Tonight (12/6/2017) Politico reported that as part of House / Senate tax legislation negotiations House Republicans are considering a push to suspend the Health Insurer Fee (HIF) for certain market segments in 2018. Under this proposal large group commercial, indiv comm’l and Medicare Advantage plans would all see the HIF suspended for 2018. However, the small group comm’l market would potentially be excluded given concerns that it would be difficult for insurers to pass along the savings to consumers (tough to follow this logic given almost all plan benefits for 1/1/2018 are already set). Medicaid plans may also be excluded from the 2018 suspension although no reason was cited here. The concerns discussed for the small group market would seem to imply that House Republicans see a way for the savings from the HIF suspension to accrue to consumers in the impacted market segments discussed above instead of to MCO margins during 2018 – which was discussed at UNH Investor Day.
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As has been broadly discussed / acknowledged, lower corporate tax rates would disproportionally benefit MCO earnings given the high effective tax rates across the group. Over time, competitive dynamics and higher Minimum MLR rebate payments would be expected to act as partial offsets to the first derivative benefit of a lower tax rate. The sustainability of tax reform benefits was discussed on today’s CVS/AET conf call in the context of the valuation that AET’s board of directors accepted to sell the company. Specifically, an analyst asked how AET thought about the potentially significant (and increasingly likely) impact of tax reform on the co’s earnings. AET CFO Shawn Guertin noted that while tax reform was factored into the company’s considerations, the immediate benefit would be reduced through minimum MLR rebates and competitive market forces over time given that today’s after-tax returns are attractive already - full quote on page 2. While we agree that the benefit of tax reform will moderate over time we don’t see minimum MLR rebates as a meaningful headwind for any company in our coverage (more below). We think it's too early to tell how much of tax benefit will be sustainable given competitive pressures but we believe the market is looking for 1/3 to 1/2 to be sustained in the intermediate to LT. With the simple math implying a ~23% initial benefit to earnings from a 20% corporate tax rate, this would imply an 8-12% benefit is sustainable for MCOs generally.
This morning (11/29/17) CMS released its fourth weekly exchange snapshot for the 2018 Open Enrollment Period (OEP) for states using the Healthcare.gov platform. Total plan selections from 11/1/17-11/25/17 are 2.8M, consisting of 2.1M renewals and 718k new customers. While new selections per day slowed this week (~22k per day vs trend of ~32k per day through the first 3 weeks), this enrollment snapshot covers the Thanksgiving holiday, which typically negatively impacts signups. As discussed below, we think it is important to analyze new selections (1/3 of selections last year) separately from renewals (2/3 of selections) because members who don’t renew or terminate their coverage will be automatically reenrolled later in the open enrollment period. Given that dynamic renewals are likely to provide some level of stability to the selection pool- last year, new plan selections were down ~25% y/y but total selections only decreased ~5%. Net, we expect exchange enrollment will likely finish down again this year which is not a surprise given the marketing pullback by HHS and significant price increases felt by unsubsidized membership. As a reminder, it’s fairly difficult to make comparisons to previous open enrollment periods given that this year’s enrollment period will end on 12/15 vs 1/31 in prior years.
This afternoon (11/27/2017) CMS released its early preview of the Medicare Fee-For-Service United States Per Capita Cost (FFS USPCC) growth rate for the 2019 plan year. Please see our preview here. CMS now estimates that FFS USPCC will grow 4.29% in 2019, which is 60bps below the 2019 estimate of 4.86% included in the April 2018 Med Adv Final Rule. Over the past two years we have seen the early preview come in ~100bps below the previous USPCC projection, so we think today’s 60bps decline coupled with the higher absolute trend rate will be viewed favorably particularly in light of the overall weak utilization backdrop. Importantly, the FFS USPCC rate is just one layer of the all-in Med Adv rate update for 2019 (see our 2018 overview here) and this preview rate will be subject to revisions with both the advanced rate update expected in late January / early February 2018 and the final rate update expected in early April. For the 2017 plan year, the early preview trend rate was largely in-line with the final rate update and for the 2018 plan year, the final rate was ~50bps higher than the preview (although the Early Preview was 100bps lower). While the trend growth rate has been around 3% the last two years we note there are a few drivers that could inflate trend such as ACA driven cuts to hospital rates moderating. Finally, we note that the 2019 rate update will reflect the first full rate cycle under the new Republican administration.
On Tuesday (11/28/17), we expect CMS will release its early preview of the Medicare Fee-For-Service United States Per Capita Cost (FFS USPCC) growth rate for the 2019 plan year. The early preview was released on the first Tuesday of December in both 2014 and 2015 and on the last Tuesday of November (11/29) in 2016. The release will be posted here. Importantly, the trend rate is just one layer of the all-in Med Adv rate update for 2019 (see our 2018 overview here) and this preview rate will be subject to revisions with both the advanced rate update expected in late January / early February of 2018 and the final rate update expected 4/2/2018. For the 2017 plan year, the early preview trend rate was largely in-line with the final rate update and for the 2018 plan year, the final rate was ~50bps higher than the preview (although the Early Preview was 100bps lower). While the trend growth rate has been around 3% the last two years, we note that the assumed trend for 2019 from the 2018 final release is 4.86%. There are a few drivers that could inflate trend such as ACA driven cuts to hospital rates moderating but we would expect a similar pattern to that seen over the past two years where the Early Preview trend was ~100bps below the USPCC projection from the previous April’s Final Rate Release. Given the 2019 PY Assumed Trend is nearly 100bps higher than we’ve seen historically the Early Preview could show an even greater decline from the PY assumed trend of 4.86%. Finally, we note that the 2019 rate update will reflect the first full rate cycle under the new Republican administration.
Yesterday (11/17/2017) CMS released a regulation covering proposed policy and technical changes to Medicare, primarily related to Medicare Advantage and Part D. The proposed regulation is separate from the normal rate update process (proposal in February, final rule in April) and comes in response to the request for information (RFI) that CMS released earlier this year during the 2018 rate update process. Beyond technical changes to facilitate the implementation of the Comprehensive Addiction and Recovery Act (CARA) and the 21st Century Cures Act, the proposed regulation seeks to encourage innovative plan/benefit design and while somewhat uncertain would also appear to eliminate the Star Ratings benefit from contract consolidation in Med Adv. If finalized, these changes would become effective for the 2019 plan year.
After WCG reported strong core Q3 results mgmt provided early color on 2018 ahead of full year guidance to be released in mid-December. Most importantly, mgmt noted that ~$8.00 is the appropriate 2017 jump-off point and expects growth in earnings for 2018 – essentially saying previous consensus of $7.98 for 2018 was too conservative. Given significant uncertainty into the quarter on forward earnings growth, mainly due to questions around the sustainability of margin upside delivered in 2017, it is not surprising to see the strong stock reaction (remember UNH/ANTM both had uncertainty around 2018 #s and were up 4-5% after effectively blessing consensus on their 3Q calls). Given management’s confidence around the sustainability of 2.0%+ net income margins we increase our estimates for 2017/2018 and beyond and raise our PT to $215.
Today (10/31/17) the Des Moines Register reported that AmeriHealth Caritas (not-for-profit, not covered) is pulling out of Iowa’s recently launched Medicaid Managed Care program. ANTM and UNH are the other participants in the program. Recall that in 2Q16 Iowa transitioned ~$3.5B of Medicaid spending (70-75% of total) to managed care from fee-for-service, including several high-acuity populations. Plans in Iowa have been incurring heavy losses that are well beyond the normal investment period that MCOs expect when dealing with populations that are new to managed care. Underwriting margins for ANTM, Amerihealth Caritas and UNH have averaged negative 15-20% over the past 5 quarters per state reporting data (see Exhibit 2 on page 2) and recent rate increases provided to plans have not been enough to achieve actuarially sound rates. AmeriHealth’s exit will become effective at the end of November. Iowa is seeking to add a third plan in July 2018 but until then ANTM and UNH will cover AmeriHealth’s current members. While the incremental enrollment / revenue is likely to be negative margin in the near-term, the exit of the country’s leading not-for-profit Medicaid MCO may accelerate state / federal attention on the need to provide actuarially sound rates here, particularly if Iowa hopes to be able to recruit another plan to enter the state. We note that WCG, CNC, AET, MOH, Meridian and Magellan also responded to Iowa’s RFP. WCG was initially selected to be 1 of 4 plans in the program but was later disqualified due to a bid protest and it’s not clear whether the company would be considered as a replacement here. At 2% net margins, this contract could potentially be worth $0.12 (2% to EPS) to CNC and $0.53 (7% to EPS) over time. Please see Exhibit 1 on page 2 for the complete RFP scoring from Iowa’s RFP.
WCG reported 3Q’17 adjusted EPS of $4.08, well above WR/Consensus of $1.84/$1.91. Adj EPS includes $0.40 of retro rev related to FL Medicaid and a $0.53 tax benefit, making the core EPS ~$3.15, still >$1 above estimates driven by strong upside in the Medicaid segment and ~$0.35 benefit in equity income (likely ACO business accruing for shared savings post recently announced results). Total Revenue of $4.4B (up 23% y/y) was slightly ahead of Wolfe/Consensus of $4.3B/$4.4B, while adjusted MLR of 85.8% was well below Wolfe/Consensus of 87.7%/88.0%. Additionally, WCG raised 2017 adjusted EPS guidance by ~$1.50 from $6.75-$6.95 to $8.25-8.40. Revised EPS guidance reflects 3Q outperformance / core upside plus the $0.93 from 1x items noted above, partially offset by ~$0.60 for a PDR that the company expects to record in 4Q17 related to its new IL Medicaid contract. We previously wrote about WCG’s potentially aggressive bid in IL here. We will look for more color on the call but we note that WCG’s bid appears to be ~$0.75 below peers assuming even market share, so we don’t necessarily see a read through to CNC and MOH (also participating) at this time.
On Friday (10/27/2017), CMS released the proposed PPACA Notice of Benefit and Payment Parameters for 2019 (exchange reg) which will be open for comment through 11/27/17. The proposed rule seeks to “reduce fiscal and regulatory burdens” by increasing the flexibility afforded to states to define essential health benefits (EHBs) and adopt innovative approaches to running their own state-based Exchanges. The rule seeks to add additional income verification requirements targeted at individuals who indicated an income above 100% FPL despite other data sources suggesting income below 100% FPL. It appears that CMS is concerned that individuals in the coverage gap that exists in states that didn’t expand Medicaid are misrepresenting their income to qualify for a substantial exchange subsidy. This is interesting given previous RWJF report observing that the take-up rate of exchange coverage in FL among low-income groups appeared to be greater than 100%.
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