International credit rating agency, Fitch Ratings, recently affirmed the long-term issuer default rating (IDR) of Health Net Inc. (HNT) at “BB+” and 6.375% senior notes due June 2017 at “BB”. Additionally, the rating agency affirmed the insurer financial strength rating (IFS) of the company’s operating subsidiaries at “BBB”. All the ratings carry a stable outlook, which implies a low possibility of a rating change in the near future.
The “BBB” rating reflects Health Net’s small operating scale and limited market share, with the concentration of a majority of policyholders in California. Moreover, the company has a membership base of only 6 million. Health Net generated annual revenues of $11.9 billion in 2011, which is lower than most companies covered by Fitch.
Lack of stability in earnings is also responsible for a low rating, although Health Net’s interest coverage ratio and financial leverage are significantly superior to the “BBB” category’s requirement. At the end of 2011, the company had a debt-to-total capital ratio of 27%, debt-to-EBITDA (earnings before interest, taxes, depreciation and amortization) ratio of 2.1x and total financing and commitment ratio of 0.4x.
Moreover, Health Net had an interest coverage ratio of 6.5x. All these ratios satisfy the requirement of an IFS of “A”. However, the company has been plagued by many legal and regulatory problems in the past, which also affected its ratings.
Going forward, concerns about Health Net’s ability to successfully deal with legal and regulatory risks could lead to a downgrade in rating. Additionally, a substantial decline in the commercial risk enrollment, a large reduction in the shareholders’ equity, a material litigation or regulatory fine could lead to a downgrade. A surge in financial leverage beyond 30% can also lead to a downward revision of the ratings.
On the flip side, strong and stable earnings, improvement in the EBITDA margin, geographic expansion and a substantial membership growth can lead to an upward rating revision. Moreover, if the risk-based capital ratio crosses 250% of company action level, then Health Net’s ratings will be upgraded by Fitch.
Currently, the Zacks Consensus Estimate for Health Net’s first-quarter 2012 earnings stands at 61 cents per share, up by an estimated 0.8% year over year. None of the 13 analysts covering the stock revised their estimates over the last 30 days.
For 2012, earnings are pegged at $3.37 per share, an estimated hike of 9.5% over 2011. Health Net competes with WellPoint Inc. (WLP) and UnitedHealth Group Inc. (UNH).
Currently, Health Net carries a Zacks #3 Rank, implying a short-term ‘Hold’ rating. Considering the fundamentals, we are also maintaining our long-term ‘Neutral’ recommendation on the stock.
HEALTH NET INC (HNT): Free Stock Analysis Report
UNITEDHEALTH GP (UNH): Free Stock Analysis Report
WELLPOINT INC (WLP): Free Stock Analysis Report
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