Unitedhealth Group, Inc., Q2 2008 Earnings Call, Jul-22-2008 - NYSE:UNH

NYSE:UNH

During the UnitedHealth Group Second Quarter 2008 Earnings Conference Call, William Munsell, one of the executives, made the following statements:

1. Performance of Prescription Solutions:

   • "2008 has been a year where Prescription Solutions has been focusing on improving generic penetration and the results have been nice in that area and also improving mail service penetration and those results have been productive and as Steve said then, we’re pleased with the progress so far from the standpoint that it not only lowers costs but improves our margin in that business."

2. Competitive Dynamics in Pharmacy Benefit Management:

   • "My experience would e that it is a competitive market. It always has been a competitive market, but I haven’t seen any significant change in dynamics. Does that answer your question?"

These statements pertain to the performance of Prescription Solutions, the pharmacy benefit management arm of UnitedHealth Group, and the competitive landscape in the pharmacy benefit management business.

Stephen Hemsley provided extensive commentary during the UnitedHealth Group's second quarter 2008 earnings call. Here is a detailed summary of his statements:

Opening Remarks

• Financial Performance Overview:

  • Second quarter earnings are in line with estimates provided three weeks prior.
  • Earnings per share (EPS) of $0.67 excludes special items totaling $0.40 per share.
  • Special items include:
    • Proposed settlement of legal claims for historical stock option matters.
    • Severance charges related to cost reduction actions.
    • Divestiture of a portion of the Medicare Advantage business in Nevada.

• Business Developments:

  • Commercial medical cost trends are within expectations.
  • Commercial risk-based benefit businesses are short of expected premium yield and enrollment.
  • Gross margin pressures on special needs plans and in Medicare Part D.
  • Medicare Advantage growth is improved but short of plan on membership and revenue.
  • Medicaid and Enterprise Services businesses are performing well, except for behavioral cost pressures at OptumHealth and some Pharma research project cancellations at Ingenix.

• Strategic Actions:

  • Aggressive actions are being taken to improve growth and earnings performance across all businesses.
  • Goals include:
    • Improved customer focus and financial performance.
    • Response to broader industry and economic pressures.
    • Strengthening the enterprise and its performance in 2009 and beyond.

Second Half of 2008 Outlook

• Earnings Expectations:
  • Earnings in line with revised annual expectations.
  • Third quarter EPS in the low to mid-$0.70 range with improved operating margins.
  • Fourth quarter profitability gains driven by the seasonal performance of Medicare Part D and strong sales at Ingenix.
  • Full-year consolidated and commercial Medicare ratios to remain in line.
  • Continued reductions in run-rate operating costs quarter-by-quarter.
  • Improved alignment and translation of UnitedHealthcare’s strategy to local market resources and operations.

Business Strategies

• Regional Structure:
  • Common regional structure with strong regional leaders across all health benefit businesses.
  • Aim to drive more in-market coordination and leverage performance across local market needs and opportunities.
• Underwriting and Pricing Disciplines:
  • Deliver premium yields at or above projected medical cost trend.
  • More effective local engagement in marketing and distribution for commercial health plan businesses.
• Clinical Care Services:
  • First phase consolidation and focus of clinical care services across all health benefit businesses.
  • Consolidation of technology operations across the entire health benefits enterprise.
• Integration Efforts:
  • Commitment to substantially completing all remaining integration efforts by the end of 2010.
• Medicare Advantage Marketing:
  • Invigorated approach for the 2009 open enrollment period, more grassroots in nature with more dedicated sales and enrollment resources.
• Medicaid Market Wins:
  • Successful preparation and startup for recent Medicaid market wins.
• Generic and Mail Order Drug Utilization:
  • Continued growth with Prescription Solutions PBM business.
• Operating Cash Flows:
  • Range of $4 billion in the second half, prior to considering the timing of legal settlement payments.

Second Quarter Financial Results

• Revenue Growth:
  • Second quarter revenues of $20.3 billion, up 7% year-over-year, including 3% organic growth.
• Medical Care Ratio:
  • Consolidated medical care ratio of 83.4%.
  • UnitedHealthcare medical ratio (excluding national accounts) of 82.9%.
  • Including national accounts, the UnitedHealthcare ratio was 83.8%.
• Operating Cost Ratio:
  • Operating cost ratio at 14.6% is excessive.
  • Aggressive action to adjust this, aiming to remove $500 million in run-rate operating costs by Q2 2009.
• Cash Flows from Operations:
  • Second quarter cash flows of $600 million.
  • Forecast for full-year adjusted operating cash flows in the area of $5 billion.
  • Strong second-half cash flow results expected as government payments are received and working capital is reduced.
• Enterprise Services Businesses:
  • Strong 2008 revenue growth.
  • Ingenix positioned for full-year revenue growth exceeding 25%.
  • OptumHealth sees continued strong growth in public sector services.
  • Prescription Solutions revenues decreased due to the reduction in auto-assigned Part D business and increasing generic drug utilization.

Benefits Businesses

• UnitedHealthcare Commercial Markets:
  • Business remained soft in Q2 with stable fee-based enrollment and a decrease of 95,000 people in risk-based products.
  • Full-year outlook for an 800,000 or more person decrease in risk-based business.
  • National commercial health plan medical cost trend at 7.5% plus or minus 50 basis points.
  • Gross margin pressures relate principally to pricing.
• Medicaid Market:
  • AmeriChoice added 375,000 people in Q2, including 55,000 through organic growth.
  • Closed the Unison acquisition on May 30, sooner than expected.
  • New market wins or contract extensions in Arizona, Connecticut, Florida, Washington D.C., and a double win in Tennessee.
• Senior Markets:
  • Growth results are mixed.
  • Medicare supplement is on track to add 125,000 seniors.
  • Evercare is continuing to win new contracts and expand its state-based programs.
  • Hospice is growing nicely.
  • Growth in Medicare Advantage this year has come from special needs plans rather than SecureHorizons traditional HMO products.
  • Addressing issues with special needs plans, including for the 80,000 seniors enrolled in the chronic care plan.
  • Established a $49 million premium deficiency reserve for special needs plans.
  • Benefit bids with CMS for 2009 have fully addressed benefit underwriting issues.

Operations

• Aggressive Action on Operating Costs:
  • Goals include achieving the full benefits of the scale of the enterprise, better supporting local businesses in their regions, and tightening control processes.
  • Aligning clinical and network organizations and technology operations across health benefits business units.
  • Accelerating multi-year integrations in businesses like OptumHealth and UnitedHealthcare.
  • Clinical operations will be more local market-centered.
  • Strategy for advertising, promotion, and distribution, particularly in the Medicare market, to become more grassroots in local markets and much lower in cost.

Capital

• Investment Portfolio Management:
  • Team has managed the investment portfolio well during unusual market conditions.
  • Avoided material impacts from subprime investments, auction rate securities, and other troubled asset classes.
  • Generated $103 million in capital gains in the first two quarters.
  • Strategy of investing in a diversified mix of high-quality securities and generating appropriate risk-adjusted returns.
• Capital Expenditures:
  • Lowering capital expenditures in 2009.
  • Supporting expenses will also be lower.
  • Focusing investment agenda on items with the greatest favorable impact for customers and future growth.
• Share Repurchase:
  • Maintained a strong share buyback agenda for more than ten years.
  • Shares appear undervalued and compelling.
  • Continued share repurchase is more accretive than it has ever been.
  • Assessing rebalancing capital allocations and evaluating dividend levels in light of size and strong cash flows.

Summary and Forward-Looking Comments

• Focus on 2009:
  • Refocusing regionally and locally, strengthening underwriting discipline, reducing operating costs and capital spending levels, correcting senior product benefit membership mix and distribution, opening new Medicaid markets, and continuing to execute in Enterprise services businesses.
• Financial Guidance:
  • Projected revenues in the range of $81 billion for 2008.
  • Earnings of $2.95 to $3.05 per share supported by operating cash flows approaching $5 billion as adjusted.
• Future Outlook:
  • Actions taken will produce a measured performance recovery in 2009 and set the pace for an accelerating performance level going into 2010 and beyond.
  • Execution is key for restoring the valuation of the enterprise.
  • Sensible path for the near-term is to pursue the returns through share repurchase given the level of projected operating cash flows and the low relative stock valuation.

Closing Remarks

• Performance Recovery:
  • Actions will accelerate performance recovery in 2009 and set the pace for an accelerating performance level going into 2010 and beyond.
  • Economic conditions may affect the pace of recovery.
• Capital Allocation:

  • Continued share repurchase is more accretive given the projected operating cash flows and the low relative stock valuation.