio and Charlotte. Again, that was a bit prudent on our part that we could have added additional states. We chose not to in '27. In '28, we're working very diligently to add a couple of states. And the whole point of this is what we've been talking about is to scale this model. And I think that you're going to be happy with what we end up with. We're going to get back to this kind of beat and raise cadence. Just everything is going to be bigger and much more reliable. So we got to get through this kind of transformative phase.

Operator: Our next question comes from the line of Jonathan Yong of UBS.

Jonathan Yong: I guess just on the stabilization that you're speaking to in medical cost trend, I guess, is it stabilizing back towards your kind of original guidance and assumptions that you came into for the year? Or is it still tracking above your original guidance assumptions? And to any extent, can you frame how much above it currently is tracking?

John Kao: In the quarter, we definitely saw some elevation, and you can kind of think about that in terms of the MBR 120 basis points that we called out. And we are seeing it stabilize. And I would say that probably exiting the quarter below the peak of the quarter. But in our guidance for Q4, we are certainly predicting or guiding towards maintaining essentially peak levels just in an effort to be prudent. So the trend level, we think is going to come down over time, clearly, as we go into 2027 based on the actions we're taking. And that's things like payment integrity initiatives, the clinical model initiatives that we talked about and just getting sharper in some of these spots case management, et cetera. But for the next three months, we're just being prudent. We do think that this will get back to normal in 2027 in terms of our typical trend.

Jonathan Yong: Okay. Great. And then just going back to kind of the mitigation efforts to try to get back your stars and just kind of G&A. Are there any additional investments that you need to make either within this upcoming quarter or throughout '27 to kind of get your stars back? Or is that kind of within your overall planning process already such that there's no real change with respect to that?

John Kao: No, it's a good question, Jonathan. We're putting more boots on the ground in the markets. That's the kind of the short answer. Again, to reiterate what I said earlier, we have to just get back to the fact that this is a cultural requirement. It's not a functional department. This is like everybody in the entire company needs to believe in serving that senior as best we can, partnering with the providers as best we can. And so it stems from the top, from the Board to me, I'm going to be sitting on this daily. I've got great leadership in place now to sit on it daily. And it really is numerators and denominators for every single measure that we track daily. And I think we just got away from that. And so we got to put more bodies in the markets, have more consistency around how we close these gap closures and engage the providers and particularly in California, much more tightly. And those are the things where we've invested in. Those are embedded in the guidance numbers.

Operator: Our next question comes from the line of Scott Fidel of Goldman Sachs.

Scott Fidel: First question, just on product selection and sort of having diversified into sort of more of the higher acuity products with the SNPs and with the C-SNPs and the D-SNPs. And just curious around your thinking for '27 in terms of ultimately with the bids and then ultimately, sort of since you've identified some of the cost pressures, are you continuing to sort of stay with the sort of the original trajectory of what you're thinking on the growth? Or have you made any adjustments in terms of how intensively you're sort of pursuing that? And in particular, also just curious around your assessment of the competitive environment on the D-SNP side. That felt like within the -- an overall pretty sort of conservative and sort of less overly aggressive market for '27, it did feel like in the landscape that D-SNP seems to be an area where competition is still pretty intense or maybe even increasing for next year, but I'm curious on your view on that.

John Kao: Yes, Scott, it's a great question. We do well in the C-SNPs. And a concern I had heading into this year, I thought we bid appropriately, but were we going to get negative trend there worse than we budgeted. And what's interesting is I think we're pretty much spot on in terms of contemplated margin for the C-SNP in year for 2026. And so I think you can expect us in '27 to have good growth in C-SNP in selected markets. I think you're going to see more HMO growth, more traditional HMO growth. If you look at the Plan Finder, I think you'll find that our benefits were pretty good relative to our competition. And that speaks to our confidence in all the different initiatives we're working on. And I just can't emphasize the importance of kind of getting through this kind of claim system conversion. That was a big deal. It took a huge effort. We started it like three years ago. We went live last July. We're 17, 16 months into it now. And so that part of it is starting to work. And I would say one area that is going to be a huge opportunity for us is just the payment integrity part, shout out to our team working on that. They're doing a great job. And it's going to be more and more important as you hear the providers deploying more sophisticated AI tools. We had to go through this in order to get to our long-term growth objectives. And so getting that kind of stabilized is going to bring into focus everything that we've been so proud of in terms of visibility and control. So with respect to the competitive dynamic, yes, I mean, I think things are going to get tougher. I think in '27, we don't have another year of V28. And so I think you're going to get some good lift in that regard. I'm not sure you're going to get rewarded -- the industry is going to get rewarded for any kind of large or huge revenue benchmark increases. But I think in that new world, I think we win still. I really do. I think we just get all these transformative changes in place. Biggest one is the Facets conversion. Very proud of the team. They worked the wets off on that and shout out to that team as well. So anyways, I don't know if I answered your question, Scott.

Scott Fidel: Yes, absolutely. And maybe to answer a little more in my follow-up question. With the follow-up question maybe just sort of, I guess, maybe reconcile or just like sort of just aligned, I guess, no pun intended, in terms of like around the provider delegation and delegation and risk sharing in terms of like where exactly you're at that because you guys talked about sort of in certain markets, centralizing more and sort of moving with the new system. But then in the lawsuit and also in your 8-K, you guys also emphasized like in terms of where the mitigation efforts and value could come from would be around adjusting the provider sort of risk sharing and delegation arrangements looking out to '28. So just sort of would love to sort of have a level set around like where exactly you guys are in that journey and sort of how much like sort of how many bullets in the chamber you may still have left to '28 in terms of leveraging that?

John Kao: That's the best question so far. So we deemed about two years ago that it was strategically important that we build a core competency of doing the UM work. And we still have this kind of shared risk delegated model in California. And so what that means is we've delegated UM to our IPAs. And the UM is really two parts. There's the inpatient acute institutional determinations. And then there's the -- what we would call preservice, and that's really the outpatient and the professional. And what strategically we decided was we could not be in a place where we were entirely dependent upon the global cap providers. right? Because you could see that with V28, there was going to be a lot of margin pressure because the revenue has gone down. And so in that world, we were accustomed to is that the providers, they're a global account, want more money, and they're going to squeeze our margins. So we had to move away from that and move away from that kind of dependence. And so what we did was we started to de-delegate the IPAs and the medical groups for the acute inpatient part of the UM. And we've done a very good job with that. And again, shout out to the team for working so hard to develop that competency. And we're about 80% through our process. So the key thing we've done is do that in a way that is aligning with the providers because if we do better, they do better. And so that's a key thing. The area that there are more opportunities for us, and we've alluded to this, is in the preservice, right? If we go outside of California, there's going to be less dependency on IPAs that are going to take any kind of downside risk, whether it be shared risk or global cap. And so our ability to do preservice and to integrate more care navigation, okay, into our processes for preservice is going to do huge amounts of improvement for us, I think, on MLR, particularly on outpatient and professional spend. And the way we want to do it is we want to use that capability to route people to the right high-performing providers. It's not a matter of denying care. Our denial rates are very low. It's about getting them to the right care, the right timely provider in a timely basis. That is going to be the next frontier. And we need to do that very carefully with our IPAs in California, and we need to execute that very quickly ex California. And I think that would be a big opportunity for us. And I think then what we will have is the ability to operationalize our networks as we expand throughout the country, whether it's fee-for-service, we can make that work, whether it's shared risk, we can make that work. And I got nothing against global cap. Global cap works as long as we have durability to that rate, that can work. And so the whole idea of this is to be able to enter any market with any kind of contracting with providers, overlay our clinical model and then get the same reliable growth that we've experienced with the first, whatever, five years of being public and 12 years of being a company. Great question.

Operator: Our next question comes from the line of Matthew Shea of Needham.

Matthew Shea: Maybe back to Stars. HOS was a notable hit to the 2027 Stars and it seems like the remediation effort is to do more on provider and member communication, both this year and next. I guess it wasn't clear to me, were you able to make changes before the 2026 fielding window? And if so, what were they? How is that informing your recovery view? And then within the big H3815 contract, did members actively manage through AVA and Care Anywhere score differently on HOS versus members not managed by those offerings?

John Kao: The answer to both is I need to get back to you as a follow-up. Those are good questions. I don't have the degree of visibility I would have liked for the 2026 dates of service, which is our measurement year really because you're talking about 24 dates of service. I'm hunting that down. I know that the work that we're doing now for 26 dates of service is a lot of work around town halls. We've talked to -- I think we touched over -- I think the last number I saw was like 70,000 members in some capacity. So it's obviously a concerted effort, but I need to follow up with you on that one.

Matthew Shea: Okay. Fair enough. I guess maybe just asking a similar question, I guess, to the last one. But under your percent of premium deals, your California IPAs are also up to lose bonus dollars in 2028. Has the Stars downgrade changed your conversations with the delegated groups or with new partners like Hoag and Astrana? Are they asking to reopen terms? It sounds like they're eager to help in the remediation work. So just curious to get any color on kind of what the feedback or conversations with your provider partners has been so far?

John Kao: Yes. It's another good question. Yes, it's a concern for providers. But I will say our market management team has done a very good job. We're collaborating with all of them, like all of them, they get it. And I think there's upside opportunity. Remember, this isn't going to affect them until 2028. And so there's a lot of work that we can do now and through 2027 in terms of trend vendor initiatives. And I think there's opportunities for inpatient acute candidly. I think there's lots of opportunity for the way -- just getting back to basics of how we did the CAT case management with them. There's incentive strategies being put in place with respect to Stars because part of it is the alignment or misalignment is because of the IPAs on some of these Stars issues. So we got to get them more aligned with us to see what they can do to help us with respect to transitions of care initiatives and access to care and timeliness of care. Those kinds of things, again, in California are delegated to a lot of the IPAs. So it's like we're aligned to solve the problem together. And there's other levers, not the least of which is risk adjustment, by the way, that they're very, very collaborative in working with us on ensuring that we capture encounters in a more timely way, et cetera. So I think it's kind of in this category of not let any crisis go to waste. It's allowed us to really have very constructive dialogues with the IPAs and it's forcing us to get even more and more aligned with them. And again, I think our market management team has done an excellent job in that regard.

Operator: Our next question comes from the line of Andrew Mok of Barclays.

Ye Yuan: This is Tiffany on for Andrew. I think you recorded favorable prior year development in the first quarter, negative in the second quarter and a modest favorable benefit this quarter from the latest 10-Q. Can you help us understand what's driving that variability? And is there anything specific to call out on third quarter reserve positioning?

James Head: Yes, a very good question. The Q3 reserve position, let's start with the statement that we made in the script, which was we feel very good about our reserves. As we migrated through this claims transformation, there was a lot of volatility, and as a result, it was more difficult to predict how the runout for dates of service '25 is going to play out. And so in Q2, we said we're going to be prudent and make sure we bolster our reserves for those dates of service in 2025 and prior. That's that prior year. So we did that in Q2. Q3, we're flat. And I would say that we feel actually very well positioned at this juncture. We're essentially at 99% run out on those dates of service, and very little new data claims coming in the door. What's continuing to help us is we're getting payment integrity recoveries still coming through. So I feel good about the '25 reserves. And so you're right, we are kind of migrating or managing through the claims transition, but the reserve position against that is quite good at this point.

Ye Yuan: Okay. Got it. And then just a quick numbers follow-up. Last quarter, you called out double-digit millions worth of clinical investments impacting the second half. Is that still the right number to anchor to for 2026?

James Head: We haven't changed any of our investments that we called out in Q2. In fact, we have been investing back in the business on a variety of initiatives, but we're absolutely sticking to our guidance on those clinical and SG&A investments. Those are in our Q3 numbers and in our Q4 guide.

Ye Yuan: Okay. And then if I could just squeeze one more in. Could you help size how much investment spend flow through?

James Head: We talked about it on the last call of double-digit kind of split 50-50 between clinical and SG&A, and it was weighted towards Q3. But that obviously, when it comes in, it's still -- then it's going to start rounding it.

Operator: Our next question comes from the line of Jessica Tassan of Piper Sandler.

Jessica Tassan: Can you maybe explain what you mean by the assertion that '27 bids are appropriately calibrated? Do that mean appropriately calibrated to deliver kind of flat MBR versus the 89% '26 floor on 20% growth? Does it mean flat versus the initial '26 guide? And then just when you say appropriately calibrated, are you all assuming that the incremental 260 basis points, call it, of implied second half MBR pressure abates next year? Or are there kind of specific examples of benefit design that you've introduced that are expected to drive margin expansion? And then if so, could you point us to some of those elements of benefit design that might not be so obvious from just a cursory look at the landscape? Any color just to give us confidence on '27 pricing would be great.

John Kao: Jess, can you repeat that, please? I'm joking. I'm joking. I'm joking. I'm joking. No, I got it. I got it. No, no, no, I got it. What we had to do was we looked at the bids, right? The bids were obviously done in April, May, June. They're submitted in June. And what I mean recalibrate is how far were our MLR assumptions for each product in each market? And were those numbers, were they consistent with our current trend and more specifically, our current trend that we think is going to lead into 2027. We're sharing with you guys a very prudent kind of Q4 guide. I'll just reiterate, I would not peg Q4 MLR and I would not annualize that for next year. And so we haven't done that either. And so we're factoring in all the different initiatives that we're going through. And then I had to look at that like on a product-by-product and market-by-market specific basis. And so what we concluded in certain markets, for example, we kind of said, this doesn't make sense. What was assumed in the bid didn't actually was consistent with what our current trends are. And so we made the decision, while they may be a product, we're not going to grow that product, just as an example. I obviously can't speak to which products and which markets. But that's an example. Another example is like, okay, another market was do we have the right engaged network, right? And the conclusion was not really. And so we had to move and grow with a different network in that market is another example, okay? And third -- on the other side of the equation is we -- I think we're too conservative with respect to our assumptions in the '27 bid. And so we then doubled down on growth assumptions in that market. And so the only way you can do this is in a detailed product-by-product, market-by-market review. And when you kind of tally all those puts and takes up, we're still pretty comfortable about the 20% growth that we're telling you guys. And that's probably as much as I can get into without getting into '27 guidance. But again, just to underscore, don't annualize Q4 trend or MLR.

Jessica Tassan: Got it. That's helpful. And then just a quick follow-up. I know you gave some color on the expanded network relationships, but just interested if you could offer some color on the new physician relationships you're announcing for '27. We've noticed some of these partnerships seem to expand into new counties over the course of kind of several staggered announcements in a single week. So just is the network truly evolving in real time as it kind of appears to be? And how should we think about the economics of those new arrangements, whether on -- from the perspective of capitated concessions because those providers are extensively feeling some of the pressure in '26 or in terms of additional incentives to kind of help you guys recover or return 3815?

John Kao: It's a good question. I would say the common theme with all of these different providers is a commitment to quality health care. And I know that sounds a little Pollyanna, but really, I think that's what they like about us. They know we're going to do the right thing. They're obviously not happy with the 3.5, but we're going to work together to get that solved so much so that they're also willing to expand geographically with us. And the key to the whole thing is long term. We're not doing this just for the short term. We own and take accountability for Stars for 28 payment. We're going to get that fixed. It's very, very serious. I take it very personally actually. And our leadership team is fully on board. And what's equally important is the providers on their leadership team is collaborating with us. They know they have input and a say in how they drive our stars. And so we got to do that better together. And that's really the approach that we've taken. The whole name Alignment Healthcare was building alignment with the providers for the benefit of the beneficiary. That's the whole reason for this. And I think it's a wake-up call for everybody. And we've had nine years of 4 stars or above. And if anything, that's what I'm taking away from this. It is a wake-up call. We got to get back to basics, and there's urgency in all of it. So we'll get there.

Operator: This concludes the question-and-answer session. Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.