Health Net Beats on Bottom Line (HNT) (UNH)

Zacks

Health Net Inc. (HNT) reported second-quarter GAAP income of $58.3 million or 63 cents per share, which surpassed the Zacks Consensus Estimate of 71 cents. The income was also higher than $45.1 million or 45 cents earned in the prior-year quarter.

The reported quarter included a $21.0 million pre-tax loss related to the run-out of the company’s remaining North-East operations and $3.3 million pre-tax expenses related to the company’s administrative cost reduction efforts.

Health Net's Western Region and Government Contracts segments produced combined net earnings of 76 cents per share, showing a year-over-year growth of 25%.

The company reported a 19.2% year-over-year decline in total revenues to $2.8 billion from $3.04 billion. Moreover, the revenue failed to surpass the Zacks Consensus Estimate of $2.86 billion.

However, Health Net’s health plan services premium revenues increased by 2.4% to $2.6 billion, while investment income increased to $25.1 million from $23.8 million in the prior-year quarter. Total expenses surged 3.1% year over year to $2.2 billion.

Segment Performance

Western Region: The segment posted revenues of $2.6 billion, compared with $2.5 billion in the year-ago quarter. Net investment income for the segment increased year over year to $25.1 million from $16.3 million, while health plan services expenses remained flat at $2.2 billion.

Total enrollment in the segment increased approximately 0.8% to 2.9 million members, while total commercial enrollment remained flat at 1.4 million members. Although enrollment in the tailored network products recorded a year-over-year increase of 48.2%, enrollment in Medicare PDP plans and Medicare Advantage plans declined 10.4% and 6.4%, respectively.

Medical care ratio (MCR) for Health Net’s health plan services in the segment declined 10 basis points (bps) to 87.0% during the reported quarter compared to 87.1% in the year-ago period and Commercial MCR declined 60 bps to 85.7%.

While Medicare Advantage MCR climbed to 90.9% compared with 88.5% in the year-ago quarter, PDP MCR increased to 87.4% compared with 85.9% in the prior-year quarter.

Government Contracts: Revenues in the segment declined to $171.0 million from $851.9 million in the previous-year quarter, mainly due to the new T-3 TRICARE North contract implemented on April 1, 2011, which allows only revenues and costs related to the administrative services to be recognized.

Northeast Operations: During the reported quarter, Health Net served the members of the Northeast business sold to UnitedHealth Group Inc. (UNH) as per the administrative services agreement (“ASA”), the income for which is shown separately.

The revenues and expenses associated with the company's Northeast Operations in the quarter were $11.4 million and $32.3 million, respectively. The ASA was terminated on July 1, 2011, following which Health Net will continue to administer run-out claims under a claims servicing agreement with UNH.

Financial Update

As on June 30, 2011, Health Net recorded cash and investments of approximately $1.7 billion, down from approximately $1.9 billion as on June 30, 2010. In addition, the company’s debt-to-total capital ratio increased to 28.2% as compared with 19.0% at the end of the prior-year quarter, due to the large borrowings made to provide for AmCareco litigation related expenses of $181.3 million.

Further, Health Net’s operating cash flow was negative $145.8 million, primarily due to the huge AmCareco payment, $102.0 million increase in TRICARE and Medicare receivables and $25.0 million of North-East-related payment.

Total assets of the company stood at $3.74 billion on June 30, 2011, down from $4.15 billion a year ago. Shareholders’ equity also declined to $1.49 billion from $1.63 billion as on June 30, 2011.

Stock Update

During the reported quarter, Health Net repurchased 2.3 million shares for approximately $72.3 million under the current $300 million share repurchase program.

Outlook for 2011

Health Net increased its GAAP EPS guidance to the range of 63 cents to 68 cents.

The company also expects its 2011 EPS for the combined Western Region and Government Contracts segments in the range of $3.00-$3.05.

The guidance for year-end membership increase in the Western Region is 3%−4% and decrease in PDP is 11%−13%. Enrollment in the commercial business is expected to increase by 1%−2%, Medicare Advantage to decline by 8%−10%, while enrollment in Medicaid is expected to be up by 9%−11%.

Consolidated revenue is expected to be between $12-12.5 billion while tax rate for Health Net is expected to be 38.7%.

The company also expects selling cost ratio to be approximately in the range of 2.3%-2.4% and general and administrative expense ratio to be approximately in the range of 8.7%−8.9%.

Health Net carries a Zacks #2 Rank, which implies a short-term Buy rating.

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