UnitedHealth Group's (UNH) Q1 Earnings Report Could Hold Signs for Whole Health Insurance Industry

Joel Anderson |

Stock in health insurers is broadly down on Thursday morning. Every major health insurer saw shares down in early trading, with a disappointing earnings report from industry-leader UnitedHealth Group Inc. (UNH)  that appeared to be dragging down the entire sector.

UnitedHealth Beats Earnings Expectations, Undershoots

UnitedHealth reported earnings of $1.1 billion, or $1.10 per share, for Q1 2014, coming in ahead of analyst expectations of $1.09 a share but still declining year-over-year from 2013’s $1.19 billion. While revenue rose over 5 percent to $31.71 billion, it was still behind analyst expectations of $32.01 billion.

Losses Across the Board

UnitedHealth’s stock was off more than 3.25 percent by 1 pm ET, but it wasn’t the only one. Aetna (AET) plunged almost 2.5 percent, WellPoint (WLP) lost nearly 3.5 percent, CIGNA (CI) was off almost 1 percent, and Humana (HUM) went down almost 2.5 percent.

And losses weren’t contained to just the major insurers either. Centene (CNC) lost almost 1.5 percent, Health Net (HNT) was off nearly 0.75 percent, Molina Healthcare (MOH) plunged almost 3 percent, and WellCare Health Plans (WCG) went down over 1 percent.

Industry Outlook in UnitedHealth Earnings Report Not a Sunny One

While on the surface this may look like panicked monolith selling based on the performance of the segment’s bellwether, the reasons UnitedHealth missed its revenue estimates contain a closer look at why the whole industry is declining today. UnitedHealth cited a number of broader economic and public policy trends in explaining its revenue miss, explaining why it may have made investors skittish about the entire health insurance segment.

Among the myriad changes included in the Affordable Care Act were several that should affect the bottom line for insurers. Insurers will have less flexibility in their product offerings, pay new taxes that aren’t deductible, and see a reduction in the funding for Medicare Advantage plans, long a key product segment for the industry.

UnitedHealth, in particular, is the largest provider of plans for the 3 million seniors using Medicare Advantage. President and CEO Stephen Hemsley was frank in assessing the way these changes were eating into UnitedHealth’s profit margins, noting that this was the first quarter where the real effects of the new law were being felt by insurers.

“Longer term, we continue to more clearly see evidence of the growth opportunities for both UnitedHealthcare and Optum as we move beyond the more negative, immediate-term impacts of the ACA and its implementation,” he said. “This was really the first quarter of full scale operations under the ACA. ... Non-deductible insurance taxes, ACA proscribed Medicare Advantage funding pullbacks, commercial underwriting changes, and various other provisions – cumulatively reduced our per share net earnings by nearly 30 cents for this quarter.”

“And sequestration cut an additional nickel in this quarter; on a full year basis, 2014 Medicare funding actions will cut roughly $0.45 per share beyond that,” he continued. “This makes a grand total of about $1.50 per share in externally driven year-over-year pressure... The ACA impacts every major line item of our consolidated results and distorts comparisons for virtually all performance ratios. This will continue as the year progresses and new regulatory and tax baselines are established and settle in.

Sovaldi, Hepatitis C Also Driving Up Costs

And, if UnitedHealth was looking to work every major public policy issue in the news in recent months into its earnings report, it succeeded as the company cited the high costs of supplying new Hepatitis C drug Sovaldi.

Sovaldi, a novel treatment that’s shown considerable effectiveness in preventing liver damage among Hepatitis C patients, has been the focus of much debate after Rep. Henry Waxman (D-California) wrote a letter to Gilead Sciences (GILD) CEO Dr. John Martin demanding an explanation for the methodology that arrived at a price tag of $84,000 for a round of treatment, a cost of $1,000 a pill.

UnitedHealth cited more than $100 million in costs coming from the pricey drug, but also noted that costs should decrease after an initial wave coming from patients who lacked strong treatment options prior to the availability of Sovaldi.

"What we're seeing is consistent with what folks are seeing across the industry, which is higher pent-up demand as there were more patients that were warehoused leading up to the launch," said CFO Daniel Schumacher.

Industry Watchers Have Plenty to Chew On

UnitedHealth’s earnings report certainly contained plenty of information for those closely watching health insurers. With Q1 2014 representing some of the first data on how the Affordable Care Act may ultimately affect profits for the insurance industry, the remainder of the earnings season promises to indicate a lot about what to expect for 2015 and beyond.

Precisely how the combination of different factors; including different plan structures, new services covered, changing provider networks, lower Medicare reimbursements, regulation of revenues spent on medical costs, a major influx of new customers, and new taxes; will change the nature of the insurance business remains a mystery for the most part.

And it’s important to note that concerns about the so-called “death spiral” may hinge on the profits of these companies. Plunging earnings are exactly the trigger that may result in major boosts to premiums on the exchanges in 2015 and beyond.

However, it’s also worth noting that these same insurers may have some room to pull back. Major insurers had a huge 2013. Gains over the last year were over 25 percent for UnitedHealth, over 20 percent for Aetna, almost 35 percent for WellPoint, over 15 percent for Cigna, and over 40 percent for Humana.

After these huge gains, a pullback for insurers’ stocks in 2014 may be less a sign of crashing profits and more a simple correction from previously sky-high valuations.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer

Companies

Symbol Name Price Change % Volume
CI Cigna Corporation 133.44 -1.06 -0.79 1,386,371
UNH UnitedHealth Group Incorporated (DE) 160.73 -0.21 -0.13 3,480,032
CNC Centene Corporation 57.48 -0.47 -0.81 2,078,785
GILD Gilead Sciences Inc. 72.42 -0.42 -0.58 9,227,901
HNT Health Net Inc. n/a n/a n/a 0
HUM Humana Inc. 213.63 -3.13 -1.44 1,219,443
AET Aetna Inc. 133.49 -1.41 -1.05 3,522,666
WCG Wellcare Health Plans Inc. 138.26 -0.25 -0.18 353,735
MOH Molina Healthcare Inc 53.25 0.56 1.06 1,088,750
KRRYF Kerry Logistics Network Ltd 1.30 0.00 0.00 0

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