Humana Inc. — 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018. The filing also reports fourth-quarter results. Humana is a health insurer and healthcare-services company, with businesses spanning Medicare, employer and specialty plans, pharmacy, provider, and clinical-care services. At year-end it reported 16.6 million medical members and 6.1 million specialty members. Approximately 81% of premiums and services revenue came from federal-government contracts; Medicare products generated about 80% of that revenue.
Financial performance
| Metric | 2018 | 2017 | Change |
|---|---|---|---|
| Total revenue | $56.912 billion | $53.767 billion | +5.8% |
| Operating income | $3.100 billion | $4.262 billion | −27.3% |
| Income before tax | $2.063 billion | $4.020 billion | −48.7% |
| Net income | $1.683 billion | $2.448 billion | −31.3% |
| Diluted EPS | $12.16 | $16.81 | −27.7% |
| Operating cash flow | $2.173 billion | $4.051 billion | −46.4% |
| Benefit ratio | 83.5% | 83.0% | +0.5 percentage points |
| Operating cost ratio | 13.3% | 12.3% | +1.0 percentage point |
Premiums rose 4.9% to $54.941 billion, led by Medicare Advantage; services revenue increased 48.4% to $1.457 billion, primarily from Healthcare Services and the expanded TRICARE contract. Investment income was $514 million, up 26.9%. The effective tax rate fell to 18.9% from 39.1%, reflecting tax reform and a tax benefit related to the KMG sale, partly offset by the health insurance industry fee.
Fourth quarter: Revenue was $14.168 billion, versus $13.189 billion in fourth-quarter 2017. Income before tax was $436 million, net income $355 million, and diluted EPS $2.58, compared with $490 million, $184 million, and $1.29, respectively, in the prior-year quarter.
Liquidity and debt: Year-end cash and cash equivalents were $2.343 billion, down from $4.042 billion. Cash plus investment securities totaled $12.780 billion. Total debt was approximately $6.069 billion, including $1.694 billion of short-term debt and $4.375 billion of long-term debt. Current assets were $16.948 billion and current liabilities $10.077 billion. Humana reported $2.0 billion of unused capacity under its revolving credit agreement and said available liquidity was adequate for at least the next 12 months. Operating cash flow fell partly because 2017 included the Aetna merger termination payment and because of 2018 working-capital timing and KMG-related payments.
Material changes and unusual items
- Revenue growth was offset by higher expenses: benefits increased 5.5% and operating costs 14.6%. The benefit ratio rose amid richer 2018 Medicare Advantage benefits and a more severe flu season; the operating cost ratio was pressured by the reinstated $1.04 billion health insurance industry fee and strategic investments.
- 2018 pretax comparisons included a $786 million loss on the sale of KMG, which held Humana’s closed-block long-term-care business. In 2017, results included a $936 million net merger-termination benefit, mainly the Aetna breakup fee, and workforce-reduction and other charges.
- Favorable prior-year medical-claims reserve development was $503 million in 2018, versus $483 million in 2017. It reduced the 2018 consolidated benefit ratio by approximately 90 basis points.
- Humana acquired the remaining interest in MCCI, acquired Family Physicians Group, and invested approximately $1.1 billion for a 40% interest in Kindred at Home, including its hospice combination with Curo. The acquisitions contributed to higher goodwill and long-lived assets.
- Humana completed its exit from individual commercial medical plans effective January 1, 2018. It also sold KMG in August 2018, substantially reducing long-term-care policy obligations.
- Humana repurchased approximately $1.09 billion of shares in 2018 and increased its quarterly dividend. A $750 million accelerated repurchase was pending final settlement at year-end.
Outlook, management commentary, and risks
Management emphasized integrated care delivery, Medicare growth, value-based provider relationships, and investments in technology and clinical capabilities. Approximately 67% of individual Medicare Advantage members were in value-based relationships at year-end, versus 66% a year earlier.
- 2019 membership outlook: Management anticipated individual Medicare Advantage net growth of 375,000–400,000, group Medicare Advantage growth of approximately 30,000, and a Medicare stand-alone prescription drug plan decline of 700,000–750,000.
- Medicare payment outlook: CMS’s preliminary 2020 notice estimated a 1.59% average increase in sector Medicare Advantage benchmark funding, excluding certain county adjustments. Humana said its preliminary analysis indicated a change relatively in line with that estimate; final rates were not yet issued.
- The health insurance industry fee was suspended for 2019 but, under then-current law, scheduled to resume in 2020. The fee affected 2018 operating costs and is not tax-deductible.
- Major business risks include dependence on government programs and Medicare Advantage, changes to CMS payment and risk-adjustment rules, medical-cost and claims-reserve estimation, competition and provider contracting, Star ratings, regulation, cybersecurity and privacy, and execution of acquisitions and care-delivery initiatives.
- CMS was conducting risk-adjustment data validation audits. A proposed methodology could apply extrapolation without the Medicare fee-for-service adjustment; Humana said the potential effects were under evaluation. DOJ had requested information about Medicare risk-adjustment practices, and the company disclosed a qui tam lawsuit concerning a Part D plan.
- Humana’s approximately $611 million lawsuit seeking federal risk-corridor payments remained stayed, and no receivable or revenue had been recorded. The possible loss range for disclosed legal and regulatory matters was not clearly quantified in the filing.
- The auditor issued unqualified opinions on the financial statements and internal control over financial reporting; management also reported effective disclosure controls and internal financial controls.
Important facts for investors to verify
- Whether 2019 Medicare Advantage growth and stand-alone PDP membership trends match management’s forecasts, and how membership mix affects margins.
- How the final 2020 CMS payment rates, risk-adjustment data transition, and RADV audit rules affect Humana’s revenue and potential settlements.
- Whether claims costs, reserve development, and the benefit ratio remain consistent with assumptions; 2018 earnings included $503 million of favorable prior-year reserve development.
- The sustainability of cash generation after the 2018 decline in operating cash flow, and the effect of debt maturities, acquisitions, dividends, and share repurchases on liquidity.
- The final outcome of the KMG transaction, the risk-corridor claim, and disclosed government inquiries, audits, and litigation.
- Whether the 2020 health insurance industry fee resumes as scheduled and how it affects costs and the effective tax rate.