We have downgraded our recommendation on Humana Inc. (HUM) to ‘Neutral’ based on the company’s high operating expenses and increased dependence on Medicare Advantage earnings. The company also faces ample pricing and competitive risks.
Humana’s fourth-quarter operating earnings came in at $1.12 per share, lagging the Zacks Consensus Estimate of $1.20 and the year-ago earnings of $1.14. The fourth quarter earnings of $294 million was also below the year-ago earnings of $310 million.
Humana has been regularly acquiring companies to expand its business platform. The Concentra acquisition has allowed the company to enter the primary care market on a national scale. Additionally, the acquisitions of AMS and MD Care will expand the company’s Medicare coverage. Moreover, the acquisition of Antiva Health, announced in December 2011, is expected to strengthen Humana’s clinical management.
Besides, Humana has a strong Medicare business, which is further expanded through collaborations. The Medicare Part D PDP plan launched in collaboration with the Wal-Mart Stores in October 2010 expanded the company’s individual Medicare stand-alone PDP membership by 52.1% to 2.54 million at 2011-end, compared with 1.67 million at 2010-end.
Moreover, both the Humana Walmart-PDP and Humana’s alliance with CNO Financial Group Inc.‘s (CNO) subsidiary Bankers Life and Casualty Company to offer Humana Medicare products will enhance the company’s membership in prescription coverage plans and mail-order drug business. Humana is already the fifth-largest health insurer on enrollment basis. The first and second positions are occupied by WellPoint Inc. (WLP) and UnitedHealth Group Inc. (UNH), respectively.
Meanwhile, Humana remains heavily reliant on Medicare Advantage for revenue generation. The company derived about 59% and 60.5% of its health-insurance premium revenue of $32.7 billion and $26.5 billion in 2010 and 2011, respectively, from its federally subsidized Medicare Advantage plans. Thus, a reimbursement rate cut can substantially reduce the company’s revenues.
Moreover, Humana has been incurring higher-than-expected expenses owing to increases in depreciation and amortization, interest and tax expenses along with operating costs. Total operating expenses grew 8.7% year over year to $34.5 billion in 2011. Besides, cost of increasing the employee base is further expected to exert pressure on the margins.
The Zacks Consensus Estimate for Humana’s first-quarter 2012 earnings is currently pegged at $1.50 per share, down 3.0% from the year-ago quarter. Nevertheless for full-year 2012, the Zacks Consensus Estimate stands at $7.98 per share, up about 2.1% from 2011.
The company currently carries a Zacks #3 Rank, implying a short-term Hold rating.
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