AET
#Thank you, <UNK>, and good morning, everyone
Earlier today, we reported full-year 2016 operating earnings of $2.9 billion, a 7% increase over 2015 and operating earnings per share of $8.23. Aetna's operating results represent solid earnings per share growth despite the lack of any share repurchases in the year and the significant pressure from our ACA-compliant products, continue to be supported by solid top line growth and operating margins, and are consistent with our long-term growth framework
I'll begin with some comments on our full-year 2016 performance
From a top line perspective, we ended the year with 23.1 million medical members
We grew operating revenue by nearly 5% over 2015 to $63 billion, driven by higher health care premium yields and membership growth in our Government business and Large Group Commercial Insured products, partially offset by membership attrition in our Small Group and international Commercial Insured products
From an operating margin perspective, our portfolio of businesses performed quite well
Our full-year pre-tax operating margin was 8.3%, a very strong result and consistent with our target operating margin range
Our full-year Total Health Care Medical Benefit Ratio was 81.8%, a better result than our previous projection
Our full-year adjusted operating expense ratio was 18.1%, an 80 basis point improvement over 2015. This year-over-year improvement speaks to our disciplined focus on managing our operating costs as we continue to grow our top line
Looking at our fourth quarter results, operating revenue of $15.7 billion was steady versus the third quarter
Our pre-tax operating margin was 6.4% for the quarter, a 40 basis point improvement over the prior year quarter
Our Total Health Care Medical Benefit Ratio was 82.1%, a 20 basis point increase year-over-year
This result was better than our previous projections as medical cost trend remained moderate in the fourth quarter of 2016. Our adjusted operating expense ratio was 19.8%, a 70 basis point improvement compared to the fourth quarter of 2015 and consistent with our previous projections
From a balance sheet perspective we remain confident in the adequacy of our reserves
We experienced favorable prior period reserve development in the quarter across all of our core products primarily attributable to third quarter dates of service
Days claims payable were 54 days at the end of the quarter, slightly down from the prior year quarter
Sequentially, this metric decreased three days, driven by the decreased claim processing times and the reduction of the premium deficiency reserve
Turning to cash flow and capital, operating cash flows remained strong
Our full-year Health Care and Group Insurance operating cash flows were 1.4 times operating earnings and 1.8 times GAAP net income
We did not repurchase shares during 2016 as a result of the pending Humana acquisition
We did, however, distribute $88 million during the fourth quarter through our quarterly shareholder dividend, bringing our full-year distribution to $351 million
In summary, we are quite pleased with the strength of our full-year results, as core operations were able to more than offset the drag from ACA-compliant products
I will now discuss the key drivers of our fourth quarter performance in greater detail
Beginning with our Commercial fee based business, where our fourth quarter results capped off another strong year
We grew by 68,000 ASC members in the quarter, achieved positive fee yields, and generated solid year-over-year operating earnings growth
In our Commercial Insured business, our membership declined by roughly 139,000 members in the quarter, directionally consistent with our expectations
This change is the result of attrition in our Individual and Small Group membership, partially offset by growth of nearly 50,000 Large Group Commercial Insured members
Our Commercial Medical Benefit Ratio was 83% for the quarter, a result that was better than our previous projections
Underlying this result in the quarter was continued moderate medical cost trend in our core Large Group products and some improvement relative to our previous projections in our Small Group insured products
Consistent with our fourth quarter MBR performance, we estimate that our full-year 2016 non-ACA Core Commercial medical cost trend was at the low end of our guidance range of 6% to 7%
Partially offsetting the fourth quarter out-performance in our group Commercial Insured business was the continued pressure in our Individual Commercial ACA-compliant products
Underlying medical costs and estimates of 3R reimbursements drove continued losses in the quarter pushing full-year pre-tax operating losses in our Individual ACA-compliant products to $450 million
As you are aware, we have made changes to our footprint to reduce our risk exposure to these products for 2017. Based on our current view of open enrollment, we project our first quarter Individual Commercial membership will decline from approximately 965,000 members at year-end 2016 to 240,000 made up of mostly on-exchange members
Consistent with past years, there was a fair amount of churn in this product, resulting in approximately 50% of our Individual Commercial membership being new to Aetna
Given the high churn in membership combined with our fourth quarter experience and fixed cost deleveraging as we shrink our membership, we project losses on our Individual Commercial ACA-compliant products in 2017. However, we expect these losses to be meaningfully lower in 2017 as compared to 2016. Shifting to our Government business, which had yet another strong quarter, we grew medical membership by 60,000 members in the quarter including growth of 16,000 Medicare members and 44,000 Medicaid members
As a result of strong medical membership growth throughout the year, we grew our fourth quarter 2016 government premiums by nearly 13% compared to the prior year period to $6.5 billion
Government premiums now represent nearly 50% of our total health care premiums
Our fourth quarter Government Medical Benefit Ratio was 81.2%, a very strong result driven by year-over-year improvement in Medicare
Moving on to the balance sheet, our financial position, capital structure, and liquidity all continue to be very strong
At December 31st, we had a debt to total capitalization ratio of approximately 53.6%, which reflects the debt financing that we completed in June to fund the pending Humana acquisition
Looking at sources and uses of cash and investments at the parent, we started the quarter with approximately $2.3 billion, excluding funds raised from our June debt financing
Net subsidiary dividends to the parent were $317 million
We paid a shareholder dividend of $88 million, and after other sources and uses, we ended the quarter with approximately $2.2 billion of cash at the parent
Including the funds from the June debt financing, we ended the quarter with approximately $15.1 billion
Our basic share count was approximately 352 million at December 31st
Shifting to 2017, this morning we provided an initial standalone 2017 operating EPS projection of at least $8.55. This guidance excludes the impact of prior year's reserve development
While we are still considering our options in an effort to provide as much transparency as possible, this guidance presents a standalone scenario assuming there is no Humana transaction
Our baseline view of Aetna's 2016 operating EPS of $7.77 reflects our 2016 operating EPS of $8.23 less 2016's prior year's reserve development of approximately $0.46. Our initial 2017 operating earnings projection of at least $8.55 represents at least 10% growth over this baseline view
While there are many puts and takes in our initial outlook, our projected 2017 operating EPS growth off of our 2016 baseline reflects growth in Commercial Insured operating earnings led by a reduced level of losses on our Individual products, suspension of the health insurer fee, continued Medicare top line growth powered by continued strong growth in Individual MA, and the resumption of share repurchase activity
Partially offsetting these dynamics are a number of challenges in 2017 including the projected impact of the previously disclosed Medicaid contract losses and lower projected Group Insurance operating earnings
Our 2017 operating EPS guidance is further influenced by the following drivers: We projected our first quarter 2017 membership will be in the range of 22.2 to 22.3 million medical members
This projection includes continued growth in our Medicare products of approximately 120,000 members and Commercial ASC membership growth of between 75,000 and 100,000 members more than offset by Individual Commercial declines of approximately 725,000 members related to previously disclosed changes to our footprint, Medicaid membership declines of approximately 150,000 members primarily associated with our exit of the Nebraska contract, Small Group Commercial Insured declines of approximately 125,000 members reflecting our continued repositioning in these products
We project 2017 operating revenue to be in the range of $60 billion to $61 billion
This top line projection reflects our previously discussed ACA-compliant product decisions, the net impact of the previously disclosed Medicaid contract losses, and the suspension of the health insurer fee, partially offset by growth in our Government business, primarily Medicare products and higher premiums in our Large Group Commercial Insured products
We project our 2017 non-ACA Core Commercial medical cost trend to be in the range of 6% to 7%, an approximately 50 basis point increase over 2016 at the midpoint of this range
This projection reflects an increase in health care utilization, partially offset by one less calendar day
We project our full-year Total Health Care Medical Benefit Ratio will be in the range of 84% to 85%, representing a 270 basis point increase at the midpoint of the range
This projected increase is driven primarily by the suspension of the health insurer fee, the exclusion of prior year's reserve development from our initial guidance, and experience rating pressure in our Group Commercial and Group Medicare Advantage products, partially offset by projected improvement in our Individual Commercial Insured products
Our current view is that our full-year adjusted operating expense ratio will be 16.5% plus or minus 25 basis points, a 160 basis point improvement at the midpoint over 2016, primarily reflecting the impact of the 2017 suspension of the health insurer fee
Absent this impact, at the midpoint of this range, our operating expense ratio is projected to be essentially flat year-over-year, an excellent result given the previously disclosed revenue headwinds
We project our pre-tax operating margin to be approximately 8%, consistent with our high single-digit target with operating earnings of at least $2.9 billion
We project that net subsidiary dividends for the year will be approximately $2.9 billion
We project excess cash at the parent of approximately $4 billion after funding all Humana and Molina transaction-related fees and expenses
In closing, I am very pleased with the strength of our fourth quarter and full-year 2016 results which exceeded our projections despite the challenges we experienced in our ACA-compliant products
As we begin 2017, the fundamentals of Aetna's business remain strong and we are confident that we can achieve our initial standalone 2017 operating EPS projection of at least $8.55. I will now turn the call back over to <UNK>
<UNK>?
So, <UNK>, a couple things
As you think about capital deployment, there's – in addition to share repurchase, there's one other thing that you need to think about that we have assumed here, and that is $2.7 billion of the deal debt is non-callable
So at some point, that will come back above the line, if you will, and we will have to bear the interest expense on that debt above the line
That's worth a little bit more than sort of a $0.10 item
But going back to the main thrust of your question, what I would say is we have largely assumed the $4 billion for the purpose of this guidance does go into repurchase
But the one area where we still have some uncertainty as we work through our final decision-making is the timing of that and the application of that throughout the year
So for this guidance we have assumed I think cautiously that that's more back-end weighted than it ultimately could turn out to be
But I think given where we are in the process, that's the prudent decision right now
Yeah, so what this would largely assume is that we would get to a debt-to-cap that would be between 35 and 40 by the end of the year
We may go a little bit higher than that
And certainly something like an ASR is on the table
Again, the timing of when we would pull the trigger on that is something that we're still working through as we work through sort of the final steps in our decision-making process
Okay, <UNK>
Thanks, <UNK>
We first of all believe that Medicare and Medicaid will be growth markets for us and continue to be even in spite of our procurement losses in Medicaid, we still have a strong pipeline and have had good growth
And so we think we've got that figured out and worked through, and part of it was related to exchange departicipation
So, I think we've worked our way through those issues
So, Government, clearly a strong growth market
In the Commercial market, underlying our results, if you pull out what happened with the exchanges we've had strong growth starting up for the first time in quite a while, and particularly around our Small Group AFA or alternative funding arrangement products
And in our Large Group business
So we feel good about the approach to our group market on the Commercial side
More importantly, though, I think as we see the evolution on this next step of health reform, there is an opportunity for a retail market that is much more stable than the ACA has been as a way for us to grow
And so we are actively engaged in those discussions of understanding how we can preserve the good parts of the ACA but also bring forward ideas around funding mechanisms that stabilize the market for all the people in it and encourage younger people to get in
And more to come on that as we move ahead, but we think that's a strong opportunity and could move retail market in healthcare much faster than even people would assumed would happen with the Cadillac tax
Yeah, the comment specifically was lower Group Insurance operating earnings, not Commercial group
I can let <UNK> comment a little bit about what's going on in that business
The simplest way to think about it is that the $0.10 is, quote, the early recovery of the 2018 HIF as we work that into pricing
So that's largely a Commercial concept for 2017 because most of the Government business is on a one-one
So, that's really what that represents
No
I mean, we have largely in our bids given where our margin profile is, any relief, if you will, from the HIF for 2017 has been largely incorporated into benefit design
I think you probably can see that to some extent in our strong growth in Individual
But it's really not a meaningful margin concept for MA for us
Yeah, so what we said in the prepared remarks is that we anticipate after we settle termination and deal-related expenses that we would have $4 billion of parent cash to deploy
That is inclusive of some non-callable debt that we will bring above the line in that circumstance so there will be some added interest rate expense that comes with that
So, but $4 billion is the gross number
Yeah, so on Individual, obviously we had a very poor margin result in 2016, and we anticipate, as I mentioned, that we'll continue to lose a meaningful amount in 2017 but not as much
One way to think about that is if you looked at our earnings bridge and you thought about the $0.75 that's identified there for core growth and Individual improvement, somewhere in the ballpark of two-thirds of that is probably driven by the Individual business, and that will give you from a $450 million loss some sense of at least where we stand today for guidance purposes
Small Group actually did improve 2016 actually versus 2015. We definitely – we actually saw favorability in Commercial across all segments, but it was nice to see in Small Group
This is really a repositioning story, as you know we continue to have some insured markets where the ACA business is pressured, we will likely continue to lose membership in those markets in 2017. And as <UNK> alluded to, we have some alternate funding products that are selling in here, and those will have a bit of a difference
So at the end of the day, I don't think that Small Group itself is a big part of the earnings move from year to year
It continues to be a repositioning year for us for that segment
I mean, I think over time, that's certainly a possibility
I mean we've always viewed this somewhat as like a mid single-digit insured sort of pre-tax margin business, and we clearly haven't been there
So I think over time, there is that potential
But as <UNK> alluded to, there's a lot that has to play out here in both Individual and Small Group, I think, before we could take a lot of comfort that that's coming
Well, what I would say – and this will ultimately take greater shape and improved clarity as the quarter matures, but generally as the year goes on, we have good insight into unit cost
So, variations in trend tend to be updates on utilization
I know for example in the fourth quarter we had a couple of good months, anyway, of pharmacy experience in the fourth quarter
But generally these will usually play out as improvements into the utilization baseline
The outlook is a fairly detailed process we go through, sort of category-by-category looking at contracts, looking at the trends that we see
And, sometimes those end up with the same number, but the pathway there obviously looks different from year to year
I mean, I think, we continue to assume that we see a modest uptick in trend from year to year as we have, and that's continued to be our go-forward pricing position
