Elevance Health, Inc. annual report, FY2018

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Anthem, Inc. — 2018 Form 10-K

Reporting period: Year ended December 31, 2018. The filing is issued under the name Anthem, Inc.; the supplied company metadata uses Elevance Health. This is an annual report, with selected fourth-quarter results also disclosed.

Business context

Anthem was a large U.S. health benefits company and independent Blue Cross Blue Shield licensee, serving approximately 39.9 million medical members at year-end. It reported Commercial & Specialty Business, Government Business, and Other segments. Its business spans employer plans, Individual coverage, Medicare, Medicaid, Federal Employee Program services, and specialty products.

Financial performance and condition

  • Full-year revenue: Total operating revenue was $91.341 billion, up 2.6% from $89.061 billion in 2017. Total revenue, including investment income and realized investment results, was $92.105 billion, up 2.3%.
  • Profit and earnings: Net income was $3.750 billion, down 2.4%; diluted EPS was $14.19, down 1.1%. Pretax income increased to $5.068 billion from $3.964 billion, while the effective tax rate rose to 26.0% from 3.1%.
  • Fourth quarter: Total revenue was $23.373 billion, pretax income $542 million, net income $424 million, and diluted EPS $1.61. In Q4 2017, the corresponding figures were $22.682 billion, $126 million, $1.232 billion, and $4.67. The filing reports a substantial 2017 tax benefit for the year, so the quarterly net-income comparison should be interpreted cautiously.
  • Margins and costs: The benefit expense ratio improved to 84.2% from 86.4%; the SG&A expense ratio rose to 15.3% from 14.2%. Net income was 4.1% of total revenue versus 4.3%; pretax income was 5.5% versus 4.4%.
  • Segments: Commercial & Specialty operating revenue declined 11.3% to $35.782 billion, while operating gain rose 27.5% to $3.629 billion. Government Business revenue increased 14.1% to $55.567 billion and operating gain increased 31.1% to $1.895 billion. Segment operating gain is a non-GAAP measure.
  • Cash flow: Operating cash flow was $3.827 billion, down from $4.185 billion in 2017, or about 1.0 times net income. Cash and cash equivalents increased to $3.934 billion from $3.609 billion.
  • Liquidity and debt: Cash and investments totaled $22.639 billion, down from $25.179 billion. Long-term debt, less current portion, was $17.217 billion; total debt-to-capital was 40.2%, versus 42.9%. Anthem had no borrowings under its $3.5 billion revolving facility; year-end commercial paper was $697 million and short-term borrowings were $1.145 billion. Regulated subsidiaries exceeded applicable risk-based capital requirements.
  • Membership: Total medical membership declined 0.9% to 39.938 million. Fully insured membership fell 5.1% to 14.651 million, while self-funded membership increased 1.7% to 25.287 million. Individual membership dropped 58.8%; Medicare membership grew 18.0% and Medicaid 3.4%.

Material changes versus 2017

  • Revenue growth reflected higher Government Business premiums, Medicare growth and rate increases, partially offset by lower Individual and fully insured Local Group business.
  • Anthem acquired America’s 1st Choice on February 15, 2018, adding approximately 135,000 Medicare Advantage members at acquisition. The acquisition and organic growth contributed to higher Medicare membership and Government Business revenue.
  • Benefit expense declined slightly, and the benefit ratio improved; however, SG&A expense increased 10.8%, notably due to the reinstated Health Insurance Provider Fee (HIP Fee) and spending on growth initiatives.
  • Net income was affected by higher income tax expense, investment losses and increased intangible amortization. 2017 included a $1.108 billion tax benefit from remeasurement of deferred taxes under the Tax Cuts and Jobs Act; 2018 included a $324 million tax expense related to the non-deductible HIP Fee.
  • Anthem recognized $180 million of net realized losses on financial instruments in 2018, compared with $145 million of gains in 2017; the change was partly related to a new accounting treatment for equity securities.

Outlook, risks and contingencies

  • Management estimated 2018 aggregate cost-of-care trend slightly below the midpoint of its 5.5%–6.5% range and expected Local Group medical cost trend of 5.5%–6.5% in 2019. The filing does not provide a clear consolidated earnings or revenue forecast.
  • Anthem reduced its Individual ACA-compliant market footprint and offered products in 73 of 143 rating regions. Management cited market sustainability and expected financial performance as participation criteria. ACA changes, including the individual mandate penalty falling to zero in 2019, and litigation challenging the ACA—including a Texas district court ruling stayed pending appeal—create uncertainty.
  • The HIP Fee was suspended for 2019 and scheduled to resume in 2020. Management said it expected about $2.680 billion in subsidiary dividends in 2019; availability is subject to regulatory restrictions.
  • Anthem exercised its right to terminate the Express Scripts PBM agreement effective March 1, 2019; the 12-month transition to CVS Health services begins March 2, 2019. The company highlighted execution, service continuity and customer-demand risks during the transition.
  • Litigation includes Cigna’s claim for a $1.850 billion merger termination fee and Anthem’s claims against Cigna; trial was scheduled to begin in late February 2019. Anthem’s Express Scripts lawsuit seeks more than $14.8 billion for alleged pricing damages and more than $158 million for alleged operational breaches; these are claimed amounts, not established recoveries.
  • The filing estimated aggregate reasonably possible losses in excess of reserves of $0 to approximately $250 million for matters where loss could be estimated, while noting that it could not estimate potential losses for many proceedings. The cyberattack class settlement of $115 million was approved in 2018 and the class action was closed; an Attorneys General investigation remained outstanding, and the HHS resolution included a monetary settlement and a two-year corrective action plan.
  • Other material risks include medical cost and utilization estimation, government program rates and audits, provider contracting, cybersecurity and privacy, investment-market exposure, debt and credit ratings, and the ability to maintain Blue Cross Blue Shield licenses. Goodwill and other intangible assets totaled $29.511 billion, about 41% of assets; no impairment was recorded in 2018.

Important facts for investors to verify

  • How much of the 2018 earnings and margin performance is sustainable after separating tax effects, HIP Fee impacts, acquisitions and investment marks.
  • Whether the 2019 medical trend outlook and the 84.2% benefit ratio are consistent with subsequent claims experience and reserve development; the year-end medical claims liability was $7.454 billion.
  • Whether the PBM transition to CVS proceeds without disruption, added cost or adverse customer impact, and how the ongoing Express Scripts litigation develops.
  • The outcome and potential financial exposure of Cigna litigation, ACA-related legal and regulatory changes, and remaining cyberattack-related proceedings.
  • Whether cash generation, subsidiary dividend capacity and debt levels support planned investment, acquisitions, dividends and repurchases. Anthem repurchased $1.685 billion of shares and paid $776 million in cash dividends in 2018.
  • The auditor gave an unqualified opinion on the financial statements and internal controls; however, management’s and the auditor’s internal-control assessment excluded America’s 1st Choice, acquired during 2018.