Universal American Corp. Q1 2009 Earnings Call Transcript

Universal American Corp. (UHCO)

Q1 2009 Earnings Call

April 30, 2009 9:00 am ET

Executives

Richard Barasch - Chairman and CEO

Martina Alisuag - Director of IR

Bob Waegelein - CFO

Analysts

Daryn Miller - Goldman Sachs

Tom Carroll - Stifel Nicolaus

Carl McDonald - Oppenheimer

Gregg Genova - Deutsche Bank

Presentation

Operator

Welcome to the Universal American First Quarter 2009 Conference Call. (Operator Instructions).

I will now turn the conference over to Richard Barasch, Chairman and CEO. Please go ahead, sir.

Richard Barasch

Welcome to the Universal American first quarter 2009 conference call. I'm here with Bob Waegelein, our CFO; and Martina Alisuag, our Director of Investor Relations.

Before we begin, I'd like to ask Martina to read our Safe Harbor language.

Martina Alisuag

I would like to remind you that some of the information discussed during this conference call will constitute forward-looking statements within the meaning of the Federal Securities laws. These forward-looking statements may include statements regarding the likelihood or effect of any legislative or regulatory changes, our expectations of the performance of our Medicare Advantage, Part D, Med Supp and other lines of business, the estimation of loss ratios and lapsation, the adequacy of reserves, our ability to institute future rate increases, expectations regarding our Part D and Medicare Advantage programs, including our estimates of membership costs, revenues, future operating results and the risks inherent in these businesses, the identification of acquisition candidates, the completion, integration or accretion of any acquisition transactions, and the viability of any acquisition proposal. Although we believe that the expectations reflected in these statements are based upon reasonable assumptions and estimates, we cannot give assurance that we will achieve the expected results.

We also suggest that you review the most recent risk factors that we periodically file with the SEC.

Richard Barasch

This morning I'm going to spend some time talking about the highlights of our first quarter and then move on to our prospects for 2009 and beyond, including an update on our thoughts about the changing political and regulatory environment for our Medicare products.

Our first quarter results were indicative of significant improvements in fundamental performance and execution in each of our core Medicare businesses. Once again, we have shown that our company is adapt at one of the basic requirements of this business, the ability to bid our products so that they provide good value to our members, are competitive in the marketplace and achieve fair returns for our shareholders.

Our value proposition of improved health outcomes to Medicare beneficiaries, combined with internal cost reduction initiatives, gives us confidence that we are well positioned in this increasingly difficult political and regulatory environment.

Now, let me start with the results of the quarter. We reported an operating loss of $0.10 per share for the first quarter, excluding net realized investment losses. The key metrics of our core Medicare Advantage and Part D businesses improved over last year and were better than our expectations, but we gave up some of that improvement with lower than expected results in our traditional business.

Improved results in our Medicare Advantage segment for the quarter are due to higher membership revenue, improved benefit ratios and lower administrative costs. Excluding items that relate to prior periods, our benefit ratio was 83% as compared to 85.5% last year calculated on the same basis.

We continued to show growth in membership and profitability in our network Medicare Advantage products, further demonstrating the success of our Healthy Collaboration model in which we work closely with physicians and members to promote better health outcomes and control medical costs.

Even though membership in our private fee-for-service plans didn't quite meet our targets, our results improved due to better benefit ratios and lower expenses. We're quite aware of the challenges ahead in the Medicare Advantage business and have our work cut out in order to sustain our momentum.

First we have to deal with the rate cuts in 2010, followed by the expectation of further rate cuts in 2011 and beyond. Simultaneously, we have the challenge of building network products to capture as much of our private fee-for-service membership as possible when most of the deeming expires in 2011.

For 2010, we expect to bid in all of our current MA markets, including private fee-for-service counties. We go into this bidding season with a favorable trend in our benefit ratios and improving G&A structure. We're also examining other levers, such as reduced benefits and increasing premiums, to maintain our competitive position and margin. For the future, whatever the structure of the rate cuts, it's absolutely clear that in order to be successful, Medicare Advantage plans will have to influence the cost and outcomes of health care in a meaningful way.

In our HMOs, we continue to demonstrate success in our Healthy Collaboration model that is built on strong and granular partnerships with primary care physicians whose mission is to provide the best health outcomes, which, not coincidentally, leads to lower costs.

The improving performance in our expansion market proves that what has worked so well in Texas can be exported to new markets. To us the most critical factor as we build out our PPOs is to find and work with provider groups who are prepared to work within our model to create better and more cost effective clinical, financial and patient satisfaction outcomes for our members.

It's also becoming increasingly important to be a low cost, high quality, and very importantly, a highly compliant operator. The rapid growth of private fee-for-service enabled us to build an infrastructure in Medicare Advantage that will also benefit our network based plans. After several years of investment in people, technology and processes, we are beginning to see meaningful reductions in expense ratios that will help us maintain a competitive position as rates are cut.

We've also developed the critical risk management scales that are necessary to price our products and appropriately report to the results in the Medicare population. As the 2010 bidding season will prove again, it's crucial to maintain discipline in the pricing of our products, balancing market imperatives and the need to achieve adequate margins.

Additionally, we must continue to improve the way and make more efficient the way we distribute our products to prospective members. Historically, we've relied on a combination of independent and career sales organizations, using commissions as our primary marketing tool. We are now in a process of shifting our model to rely more on career organizations in the core markets that we have selected for our network-based products, and we've invested extensively in this channel.

In 2009, we launched a PPO product in 15 new markets as the first stage of a multiyear effort in which our goal is to cover up to 60% to 70% of non-rural private fee-for-service membership. We filed PPOs in more than 30 additional markets for 2010 and will file for the balance in 2011. To that end, we've increased our developmental investment in 2009 with a focus on network building, market planning and sales execution.

The first quarter results in our Part D business confirm that we've put the issues of 2008 behind us. We've taken the steps required to reduce our benefit cost structure, particularly as to the cost of drugs and have upgraded and integrated the operations of our two plans, harvesting meaningful savings already with more to come throughout the course of this year.

We're now in the fourth year of Part D and it's still not easy to be sanguine about our first quarter loss, especially given how large Part D business has become for us. However, with each year we've become more comfortable with the pattern of results that emerge through the year and the metrics of the first quarter are important indicators of that pattern. Even though we lost more in the first quarter of this year than last year, the metrics look favorable.

Our revenues are 10% higher, which increased the loss in the first quarter, but assuming everything else is in line, should lead to higher profits for the year. Our benefit and expense ratios are lower than last year. In addition, we recorded a $4 million amortization in the first quarter of 2009 with the corresponding expense in 2008 not recorded until the second quarter.

Our Part D results have become even more seasonal as a result of the elimination of the income that we generated from our interest in our strategic joint venture with CVS Caremark that was terminated at the end of last year. Nevertheless, we project that the improvements in revenue, benefit ratio and expenses will offset this income for the full year 2009.

Part D plays an important part in our overall strategic plan, and the same principles of Healthy Collaboration apply. We now have in our two programs the third largest Part D business in the country, serving more than 1.7 million Medicare beneficiaries. Our increasingly efficient operations and our expertise in product development and pricing, which we have now proven over several years, should allow us to maintain our leadership position.

A critical part of the Healthy Collaboration model is the active involvement of community pharmacists in reducing health care costs and promoting better outcomes for our members. Through our unique relationship with the National Community Pharmacists Association, we've established several pilot programs that we believe will provide meaningful results overtime.

A project of particular promise involves the close monitoring by pharmacists of post-hospitalization prescription medication usage to reduce the rate of readmission. This is exactly the type of program in which the private sector in collaboration with all key participants can change the methodology and reduce the cost of health care delivery in this country.

We are very disappointed in the results in our traditional segment and are in the process of taking the appropriate steps to improve these results. Keep in mind that we expected a seasonal loss in the first quarter since, like Part D, med supp benefits are frontloaded each year. However, the loss was greater than expected, in large part due to increased claims cost and lower net investment income.

With the sale of the life and annuity business, we have begun to rationalize our infrastructure cost, but a significant further reduction in expenses must occur in order to get the full benefit of the transaction and we are working toward that end.

Now, on to our financial structure. Our insurance subsidiaries and HMOs are well capitalized, but to further augment our capital position to sharpen our focus on our core business, we're pleased to announce that we closed life and annuity reinsurance transaction earlier this week on April 27.

This transaction generated approximately $70 million in excess statutory capital, including $60 million in increased statutory capital and a reduction in required capital of approximately $10 million in our insurance subsidiaries. Our strong liquidity and reasonable debt position give us a lot of financial flexibility, including the ability to buyback our stock at its current levels. We have approximately $137 million in unregulated cash at the holding company and have a fully unused $150 million line of credit.

As noted last quarter, we posted the details of our investment portfolio on our website. Though we took an additional OTTI impairment in the first quarter, our unrealized losses have remained relatively constant over the last several quarters. When we sold the life and annuity business, we transferred approximately $455 million of short term assets to the reinsurer. The balance of our portfolio is largely the same as it's been. In the aggregate, our book value, including the unrealized losses of our bonds, was $15.66 per share and around $9.21 when goodwill is excluded.

Turning to 2009, we're reiterating our guidance of between $1.47 and $1.57 per diluted share, excluding realized gains and losses and certain one-time expenses and charges that we will incur as a result of the reinsurance of the life and annuity business and the rationalization of expenses throughout the enterprise. We estimate these expenses will be $5 million to $10 million after-tax. Even though we're forecasting lower yearend membership in Medicare Advantage, we believe this will be largely offset by improved margins.

We continue to believe strongly in the future of our market, broadly defined as providing valuable health insurance coverage to seniors. The specifics will change, but the need for these coverages will grow and we've demonstrated over several years our ability to adapt quickly as the market and the environment changes. We believe we have the skill sets and the flexibility to succeed in any regulatory or funding scenario.

Thanks for your time this morning. Bob and I will be happy to answer any questions that you may have.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Daryn Miller of Goldman Sachs.

Daryn Miller - Goldman Sachs

Can you guys split apart what your MCR was in private fee-for-service versus your HMO products or the network products?

Richard Barasch

We're aggregating our MA from this point forward.

Daryn Miller - Goldman Sachs

Can you give us an indication of what your PPO network build-out spend was in the quarter?

Richard Barasch

It's in between $5 million and $6 million.

Bob Waegelein

Right, as we prepared the bidding. Then it will slow down in the summertime and pick up again in the latter half of the year.

Richard Barasch

I think we said that there's approximately $20 million of spend in our numbers.

Daryn Miller - Goldman Sachs

Richard, can you walk us through how you guys would think about a competitive bidding process in MA?

Richard Barasch

It's a great question, and I think the risk of answering this fully is that I think people have other things to do today. It's very complex and a lot of details have not been made public. So I think it's a little bit early to speculate on how it might work. I think there's an overall notion that since Part D has worked so well, that some of the same principles of the Part D bidding process should apply to MA.

Daryn Miller - Goldman Sachs

The MA MCR came in better than expected. Was there any specific components of the medical cost budget there that were driving that?

Richard Barasch

Our revenue is coming in a little bit better than expected and claims are a little bit better as well.

Daryn Miller - Goldman Sachs

Anything in particular on the claims side?

Richard Barasch

No.

Bob Waegelein

No.

Operator

Your next question comes from the line of Tom Carroll of Stifel Nicolaus.

Tom Carroll - Stifel Nicolaus

First, administratively, could you spike out for us perhaps the positive development in the quarter as well as the revenue true-up related to 2008 on a pre-tax basis?

Secondly, what has hindered your Medicare Advantage sales this year as you look at your products versus perhaps your competitors'? I guess, what is it about your products relative to the competition that's really reduced the outlook in the growth for '09?

Richard Barasch

We would have liked to have seen more private fee-for-service membership, but candidly we didn't miss by that much. I think what's more to the point is the growth of our network-based products, which we continue to do quite well. We're 15% ahead of last year.

I would say that we've increased our emphasis on the network base, increased our emphasis on what will become our core markets. We reduced our emphasis on the places where we ultimately won't have networks. So I think that combination of items came into play.

Even in private fee-for-service, we had a decent selling season from the perspective of how much we sold. What I think, again, was a little bit troubling for us is our lapsation in private fee-for-service was a little bit higher. When we look at where it went, a lot of it went to our competitors, who offered more competitive product. This goes back to my comment about moving away from independent and more toward career. I think that's sort of indicative of why we would like to do that.

Bob Waegelein

In relation to your first question, the 220 basis point improvement from reported to the restated LOP about 50% of it came from just normal positive period development of our prior -year claim reserves. Overtime, it developed that way throughout 2008, so we had some more come through in 2009.

The second piece is just additional revenue that we know we'll be getting from CMS as we looked at the codes of our membership and adjusted for the revenue scores that we should anticipate receiving midyear.

Tom Carroll - Stifel Nicolaus

Quantify those items for us?

Bob Waegelein

It's about $7 million each.

Tom Carroll - Stifel Nicolaus

Just back to the original question and kind of the MA sales, it sounds like it was really a marketing impact, focusing on network products, which resulted in better expectations and perhaps a refocus away from private fee, which resulted in the result that wasn't what you liked.

Richard Barasch

I can't say to you that I'm delighted with what happened in private fee-for-service, I don't want to leave you with that impression. When you step back and look at it in the aggregate, private fee-for-service did okay and the network products did very well.

Operator

Your next question comes from the line of Carl McDonald of Oppenheimer.

Carl McDonald - Oppenheimer

Just from a big picture perspective as you think about 2010, can you give us a sense of how you're thinking about strategy, I guess first in relation to this tradeoff between margins and cost shifting, and then, specific on the cost shifting, how you think about the preference between increased premiums and more co-pays?

Richard Barasch

It's a great question, Carl, but one which you would be very disappointed if I answered in detail. We are right now in the midst of our bidding season. These are conversations that we're having daily about the tradeoffs among the various issues that you've discussed. Those are the levers.

We've historically been a company that cares about its margins. I don't think that will change and I think the rest of it will be up for grabs.

Carl McDonald - Oppenheimer

On the PPO network builds, do you have a sense at this point of how much overlap you have today relative to the 60% to 70% that you're targeting?

Richard Barasch

The reason we are hedging a little bit is, we filed a bunch of PPOs, but the filing and the actual approval are two different things. There's network adequacy test, et cetera. So what I'd prefer to do is rather than speculating a big range, by the time we get to this call next quarter, I'll be able to tell you which of our PPOs are in place and give you a precise answer to that question.

Carl McDonald - Oppenheimer

The earnings from the life and annuity business, are those now out of the full year guidance?

Richard Barasch

Yes.

Bob Waegelein

Yes.

Carl McDonald - Oppenheimer

Relative to the prior guidance, was that still included?

Bob Waegelein

In the prior guidance, when we did the deal we did not assume the deal would close. It didn't have a meaningful impact one way or the other on our guidance.

Operator

(Operator Instructions). Your next question comes from the line of Gregg Genova of Deutsche Bank.

Gregg Genova - Deutsche Bank

First, on the $5 million to $10 million charge related to the Commonwealth transaction, can you maybe break that out a little bit? Is that all related to the Commonwealth or are there other restructuring you guys are doing?

Richard Barasch

The selling of the Commonwealth, of course, eliminates the need for us to have a life and annuity department in our company. So that's the first part, which impacts the structure of our traditional business. That's the basis of this. At the same time, there are going to be some other charges related to us getting into fighting trim for the rate cuts and what we see is coming, the need to be a low cost provider.

Bob Waegelein

It's also important to note that we are still continuing to write some life business. This was a real sale of our traditional in-force, but we're very much still in the issuance of life insurance for the senior market as well.

Gregg Genova - Deutsche Bank

Is that all expected in the second quarter or is that throughout the year?

Richard Barasch

The bulk of it will be in the second quarter. There may be some that trail through the year and we'll try to highlight it. What I'm really focused is what we're doing in the second quarter as a result of the deal and some specific items that we're doing to reduce cost on the other side of the company.

Gregg Genova - Deutsche Bank

Can you just remind us what that business was generating in revenue now that that's going to be insured, just maybe like in 2008 a ballpark revenue figure.

Richard Barasch

We'll get back to you on that.

Bob Waegelein

I have it here. I'm sorry. So life insurance, that was about $13 million of revenue a quarter that was being generated.

Gregg Genova - Deutsche Bank

Back to the 2010 MA rates, any thoughts as to if there's any chance, I guess, the timing is obviously tough, that the Doc Fix could get incorporated into that for the rates?

Richard Barasch

It's possible. There's been some interesting discussion about it on a theoretical basis. If it happens, that would be wonderful. We're planning for it not happening. Our bids are due in just around a month. We're just assuming that the rates are going to be what they were in the last CMS in ASPEN.

Operator

There are no further questions at this time. I will now turn the conference back to management.

Richard Barasch

Thanks, everyone, for joining our call this morning. Please call Bob or Martina if you have any further questions. Thanks, everyone.

Operator

Ladies and gentlemen, this concludes our conference for today. Thank you all for participating, and have a nice day. All parties may now disconnect.

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