Health plans' profits decline along with membership numbers

The prospect for earnings growth looks slimmer as insurance companies run out of costs to cut but hit a limit on premium hikes.

By Emily Berry — Posted Aug. 24, 2009

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With earnings for publicly traded health plans falling, investment analysts are wondering whether insurers can fulfill their promise that raising rates and cutting costs can make up profits lost through membership declines.

Insurers say they can, so they are looking closely at every dollar spent on medical care, including what they pay physicians.

Four out of the seven publicly traded health insurance companies reported a decline in earnings from the previous year's second quarter. That included WellPoint, the nation's largest by membership.

But even the three companies that reported positive earnings growth have their problems.

Humana's commercial business was driven down as laid-off employees fell off its rolls. The insurer also tried to assure investors that losing the Tricare deal won't be a big problem, especially if its appeals to the Dept. of Defense to let it keep the contract are successful.

Cigna's gains were a result of the profitability of its other segments. The insurer's health plan earnings fell.

And while UnitedHealth Group recorded a 170% earnings increase, the number is skewed because of a $925 million charge taken in the second quarter of 2008 to cover settlements over stock backdating. Without that, United would have recorded an earnings decline in 2009.

Profitability, but at what cost?

Aetna Chair and CEO Ronald Williams pledged to pursue profits rather than add or keep enrollment. "We have a clear bias toward profitability over growth," he told investment analysts.

But Aetna and its peers are struggling to succeed at either growth or profitability. Their profit margins rest heavily on controlling medical costs, but in the most recent quarter, only Humana and WellPoint recorded a reduction in their medical-loss ratio, the percentage of every premium dollar spent on health benefits.

After years when that ratio stayed around 80%, Aetna, Health Net, Cigna and Coventry all have seen it jump above 86%.

Part of the problem is shrinking membership. Aetna, Cigna, Coventry Health Care, Health Net, Humana, WellPoint and United covered a collective 117.7 million people during the second quarter of 2008. That number was about 2 million less for the same period this year.

Insurers also find that they are spending more on plan members. Executives tied the increase in medical-loss ratio to employees loading up on health care services before losing their jobs, and to the increasing overall age of membership. WellPoint said its costs were driven up further by a greater-than-expected number of laid-off employees using COBRA coverage. Employees who opt for COBRA are more often sick or anticipating a major health expense than are the general insured population.

In discussing their earnings, insurers all mentioned their involvement in the debate over health system reform. Yet health plan executives weren't speculating about how health reform will affect company operations or profitability.

In conference calls to investment analysts to discuss the second-quarter earnings, some executives sounded confident they could still cut costs and raise premiums as a means to growth, even if membership continues to fall. Humana was explicit in saying it was looking hard at how physicians and hospitals were billing.

"You can spot cases, and we've seen it, where some providers in some communities will in fact change the way they do their financial work," Humana President and CEO Mike McCallister told investors. "And we pick that up pretty quickly and we turn right around and have another conversation with them about that."

At Coventry, CEO Allen Wise acknowledged continuing efforts to cut costs, but also highlighted the company's efforts to raise prices, which began in 2008.

Wise said that about half the company's 12% drop in commercial membership over the last year was due to the economy. The other half of those members were lost because the company raised premiums, and those customers weren't willing to pay more. Coventry's earnings fell 78%, the worst report from publicly traded plans. But Wise said that means the business Coventry held on to was more profitable.

United President and CEO Stephen Hemsley told analysts a similar story of trying to keep the business profitable even as membership shrinks.

United, the country's largest publicly held insurer by revenue, expects to lose 1.5 million commercial members this year, out of the 32.9 million it had at the end of 2008. Nevertheless, Hemsley said, "we are holding to our pricing and underwriting disciplines."

Taking Cigna as an example, Deutsche Bank analyst Scott Fidel noted how critical cost-cutting will be to growing profits at health plans: "Similar to most commercial [managed care organizations], Cigna's top-line results were pressured by higher in-group enrollment attrition," he wrote in a research note to investors. "Cigna's results highlighted a more acute urgency towards cost-cutting that investors are hoping will continue."

Analysts, including Fidel and Matthew Borsch at Goldman Sachs, blamed Aetna's medical-loss ratio increase on the company's failure to raise premiums high enough when selling coverage for this year.

"The view is that Aetna has now sufficiently lowered the bar such that 2009 earnings targets are achievable, with some recovery possible in 2010 as Aetna pursues a strategy of corrective pricing," Borsch wrote in a note to investors. "However, it remains to be seen whether the company can sustain this strategy into 2010."

Despite generally trying to reassure investors and analysts, health plan executives did make a few less-than-optimistic comments about 2010. WellPoint Chief Financial Officer Wayne DeVeydt warned analysts to temper their expectations. "I would not expect operating earnings growth next year in this environment."

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Dragged down by the recession

Most of the nation's publicly traded health plans saw profits decline as more corporate layoffs meant fewer people buying into their highest-profit business, group insurance. Even plans whose profits went up had the same problem. Humana and Cigna reported declines in their commercial business, and United's earnings would have been down had it not taken a $925 million write-off last year to settle litigation related to a stock backdating scheme. Except for earnings per share, all dollar figures are in millions.

Revenue Net income Earnings per share
Plan 2Q08 2Q09 2Q08 2Q09 2Q08 2Q09
Aetna $7,850 $8,658 (10%) $481 $347 $0.97 $0.77 (-21%)
Cigna $4,863 $4,488 (-8%) $272 $435 $0.96 $1.58 (65%)
Coventry $2,978 $3,537 (19%) $83 $18 $0.55 $0.12 (-78%)
Health Net $3,842 $4,014 (4%) $77 $40 $0.71 $0.38 (-46%)
Humana $7,351 $7,899 (7%) $210 $282 $1.24 $1.67 (35%)
WellPoint $15,667 $15,413 (-2%) $751 $694 $1.44 $1.43 (-1%)
UnitedHealth Group $20,272 $21,655 (7%) $337 $859 $0.27 $0.73 (170%)

Source: Company filings with the Securities and Exchange Commission

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Spending on medical benefits

Executives for some of the nation's largest publicly traded health plans said they had put medical spending under close review in the past several months. But only Humana and WellPoint saw a decrease in the percentage of premium money spent on care.

Medical loss ratio 2Q08 2Q09
Aetna 81.9% 86.8%
Cigna 86.0% 86.7%
Coventry 85.8% 86.4%
Health Net 85.3% 86.2%
Humana 85.8% 83.6%
WellPoint 83.3% 82.9%
UnitedHealth Group 83.6% 83.6%

Source: Company filings with the Securities and Exchange Commission; Cigna

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Shrinking membership

Most of the country's largest publicly traded health plans continued to shed members in the second quarter of this year, mostly from the ranks of laid-off workers losing employer-sponsored insurance. Executives at a few companies said they expect further losses as unemployment worsens.

Membership (in millions) 2Q08 2Q09
Aetna 17.5 19.1 (9%)
Cigna 12.1 11.2 (-7%)
Coventry 5.2 4.8 (-8%)
Health Net 3.8 3.6 (-5%)
Humana 11.5 10.3 (-10%)
WellPoint 35.3 34.2 (-3%)
UnitedHealth Group 32.7 32.1 (-2%)

Source: Company filings with the Securities and Exchange Commission

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