Aetna's (AET) CEO Mark Bertolini on Q1 2015 Results - Earnings Call Transcript

Apr. 28, 2015 12:32 PM ETAetna, Inc. (AET)
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Aetna, Inc. (NYSE:AET) Q1 2015 Results Earnings Conference Call April 28, 2015 8:00 AM ET


Tom Cowhey - Vice President, Investor Relations

Mark Bertolini - Chairman and CEO

Shawn Guertin - CFO

Karen Rohan - President


A.J. Rice - UBS

Josh Raskin - Barclays

Ana Gupte - Leerink

Ralph Giacobbe - Credit Suisse

Scott Fidel - Deutsche Bank

Peter Costa - Wells Fargo

Christine Arnold - Cowen

Matthew Borsch - Goldman Sachs

Dave Windley - Jefferies

Chris Rigg - Susquehanna

Andy Schenker - Morgan Stanley

Kevin Fischbeck - Bank of America

Sarah James - Wedbush

Michael Baker - Raymond James


Good morning. My name is Christine and I'll be your conference facilitator today.

At this time, I would like to welcome everyone to the Aetna First Quarter 2015 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. As a remainder, this conference is being recorded.

I would now like to turn the conference over to Tom Cowhey, Vice President of Investor Relations. Mr. Cowhey, you may begin.

Tom Cowhey

Good morning. And thank you for joining Aetna's first quarter 2015 earnings call and webcast.

This is Tom Cowhey, Vice President of Investor Relations for Aetna and with me this morning are Aetna's Chairman and Chief Executive Officer, Mark Bertolini; and Chief Financial Officer, Shawn Guertin. Following the prepared portion of the remarks, we will answer your questions. Karen Rohan, Aetna's President will also join for the Q&A session.

As a reminder, during this call, we will make forward-looking statements. Risk factors that may impact those statements and could cause actual future results to differ materially from currently projected results are described in this morning's press release and the reports we file with the SEC.

We've also provided reconciliations of certain non-GAAP measures in our financial supplement and guidance summary. These reconciliations are available on the Investor Information section of

Finally, as you know, our ability to respond to certain inquiries from investors and analysts in non-public forum is limited. So we invite you to ask all questions of a material nature on this call.

With that, I'll turn the call over to Mark Bertolini. Mark?

Mark Bertolini

Good morning. Thank you, Tom, and thank you all for joining us today.

This morning, Aetna reported record first quarter operating earnings of $2.39 a share, a 21% increase from last year's very strong first quarter. Our first quarter performance speaks to Aetna's focus on operating fundamentals and the continued execution of our growth strategy.

Specifically, we grew medical membership to 23.7 million members, an increase of over 120,000 members during the quarter. We now project that 2015 will be Aetna's third consecutive year of membership growth.

The combination of this membership growth and strong yields from disciplined pricing actions drove solid topline growth as quarterly operating revenue reached $15.1 billion. Medical cost trends remain moderate and we experienced a healthy level of reserve development in the quarter and we now project that pretax operating margins will expand in 2015, despite an increasing mix of lower margin government sponsored business.

With this strong start to 2015, today we're increasing our operating EPS projection to $7.20 to $7.40 per share from our previous projection of at least $7. At the top end of the range Aetna would achieve its low double-digit operating EPS growth call in 2015.

With this backdrop, let me discuss some of our businesses in greater detail. Beginning with our group commercial business, operating results in the quarter were solid as the impact of pricing actions in our 51 to 300 employee block of business took hold and improved underwriting margin.

Aetna has consistently favored margin over membership in our group commercial business and our first results are proof of that commitment to our shareholders.

Moving on to our Government business, 2015 will represent another year of topline growth in our Medicare business driven by increased membership. Aetna's Medicare Advantage business added 88,000 members in the quarter, a 12% sequential growth in individual Medicare Advantage membership.

We continue to believe that our success in this business is representative of the quality and value we provide to our members as demonstrated by our high-performing four plus star rated plans where 85% of our members reside.

Medicare Advantage is an important business for Aetna and we continue to be encouraged by the support that the administration has shown for this program. It now serves nearly one and three Medicare eligibles.

For the first time in several years federal funding for this program will increase in 2016, which we expect will help us to further improve the value we offer to seniors as well as our returns to shareholders.

Going forward the stability and predictability of payment rights as well as risk adjustment and star ratings will be critical in ensuring health plans can continue to provide comprehensive, affordable benefits to the millions of Medicare beneficiaries who choose Medicare Advantage plans.

Continuing with the Government business, Medicaid is a key component of Aetna's long-term growth strategy and our Medicaid franchise delivered another solid quarter. We continue to be pleased with our ability to win and implement high acuity contacts, expanding our footprint and bolstering our reputation for excellence in the marketplace.

This quarter we began serving new members as part of our recent launches in Louisiana and New Jersey and we added over 30,000 members across multiple state programs related to ACA expansion.

For 2015 we project that Aetna's Medicaid business would grow revenues by over $1 billion, representing over 15% annual growth while exceeding our target pretax operating margin.

Shifting to our individual commercial business, we had another highly successful open enrollment period in our public exchange business, growing membership to over 950,000 members and exceeding our initial projections.

The demographic profile of Aetna's public exchange membership remains generally consistent with last year. While the average age of our membership has declined modestly, the vast majority remains in silver and bronze plans and nearly 90% of our members receive a subsidy from the federal government, consistent with national averages.

In addition to our public exchange success, we continue to extend our plans with trying to position our individual off-exchange membership to ACA compliant plan. As a result, we ended the quarter with nearly 1.3 million total individual members and we now project that the individual business will represent approximately 6% of our 2015 revenues.

We remain cautiously optimistic on the potential for the public exchanges to develop into an attractive growth opportunity where we can continue to offer value to customers and generate a reasonable return for our shareholders.

Finally as we consider our long-term objectives, we continue to focus on several key strategic initiatives. We continue to advance Healthagen as it seeks transform the network model from episodic acute care management to population health management.

Value based contracting now represents approximately 30% of Aetna's medical spend with a goal to achieve 75% by the end of the decade.

Our consumer platform continues to develop as we integrate the bSwift acquisition and advance our plans to launch a new suite of individual products in four pilot markets in 2016 and international continue to grow exceeding its operating targets this quarter, while continuing to evaluate opportunities to accelerate growth in emerging markets.

I want to thank our employees for their efforts in delivering this record-breaking quarter for Aetna. Our people are one of our greatest assets and one that we continue to invest in as evidenced by our recent minimum wage commitments.

Building on the strengths of this team, I am confident we have the right vision to lead in a changing healthcare marketplace. We can continue to execute on our differentiated strategy. We will continue to be disciplined across all our lines of business and we can achieve our 2015 operating EPS projection of $7.20 to $7.40 per share.

I will now turn the call over to Shawn who will provide additional insights into our first quarter results and our updated 2015 outlook. Shawn?

Shawn Guertin

Thank you, Mark and good morning, everyone.

Earlier today, we reported record first quarter 2015 operating earnings of $844 million and operating earnings per share of $2.39. Aetna's operating results continue to be supported by strong revenue growth, cash flow and operating margins.

I’ll begin with some comments on overall performance. Our topline performance for the quarter was very good. We grew medical membership to a record 23.7 million members adding over a 120,000 new members during the quarter with growth in our Government and Commercial businesses.

We grew operating revenue by 8% over the prior year to a record quarterly level of $15.1 billion driven by growth in medical membership as well as higher premium yields.

From an operating margin perspective, our businesses are performing quite well. Our pretax operating margin exceeded 10% a very strong result and above our target operating margin range.

Our first quarter total medical benefit ratio was 79.1% a strong result that benefited from continued moderate trends in favorable prior year’s reserve development. Our operating expense ratio was 18.4%, a 60 basis point increase over the first quarter of 2014, primarily as a result of continued investment spending on our growth initiatives and the inclusion of our 2014 acquisitions in first quarter results.

From a balance sheet perspective, we remain confident in the adequacy of our reserves. We experienced favorable prior year's reserve development in the quarter across all of our core products, primarily attributable to fourth quarter 2014 dates of service.

Our reserve growth exceeded our premium growth and days claims payable were 53.5 days at the end of the quarter, a sequential increase of approximately four days. The increase in days claims payable was primarily a result of business mix, but was also due to payment timing changes associated with pharmacy spend, the later accounting for approximately 1.5 days of the increase.

Turning to cash flow and capital, operating cash flows in the first quarter were strong. Healthcare and Group Insurance operating cash flows were over 1.8 times operating earnings driven by membership growth and strong operating results.

We also continue to aggressively deploy capital to create shareholder value, repurchasing over two million shares in the quarter for $196 million and distributing another $87 million through our quarterly shareholder dividend.

In short, we're very pleased with our first quarter results and the continued successful execution of our growth strategy. I'll now discuss the key drivers of our first quarter performance in greater detail.

Beginning with our Commercial business, out total commercial membership grew by 37,000 members during the quarter exceeding our previous projections. Public exchange membership was the primary driver of this growth, which was partially offset by declines in our middle market businesses, a direct result of the previously disclosed pricing actions to improve performance in this block.

As we examine our result in commercial membership base, we continued to be pleased with the early indicators on membership attraction and selection as well as overall performance. Our commercial medical benefit ratio was 77.4% for the quarter, an excellent result that benefited from higher premiums, moderate cost trends and strong prior year’s reserve development.

With respect to our ACA compliant blocks of business, we continue to take a prudent stance on our accruing for the 3Rs. Specifically, we accrued $47 million of additional reinsurance recoverable during the quarter, the vast majority of which relates to 2014 dates of service.

Aetna’s reinsurance recoverable related to 2014 now totals approximately $370 million. For the remainder of 2015 we project that we will record additional recoverable in excess of $400 million related to this program.

We also recorded additional risk adjustor payables of $198 million during the quarter roughly a quarter of which relate to 2014 dates of service bringing our total payable to 2014 to $276 million.

Based on our current projections, Aetna expects to record incremental net payables in excess of $300 million over the remainder of 2015 related to the risk adjuster program bringing our total payable related to 2015 to over $450 million.

We expect to be able to update our projections for this program with our second quarter 2015 reporting, based on information CMS is expected to provide in late June on actual 2014 risk adjustor amounts. Finally, consistent with our year-end reporting, we've not recorded any receivables for the risk corridor program.

Moving on from the 3Rs, medical cost trends continue to be moderate and based on first quarter results including our previously disclosed preferred drug pricing contract for hepatitis C treatments, we now project that Aetna’s 2015 core commercial medical cost trends will be in the lower half of our previously projected range of 6% to 7%.

Another important growth lever is our government franchise. Our Government business grew by 85,000 members in the quarter. Medicare Advantage grew by 88,000 members. Medicare supplement grew by over 26,000 members and Medicaid membership declined by 29,000 members.

However, underlying Medicaid membership grew by 108,000 members, which was more than offset by our previously disclosed decision to exit our Delaware contract that accounted for a 137, 000 members.

Our first quarter 2015 government premiums reached a record of $5.7 billion and our government medical benefit ratio was 81.3% in the quarter. Drivers of this excellent result include stronger than projected membership, revenue and yields, actions designed to solve for the Medicare Advantage funding gap and strong favorable prior year’s reserve development.

Moving on to the balance sheet; our financial position, capital structure, and liquidity all continue to be very strong. At March 31, we had a debt to total capitalization ratio of 35%, completing our target deleveraging after the Coventry acquisition earlier than our initial commitment.

Looking at cash and investments at the parent, we started the quarter with $100 million. Net subsidiary dividends to the parent were $862 million.

We reduced outstanding debt by $432 million. We repurchased over two million shares for $196 million and paid a shareholder dividend of $87 million. After other uses, we ended the quarter with approximately $100 million of cash at the parent, representing our core liquidity. Our basic share count was 349 million at March 31.

As a result of our first quarter performance we're increasing our 2015 operating earnings per share guidance to a range of $7.20 to $7.40 per share. At the top end of the range our guidance has increased by $0.40 per share reflecting favorable operating performance including the effect of favorable prior year’s reserve development.

However certain risks and challenges remain that tamper our outlook at this early stage in the year including the ever present concern that medical cost trends could increase more than we have projected, current low visibility associated with our higher than projected public exchange membership and the uncertainty related to accruals associated with the 3Rs and the potential for the mid-year rate reset in our Kentucky Medicaid contract to pressure performance by more than previously projected.

Our updated 2015 guidance is also influenced by the following additional drivers. Based on our first quarter membership results we now project that our year-end medical membership will be approximately 23.7 million members as growth in government membership over the remainder of the year is largely offset by declines in commercial insured membership including in our individual business.

As we consider our year-to-date mix of commercial membership and the probability of continued delays in implementation and ramp of our existing duals contract, we now project full year 2015 operating revenue will be in the range of $61 billion to $62 billion.

Based on our strong first quarter results including the positive impact of prior year reserve development, we now project our full year total medical benefit ratio to be in the range of 82% plus or minus 50 basis points.

Primarily as a result of our updated revenue projections, we now project that our operating expense ratio will be in excess of 18% for the full year. We now project pretax operating margin to be at least 7.6% consistent with our high single digit target with operating earnings at, at least $2.5 billion.

Finally, we continue to project excess cash flow to the parent of $800 million to $1 billion and our share count projection remains unchanged. Looking back to the beginning of 2014, we had outlined four focus areas for our company that would be key to our success.

Delivering on our Government growth strategy, integrating Coventry in achieving or exceeding our synergy targets, collecting or solving for the ACA mandated fees and taxes and executing on our exchange strategies both public and private.

As we look back on our performance in 2014 and through the first quarter of 2015 we can say with confidence that we achieved and often exceeded our goals across these four areas.

As we look to the remainder of 2015, many of these focus areas remain unchanged. We are encouraged by the strength of our first quarter results and our improved 2015 outlook particularly at this early stage in the year. Further, we continue to believe we are well positioned to attain our 2018 goals of at least $80 billion in operating revenue and $10 in operating EPS.

I will now turn the call back over to Tom. Tom?

Tom Cowhey

Thank you, Shawn. The Aetna management team is now ready for your questions. We ask that you limit yourself to one question, so that as many individuals as possible have an opportunity to ask their questions.

Operator the first question please.

Question-and-Answer Session


Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Our first question comes from the line of A.J. Rice with UBS. Please proceed with your question.

A.J. Rice

Thanks. Hi everybody. On the medical cost trend and the fact that you're moving toward the lower half of that target now in your guidance, sounds like that's mostly because of specialty Pharma particularly the FC renegotiated contract, if you potentially give us some flavor for which you’re seeing the other pockets and inputs for your cost trend?

Mark Bertolini

Yes A.J. I would say that there is really two things, obviously the preferred drug pricing contract is part of that movement. And as you know we anticipated that we would see a trend increase this year, utilization increase. We really did not see that, trend was very moderate in the first quarter.

So those are really the two items when we think about 2015 trend that are bringing that down.

Under the covers looking at it by category, there really hasn’t been anything I would say that is fundamentally changed in the story. Outpatient, emergency department usage continues to be one area that's running.

Specialty Pharma continues to be part of the story, but there is really nothing that I would say is very different or extraordinary in the other categories compared to what we talked about over the last couple of quarters.

A.J. Rice

Okay, great. Thanks a lot.


Our next question comes from the line of Josh Raskin with Barclays. Please proceed with your question.

Josh Raskin

Thanks. My question also relates to the cost trend and just trying to understand a little bit better Shawn, I know you’re explicitly changing the cost trend guidance for the commercial side, but I was wondering are you seeing similar trends on the Government?

And then is there any way to think about how prior figures development is playing into that across the segments? Should we think of that as the PPRD is ratably within each segment or was one of them more than the other?

Shawn Guertin

So I would say that across all products, we certainly saw a moderate trend results. There is a lot more things going on in the Government business in terms of growth and new launches.

So we were probably a little bit more cautious there with things like the duals ramping up. So there is probably a little bit less of that benefit right now in the government business than we saw in the commercial business.

The area that was particularly strong this year was Medicare. We've had a very good result and you see that in the Government MBR obviously. The PPD frankly though was strong across all products and as again as you see in the Government MBR was also very strong in Medicare and Medicaid.

Josh Raskin

And I know you don’t break out the specific segments, but that 13% revenue growth, is there just sort of a rough ballpark with Medicare advantage higher, Medicaid probably a lot higher, PDP a lot lower is that a way to think about it?

Shawn Guertin

Yes I mean -- this is in our guidance previously, but we’ve obviously done a little bit better on the Medicare side. I would say the one thing on the Medicaid side is that the ramp-up in some of the opt-out rates on the duals contracts, that has gone a little bit slower on the uptick side than we thought. So that has pulled revenue the other way.

Josh Raskin

Perfect. Thank you.


Our next question comes from the line of Ana Gupte with Leerink Partners. Please proceed with your question.

Ana Gupte

Yes thanks good morning. Wanted to ask about the individual book. I think you had said that with the individual off exchange, you lost money last year. You moved to ACA compliant plans. I am just trying to understand this.

You've reached normalized margins on the off exchange book and then on the on exchange book as you get more visibility into the risk adjusted data, maybe even be able to book some risk quarters.

Is there potential to expand margins and then what are normalized margins just under on a blended basis? Might we see some margin expansion this year and continuing into 2016?

Karen Rohan

Ana on the off exchange individual book what we did is as you know as we told you we would be moving that entire book to ACA rated plans and we have done so. So we're tracking along where we expected. Obviously risk adjustor is having an impact on that book as well. And we expect that that book for the rest of the year will have some pressure in our overall margins. I'll let Shawn talk about the on exchange risk adjustor.

Shawn Guertin

Yes so the -- I would like to think that we’ve been prudent on these accruals and so I would certainly say there is potential for things to be favorable, but I would also just reiterate the lack of I would say, the lack of information that we have right now on the sort of what I would say official information rather still leads to a lot of estimation.

So I wouldn’t -- I certainly at not this point saying that it’s only a one way street just given the level of uncertainty, but we’ve typically thought about this business as a mid-single digit margin business in a normalized state and there is nothing that's happening today that would make us feel different about this business going forward.

Ana Gupte

Thanks so much. It’s very helpful.


Our next question comes from the line of Ralph Giacobbe with Credit Suisse. Please proceed with your question.

Ralph Giacobbe

Thanks. Good morning. So you didn’t book a risk quarter payment, but I guess can you help us frame or think about what you maybe think you owed at this point if that payment did come through and when do you expect visibility on that? Thanks.

Shawn Guertin

Yes so we had said last -- at the fourth quarter call, this was worth about 20 bps on the commercial -- full-year commercial MBR. It's a little bit less than that now as we've updated the calculation for reinsurance and risk adjustment but that's still in the same neighborhood of what it's worth.

Ralph Giacobbe

And then just on the visibility side, when do you think you'll know whether that you can book that or not?

Shawn Guertin

We're continuing to be told that we will get this information at the end -- by the end of the second quarter. So assuming that that timing holds, we would think that we could update our estimates based on that information on our second quarter call.

Ralph Giacobbe

Great, thank you.


Our next question comes from the line of Scott Fidel with Deutsche Bank. Please proceed with your question.

Scott Fidel

Thanks. Just wanted to ask just first on the public exchange membership growth, it looks like that, that growth is tracking quite a bit faster than the overall market growth was in the 2015 AET.

So just interested about whether there were specific new geographies that drove most of that growth and then also in terms of share gains, what type of competitors you saw share gains from in public exchange?

Karen Rohan

So as you know, we ended the quarter with over -- little bit over 950,000 public exchange members. We continue to operate in 17 states. A handful of states drive the biggest share of our overall membership.

It's all in line with our expectations relative to where we grew in our geographies. As you know our strategy has been where we can achieve competitive cost structure where we have a strong regulatory environment and where we can return our capital. That's where we're investing in our public exchanges.

Just generally speaking, the growth is consistent with what we had anticipated when we saw the open enrollment season unfold. The demographics are consistent with our pricing. We maintain that we're still in silver and bronze plan.

As Mark indicated, our average age has reduced slightly. So we feel good about that as well and our book continues to remain 90% subsidy eligible. So as you know, we believe this is an important business for us and we'll continue to evaluate this business.

We're in the midst of pricing for 2016 and we're monitoring this business very closely as it affect for three hours.

Scott Fidel

And Karen, do you think that all the growth primarily is just from market growth or did you see, also see share gains from competitors and if so, what type of competitors? Thanks.

Karen Rohan

We saw both market growth and taking business from competitors. It's a very competitive price market and we saw both I don't have actual numbers to share with you. Over half of our membership we know is new to us.

Scott Fidel

Okay. Thank you.


Our next question comes from the line of Peter Costa with Wells Fargo. Please proceed with your question.

Peter Costa

Nice quarter guys, but let me focus a little bit on one of the pieces of guidance that was a little bit weaker the term in revenue guidance, can you describe sort of what contributed to that? I've heard slower tools. There was the MLR contractual that adjusted revenues this quarter and then the mix of high deductible health plans in the exchanges versus the group business.

Can you quantify sort of those three items in terms of what their impact was to your revenue?

Shawn Guertin

Yes, so you've largely hit the items. So we have a number of things going on in the commercial business as you alluded to. In a relative mix we have more individual and less group. Those are at that set of lower premium inside individual. Our population has gone a little younger and it's more bronze than we had originally forecast.

And we've also continued to make some assumptions obviously around risk adjusted payables. So all three of those things are contributing to pushing the commercial revenue down and that's probably more -- little bit more than half of sort of the pressure on the number.

And the other side you mentioned the other one, which is just this delay in ramping up the duals and bringing the duals on Board and that's really the other big piece of this that's contributing it.

So just rough numbers. We're probably talking something in the order of magnitude of maybe $900 million or $1 billion and again the commercial mix piece of this is a little bit more than half of that and then the rest really is the delay in duals.

Peter Costa

And what about the adjustment for the contractuals in the MR?

Shawn Guertin

Yes, let me talk a little bit about that. So that is the revenue sense relatively modest -- relatively a modest adjustment. So we're probably talking a number between $30 million and $40 million is what we had to accrue as a result of the PYD that we experienced and we went back and revisited those calculations for 2014.

Peter Costa

Perfect. Thank you.

Shawn Guertin

But the one point I would make just as people think about that is obviously that's not only revenue offset, but what that means is obviously all of the PYD is not necessarily flowing to the bottom line as we had to make some of these minimum MLR accruals.

Peter Costa

Thank you.


Our next question comes from the line of Christine Arnold with Cowen. Please proceed with your question.

Christine Arnold

Hey there. You guys mentioned that 51 to 300 was improving. Could you talk to us about what you're seeing in terms of the improvement in profitability there and if possible quantify kind of what you're expecting this year versus last year in turn there and what you're seeing in selection on that book?

Karen Rohan

Hi Christine, let me just remind you all that last year when we looked at this book, the 51 to 300 book, it wasn’t performing or meeting our internal expectation. So as you may recall, we decided to take very deliberate pricing and underwriting actions to improve the performance of this book.

So as we came through in the first quarter, we evaluated the book as it stood and as we looked at our fairs and levers analysis, we're quite pleased with the book that stayed with us. We were able to receive and get the rate increases that we had anticipated and for the book that left us.

We feel good about the level of performance on that book as it left. As you know, we're committed to margin over membership and I think what we've demonstrated here with the performance of this book that we remain committed to it.

As you know it's still early in the year to evaluate the total performance of the book, but based on the overall rate execution of what we have, we see that we're quite pleased with the performance of the book where it stands today.

Christine Arnold

Great. Thank you.


Our next question comes from the line of Matthew Borsch with Goldman Sachs. Please proceed with your question.

Matthew Borsch

Yes. Good morning. I realize it's early in the selling season, but I was hoping you could give us a glimpse of what you're seeing as you have discussions with larger employers about 2016, where the Cadillac tax. figures into that and where you think things stand in terms of consideration on private exchanges?

Mark Bertolini

Hi Matt, Mark. It is way early in the season. However there is a lot of conversation going on for the claim on unionized populations about the effect of the Cadillac tax and I expect that we'll see some pretty contentious discussions and maybe even the potential that union trust will pick up membership.

We've already seen that in a couple of accounts and expect that that could be a continuing trend until there is better clarity on the Cadillac tax.

We also see a trend toward more market specific buying on the part of large employers. We think this is a positive trend as we think about private exchanges, local market ACOs and the strategy we're pursuing as employers are going back to more multiple offerings versus having one carrier.

Relative to the numbers so far on the season Karen, I don't know if you have any specifics.

Karen Rohan

Yes, what I would say is that we look at activity remains consistent with the pipeline that we have last year. We're currently responding to overall bid activity. As you would expect it would be premature for me to estimate 116 membership at this point.

Matthew Borsch

Okay. Thank you.


Our next question comes from the line of Dave Windley with Jefferies. Please proceed with your question.

Dave Windley

Hi, I wanted to ask around -- good morning and thanks for taking the question, I wanted to ask around your value-based purchasing strategy. I am curious how many -- how many situations -- into how many situations have you deployed your Healthagen stack and how integral is that to driving your value based purchasing goals by the end of the decade?

And then if you could quantify at all any differences in margin or trend between your experience in and out of the value-based contracts, thanks?

Mark Bertolini

Dave, this is Mark. I think our value-based contract now we're in 62 ACOs. We have almost a million members in patients that are medical homes, which is 38% growth since the beginning of '14 and over 760,000 members in what we call our high performance networks, which we picked up with Coventry.

And so we have value-based contracting a little bit of map. I would say that full stack on Healthagen rather limited at this point in time. We do have pieces of our technology in a number of different relationships and our strategy is to get at least a backbone in place early on.

Some relationship around data so that we can growth the stack over time and actually with [Medicity] [ph] we're seeing a lot of growth as they add on more capabilities with the providers that are currently in their network which are over a 1,000 households and over 270,000 physicians.

So we're about 30% of the medical spend today in value-based contracting. I would say our most advanced programs are showing a lot of opportunity for us in lowering cost structure and improving the price in the marketplace, but again we're across the map with a number of different relationships, our goal ultimately to move them to the highest form in most advanced form over time.

Dave Windley

Thank you. Are you able to quantify in those -- say those most advanced situation, how much trend benefit you're getting?

Mark Bertolini

Our goal is to reduce our price point in the marketplace between 8% and 15%.

Dave Windley

Fantastic. Thank you.


Our next question comes from the line of Chris Rigg with Susquehanna. Please proceed with your question.

Chris Rigg

Good morning. Thanks for taking my question. I know the Kentucky RFP process is still ongoing, so it's probably going to be hard to say a lot, but can you give us just some general parameters for what you're seeing there.

Why you now think the rate pressure is going to be even worse. Whether you guys were surprised by the RFP and whether there is any risk to actually losing the business outright, given the timing. Just any color on what's going on there would be helpful. Thanks a lot.

Mark Bertolini

Obviously this is too early to talk about the contract. We're in the midst of discussions with them now and we expected that we would have some activity around this contract mid-year.

We would say that the pressure we anticipate in our guidance is more than we originally anticipated in our operating plan. And so -- but we're able to accommodate that within the guidance we put forward.


Our next question comes from line of Andy Schenker with Morgan Stanley. Please proceed with our questions.

Andy Schenker

Thanks. Good morning. Maybe just going on to your thoughts here on capital deployment and your appetite for M&A given obviously the increased expectations for dividends from subs to the modest as well as the fact that you completed your targeted deleveraging earlier than you kind of originally had guide us to. Thanks.

Shawn Guertin

Well thanks for the question Andy. I would say that we continue to look for opportunities to grow in the provider space around technology in better building out the Healthagen asset.

We just recently made an acquisition in the exchange space bSwift last year and so we continue to look for assets in the commercial space that will work for us. As it relates to larger consolidations of M&A, we have a strong balance sheet and we're paying attention to what’s going on in the market place and will react appropriately or act appropriately should the opportunity arise.

Andy Schenker



Our next question comes from the line of Kevin Fischbeck with Bank of America. Please proceed with our question.

Kevin Fischbeck

Great, thanks. Just wanted to go to the guidance because your last quarter when you provide a guidance of at least $7 you kind of highlighted the fact that it was at least and then based upon the favorable development this quarter you would be consensus by $0.44 and yet you didn’t raise by that amount.

So wanted to dig a little bit more until I guess you highlighted three things specifically. I don’t know if we should be reading anything at all into the fact that you put cost trend first as a potential risk, but just wanted to get into kind of each of those three things the cost trend, the exchange membership and 3Rs and then Kentucky is kind of how we think about that because all equal, it seems like it’s a conservative number, but I just want to kind of understand if any of these things is may be bigger than what we are looking at from the outside.

Shawn Guertin

On the last two on the public exchange it is early given the growth we've had, the way we're accounting for the system. The issues we saw last year in accounting for the way we have to for public exchange. So it's just really caution particularly on that front around what to expect for the rest of the year. As it relates to Kentucky, obviously early and still in the midst of that conversation.

Cost trends, if there is one number that always has us keep one eye open at night and has the biggest impact on our ability to deliver is cost trend. We are down at the lower end of our guidance. We've seen present cost trend. We also positive cost trend in the first quarter of last year and we don’t see any reason to get out in front of relatively cautious view on what we're trying.

Kevin Fischbeck

Okay. Great, thanks.


Our next question comes from the line of Sarah James with Wedbush. Please proceed with our question.

Sarah James

Thank you. Can you speak to how revenue diversification and growth in the non-risk based revenue stream is impacting your discussions with rating agencies and how they're evaluating your balance sheet and may be how that may change what you view as the goal that to cap for Aetna?

Shawn Guertin

What the rating agencies tend to be interested and is obviously the dividends that we get from non-regulated subsidiaries, which is typically where some of that service fee business is as you suspect.

Given the composition of our company, most of our dividends do come from regulated subsidiaries, but it's not insignificant the amount that does come from the non-reg business.

So it's certainly something that they look at and we think about, but it's really just part of a bigger strategy to grow the revenue, you know the revenue profile of the company as opposed to a specific strategy just to grow the non-regulated fee-based business.

Sarah James

Thank you.


Thank you. Our final question comes from the line of Michael Baker with Raymond James. Please proceed with your question.

Michael Baker

Yes. I was wondering if you could give us some color on what -- how Aetna is approaching the shift from a pharmacy benefit management to a drug benefit management. I know you have CVS that you work with, but given the fact that a lot of that pipeline will flow through major medical, may be you could outline just couple of initiatives that you guys are working on yourselves so to speak on that front.

Mark Bertolini

I'll remind you, everybody and also you Michael first that we did not give up PBM -- complete PBM relationship from a pharmacy benefit standpoint when we did our dealer CVS. Our dealer CVS is very structured where we continue to control formulary, we continue to control actions around case management and how we look at drugs and introducing drugs.

So our P&T Committees are still very active and then involved in how we manage drugs, but in the end analysis I think as we look at the pressure, it's on the specialty side and we're looking for ways to move the cost of these drugs away from the medical benefit into the pharmacy benefit where we can both negotiate formulary and rebates and we can also have coinsurance cost sharing on the drugs and we can tier the drugs based on their efficacy, clinical efficacy.

So that's how we think about managing this going forward and if there is one trend on the page that continues to move up, it's larger on the specialty drug area.

Michael Baker

Thank you.

Tom Cowhey

Thank you, Michael. A transcript of the prepared portion of this call will be posted shortly on the Investor information section of the where you can also find a copy of our updated guidance summary containing details of our guidance metrics, including those that were unchanged or not discussed on this call.

If you have any questions about matters discussed this morning, please feel free to call me or Joe Zubretsky, in the Investor Relation office. Thank you for joining us this morning.

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