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AIS's Health Business Daily
Featured Story October 1, 2008 Wall Street Meltdown Could Make Access to Capital More Difficult, Costly for Health Plans Reprinted from HEALTH PLAN WEEK, the industry's leading source of business, financial and regulatory news of health plans, PPOs and POS plans. By Steve Davis, Managing Editor, (sdavis@aispub.com) The financial hurricane that ravaged Wall Street Sept. 15 was at least partially to blame for a week of sinking stock prices among publicly traded health plans before a recovery at week's end. But fears that troubled financial firms will sink health plan earnings or expansion plans are overblown, financial analysts tell HPW. Investment banking firm Lehman Brothers Holdings, Inc. on Sept. 15 filed for Chapter 11 bankruptcy protection after it couldn't find a buyer and was unable to get the government to agree to a bailout. The filing marks the largest bankruptcy in U.S. history. A day later, the Federal Reserve Board agreed to lend up to $85 billion to American International Group, Inc. (AIG) in return for up to 80% ownership of the firm. The insurance company saw its net losses balloon to $18.5 billion over the past three quarters due largely to the collapse of the U.S. subprime mortgage market. Collectively health plans have about $900 million in assets invested in AIG and Lehman Brothers and in the Federal Home Loan Mortgage Corp. (Freddie Mac) and the Federal National Mortgage Association (Fannie Mae), the huge mortgage finance firms that were bailed out by the federal government Sept. 7. While $900 million is a large number, it amounts to little more than a ripple (less than 1%) of invested assets among publicly traded health plans, according to Carl McDonald, an equities analyst with Oppenheimer & Co. "Overall, it doesn't look like health plans have a tremendous amount of exposure to any of the [troubled] financial companies," he tells HPW. Of the estimated $900 million in assets invested in known troubled financial firms, nearly half ($470 million) were invested by WellPoint, Inc. Aetna Inc. reported Sept. 17 that its invested assets in Lehman Brothers and AIG totaled about $234 million. Health insurance isn't a capital-intensive business, and health plans tend to be "underleveraged" and generate large amounts of cash flow from their operations, says Matthew Coffina, an analyst at Morningstar, Inc., and UnitedHealth Group, for example, has a debt-to-capital level ratio of about 35%. "You collect the premiums before you have to pay providers, so to a certain extent the business is self-financing," he explains. "They typically have few capital needs that they can't get from the cash generated by operations." While publicly traded health plans tend to be conservative in their investments, they could be affected indirectly by lower interest rates paid on investments. And that could impact earnings, analysts say. Among publicly traded health plans, WellPoint, Inc., and UnitedHealth Group have the most money — about $20 billion each — in fixed-income investments, such as Treasury, municipal and mortgage bonds. WellPoint has an estimated $9 per share invested in mortgage bonds. Although that amount is large relative to the company's stock price of $47.57 (as of Sept. 18), Coffina says the company is worth "quite a bit more than where it is trading." In a filing with the Securities and Exchange Commission this month, WellPoint said the value of its holdings in Fannie Mae and Freddie Mac preferred stock has dropped by about $214 million as of Sept. 8. Despite the decline, the company reaffirmed its previously lowered full-year 2008 net income guidance of $5.42 to $5.57 per share. "Health care stocks tend to be more defensive than those in other sectors, so we are likely to see sectoral rotation into health care given the volatility witnessed in other sectors," says Jonathan Korngold, a managing director with investment firm General Atlantic. Health insurers, he tells HPW, could feel additional pressure associated with the sputtering economy as employees that might be losing jobs or health coverage cause a "benefit rush" by trying to use any remaining benefits. That could cause a spike in medical utilization and, in turn, additional costs for insurers. Analysts contacted by HPW agree that the recent shake-ups at Lehman Brothers and AIG won't have much of a negative effect on large publicly traded health plans. However, they say, it will make it more difficult for small, privately held health plans to raise capital, he says. That doesn't mean they won't be able to get it, but it does mean that they will pay a higher interest rate than they would have six months or a year ago," McDonald says. "There has been a general constriction of liquidity everywhere. Even the publicly traded companies are having a more difficult time getting capital." The consolidation rate in the health plan sector reached a peak a few years ago, and most publicly traded health plans seem to be focusing on improving operational efficiencies rather than on acquiring competitors, says Chris Kallos, a health care industry analyst with Zacks Investment Research. "In the absence of the need to raise significant funds for acquisitions, any credit squeeze arising from the Lehman Brothers fallout would more likely affect the smaller health plans rather than the larger players," he tells HPW. Small health plans could be further affected if they are owed a large receivable by a reinsurer that runs into financial trouble. McDonald says that most large, publicly traded health plans are able to spread their risk over a large asset pool and generally don't need to rely as heavily on reinsurance as do some smaller plans. "There could be a situation where [an acquired but not yet integrated health plan] is expecting to receive some money from a reinsurer, and that company goes under like AIG," McDonald explains. Case in point: In his Sept. 17 note to investors, McDonald noted that Humana Inc. ended 2007 with reinsurance "recoverables" of $341.6 million, including $214.8 million with Protective Life Corp., a reinsurer based in Birmingham, Ala. In a Sept. 16 prepared statement, Protective Life said that it had investments in preferred stock issued by Freddie Mac and Fannie Mae and debt and preferred stock issued by Lehman Brothers and AIG. Total exposure to those firms amount to about 6% of its shareholder equity, according to Protective Life. The reinsurer said nearly $100 million is invested in Lehman Brothers, and another $97 million is in AIG. "I think if Protective's stock price declines significantly, some health plans could be affected," McDonald says. In his Sept. 18 note to investors, Bank of America Senior Vice President Brian Wright noted that Aetna has a $163 million reinsurance receivable from a Lehman Brothers affiliate. The affiliate, however, is not part of the bankruptcy proceedings. The impact of tighter credit markets will cause health care firms to seek alternatives to debt for financing needs, thus providing opportunities for private-equity players focused on growth, adds Korngold. Health plans that are focused on improving efficiency and productivity in the system "will tend to benefit and continue to grow in this environment," he predicts. Although insurers have little direct exposure to Lehman Brothers and AIG, a perceived connection seems to have pushed the plans' stock prices lower. As stock prices slide, more concerns are raised, which pushes stock prices even lower. "It can seem like a self-fulfilling prophecy," McDonald says. "Eventually you get to a point where you don't have the ability to raise any new capital. At this point, I'm not worried too much about that." The financial turmoil could wind up being good news for health plans worried about the shape reform will take under the next administration. The next president and Congress may be less concerned about passing expensive health reform legislation, Coffina says. |
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