The U.S. Bureau of Labor Statistics released the February CPI report yesterday (03/13/18) and released the PPI report this morning (03/14/18). Last month’s report showed a modest acceleration in both Medical CPI-U and PPI, driven by an uptick in the Hospital category. These data points caused some concern that MCOs could be facing a cost trend inflection point following several years of relatively benign trend backdrop. As discussed below, February’s data is mixed, showing a deceleration in Medical / Hospital CPI-U but continued acceleration in PPI.
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Annual stat filings for 2017 have mostly been filed (~95% of our 2016 sample) with data illustrating that as of 12/31/17 average RBC ratios have increased by ~115% to 833% compared to 12/31/16 (see Page 3 for historicals). This is not surprising given the strong margin trajectory seen during 2017 (more below) plus deferred tax benefits of tax reform at a small # of plans.
Each MCO has provided clear tax reform guidance for 2018 with net benefit to EPS for MOH>CNC>UNH>HUM>ANTM>CI>WCG>AET. On avg. MCOs saw a gross benefit of 21% to EPS post mechanical offsets (HIF gross-up, Min MLR), then reinvested 27% of potential benefit, with ~75% flowing thru to earnings leaving a 16% avg. EPS benefit in 2018. From here the focus shifts to sustainability and how the industry, including Blue Cross Blue Shield plans (NFP Blues), respond. We will host a webcast at 2PM ET on Friday, March 2 to review our analysis – an invite should already be in your inbox and reminders will follow. Slides attached, starting on page 3.
We are updating our estimates for tax reform and the recently passed 2019 HIF holiday. Our core #s remain largely intact, but our EPS estimates increase by 13%/15%/13% for 2018-2020 primarily due to tax reform and 2019 HIF suspension. Our YE 2018 price target of $215 is based on a target P/E multiple of 19.6x (15% premium to 17x S&P multiple) our 2019 EPS estimate of $11.00 (we assume company reinvests HIF suspension benefit in 2019, more below). Despite continued solid operational performance, we remain on the sidelines given the company’s premium valuation. We reiterate our Peer Perform rating.
Washington State’s Health Care Authority (HCA) recently released an RFP to reprocure its Medicaid managed care program across ten regions over a two-year period beginning 01/01/19. The new RFP seeks to fully integrate the existing managed care program with behavioral health services which should add modestly to MCO spending. The current managed Medicaid program represents approximately 1.6M members and $5.7B of spending. Incumbents include MOH (738k members / 46% share), Community Health Plan of Washington (269k members), UNH (222k members), CNC (205k members), and ANTM (147k members). Proposals are due 04/12/18 and awards are expected 05/22/18 (full schedule on page 3).
The New Mexico Human Services Department recently released the protests filed by MCOs that were not selected in the state’s recently announced Medicaid Managed Care reprocurement. The protests filed by MOH, UNH, WCG and AmeriHealth can be found here. We couldn’t find a complete RFP scoring in the protest documents but there were several items worth noting. The RFP scoring consisted of 3 components: a technical proposal, referral scores and a cost proposal. Included in MOH’s protest is a proposed remedy: “eliminate the cost proposal component for the RFP and award a contract to Molina based on the ranking for bidders’ technical proposal and referral scores only”. This confirms our sense that the cost proposal was the primary reason MOH did not retain the contract. See Exhibit 1 on Page 2. Following disappointing outcomes in NM and FL, focus now shifts to TX where another $1.7B of rev (7%) will be reprocured (more below) and this will be the first proposal submitted w/CEO Joe Zubretsky at the helm.
WCG reported 4Q’17 adjusted EPS of $0.32 (includes $0.64 IL PDR), above WR/Consensus of $0.19 driven by continued strong performance in the Medicaid business. Total Revenue of $4.4B (up 23.5% y/y) was in-line with our estimate and slightly ahead of Consensus at $4.3B, while adjusted MLR of 88.5% was well below Wolfe/Consensus of 89.3%/89.8%. WCG raised its 2018 adjusted EPS guidance from $8.53 to $9.70, up ~$1.18 (13.8%) at the midpoint.
Outpatient flu data released by the CDC on Friday (02/02/18) showed an increase in flu visits and this flu season is now on track to be the worst since the 2009-2010 H1N1 epidemic. Our checks w/NFPs and for-profit earnings commentary indicated Q4 results were only modestly impacted with somewhat higher flu costs offset by fairly benign trend. However, with the most recent pickup in last 2 weeks including reports of deaths and jammed hospital ERs we expect this to be further vetted on Q4 reports this week (CNC/HUM/WCG/CVS). Whatever the cost it is clear it will be transitory in nature and to the extent MCOs see Q1 MLR pressure look for it to be generally offset by cushion to #s from tax reform related investment spend. For now we lay out 2009/2010 MCO and Hospital commentary re flu costs from H1N1 for comparison - see Exhibits 2 and 3 starting on page 3
Part 2 of the 2019 Medicare Advantage Advance Notice was released this afternoon (2/1/2018). Based on CMS’s estimate of key items plan reimbursement should increase by ~1.8% ex-HIF, modestly below our recent preview of 3.1%. We note this doesn’t include a benefit from coding growth unlike previous total reimbursement estimates produced by CMS. FFS Normalization (more below) and the resumption of Group Med Adv cuts were the key negative items relative to our expectations. On the positive, the estimated impact of phasing in Encounter Data was well below our est. Final rates are expected on 4/2 and we note that rates have historically been more likely to improve than deteriorate vs. the Advance Notice. Overall the rates are solid, especially when combined with the HIF holiday in 2019 and should allow for strong enrollment/margin conservatism. That said, there may be some modest disappointment given strong starting point trend of 4.3% announced in December.
With a # of MCOs set to give initial 2018 guidance this week we are republishing our view of earnings power across the space under the UNH post tax reform framework. There has been some confusion here given Bloomberg #s only include analysts w/tax reform built into their #s. As illustrated on page 7, our detailed tax analysis allows for a granular look at gross/net moving parts ahead of mgmt commentary and initial 2018 guides.
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