The Street is currently bullish about Cigna (CIG), UnitedHealth (UNH), and WellPoint (WLP) given the inelastic demand markets that they target and room for multiples expansion. While I find risky headwinds to all of these firms, I am mostly optimistic about Cigna given the synergies that will be unlocked by its $3.8B acquisition of Health Spring.
From a multiples perspective, Cigna is the cheapest of the three. It trades at a respective 7.9x and 7.8x past and forward earnings while United and WellPoint trade at a respective 10.9x and 9.1x past earnings. The company may be the most volatile with a beta of 1.4, but it has performed well in a challenging environment.
At the fourth quarter earnings call, Cigna's CEO, David Cordani, noted a strong close to the year:
"First, we delivered strong revenues and earnings growth for full year 2011. Overall, these results reflect consistent execution of our growth strategy and demonstrate the value we continue to create for our customers, clients and shareholders. Most specifically, our retention, expansion and new business growth in our targeted geographies and customer segments are further evidence of our continued success.
Regarding the fourth quarter, results were consistent with our expectations and reflect continued strong operating fundamentals, as well as considerable investments in our future. These include: Service in clinical staffing for the high levels and growth we are expecting for the first quarter of 2012, and increased spending on branding, technology and product development across all of our emphasized businesses. These investments will continue to support future growth opportunities and strategic positioning".
The buyout of Health Spring will help Cigna unlock revenue synergies in Group Medicare. Previously, Cigna had a lack of attractive revenue streams in Medicare. The purchase will also enable the firm to upset ASO-based enrollees in Commercial. As Cigna has already issued the capital financing, it is all accretion from here.
Consensus estimates for Cigna's EPS forecast that it will grow by 8.8% to $5.67 in 2012 and then by 10.6% and 15.2% in the following two years. Assuming a multiple of 9x and a conservative 2013 EPS of $6.22, the rough intrinsic value of the stock is $55.98, implying 28.5% upside.
United has similarly had impressive operating performance. It beat consensus by 14% in terms of EPS and commercial fee-based income has had greater-than-expected momentum. Management nevertheless once again gave a conservative guidance. Margins are moderating downwards in risk-based benefit streams, especially in light of greater investments in PBM and other ares for growth. ROE is trending downwards by around 150 bps over the next two years as margins decline by around 100 bps. Some analysts model net debt further heading upwards as free cash flow declines over the next two years.
Consensus estimates for United's EPS forecast that it will grow by 1.3% to $4.79 in 2012 and then by 12.9% and 10.4% in the following two years. Assuming a multiple of 11x and a conservative 2013 EPS of $5.31, the rough intrinsic value of the stock is $58.41, implying 13.8% upside.