UNITEDHEALTH GROUP INC quarterly report, Q1 FY2017

Business context and reporting period

UnitedHealth Group Incorporated filed this unaudited Form 10-Q for the quarter ended March 31, 2017. The company operates health benefits through UnitedHealthcare and health services through Optum, which comprises OptumHealth, OptumInsight and OptumRx. Financial amounts below are in U.S. dollars; unless stated otherwise, figures are in millions.

Key financial and operating metrics

Revenue growth reflected expansion in UnitedHealthcare and Optum. UnitedHealthcare revenue rose 12% to $40,136; Optum revenue rose 8% to $21,237, before consolidation eliminations. Operating earnings increased 15% at UnitedHealthcare and 16% at Optum.

At March 31, 2017, cash and cash equivalents were $16,142; total assets were $137,157; and total liabilities were $91,495. The balance sheet reported $7,747 of commercial paper and current maturities of long-term debt and $26,154 of long-term debt. The debt note reported total carrying value of commercial paper and long-term debt of $33,210. Cash, cash equivalents and available-for-sale investments totaled $44.0 billion, but approximately $700 million of cash was available for general corporate use. The company had $3.0 billion, $2.0 billion and $1.0 billion revolving credit facilities, with none drawn; it was in covenant compliance and reported a 42% defined debt-to-capital ratio against a 55% maximum.

Material changes versus the prior comparable period

• Premium revenue increased 12%, while product revenue declined 4%; service revenue increased 9%.
• Medical costs rose 13%, reflecting membership growth and medical cost trends. Management attributed the higher medical care ratio primarily to the effect of the 2017 health insurance industry tax moratorium, partially offset by the reduction of individual ACA business.
• The effective tax rate fell by 9.8 percentage points, primarily because the tax moratorium suspended collection of the health insurance industry tax for 2017 and because of higher excess tax benefits from share-based payments.
• UnitedHealthcare served 1.6 million more people overall. Domestic medical membership rose 4%; individual membership fell 61% to 585,000 following reduced participation in ACA-compliant products. Medicare Advantage membership grew 22% and Medicaid membership 14%.
• Operating cash flow rose substantially, aided by a $4.4 billion receipt in March of the April CMS premium payment. Unearned revenues increased to $6,475 from $1,968 at year-end 2016.
• Cash and cash equivalents increased to $16,142 from $10,430 at year-end. The company repurchased approximately 4 million shares for $682 and paid $596 in dividends.
• Acquisition-related activity included $468 of net cash paid for acquisitions and $1,860 of common stock issued for an acquisition. Goodwill increased to $52,376 from $47,584; the filing attributes a $4.6 billion increase in OptumHealth goodwill to a first-quarter acquisition.

Outlook, management commentary, risks and unusual items

• Management said final 2018 Medicare Advantage industry base rates increased approximately 0.45%, below an estimated 3% industry forward medical cost trend. It cautioned that this funding pressure could affect plan benefits, pricing, growth and earnings.
• Approximately 80% of Medicare Advantage members were in plans rated four stars or higher for the 2017 payment year; management expected at least 85% for 2018. Star ratings influence quality bonuses and supplemental benefits.
• Management highlighted ongoing medical cost pressures, including specialty pharmacy costs, new high-cost therapies and drug price increases. It also noted that 2018 contract pricing would reflect the return of the health insurance industry tax.
• Operating cash flow benefited from the advance CMS premium receipt; the filing does not provide a clear full-year earnings or revenue guidance figure.
• The Department of Justice pursued claims in two whistleblower lawsuits alleging improper Medicare Advantage risk-adjustment submissions and False Claims Act violations. The company said it could not reasonably estimate the outcome. CMS risk-adjustment data validation audits may also result in retrospective payment adjustments.
• In a California claims-processing dispute, a March 2017 tentative court ruling would reverse all penalties and remand certain issues; a final order was expected later in 2017. The company could not reasonably estimate any resulting loss.
• Other stated risks include regulatory and reimbursement changes, medical cost estimation, competition, cyber and privacy incidents, litigation and investigations, acquisition execution, credit-rating changes, investment performance and access to capital. The company reported no material changes to the risk factors in its 2016 Form 10-K.
• The company early adopted the new revenue recognition standard on January 1, 2017; it reported no material impact. It also stated that disclosure controls were effective and that no material change in internal control over financial reporting occurred during the quarter.

Important facts for investors to verify

1. How much of the cash-flow increase was timing-related to the $4.4 billion advance CMS payment, and how operating cash flow develops in later quarters.
2. Whether medical cost trends, the medical care ratio and Medicare Advantage rate pressure affect margins, benefits or membership.
3. Developments and potential financial exposure in the DOJ Medicare Advantage risk-adjustment cases, CMS audits and California regulatory matter.
4. The earnings contribution, financing and integration outcomes of the first-quarter acquisition, including the associated goodwill increase.
5. Debt maturity and refinancing needs, the limited cash available for general corporate use, credit-rating outlooks and continued shareholder distributions.