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Cigna Corporation 2019 Q3 Form 10-Q Summary

Business context and reporting period

Cigna Corporation filed this unaudited Form 10-Q for the three and nine months ended September 30, 2019. The company operates health services, pharmacy benefits management, medical, dental, disability, life and accident insurance businesses. Results include Express Scripts from its December 20, 2018 acquisition; comparable 2018 results generally reflect standalone Cigna and are therefore not fully comparable.

The company reports Health Services, Integrated Medical, International Markets, Group Disability and Other, and Corporate. Prior-period segment information was restated for the new segment structure, but 2018 did not include Express Scripts’ operations.

Key financial metrics

Revenue growth primarily reflects the Express Scripts acquisition. Pharmacy revenue was $25.987 billion in the quarter and $77.454 billion for nine months, compared with $747 million and $2.222 billion, respectively, in the prior-year periods. Premiums increased 10% in both the quarter and nine-month period, while fees and other revenues increased 68% and 74%, respectively.

Cash provided by operating activities was $6.692 billion for the first nine months, compared with $3.644 billion in 2018. Cash used in investing activities was $463 million, and cash used in financing activities was $5.480 billion. Cash and cash equivalents were $4.577 billion at September 30, 2019, compared with $3.855 billion at December 31, 2018.

Total debt was approximately $38.753 billion at September 30, 2019, consisting of $4.712 billion of short-term debt and $34.041 billion of long-term debt, compared with approximately $42.478 billion at year-end 2018. The debt-to-capitalization ratio was 46.4%, down from 50.9%. Management expected to reduce the ratio to the upper 30% range by the end of 2020 using operating cash flow. The company was in compliance with its debt covenants.

Available liquidity included approximately $4.8 billion of cash and short-term investments, approximately $1.1 billion of which was held by the parent company or nonregulated subsidiaries. The revolving credit facility provided borrowing capacity of up to $3.25 billion, net of $21 million of letters of credit outstanding.

Material changes versus the prior comparable period

• Shareholders’ net income increased 75% in the quarter and 66% for nine months; adjusted income from operations increased 82% and 67%, respectively.
• Diluted EPS increased 14% in the quarter and 7% for nine months, less than the growth in earnings because of shares issued in the Express Scripts transaction.
• Integrated Medical adjusted revenue increased 12% in both periods, while adjusted operating income increased 2% in the quarter and 9% for nine months. The medical care ratio worsened to 80.5% from 78.3% in the quarter and 80.3% from 78.3% for nine months.
• Health Services contributed $1.399 billion of pre-tax adjusted operating income in the quarter and $3.555 billion for nine months. Its adjusted margin declined to 5.6% from 6.0% in the quarter and to 5.0% from 6.9% for nine months, excluding transitioning clients.
• International Markets adjusted operating income declined 1% in both periods, while Group Disability and Other declined 10% for nine months and was flat in the quarter.
• Interest expense increased materially because of debt issued to finance the Express Scripts acquisition and debt assumed from Express Scripts.
• The effective tax rate declined to 23.2% from 25.1% in the quarter and to 22.1% from 25.5% for nine months, primarily because the health insurance industry tax was suspended for 2019 and incremental state tax benefits were recognized.
• Cigna repurchased 9.3 million shares for approximately $1.5 billion during the first nine months of 2019. The board later authorized an additional $1.0 billion of repurchases.

Guidance, outlook, commentary, risks and unusual items

• Management expected the federal health insurance industry tax to return in 2020, with an estimated impact of approximately $460 million; 2020 premium rates and benefits were designed to reflect the tax.
• Anthem terminated its pharmacy benefit management agreement effective March 1, 2019. The transition period was expected to end March 1, 2020. Anthem and Coventry results were excluded from Cigna’s adjusted revenue and adjusted operating income measures as “transitioning clients.”
• Express Scripts integration and transaction-related costs were $114 million pre-tax in the quarter and $405 million for nine months, compared with $128 million and $318 million in the prior periods.
• The company recorded $51 million of litigation-related charges for nine months and a $30 million benefit in the third quarter. Total special items reduced after-tax income by $65 million in the quarter and $352 million for nine months.
• The Department of Justice was investigating Medicare Advantage risk-adjustment practices, including medical chart reviews and health exams. Cigna was also subject to CMS and OIG risk-adjustment audits and could not estimate the potential impact for certain audit years.
• Cigna and Anthem remained in litigation regarding the terminated merger, including Cigna’s claim for a $1.85 billion reverse termination fee and additional damages. Express Scripts also faced Anthem litigation involving alleged pricing concessions and damages; the filing states that potential aggregate losses could not be estimated.
• State regulators were re-examining Cigna’s long-term disability claims practices. Additional costs, penalties or required business-practice changes could negatively affect future earnings.
• The company adopted new lease accounting guidance in 2019 without a material impact on net assets, earnings or cash flows. It expected approximately $50 million after-tax of additional credit-loss allowance upon adoption of the new expected-credit-loss standard on January 1, 2020.
• Management estimated that if September 30 discount rates and pension assets remained unchanged through year-end, the pension liability could increase by approximately $300 million, producing an estimated $240 million after-tax charge to accumulated other comprehensive income. Actual results could differ.
• Forward-looking risks include medical and pharmacy cost trends, drug pricing, government regulation, Medicare program participation, Express Scripts integration, debt service, litigation and investigations, foreign currency movements, capital-market access, cybersecurity and broader economic or geopolitical conditions.

Important facts for investors to verify

• Separate the effects of Express Scripts’ acquisition and transitioning Anthem/Coventry business from organic operating performance.
• Track debt reduction, interest expense, refinancing activity and progress toward management’s targeted upper-30% debt-to-capitalization ratio by year-end 2020.
• Monitor Integrated Medical medical care ratios, individual-market performance, membership trends and Medicare Star Ratings.
• Assess the impact of the 2020 health insurance industry tax and potential Medicare risk-adjustment audit outcomes.
• Review the resolution and potential financial exposure from the Anthem merger litigation, Express Scripts pricing litigation and disability regulatory matter.
• Reconcile GAAP results with adjusted income from operations, particularly amortization, special items, transitioning-client results and realized investment gains.
• Evaluate pension sensitivity to interest rates and investment performance, as well as the adoption impact of the expected-credit-loss accounting standard.