Large insurers look to acquisitions as a way to diversify

Flush with cash, America's largest publicly traded health plans are ready to accelerate their pace of mergers and acquisitions. However, they're not necessarily looking to buy other insurers.

Analysts -- and the plans themselves -- are signaling that the money will be used for complementary businesses.

"We see using our current core business as a way to leverage investment that takes us into new businesses," Aetna Chair, CEO and President Mark Bertolini said during the company's annual investors conference in March. "We see [health information technology], international, diversification of business as being a lever off the core, but also taking us to new places as a result."

The big insurers don't need to add scale to their businesses as much as diversify in the face of health system reform, said Bill Baker, national partner in charge of the health care transaction service practice at consulting firm KPMG. The diversification includes buying organizations that employ or manage physicians.

Even if plans wanted to acquire their competitors, it would be difficult. The U.S. Dept. of Justice's Antitrust Division under the Obama administration has said it will scrutinize health plan mergers and has recently flexed its muscle. In 2010, Blue Cross Blue Shield of Michigan dropped a proposed acquisition of the HMO plan owned by Lansing, Mich.-based Sparrow Health System after state regulators and the Justice Dept. made it known they would attempt to block it.

Instead, plans are finding other ways to deal with the possibility of greater medical spending, required under health system reform, cutting into their profits.

As of Jan. 1, the Patient Protection and Affordable Care Act requires plans to spend at least 80% of the premiums they collect for individual and small-group policies, and 85% of what they collect for large-group plans, on patient care and quality improvement. Plans have tried to keep that figure -- known in the industry as the medical-loss ratio -- as low as possible because less health care spending meant higher profits.

In 2010 and 2011, plans such as Aetna, Cigna, UnitedHealth Group and WellPoint have either introduced dividends or expanded them. They ramped up share repurchases as a way to signal to investors that they expected profits and share prices not to falter under health system reform. But analysts said plans recognize that diversification might be necessary to fulfill that promise to shareholders.

"You're seeing some of major plans' [merger and acquisition] activity being more in what I would call complementary acquisitions," Baker said. "Something that expands their types of coverage, maybe vision or dental, still under the health plan umbrella ... or buying into what I would call services that are complementary to their business but not necessarily an insurance product."

Baker pointed to UnitedHealth Group's Ingenix subsidiary as a model for diversification. Ingenix's recent acquisitions in the health information technology arena have helped United build a portfolio of high-tech care management tools.

Health insurers have the means to buy their way into complementary businesses because they are reporting that they are sitting on a large amount of cash.

"Every major health insurance company within the last three or four quarters of earnings announcements has reported they're sitting on a good bit of capital as they come out of the downturn," said Mark A. Reiboldt, vice president at Coker Capital Advisors, a health care consulting firm in Atlanta.

For example, Aetna Chief Financial Officer Joe Zubretsky told shareholders at the annual investor conference that the insurer expected to have $1.2 billion in 2011 to reinvest in Aetna, purchase other companies and buy back its shares.

At an investor conference in March, WellPoint CFO Wayne DeVeydt said he expects the company to generate $2.6 billion in "free cash" in 2011, after finishing 2010 with $3.3 billion in "excess cash."

"So we don't see a reason over the next four years that we cannot continue to deploy significant capital to shareholders both in a combination of a dividend as well as a significant buyback program while having the power to do a sizable M&A deal," he said.

In December 2010, Humana was able to use $800 million in cash -- no debt or stock -- to buy Concentra, an urgent-care center and work-site care center operator.

The deal was a kind of back-to-the-future play for big health plans, many of which were in the hospital business or ran practices and generally had a more diverse business mix in earlier iterations. Humana, for instance, ran hospitals, while Aetna and Cigna sold other types of insurance that they phased out in recent years. Humana has said it will do more deals that involve physicians as it rebrands itself as a "wellness and well-being" company.

"Payers are getting back in the practice management business, and there's a little bit of payers trying to align closer to the providers, migrating back toward almost a Kaiser [Permanente] model" of owning a health plan, hospitals and practices, Reiboldt said.

Meanwhile, small and regional health plans are trying to adjust to a post-reform health care industry by growing as quickly as possible.

Baker said smaller companies are responding to reform by "scaling up," trying to merge or acquire other businesses that can boost their membership and revenue.

Reiboldt identified the same trend and said one example of that phenomenon is the $545 million deal in September 2010 between two Medicare Advantage plans -- HealthSpring and Bravo Health -- that became a much larger one.

Reiboldt and Baker said Medicare Advantage plans need to have huge rolls of members to effectively respond to the greater regulation that comes with health care reform.

However, the trend toward consolidation isn't without exception. Harvard Pilgrim Health Care and Tufts Health Plan, both in Massachusetts, announced Jan. 25 that they were considering merging, but said six weeks later that they decided against it. The two companies said the idea was abandoned in part because it would have been too difficult to achieve savings from the larger scale of a combined company.