Elevance Health Inc (ELV) 2014 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to the WellPoint, Incorporated second-quarter results conference call.

(Operator Instructions)

As a reminder, this conference is being recorded.

I would now like to turn the conference over to the Company's management.

Please go ahead.

Good morning, and welcome to WellPoint's second-quarter 2014 earnings call.

This is Doug Simpson, Vice President of Investor Relations.

Presenting this morning are Joe Swedish, President and CEO; and Wayne DeVeydt, EVP and CFO.

Joe will start with a discussion of our Q2 2014 financial results, as well as the macro backdrop.

And then Wayne will review the quarter's financial highlights in more detail and update you on our 2014 outlook.

Q&A will follow Wayne's remarks.

During the call this morning, we will reference certain non-GAAP measures.

Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are available on our website at WellPoint.com.

We will also be making some forward-looking statements on this call.

Listeners are cautioned that these statements are subject to certain risks and uncertainties, many of which are difficult to predict and generally beyond the control of WellPoint.

These risks and uncertainties can cause actual results to differ materially from our current expectations.

We advise listeners to review the risk factors discussed in today's press release and in our quarterly and annual filings with the SEC.

I will now turn the call over to Joe.

Thank you, Doug.

Good morning.

We're pleased to report strong second-quarter results which build upon the strength of our first quarter and positions us for an improved EPS outlook for the full year.

We're making substantial progress toward our strategic goals.

And we are seeing the benefits of our diversified platform and leading cost structure manifest in our financial results.

Our organic membership growth has improved meaningfully this year.

And we've made further inroads with our provider collaboration strategy to drive improved quality and cost of care for our customers.

We grew by another 328,000 members in the second quarter, driven by contributions from both the public exchanges and the Medicaid expansion.

Demonstrating the reception of our value proposition in the marketplace, we've now added 1.6 million new members served so far in 2014, representing growth of 4.5% versus year-end 2013.

Our growth has been balanced in 2014 with contributions from national accounts and the public exchanges in our commercial segment, as well as Medicaid expansion activity in our government segment.

In Q2, our public exchange growth came in above earlier expectations, reaching 769,000 members at the end of Q2.

We've also added 446,000 Medicaid members in 2014.

Looking ahead, we continue to see meaningful long-term opportunities to grow our customer base across our commercial and government segments.

We expect 2014 will prove to be the first year of a multi-year opportunity to grow through continued growth of public exchanges, as well as Medicaid expansion and new award opportunities.

In addition, the dual-eligible pilots have started to roll out in Virginia, and Los Angeles County, and we expect further activity over the next 12 months in this area.

We will remain disciplined with our product design and pricing strategy to drive affordability to the largest potential customer base.

We must also continue to ensure that we appropriately cover our forward view of medical cost trends to enhance product stability for our customers.

Now, delving into second-quarter results.

We are very pleased with our Q2 results, with solid contributions from both our commercial and government divisions.

Specifically, in the second quarter, we reported earnings per share of $2.56 on a GAAP basis and $2.44 on an adjusted basis.

Our GAAP EPS and adjusted EPS decreased from the second quarter of 2013, reflecting a change in the mix of our product portfolio and the implementation of the Affordable Care Act.

However, our second-quarter results do compare favorably to our initial expectations.

We also generated higher-than-expected operating cash flow of approximately $1.1 billion, bringing our year-to-date cash flow to approximately $2.5 billion.

We've remained focused on our capital deployment strategies, repurchasing an additional 8.2 million shares during the quarter for approximately $814 million and paying $120.5 million in dividends.

Year to date, we have repurchased 22.6 million shares, or 7.7% of the shares outstanding at the beginning of the year, for approximately $2.1 billion, at a weighted average share price of $92.10.

Turning to our business segment performance, our commercial business had a solid quarter as we executed our public exchange strategy.

With contributions from continued growth in public exchanges, commercial was able to maintain membership levels after the robust growth seen in Q1.

Commercial revenues grew 1.7% year over year to nearly $10 billion, even with the previously announced funding conversion of the New York State account, which impacts revenues by about $2 billion a year.

Commercial operating margins declined, as expected, from 9.7% a year ago to 9.2% in the second quarter of 2014, due to our SG&A investment spending and the changing mix of business, as we have discussed with you previously.

Similar to Q1, in our commercial business, our large group and exchange-based membership trends in the quarter remained favorable, while small group remain under enrollment pressure.

Individual memberships stood at over 2 million members at the end of the second quarter 2014, up a net 172,000 members during the quarter from open enrollment.

Year to date, our total individual enrollment is up 267,000 members.

The implementation of our public exchange strategy is progressing well and provides a foundation for future commercial risk membership growth opportunities over the coming years.

To update you on the various metrics, we added 769,000 individual members on the public exchanges through midyear, which was above our expectation of at least 600,000 we laid out on our first-quarter conference call.

The general characteristics of exchange applicants, including average age, continue to track well versus our expectations.

Product selection and benefit levels have also been consistent with expectations.

We've been executing on our exchange rollout and have managed our exchange inventories in the second quarter to our planned levels.

The paid-claims trends thus far are encouraging, but we recognize it remains early in the year, as many of these new members only joined our enrollment rolls in May.

Therefore we continue to take a prudent view of our reserves in light of the potential uncertainties associated with this membership and expect to gain more information when this block matures into Q3 and Q4.

We continue to account for risk corridors and risk adjustments as being a net zero impact for us in 2014, as we have discussed before and as reflected in our outlook.

As we discussed last quarter, with respect to our small group business, we continue to be mindful of the potential for employer coverage changes in light of the exchanges, as we did see Q2 small group member declines above our expectations.

Small group has now shed 218,000 members year to date and stands at 1.63 million members.

These dynamics are reflected in our outlook.

In our local group business, we were pleased to have recently been awarded the contract for the New York Hotel Trades, which added 74,000 members on 7/1/2014, and the State of Kentucky employees, which will add roughly 240,000 members effective 1/1/2015.

We do expect to lose some enrollment with the State of Georgia account in 2015, due to carrier additions on that contract.

But we believe our service levels and our cost-of-care advantage leave us well positioned for member retention and expect this will prove manageable in the broader context.

Finally, we are roughly midway through the national account selling season and we feel good about our momentum in the market, as our ability to improve healthcare affordability is resonating with customers.

It's early to peg a specific enrollment expectation for 2015, but we do expect to be a modest net grower again in 2015.

While the number of contracts out for bid in 2015 is below that of a year ago, our competitive position remains strong.

We believe we are well positioned for what we expect to be a ramp up in activity among national accounts as we look out to 2016.

Now, turning to the government business segment.

Our government business division added 326,000 members in the quarter, driven by strong growth in Medicaid, and generated revenues of $8.3 billion, up approximately 7.4% quarter over quarter.

The government business represented 45% of our consolidated operating revenues in the quarter, as our business continues to evolve and diversify.

Medicaid enrollment was up an additional 325,000 members in the second quarter, bringing year-to-date growth to 446,000 members.

We expect to continue growing Medicaid enrollment throughout the year, driven by our recent RFP wins in Florida, Kentucky, Georgia, and California, as well as the ACA-driven expansion.

We're raising our enrollment outlook for expansion members from 300,000 to 400,000 previously reported, up to 400,000 to 500,000.

As a result, we're raising our total Medicaid enrollment outlook from 400,000 to 500,000 previously, up to 500,000 to 600,000.

As expected, Medicare enrollment was relatively stable in Q2, with a gain of 3,000 members.

Government operating margins improved 10 basis points, year over year, to 3.8%, reflecting continued medical cost-management efforts and an improvement in expense efficiency.

Both Medicaid and Medicare margins track favorably, relative to initial expectations.

Our government business is growing along multiple fronts, with the implementation of several recent go-live situations in New Jersey, Florida, and Kentucky, as well as dual-eligible pilots that will continue to grow in late 2014 and into 2015.

Looking ahead, in addition to Medicaid expansion, we continue to see substantial RFP opportunity for new business over the next year.

We currently see a universe of opportunity of nearly $40 billion in contracts to be awarded by year-end 2015.

While we do not comment on individual markets, we remain optimistic in our ability to gain meaningful net new business from these opportunities.

Dual-eligible programs have now started to launch, with Virginia going live at the start of Q2, and we currently have roughly 5,000 members enrolled in that market.

We also currently serve nearly 3,000 additional dual-eligible members in Los Angeles County, which went live on July 1, 2014.

We currently expect New York, Texas, and the remaining counties in California to commence in early 2015.

So, on the back of a strong second quarter and a strong first half overall, we are updating our 2014 financial outlook this morning.

We now expect adjusted earnings per share of greater than $8.60 for the full year of 2014, reflecting stronger enrollment and margin trends.

We're also raising our cash flow outlook, which Wayne will discuss in more detail in a moment.

We believe this is a prudent outlook, in light of the dynamic nature of our markets and the potential for further changes in the regulatory framework.

It is early to offer any specifics on our 2015 outlook, other than to say our goal is certainly to grow earnings over our current 2014 outlook, driven by incremental contributions from new membership in both our commercial and government segments.

We will update you as the year progresses as we refine our views on enrollment and any timing issues to competitive landscape, rates, and cost trends.

To conclude, we are pleased with our Q2 performance and we remain optimistic about our future growth opportunities across both our commercial and government business divisions.

We remain focused on executing against these opportunities, while remaining disciplined stewards of shareholder capital.

With that, I will now turn it over to Wayne.

Thank you, Joe, and good morning.

My comments today will focus on the key financial highlights from the second quarter of 2014.

I'll also provide an update on the 2014 outlook.

On a GAAP basis, we reported earnings per share of $2.56 for the second quarter of 2014.

These results included net benefits of $0.12 per share, reflecting net investment gains of approximately $0.13 per share, partially offset by $0.01 per share of debt-extinguishment expense recorded in the quarter.

Excluding these items, our adjusted EPS totaled $2.44 for the quarter.

These results were favorable to our initial expectation.

And, as Joe noted, we are pleased with how 2014 has progressed so far.

Medical enrollment grew by 328,000, or 0.9%, sequentially to approximately 37.3 million medical members as of June 30.

This reflected membership gains in our Medicaid and individual businesses, partially offset by declines in small group and some modest in group change in national during the quarter.

Operating revenue exceeded $18.2 billion in the quarter, an increase from approximately $738 million, or 4.2%, versus the second quarter of 2013, driven by enrollment growth in our commercial and government business.

Revenue growth versus Q2 2013, was adversely impacted by the previously discussed impact of the transition of the State of New York account from fully insured to self-funded on January 1. The benefit expense ratio was 82.7% in the second quarter of 2014, a decrease of 120 basis points from the prior-year quarter and favorable to our initial expectations.

The decline reflected continued strong medical management and the impact of the premium revenue designed to help cover new healthcare reform fees, partially offset by changes in our earnings pattern we have discussed previously.

We are pleased with gross margin performance in both of our businesses in the quarter and first half.

And we are improving our MLR outlook for the year, from 83.7%, plus or minus 30 basis points, to 83.5%, plus or minus 30 basis points.

For the full-year 2014, we continue to expect underlying local group medical cost trend to be in the range of 6.5%, plus or minus 50 basis points, with a bias towards the lower half of that range.

Our SG&A expense ratio increased by 190 basis points from 2Q of 2013, as expected, due to the inclusion of various healthcare reform fees in 2014 and continued spending in preparation for ACA-driven market changes.

Consistent with our past practice, we have included a roll-forward of our medical claims payable balance in this morning's press release.

For the six months ended June 30, 2014, we experienced favorable prior-year reserve development of $525 million, which was modestly better than our expectations.

Development was consistent with the prior year-to-date period.

We continue to maintain our upper single-digit margin for average deviation and believe our reserve balance remains consistent and strong as of June 30, 2014.

Days in claims payable was 44.8 days as of June 30, up 0.6 days from 44.2 days as of March 31, and up 6.1 days from 38.7 days at the end of 2013.

We expect DCP levels will come down over the next several quarters as the public exchange business further matures.

Our debt-to-capital ratio is 37.8% at June 30, 2014, down from 38.2% at March 31, and up from 36.9% from year-end 2013.

We ended the second quarter with approximately $2.1 billion of cash and investments at the parent Company.

And our investment portfolio was in an unrealized gain position of $1.2 billion as of June 30.

We generated stronger-than-expected operating cash flow of $1.1 billion in the second quarter, or 1.5 times net income.

On a year-to-date basis, we generated operating cash flow of approximately $2.5 billion, roughly 1.7 times net income.

We continue to expect cash flow timing to remain volatile, partially reflecting the timing of exchange-based enrollment this year and the timing of payments related to the health insurer fee and the three Rs.

That said, cash flow trends in the first half of 2014 have been encouraging.

We repurchased more than 8.2 million shares for approximately $815 million during the quarter.

This is on a weighted average price of $98.99.

As of June 30, we had approximately $1.6 billion of Board-approved repurchase authorization remaining, which we intend to utilize over a multi-year period, subject to market conditions.

We used $120.5 million during the quarter for our cash dividend, and yesterday the audit committee declared our third-quarter dividend to shareholders.

Turning to our 2014 outlook.

As Joe noted, we currently expect adjusted EPS to be greater than $8.60 for 2014.

The increase in our full-year outlook reflects a stronger operating income outlook due to the stronger enrollment and continued medical management and expense controls.

We are raising our enrollment outlook and now expect enrollment in 2014 to grow by 1.4 million to 1.5 million members, to 37.05 million to 37.15 million by year-end 2014.

We're also raising our cash flow forecast to greater than $2.7 billion for the full year.

Note that we do expect cash flow for Q3 to be negative as a result of timing of payments related to the insurer fee and taxes which are due in September.

We believe our updated outlook is reasonable, as it remains early in a year in which the industry is undergoing substantial change and our bias is to maintain a prudent stance in this dynamic environment.

We may choose to opportunistically refinance certain debt, if market conditions are favorable as the year progresses.

Such activity could result in one-time costs not included in our current guidance.

Finally, we have not yet made a decision on providing the cash EPS metric as some of our peers have.

This is a metric we are considering adopting in 2015 to enhance comparability versus our peer group.

In the meantime, we just remind you that our outlook reflects approximately $210 million of intangible asset amortization expense in 2014, related to prior acquisitions, including Amerigroup.

With that, I'll turn the call back over to Joe.

Thanks, Wayne.

With that, operator, please open the queue for questions.

(Operator Instructions)

Justin Lake, JPMorgan.

Thanks, good morning.

First question is on medical cost trend.

I know you reaffirmed guidance here, but curious where you see yourself currently within that range and whether you're seeing any near-term data point indicating a pickup in trend given recent hospital reports.

Hello, Justin.

Good morning.

Relative to that range, our bias is to the lower half of that range.

It is important to recognize that we obviously would be closer to the low end of that range had it not been for the incremental cost that we've included for our outlook on Hep-C drugs for the year.

So I would say core trend is running well versus those expectations, and even inclusive of Hep-C costs where our bias is towards the lower half of that range.

Any near-term data point on scripts, prior authorizations, things like that that would indicate that maybe we are seeing a pickup here?

Nothing of concern, Justin.

If you look at the drug script volume that I think many of you have seen, it really commensurates with the volumes just coming in from the ACA, both the Medicaid expansion and the exchange lives that are coming in.

So nothing surprising there.

When we look at our bed days per thousand, as well as the length of stay per thousand by line of business, I would say in all areas they are playing well versus expectations.

Great.

And then just thinking ahead, I know it's early to talk about 2015 specifically, but usually around this time of year, you're able to help us out.

Just thinking about headwinds/tailwinds for next year.

Wayne, maybe you can lay some of those out for us.

I think from a tailwind perspective, Justin, clearly as you said, it is too early.

But we do expect to continue to have positive momentum on a membership front.

We expect to continue to grow in our commercial book, as well as our government segment.

Additionally, I think a fair tailwind is that we begin to get full-year run rate from some of the things that took place this year.

As you know, the ACA membership came in at different points throughout the year.

Both the Medicaid expansion exchange and ultimately the dual opportunities just starts to ramp up this year.

So I would say from a top-line growth perspective, we should have many reasons to see tailwinds that are there.

And clearly our capital deployment will continue to be a tailwind for our investors as well.

Now, from a headwind perspective, I would really frame it up as two things that we want to continue to keep an eye on.

One is the industry tax increases by 40% next year.

And that's not isolated to WellPoint.

That applies to the entire industry.

I think one thing that is isolated to us is that the small group attrition that we've modeled for this year, more than half of that $400 million headwind, we think will be in a more accelerated timeframe over a shorter window of time, meaning this year and next year, than over a longer period of time.

Right.

Thanks for all the color.

A.J. Rice, UBS.

Thanks.

Hello, everybody.

Your Days in Claims Payable are now up six days year to date.

Obviously, you've said you wanted to run with a little bit of cushion --reserves, whatever -- until you get full visibility on the exchange members.

Can you give us, given your book of business, where you think over time that claims payable days might settle out?

In other words, how much is sort of contingency now for the near-term; and what's the current run rate of that given the book of business you have today?

Hello, A.J., good morning.

First of all, I really appreciate the question.

I think overtime, probably a more balanced DCP is going to be somewhere in the range of more the 39 days to 42 days range -- somewhere in there.

The one thing that's a little bit challenging right now, as you can imagine, is that it's difficult as an industry to really assess where risk adjusters will fall out, where risk quarters will fall out.

So the one thing I want to highlight is while we think we have an appropriate level of conservatism for all the unknowns in our DCP, it doesn't necessarily mean that if in fact our reserves come in much better than we've forecasted at this point, that it would all translate to a bottom-line drop -- if some of that would then effect a risk corridor payment.

And then some of that would have to go into an MR rebate calculation as well.

But all things being said, we're pleased with the fact that we were able to maintain our strong DCP levels and actually grow them in 2Q.

We think it gives us a lot more flexibility then in our outlook, as we continue to evaluate how these things will settle out over the remainder of the year.

Okay.

And maybe a follow-up.

One follow-up would be that there's been a lot of discussion on the exchange, just that we would see average sign-ups; and then we'd have attrition over the course of the year.

More recently there's been some discussion about maybe more signing up because of life-change events than was originally expected.

Do you have any visibility on sort of what's happening post the ending of open enrollment relative to month-to-month membership sign-ups?

A.J., this is Joe.

Good morning.

I appreciate the question.

Just maybe calibrate.

We're pleased with our exchange enrollment.

Just to give you a sense again, as we stated earlier, we've added 769,000 lives year to date.

That is net of all lapses, as best we can tell at the moment.

Clearly, as the year progresses, we'll be monitoring it very closely.

But having said that, what we've observed this far and what we're expecting is well within our expectations going to year end.

It's still a little earlier in the year to figure out exactly where we're going to land; but again, we're continuing to monitor the lapsed progression.

So net-net, again, I think we've accounted for it; and it's meeting expectations.

Okay.

All right.

Thanks a lot.

Kevin Fischbeck, Bank of America.

Great.

Thanks.

I just wanted to go back to your comments about the RFP pipeline of $40 billion through the end of 2014.

I just wanted to understand.

Is that all new things, or does that include things like the New York rollout and Texas rollout?

And to the extent that -- is that all business in your existing markets?

Or would you consider entering into new markets that are not blues market for you?

Hello, Kevin.

First of all, let me clarify the $40 billion in RFP opportunities is through the end of 2015.

So it's the remainder of this year and through the end of next year.

Of the $40 billion, I'd say about $9 billion represents existing opportunities through a combination of reprocurement or potential expansion.

With the other $31 billion truly representing new opportunities for our organization.

So again, I think we feel very good about the value proposition we're bringing to states.

We know they're seeing that value proposition.

We think it's a big reason we continue to not only be invited in the RFP process, but continue to be successful.

As you know, last year we won eight for eight.

The team continues to win in new areas.

So we like our chances, is probably the best way put it, on the other $31 billion, as well as re-procuring some of the expansion on the $9 billion.

Let me just underscore.

I think we can target probably at least six areas of pursuit for us.

Obviously, many of them are well-known to you like dual demo pursuit, behavioral health pursuit, and a variety of aspects of this line of business.

So we're targeting; we're very focused.

I think, as Wayne pointed out, our RFP process is very sound, very competitive.

And we feel very optimistic about the potential in all of these areas.

Okay, great.

And then just a question on the small group margin compression that you've mentioned a couple of times or profit compression.

It sounds like from the (inaudible) other companies is that they're seeing maybe less dumping than they kind of expected before.

Can you just give us a little more color exactly how you're seeing the pressure?

Because it sounds like you are seeing membership losses.

But how much of is it is membership losses versus actual margin compression in that business?

Kevin, one thing to keep in mind with the small group is we fundamentally believe that over time that business will migrate -- either to an exchange-like margin, while remaining in small group, or migrate into an exchange like margin because it ultimately migrates to a public exchange.

So from our perspective, it's not so much what leaves us that we pick back up.

It's a combination of also what stays with us and where the margin contractions occur.

But one thing that we're not concerned with because we expected this to occur over a five-year period, but we just wanted to highlight.

We think that trend is going to be faster then maybe what we thought about, say, 12 months ago at this point in time.

So we've seen some margin compression occur as expected and as planned in the existing small group book.

We're just seeing a few more leave sooner than we had expected.

But as you can see through the exchange enrollment, we've been quite successful in picking up many of them as they go through that transition.

Okay.

So when you think about that from the next step from here, is it more about margin compression on the existing book?

Or is about dumping and potentially picking them up on the exchange?

I think it's both.

I think you're going to see continued margin compression on the existing book as they stay in, and then I think you'll move over.

The last thing I would say, though, is that if you look at the existing book, the active cancel loss ratio is positive for us.

So for those that are leaving, that appear to be moving to the exchanges, those are individuals generally with a higher MLR.

And so by having them actually migrate over to the exchange when you have three years of 3R protections outlined, it's actually a positive too.

So you lose out on the migration, but you at least you move more into a protective environment on the higher-risk business.

Interesting.

All right.

Thank you.

Josh Raskin, Barclays.

All right, thanks.

Good morning.

Just following up on the small group.

Wayne, could you let us know -- I think you said you added 1.63 million lives in the small group currently.

So I'm curious what the overall margin on that is?

And maybe even just relative to your overall pretax of 6.75% or so?

Hello, Josh.

Good morning.

We do not provide margins by business segment.

I will tell you that the margins are in the single-digit range; they're not in the double-digit range.

And to give you at least a gauge of where they're migrating to, as we've said, we anticipated that if margins were to be cut in half and moved to more of a what I'll call more of an exchange-like margin in the 3% to 5% range, that that would translate to a $400 million-plus headwind.

The fact that were incurring more than half of that headwind this year at least gives you kind of a gauge of how its migrating from sale per single digit down to a more lower single-digit range.

Okay.

Perfect.

That's helpful.

And then just on the exchanges, I just want to understand a little bit more.

It sounds like you just mentioned the 3% to 5%.

Are you guys still comfortable with -- and I guess there are a couple questions in here.

Are you still comfortable with that 3% to 5% margin for the full year?

Are you monitoring the others?

It seems like everyone else is kind of suggesting that obviously their losses are coming in bigger than expected.

So is it conceivable you might actually have a payable for the 3Rs as opposed to a receivable?

Are you looking at things like that?

Yes, Josh, very good question.

The short answer is, yes.

That's part of the reason that we're booking closer to the lower end of that margin range.

And then maintaining the higher DCP levels that we have as the year progresses.

View it as a lens that if those reserves prove to be conservative and if our run rate that we saw in the first half continues into the second half, we would then move from that lower range of 3%, start migrating closer to 5%.

But we would be giving back 50% of every dollar above 3% back into the kitty, if you will, for the corridor.

So we think our approach leaves us hopefully nothing, but upside though as you migrate through those different corridors, if you will.

But that's part of the reason for our conservative posture as of June 30, 2014.

Okay.

That makes a ton of sense.

What do you do about pricing for 2015 then?

If you're potentially in a payable situation, are there situations where you actually maybe might modestly reduce your increases, or at least increase your rates less than you would have in a different scenario?

Yes.

I think our goal is to be competitive in the market.

If it results in the fact that our pricing has a rebate to the consumer or is funding money to a corridor that we otherwise wouldn't have to do, we'd rather let the consumer have that benefit.

So our goal is to provide that in their pricing.

And as I think you'll see in many of our public exchange markets, we think the stability in the book that we created this year is why we have rate increases that are lower than the average increase you're seeing from many of our competitors.

Okay.

Perfect.

Thanks.

Christine Arnold, Cowen.

Good morning.

Thank you for the question.

Two quick questions, here.

With respect to the public exchange membership, you had membership that came on in the first quarter.

What do you know about that membership in terms of kind of profitability and lapses?

And then also on small group, are you considering refiling your non ACA products so that those that early renewed in the fourth quarter of 2013 can renew again in the fourth quarter of 2014?

Hello, Christine.

Good morning.

In terms of profitability and lapses, I think we would say that things are panning out sightly better than our expectations would be.

Again, we priced for a degree of adverse selection in the first wave that we would have expected.

We saw a higher MLR on the book, but not as high as what we priced for.

So we're encouraged by that data, and we now have six months of data on that group.

So that continues to be encouraging.

But I think it's important to recognize, too, that we think there's still a delayed behavior though.

We know we had a lot of storms in the first quarter.

We know a lot of people are still understanding how to use the system.

We think it's a reason to maintain the prudent reserve outlook that we have at this point in time.

In terms of early renewals, I think our strategy is to just ensure that where the law allows us to do early renewals and where we can maintain an appropriate margin or retain a member, it is fully our intent to execute that strategy.

So will you be refiling those non-AC products in small group?

Yes.

Christine, it's Joe.

I just want to focus on three elements that I think really are important to highlight regarding our experience thus far; because we've cited this is the past, and I think it's worth underscoring yet again.

That we've attracted a balanced risk pool of members.

And that's, I think, critically important in terms of having met our expectations in that regard.

Secondly, the average age of the enrollees is also tracking very close to our expectation, which kind of gives us very strong comfort that we're in a good place relative to pricing for 2014.

As well as the experience that we expected.

And finally, the product selection by the enrollees has played out as expected.

So when you put all that together, I think we've landed in a very good place year to date.

We don't expect any material change relative to that going to the end of the year.

I might add also that grandmother strategies that we've employed are market-specific.

I think we've been very tailored in our approach.

So underscoring it again, I think we've modeled this very effectively, executed very effectively, and we're expecting a good path to year end.

Great.

Thank you.

Chris Rigg, Susquehanna.

Good morning.

Thanks for taking my questions.

I guess the first question is, do you at this point have any sense for what percentage of the public exchange enrollees were previously insured versus uninsured?

This is Joe again.

That's a tough one because as you well know, there wasn't a specific question asked of the enrollees, whether they were uninsured or insured.

I think we can go to some of the publicly-disclosed information around studies that have been performed, like by the Kaiser Foundation.

I think in the main, we're referencing something on the order of 40%, 50% -- take your pick.

In our circumstance, I think we are kind of landing in about the same position.

So we can't give you any specifics beyond that other than some, I think, strong guesses or assumptions based on what we're seeing.

Okay.

And then just a follow-up on some of the risk or 3R questions from earlier.

So I think in the prepared marks, you said that you're really assuming risk corridor/risk adjustment doesn't contribute anything to this year.

But then, Wayne, I think you just said you're kind of going towards the low end of the 3% to 5% range in case you have a payable.

I guess I'm just trying to sort of mesh those two together.

If you're kind of assuming zero, why is also assuming a lower end of the margin range?

Thanks.

Hello, Chris.

I appreciate the question.

And I understand the complexities of this accounting and trying to describe it.

But think about it with a lens that if we've maintained a strong reserve balance sheet, which we believe we have, and we believe the DCPs can support and you can see the underwriting run rate looks positive along with the cash flows.

By taking a zero posture on both risk corridors and risk adjusters, what it does allow us to do then is that if that run rate improves, for every dollar then that we put into the kitty, we will create a payable for $0.50 on the dollar.

But $0.50 on that dollar will actually drop to the bottom line then.

So from a conservative posture, it's not just about how do you account for risk adjuster versus a corridor.

But it's also how does that then tie into your ultimate balance sheet conservatism or lack thereof.

So again, with the posture we've taken, if the run rate proves that we have a margin greater than 3%, you are correct, I will then have to book a payable, which may not appear to be conservative.

But on the contrary, it's conservative because that means I have earnings better than what I've actually recorded year to date.

Okay.

Thanks a lot.

Tom Carroll, Stifel.

Okay, thank you.

Wayne, I just want a quick follow-up on your last response just in terms of the accounting for the 3Rs.

It sounds like you are building a payable, but not necessarily explicit to the 3Rs that you would end up just throwing back to the system if, in fact, you do and up in a payable situation.

But it sound like you're putting more than you need such that some of it drops back in the form of development into next year.

Is that the way to think about it?

Maybe go over that one more time, if you don't mind.

Tom, I think the way you phrased it is actually a good way to look at it.

There's a multitude of blankets of payables you could put up.

And I think for us, by taking the most conservative posture right on the balance sheet itself, is it covers you for the multiple outcomes that could occur.

Recognizing that if that balance sheet proves to be conservative, then you will not only have potentially some liabilities, but you would only have a liability commensurate with whatever upside you would have and then some.

So, yes, if you were asking us today, we think the balance sheet is prudently conservative for all of the unknowns.

I think I really want to emphasize that.

It's prudently conservative based on the all the unknowns.

The cash flow would seem to imply that it could be more conservative than needed.

And we want to see some of that cash flow continue into second half.

But if it does, that would argue that there could be upsides to our outlook.

And then do you have any additional visibility on the health profile of the exchange enrollment that came in with the April/May bolus?

You know, it's still early on that group as well.

I would say generally though, with a younger population than what we saw in the first quarter enrollments, the second quarter was clearly younger.

Which generally translates to a slightly healthier population.

But as Joe mentioned, the key to the strategy about how we priced our book was a balanced risk pool So we aren't necessarily viewing one member any differently than another member, as long as we get a balanced risk pool.

And we think that's really what the goal of the ACA was, to create a balanced risk pool.

And we think our strategy has done that.

In general, it's a little early though in that group to declare whether they're healthier than average yet because the actual claims volume is just starting to come in on them.

One more admin question.

Wayne, I think you mentioned -- you said you had claims development of $525 million favorable.

How does that compare to the same period last year?

Is it more or less?

It's a really good question.

On an absolute dollars basis, it looks like it's just barely below last year.

But when you consider that we had fewer members at the end of last year than we did the year before, and then you reflect the medical trend adjustment, it's actually slightly better than our expectation.

But by having a higher DCP, we believe we've reestablished it all.

What was the number for last year?

I don't have that in front of me, Tom.

But if you go to the press release--

I can find it.

It's not materially different though?

You'll see it there.

But it was within less than $10 million.

In fact, if you just give me a second, I can quote it to you.

Last year was $532 million, Tom.

This year is $524.7 million So you're looking at roughly a $7 million delta year over year.

Okay.

Thanks so much.

Carl McDonald, Citigroup.

Thanks.

The first question was just the current assumption around payment of the Medicaid industry fee and whether that contributed to the increase in guidance?

Hello, Carl.

Yes, good question.

If you remember on our first-quarter call, we'd assumed about $0.05 in our outlook for the year based on the positive momentum we were having.

The outlook has been improved by an additional $0.05 in terms of what we're expecting there.

So we have about $0.10 reflected in both first half actual, as well as our outlook for the remainder of the year in total.

It's important to recognize, too, that we're still working through the Hep-C situation with our states.

And we're expecting hopefully some relief there.

And then finally, though, I would say the state of Texas is the one state that we have not factored in some of the reimbursement levels around the non-deductibility component.

We believe for a sustainable model that this is really an important factor that still needs to be addressed.

But we have about $0.10 for full-year earnings and outlook combined.

Great.

And then coming back to the discussion around the 3Rs, I just wanted to try to make a distinction between risk adjustment and the risk corridor.

So is it right to think if it turns out you -- I'll just pick a number, $250 million of risk adjustment, 100% of that goes away versus if it a risk corridor adjustment, you get to keep 50%?

Is that sort of the right way to the about it?

Carl, this is Doug.

This is a real fair question.

And the answer is, yes, that's how you think about it.

Understand that there's a Wakely study going on right now as well.

And while the data is still somewhat immature, we have a gauge of where we think we're going to land and whether we're going to be a net receiver or net payer at this point.

Again, I would tell you, even on that, we've taken a conservative posture.

So while there is, theoretically, the possibility that the study could be completely wrong and that at the end of the year we could have something swing the complete opposite direction, we would still look at it as our DCP, our reserve balance sheet, has that covered.

But again, I would tell you we actually have a third-party data point to point to now that would tell us that we're probably being at least prudently conservative on the risk adjuster as well.

Got it.

All right.

Thank you.

Matthew Borsch, Goldman Sachs.

Yes, hello.

Good morning.

Just a question back to the 3Rs for a moment.

Are you expecting some tailwind in the back half of the year from the reinsurance?

Another company had talked about GAAP limiting their ability to accrue reinsurance according to what they would expect for the full year versus simply booking what they'd actually seen.

Where are you on that?

Matt, I would say this response.

I cannot speak to that competitor's actual accounting practices.

I can tell you, though, the way the accounting rules work.

You will have a higher MLR earlier in the year as a result of how the reinsurance component works than you would in the back half of the year.

That is a factually true statement.

So that same dynamic is, in fact, playing out in how we look at it as well.

But again, I can't speak to the specifics of how it may have affected their MLR consolidated.

What about yours though?

Is that a material factor for you in the back half?

It's not a material factor, though.

I think when you have a balanced risk pool like we have for us, we feel that we're going to getting very similar flow of reinsurance from quarter to quarter.

But again, I will tell you that to the extent that somebody burns through the first $45,000 in the first half of the year, you will have a higher MLR than you will in the back half when the next $200,000 is essentially covered by reinsurance and yet you're getting premium on it.

So again, accounting wise, the math makes perfectly good sense.

But from our perspective, our book is pretty balanced.

So we don't necessarily get a big pickup in either direction.

And shifting gears, a question.

I've forgotten off the top of my head where you guys are on participation in the new Florida Medicaid program?

But to the extent you do have some visibility on how that started, can you comment on the utilization or anything else that you're seeing there?

Yes, Matt.

I would say from our standpoint in terms of the expansion in Florida, we haven't seen anything alarming at this point.

We continue to monitor and stay focused on our medical cost management.

It's really early there to be honest, though.

You're looking at less than 60 days of experience at this point in time.

But based on what we've seen, and when we look at drug data and other data point, we're just not seeing anything alarming.

All right.

Thank you.

Scott Fidel, Deutsche Bank

Thanks.

Just want to follow up on some of the discussion around small group and some of the attrition that you're seeing this year.

And just interested, Wayne, we've been going through the small group rate filings for 2015 in considerable detail.

And we've been seeing some of the lowest proposed increases that we've seen in, frankly, maybe ever, but certainly in a number of years, particularly amongst a lot of the non-profits.

And just interested in your view on how the initial rate filings are developing in small group for 2015?

And if you think that maybe what we're seeing with the some of these proposed rates is a response to the attrition that's going on in small group and a reaction to try to protect those books of businesses from going into the exchanges.

Hello, Scott.

Good morning.

Our experience so far in our small group filings has been encouraging.

I think as we show our regulators the basis for how we're building those filings, we're trying to make sure they understand that the risk pool is changing though.

That as people leave the current small group pool and migrate to exchanges, it does create a different risk pool.

But in general, we're seeing a pretty good profile there.

Trend was lower in 2013, though.

So I think what you saw was not fully reflected in the 2014 rates when people first priced.

And now I think you're really starting to see the 2013 and 2014 trends get reflected in the 2015 pricing.

So when you're doing an apples-to-apples, I think 2013's trend coupled with 2014's is kind of distorting some of the 2015 pricing.

All that being said, it would only be prudent to hang onto those members at margins that are at least commensurate to or slightly better than what you would see in an exchange.

And I think that is a reasonable strategy that people will deploy.

Okay.

And then just to add a follow-up question.

Last quarter you gave us sort of the mix of the Hep-C spending by market segment -- commercial versus Medicare versus Medicaid.

Just interested if there were any changes in that mix.

And then just overall how the Hep-C spending looked for 2Q relative to 1Q.

Scott, just as a reminder, we had more than doubled our Hep-C costs in our pricing for the current year as compared to the prior year.

And then in our outlook after Q1, we added an incremental $100 million to that outlook.

I would say that Hep-C has pretty much played with those expectations.

We're not seeing upside versus that expectation at this point in time, but we're not seeing downside.

The trend in the last, say, four weeks seems to be coming down a bit.

But we believe you'll see a spike later in the year when the new Hep-C drugs come back out.

I think an early indicator, meaning the last four weeks or so, might imply that it's a little conservative.

But we actually don't think it is because we really do think there'll be a spike when a new drugs hit the market.

I think net-net for all of our segments, they're playing as expected -- that we reported last time.

And I think what you'll find is the additional $100 million is probably going to be necessary.

Okay.

And the mix does still look like 40% commercial, 30% Medicaid, 25% Medicare?

Yes, it's very consistent with what we had in Q1.

Okay.

Thank you.

Dave Windley, Jefferies.

Thanks.

In the exchange market, I think we're seeing some new entrants in the pricing.

And we can see some new entrants coming in lower than some of the 2014 incumbents in some cases.

Are you seeing that?

And can you kind of rationalize that?

Or do you think that is, in fact, irrational pricing?

I'd just be curious your thoughts on some kind of low-price new entrants.

Good question.

This is Joe.

I think that we fully expected that there'd be new entrants in the marketplace.

So it's certainly not a surprise.

We certainly underscored that our ability and desire to compete in markets like that.

We have not seen what I'd call irrational pricing.

Certainly there'll be flex happening in pricing, market to market.

But thus far, we haven't seen anything that would give us great concern regarding irrational pricing.

Okay.

Wayne, I wanted to clarify.

I think you talked to maybe Tom's earlier question about PPD.

Did I understand you to say that you feel like you've basically put all of the favorable prior-period development backup in reserve this year, so there's no benefit to 2014 earnings that would become a headwind to 2015 year over year?

As of June 30, 2014, we believe that is the case.

Okay.

Great.

Thank you.

Peter Costa, Wells Fargo.

Hello.

Just quickly.

The claims paid this year has dropped in your reserve roll forward table to 77%, down from 79% last year.

Can you explain why that's happening?

Is that related to your rise in DCP, or is there anything else going on there?

Part of its related to the rise in DCP.

And part of it really is just related to the massive enrollment that we saw come in with the exchanges.

The other thing I would tell you, Pete, is receipts are coming in slower than what we've seen historically.

So we track the time between when a claim is actually incurred versus the date we receive it from the providers through a payment cycle.

So our payment cycles are just down slightly because of our DCP metric.

Coupled with the fact that with the volume that we saw coming in, we wanted to make sure resources were deployed to a lot of our exchange memberships to get them processed timely.

But as of June 30, 2014, I would tell you that everything is stabilized.

Inventories are stabilized; levels are consistent with past levels.

Days work on hand for the Company, as a whole, is generally below five.

So I'd say things look pretty steady at this point.

But the biggest thing has been receipt times have actually slowed down in terms of when we receive them from the provider.

Good.

And then any update on your PBM contract?

Nothing new at this point.

They continue to be a good partner.

And we're looking forward to building and maintaining our relationship with them.

Okay.

Thanks.

Andrew Schenker, Morgan Stanley.

Thanks.

Switching back to Medicaid here.

I was wondering if you could tell us your experiences on the expansion lives?

It appears the new rates sales are more than accurate to cover the cost of these populations.

Could you just tell us what you're seeing there?

Thanks.

I'm sorry.

I lost the very beginning of your question.

I was talking about Medicaid expansion populations, just talking about your experiences with them.

One thing, just remind our listeners, is that anytime we enter a new market, and even a market we existed in that's due to the new lives coming in through ACA expansion, we've always assumed that we would have a much higher MLR than our run rate MLR.

Just under the simple premise that we're taking a completely unmanaged population and moving them into managed care.

In general, I'd say things are playing well versus those expectations.

But as I try to remind folks that much of the expansion lives, as you can see, really have not started coming on until 2Q.

So a lot of the data we have is still relatively immature.

Cash flow would imply things look pretty good.

But it's really early at this point to declare victory or any concerns in either direction.

But all in, our outlook assumes a much higher MLR on that book than we would've had on our run rate book.

Okay.

And maybe just talking about the run rate books here.

How has the performance been in what we'll call the WellPoint legacy businesses versus the AGP?

Are you seeing a normalization there of margin?

Thanks.

I would say that Pete and the team have done an exceptional job of improving that business, even faster than we would have anticipated.

We are not at what I would call legacy Amerigroup margins yet, but we are closing the gap much quicker; and those are much improved.

Thanks.

Ana Gupte, Leerink Partners.

Thanks for taking the question.

I just wanted to follow up on the commercial medical cost trends.

The first question is, just looking at this whole notion of the Goldilocks scenario is dead, if you will.

And hospitals, some of them, are hinting that there's a cyclical rebound in because of the economy.

I recall Wayne used to talk about negative in group attrition.

And I'm just wondering if in large group, and potentially in self-insured, are you seeing the reversal of that trend?

So possibly what the hospitals are seeing is related to more people coming into the employment pool, but you're receiving premiums and not a per-capita issue?

Hello, Ana, good morning.

Yes, what's actually interesting is we have seen net negative in group change for, as you know, the previous five years.

In January and February were the first two months that we actually saw net positive in group change.

But surprisingly that trend has actually flipped in 2Q.

So we're starting to see negative again.

Now, it's modest -- really, really minor.

I don't want to create an alarm that that's going the wrong direction.

But I don't necessarily know that that's the biggest driver.

It may have been a driver for things that happened late in Q1 that got ultimately and processed and billed to us by Q2.

But I don't think it's a big driver for what you're seeing in Q2.

I do think that you're adding a large uninsured population into the mix now.

And you're adding a large group of new Medicaid members into the mix now.

And I think it's why you can see a scenario where both the MCOs and the providers are both doing well because both parties have new volume coming into the system that didn't exist before.

Okay, so mostly Medicaid and exchange is not really anything around cyclical.

Just related to that then and back to the prior development question.

I think you're one of the only big MCOs that have reported decent commercial loss ratio results.

And I know you all group it slightly differently.

Your PYD is pretty much in line with last year.

I'm just wondering if that is because you were more conservative in estimating the second half, particularly in the fourth quarter around grandfathered ACA disruption and so on., as well as what you've booked for the first quarter.

Or is there actually no uptick at all?

Because there is a theme emerging that PYD is going down.

Again, I can only speak to our book.

But I think it's important to recognize when we priced for this year, we did price for a rising trend.

And I think we just had better data than others had in preparing for the exchange market.

And I would argue we had the best-in-class Medicaid management team in the country when the Amerigroup came in.

And I think you just couple those execution points together, and I think it's fair to say that we had a nice conservative balance sheet.

So that definitely helps.

But I don't want to take away anything from this management team's execution.

This has been two solid years now with this new team in place.

And I just think it's a very different Company than what you see saw in the previous five years.

Just to wrap up on that then.

For this year, you're pretty comfortable that the second half you're booking your incurred estimated costs correctly?

And then the pricing on 2015, I'm assuming that you continue to expect an uptick for 2015?

Or are you expecting a flat trend from where you are today?

We haven't given guidance yet for 2015.

But clearly, I think there are reasons to believe medical trend will have a reflection point at some point.

And we think it's prudent to take that view.

Thanks for the color.

Thank you.

I'd now like to turn the conference back to the Company's management for closing remarks.

I'd like to thank you all for joining us today and also for your questions.

In closing, let me reiterate a few key messages I'd like for you to take away from this call today.

Our strong second-quarter, built upon the results of last year, demonstrates the success we're having in attracting new customers across our commercial and government segments.

I do want to underscore that our associates have had a lot to do with this and also have a lot to be proud of.

Given their commitment to execution that advances our strategic priorities and also helps us capitalize on future opportunities.

We recognize that our challenge going forward, as an Organization committed to serving our customers, is to increasingly ground ourselves in our values, especially being easy to do business with.

Collectively and individually, we're focused on doing the right thing, offering simple solutions, striving for excellence, and delivering results.

Additionally, I want to reiterate a few points related to our call this morning.

We're pleased with our performance in Q2 and the entire first half of 2014.

In our Exchange business, enrollment tracked well through the midyear, with 769,000 new members added.

And we believe that we've established prudent reserves for this business.

Our Government business is growing along multiple fronts with the implementation of several recent go-live situations in New Jersey, Florida, and Kentucky, as well as dual eligible pilots that will contribute to growth in late 2014 and into 2015.

Finally, we raised our 2014 adjusted EPS outlook from greater than $8.40 to greater than $8.60.

And we also raised our membership growth and cash flow outlook for the year.

So I want to thank everyone for participating today.

Operator, please provide the call replay instructions.

Thank you.

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