Humana Inc (HUM) 2011 Q3 法說會逐字稿

Good morning. My name is Melissa and I will be your conference operator today. At this time, I would like to welcome everyone to the Humana third-quarter 2011 earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions). Ms. Regina Nethery, Vice President of Investor Relations, you may begin your conference.

Good morning and thank you for joining us. In a moment, Mike McCallister, Humana's Chairman of the Board and Chief Executive Officer and Jim Bloem, Senior Vice President and Chief Financial Officer, will briefly discuss highlights from our third-quarter 2011 results, as well as comment on our earnings outlook for both 2011 and 2012. Following these prepared remarks, we will open up the lines for a question-and-answer session with industry analysts.

Joining Mike and Jim for the Q&A session will be Jim Murray, our Chief Operating Officer and Chris Todoroff, Senior Vice President and General Counsel.

We encourage the investing public and media to listen in to both management's prepared remarks and the related Q&A with analysts. This call is being recorded for replay purposes. That replay will be available on the Investor Relations page of Humana's website, Humana.com, later today. This call is also being simulcast via the Internet along with a virtual slide presentation. For those of you who have company firewall issues and cannot access the live presentation, an Adobe version of the slides has been posted to the Investor Relations section of Humana's website.

Before we begin our discussion, I need to cover some other items, including our cautionary statement. Certain of the matters discussed in this conference call are forward-looking and involve a number of risks and uncertainties. Actual results could differ materially. Investors are advised to read the detailed risk factors discussed in this morning's press release, as well as in our filings with the Securities and Exchange Commission. Today's press release, our historical financial news releases and our filings with the SEC are all available on Humana's Investor Relations website.

Finally, any references made to earnings per share or EPS in this morning's call refer to diluted earnings per common share. With that, I will turn the call over to Mike McCallister.

Good morning, everyone and thank you for joining us. Today, Humana announced third-quarter earnings of $2.67 per share compared to $2.32 per share in the year-ago quarter. This quarter's favorable result was due to strong operating performance across multiple businesses. Consequently, and looking to the remainder of the year, we raised our 2011 earnings-per-share guidance this morning to a range of $8.35 to $8.40 from the previous range of $7.50 to $7.60.

Along with these positive financial results, we also made good progress during the third quarter on a number of operational fronts. One, we received approval for our 2012 Medicare bids from the Centers for Medicare and Medicaid Services with the related annual election period for Medicare beneficiaries now underway. We announced our intent to acquire two Medicare HMOs -- Arcadian and MDCare.

Updated star ratings have been issued by CMS and we experienced significant progress with 98% of Humana members now in plans that will qualify for quality bonus payments in 2013. Many of our commercial members are now receiving our innovative HumanaVitality well-being rewards offering as part of their benefits packages as they renew.

We again returned capital to our stockholders through approximately $240 million in share repurchases in the third quarter, increasing the total year 2011 to $500 million. During the third quarter, we paid our first cash dividend to shareholders since 1993 and have followed that up with another cash dividend this month.

I will devote most of my remarks this morning to Humana's Medicare growth strategy from the standpoint of long-term corporate sustainability -- what I would call the most important chapter of our story. I will also comment on our expectations for Medicare Advantage and PDP membership next year and comment on our preliminary estimates for 2012 earnings per share.

As we have done in past years, we will continue to enhance our value proposition for seniors by reinvesting the savings we have achieved through our 15 Percent Solution into stable premiums and better benefits for Medicare beneficiaries. The result is the robust 2012 membership growth projections you see on the slide.

We have essentially built a circle that is repeated and reinforced each 12 months. It operates like this. One, we reset our Medicare margins in the bids we file each June. Two, we vigorously pursue the medical management and operating cost initiatives that make up the 15 Percent Solution. Three, the progress we make is translated into attractive, highly competitive products for the following year. And then our growing size and scale in Medicare gives us operational advantages to make it increasingly difficult for competitors to match these products in the marketplace.

Accordingly, we project our Medicare Advantage individual membership will increase by 145,000 to 155,000 net new members on the individual side in 2012 and by 55,000 to 75,000 net new members in group Medicare. We are particularly pleased that our projections for group Medicare include more than 50,000 members from our recent addition of the state of Texas employee retirement system.

We are also projecting an increase in our standalone PDP membership of 500,000 to 600,000 net new members in 2012. Our PDP membership growth estimates are built substantially on the success of our cobranded offering with Walmart. For the second year in a row, this innovative plan has the lowest monthly premium of any nationwide PDP offering.

In addition, again like last year, it has one price and one benefit structure nationwide -- the first PDP plant in history with this strong competitive advantage. Among other things, this makes the plan easy to understand -- the key element for retail consumers, especially in the PDP environment where the number of plan choices runs into the hundreds.

In terms of EPS guidance for 2012, we expect our projected Medicare Advantage and PDP revenue growth to be offset by the annual reset of our Medicare margin. Although based on our most recent estimate, that reset is expected to result in a margin slightly higher than the 5% margin included in our bids this summer.

Other mitigating factors include movement of commercial medical cost trends closer to historical levels and lower projected results for Humana military as we transition to the new South Region contract. The combined results of these and less substantial factors is our expectation for 2012 earnings per share of $7.40 to $7.60. Jim Bloem will discuss this projection in more detail during his remarks.

One of the key elements seniors look for in a Medicare Advantage plan is provider access. For 2012, we dramatically expanded both our local HMO and PPO networks and product offerings. As we have often emphasized, this type of expansion is done carefully adding only those providers to our networks who we believe will offer quality care efficiently.

This map indicates the breadth of our Medicare Advantage network, which covers geographies where over 75% of the Medicare beneficiaries live in the United States. While we are a major national competitor already, we are also actively seeking to shore up those areas of the country where our networks are not as extensive as we would like them to be. That strategy will be aided by the MDCare and Arcadian acquisitions, each of which enables us to strengthen our networks in areas where we are already present, as well as enter new counties, particularly in California.

As we expand our base of efficient provider networks, we can more readily coordinate targeted clinical initiatives and address high-cost situations more efficiently to achieve better patient outcomes and lower cost. Thus, expansion of our provider networks contributes to member satisfaction in two ways -- initially in terms of provider choice and subsequently by enhancing the member experience through our 15 Percent Solution.

As we once again reset our overall Medicare target margin for 2012, it is important to note that the most important chapter of the story that I mentioned a few minutes ago is not a margin expansion story; it is a long-term sustainable membership volume story. This slide illustrates why. With few competitors in Medicare able to match our scale, experience and compelling senior value proposition, we are growing Medicare Advantage membership as aggressively as possible today to create lifelong relationships that will enable us to offer our members a wide variety of Humana products and services over many years. This slide suggests what some of these products and services are and could be.

Notable among them is homecare, pharmacy, integrated wellness, all areas where Humana has made good recent progress and where the long-term revenue horizon, given baby boomer demographics, is promising. Concentra, which we acquired 10 months ago, is performing nicely and gives us a strong foundation on which to further build out our PCP management business.

You could summarize this slide with a three-part mantra that describes how our near-term Medicare Advantage growth is expected to produce long-term Humana prosperity -- diversification, cross-selling and customer retention.

With all this as background, we believe we will continue to achieve strong growth overall and position Humana for success next year and for many years to come. With that, I will turn the call over to Jim for a detailed discussion of our financials.

Thanks, Mike and good morning, everyone. Looking first at the third quarter, we were pleased with our earnings of $2.67 per share. As indicated on the slide, the primary reason for the substantial improvement over the midpoint of our previous third-quarter guidance was the better-than-expected operating results we achieved. They contributed $0.50 per share of the $0.67 per share increase. Approximately 90%, or $0.45 per share, of this better-than-expected operating performance was driven by lower benefit ratios for both our Medicare Advantage and Medicare PDP businesses, thanks again largely to our 15 Percent Solution. The remaining $0.05 per share of improved operating performance primarily was attributable to the continued moderate cost trend environment in the commercial group business.

Now in addition to the better-than-expected operating results, the third quarter also benefited from $0.13 per share of prior-year medical claims reserve development. Approximately $0.03 of this amount related to the commercial group business with the majority of the remaining $0.10 coming from Medicare Advantage.

Turning to the full year, we have removed the estimated $0.10 per share impact from the potential Penn Treaty insolvency issue from our full-year 2011 earnings guidance. The court in that case has granted an extension of stay until March of 2012. Based on the fluidity of the Penn Treaty legal proceedings, we have decided to exclude this potential $0.10 per share from both our 2011 and 2012 full-year earnings guidance, although we remain highly confident that any ultimate liability would not exceed the $0.10 per share amount.

Finally, the third quarter also benefited from $0.04 per share from year-to-date share repurchases and a slightly lower effective tax rate. The 2011 full-year effect of these same items are expected to approximate $0.09 per share.

Turning now to next year, our initial 2012 earnings guidance rollforward is detailed both in this morning's press release and on this slide. Let's look at each item in a little more depth. First, in the Retail segment, we expect a net decline of approximately $0.35 per share after giving consideration to the annual reset of our Medicare pretax margin. Although for 2012, that reset doesn't take our Medicare margin all the way down to 5% because, as always, the reset reflects our latest and best estimate of the impacts from subsequent development of certain assumptions that we used to file our bids this past June. The 2012 margin reset is expected to be partially offset by our anticipated strong Medicare Advantage and Medicare prescription drug plan membership gains.

Next in the Employer Group segment, we have experienced an unusually low medical cost trend environment in 2011, probably 200 to 300 basis points lower than we expected at this same time last year as evidenced in the increase in our pretax income guidance for the Employer Group segment as 2011 has progressed.

Looking to 2012, we anticipate commercial medical cost trends will increase by approximately 100 to 150 basis points from their 2011 levels. This range is still lower than the historical annual cost trend averages that we have experienced over the past decade.

Again, as a partial offset, we anticipate solid membership growth in our Medicare group business as outlined in the release. So combining these two factors, we expect a net year-over-year reduction of approximately $0.25 per share next year, attributable to the Employer Group segment.

Moving to the Health and Well-Being Services segment, we anticipate an increase of about $0.40 per share for 2012. Much of this increase is driven by greater volumes in this segment's businesses, especially Humana Pharmacy Solutions as a result of expected continuing growth in our medical membership.

With respect to TRICARE, we expect to implement the new South Region contract effective April 1, 2012 and anticipate a reduction in pretax income of approximately $50 million or $0.20 per share in the first nine months of this new contract. Additionally, it is important to note that, at the time of implementation, we will begin accounting for the new TRICARE contract on a net revenue basis, which is a change from the past gross revenue basis.

Accordingly, we expect that our 2012 consolidated operating cost ratio will increase by approximately 110 basis points as a result of this accounting change. I will comment further on our consolidated operating ratio in just a minute.

Finally, we expect a 2012 benefit of $0.10 per share as a result of our 2011 year-to-date share repurchases. As we have indicated in the past, our forward-looking earnings guidance excludes the impact of any future share repurchases.

Now let's take a closer look at our consolidated operating cost ratio changes over the past couple of years. The continued successful implementation of our Company strategy has had an effect on the multiyear comparability of our consolidated operating cost ratio, which this slide outlines. Here are the details. First, in 2011, as we have said in the past, our consolidated operating cost ratio is expected to increase by 160 basis points as a result of the growth in our Health and Well-Being Services segment. This increase primarily is the combined result of the December 2010 Concentra acquisition, as well as the significant growth in our mail-order pharmacy operations.

Meanwhile, the Retail and Employer Group segments combined to lower our consolidated operating cost ratio by 20 basis points in 2011, as indicated on the slide. This shift in mix of administrative expenses is important to note because it shows the significant progress that we have made toward our goal of lowering the operating cost ratio of our core Retail and Employer Group segment on a continuing basis. So now looking forward to 2012, we expect this progress will continue.

While the net revenue accounting change for the new contract in TRICARE that I have described previously is expected to cause our anticipated 2012 consolidated operating cost ratio to increase by 110 basis points, the positive effect of the combined operating leverage in our Retail and Employer Group segments is anticipated to further decrease our consolidated operating ratio by about 70 basis points.

So to conclude, we are very pleased with our financial and operating results for the third quarter, as well as our outlooks for the remainder of 2011 and the full-year 2012. As we move toward 2012, we continue to maintain ample capital and liquidity while pursuing opportunities to increase the value of Humana by means of strategic acquisitions and capital expenditures, as well as returning capital to our shareholders directly through cash dividends and indirectly through significant share repurchases.

This prudent capital deployment balance is enabled by the financial resources and flexibility we have developed over the past several years. And it is a key requirement for competing effectively in the post-health insurance reform environment, which continues to unfold. With that, we will open the lines for questions. We request that each caller ask only two questions in fairness to those still waiting in the queue. Operator, will you please introduce the first caller?

(Operator Instructions). Matt Borsch, Goldman Sachs.

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Justin Lake, UBS.

Thanks, good morning. Jim, first question to you. You mentioned the target margin for 2012 implied in guidance for the Medicare business is above 5%. Just curious if you can give us some more color here in terms of what margin is assumed.

As we have said for the Retail segment, which is very largely weighted to the individual Medicare product, that we said would be between 5.4% and 5.6% for 2012.

Okay, 5.4% and 5.6%. And what are the drivers there? And do you expect that to reset back to 5% for 2013 or is this a reasonable target to assume going forward?

I think that every year it stands on its own and we look at where we are when we file the bids in June. So I would say that you should continue to think about a reset to 5%.

Okay, and the second question just is around -- the '12 guidance was helpful. Just the question I had in terms of the $2 billion in cash flow from operations, how should we think about that versus the dividend potential from the subs that you typically take up in June? Or I should say in the second quarter of each year?

I think that there is a certain amount of parallelism between the 2011 dividends that we took up, which were based on '10 results and the 2012 that we expect to be able to take next year in the second quarter based on this year's performance because cash flow from operations is similar in both years. So a certain amount of that goes to build the capital, as we have discussed previously and then the rest will be available after discussions with the various states and the credit rating agencies.

But, Jim, in '10, you earned $6.50; in '11, you are going to earn $8.50. Should we think about, given that drives the forward year cash flow like you said, should it be up 30% or so from the $1 billion you took up this year, if I am remembering correctly?

Actually, it is more -- I think it is more driven around the cash itself. And if you look at the 2010, you are right. We did have a very high multiple of net income, about 2 times net income for our cash flow from operations. Historically, since the MMA, we have had around 1.5 to 1.6. So I think a bit more as 2010 was sort of an abnormal year in terms of cash flow, again being the driver of what gets taken up from the subs. And so looking at this year with a comparable cash flow from operations guidance for '11, I would look for similar numbers to be taken up in early '12 based on this year's performance.

Great, thanks for all the color.

Matt Borsch, Goldman Sachs.

Yes, thank you. Sorry about that. So just on the commercial cost trend, just as a frame of reference, can you give us the trajectory that you have seen for the last three years now? I mean where you were in 2010 and 2011 because 200 to 300 basis points lower, which makes sense, is obviously a pretty big stepdown from what you had forecast.

This is Jim Murray. Typically for secular commercial cost trends, we are generally in the 8% range and we use that for pricing purposes, as Jim guided in his remarks earlier, 200 to 300 basis points below that in 2011. Anticipating that will go to 6% to 7% secular trends next year and currently pricing for a 7% and we will see how that all plays out as we go into the first and second quarters of next year.

And sorry, just one last on that, where were you in 2010? Was 2010 higher or lower than 2011?

2010 was lower a little bit.

Okay. On the commercial pricing environment, what are you seeing in terms of the market receptivity to putting through increases that embed a 7% trend assumption?

The small group business for us is growing very nicely. I think that we have guided to growth next year of around 65,000 or so fully insured members, which is primarily our small group block of business. We are seeing some nice pickup there. We don't see anything unusual in terms of the pricing environment there.

As we have said in the past, the case size that is very competitive out in the marketplace is what we refer to as portfolio, which is 100 to 300 in terms of the case sizes, lots of mud wrestling out there with the 100 to 300. No one seems to be doing anything dramatic from a company perspective, just a lot of hard work out there in that case size. Other than that, it seems pretty normal.

And just last, would you differentiate at all between the public companies and the not-for-profit carriers in that 100 to 300 segment in terms of the pricing intensity?

No, I don't think I see anybody doing anything dramatic one way or another; it is just case-by-case.

Thank you.

Josh Raskin, Barclays.

Hi, thanks, good morning. Just first question on the two acquisitions that are pending. I think you have guided to a close by year-end. Obviously, it doesn't look like you have those in guidance. I was just curious if you wanted to comment a little bit about the expected financial impact for 2012, maybe membership revenues and obviously earnings per share, if that is available.

Okay, when we announced both of these, we had sort of said that we thought that maybe they would close in 2011, but we all have to remember that they are subject to regulatory approval. So we keep them out as in accordance with our normal policy about acquisitions when we close, then we make our statements. But the revenues of these -- the Arcadian was, I believe, $625 million and the MDCare was maybe another $150 million or so over that, so it's about $775 million to $800 million between those two. We haven't said anything about the profitability. And again we haven't said anything again in accordance with our policy that when we close, then we will be able to comment on each one. But we are very excited about both because again of the opportunity to add the 79,000 combined membership.

Right. I'm sorry, Jim, maybe I wasn't specific. I know in your press releases you put the '11 numbers, but I was just curious what those plans were looking for in 2012. You guys are showing good growth. I am just curious are they expecting membership growth in that sort of 10%-ish range as well?

Yes, we are going to wait until we acquire them and look at everything and then we will make the decision as to what we think we should say in terms of the timing and what the run rate going forward will be.

Okay, fair enough. Second question on the PDP, you guys are coming up on a full year of the Walmart plan. I was just curious if you guys could comment on sort of claims experience versus your initial expectations and any geographies where you are seeing any deviations relative to sort of the overall success of that plan.

This is Jim Murray again. Obviously we are very pleased with the results of the Walmart plan. You can tell that by the fact that we left our pricing and benefit structures in place. It performed very nicely for us. I think Walmart is happy with the volumes that they saw as a result of it and we are happy with not only the profitability, but also the growth that it allowed us to enjoy as a company. And a good part of the guidance for next year in terms of our 550,000 growth at the midpoint is a result of the Walmart plan. So again very pleased with the way it is performing for us.

Did you think about changing anything in certain geographies or did you think just that consistent pricing across the nation was more important?

This is Mike. I think one of the critical aspects of this is the simplicity of it from a price and benefit design. So one of the difficulties of all forms of health insurance over the years is the complexity and the local nature of product design and the implication of local healthcare costs and all that sort of thing. The great thing about the PDP plan is it is drugs, it is national, there is a better shot at making it standard. And although all of our geographies clearly do not perform exactly the same, that is okay. We assumed that when we went in and the offset is you have an incredible branding opportunity and a simplistic retail message and I think that is the power of it. So we would really fight the idea of sliding backwards into localized product design. It wouldn't fit the model very well.

Okay, that's great. Thanks, Mike.

John Rex, JPMorgan.

Thank you. Back on medical cost trends, so I kind of wanted to revisit the idea of underlying trend indications on the Medicare Advantage books, kind of the core book here and coming back to this idea of thinking about kind of -- so level-setting us where you typically expect that to run, where that has been running in '11 and kind of your expectation for '12 and this idea of (inaudible) see some indications on the four primary buckets that drive trend. I think the one I have been looking for before was any indications on inpatient bed days or anything that you can help us with in terms of understanding trend in that book better.

This is Jim Murray again. When we do our bids each and every year, as we look backwards, we see a trend environment in the 4% to 5% range and we use those numbers when we prepare our bids as our what we call secular trend. And if I were to tell you that, looking back onto 2010 and 2011 as it is now beginning to play out, I would suggest that we are probably towards the lower end of that range, maybe even dipping a little bit below in '10 and/or '11. So that is a good thing because it allows us the opportunity to constantly evaluate the value proposition that we provide to the seniors that we serve and when trends come in lower, it allows us to pass that along to the seniors that are a part of our program and so that is a good thing for us.

We talk about the 15 Percent Solution quite often and we are very pleased with how that is playing out for us. We evaluate that quarterly. We did it the last time as of 6/30 of this past year and again we saw some nice improvement from the last time that we evaluated that.

As respects the individual pieces, obviously our utilization is lower. A big driver of that is inpatient bed days, but we don't like to get into talking about any specific metric because then we will be talking about all of the other metrics that are a part of our Medicare cost trends, but you can imagine that, if our trends are coming down, that a big piece of that is inpatient utilization.

I mean so would it be fair to say the inpatient utilization is -- and we have talked about it -- if I talk about it in bed days per thousand is running at least modestly negative?

That's correct.

Okay. And then when you think about your '12 and you talk about the pieces of kind of running a little better than where you submitted in June, is it primarily your updated cost trend assumptions that would be driving that better performance for '12?

In large part, yes.

Okay. And just one last thing, just any observations generally as you have got a chance to look across benefit design that others put in the marketplace? I mean from your membership outlook, I would infer that you think it was a fairly stable year in terms of benefit design, configuration and Medicare Advantage, nothing overly aggressive or conservative either way. Is that a fair assumption?

Yes, I think one of you who was on the phone evaluated us relative to the rest of the competition and opined that it looked like we were in a very nice position in terms of our competitiveness. And I would suggest that that probably resulted in us coming out with the 150 at the midpoint guidance in terms of our growth for next year. We feel very good about that. We feel very good about where we are positioned relative to the competition for the open enrollment selling season and again feel good about the guidance that we have just provided.

Great, thank you.

Charles Boorady, Credit Suisse.

Thanks, good morning. I am wondering if you can update us on the progress of Concentra. For example, you have same center trends and any progress in selling the Humana product to the employers who are using Concentra centers or getting Humana enrollees to begin receiving care at Concentra centers?

Yes, Charles, this is Mike. I think it is a little too early to start digging through all that frankly. What we have done with Concentra is do what integration was necessary over the last 10 months, really fully get on top of their business to understand it and they are doing quite well. We have acquired a few practices through that over the last 10 months, so there is some expansion going on there. But that strategic implication relative to selling backwards into the employer space, that is largely still in front of us, as well as the PCP management part of the business. All of that is a work in progress around getting ourselves fully organized and being really focused tactically around how to use that asset as we go market to market and it is always going to be a combination of Concentra versus potentially some capitated players versus other things we do on the doctor side. So I think we will come back to you later as those things develop. It is a little early.

Have they been rebranded to Humana?

No, not yet.

Got it. Okay. And then next question, just on the opportunity for the duals generally, Mike. We've talked about this quite a bit in the past and I know it is fairly fluid, but what are your current views on the duals opportunity, whether they are coming in more on a Medicaid platform or Medicare platform and what investments you are making to capitalize on the opportunity.

Okay, we are looking at that really, really carefully. As you know, we have 250,000 some odd duals already and we understand the implications of what can be done with these folks in terms of getting them better care. There's a lot of money to be saved for both the states and the feds and everyone. So it is a great idea to get these duals into managed care. You know, I guess we have said before, we would prefer they came through the Medicare Advantage window. I think all of that is still very much up in the air.

On the other side of the table, we are looking state-by-state and deciding what it is going to take should we step into a state to participate in Medicaid if necessary. That could be a combination of some buildout of our own, some targeted acquisitions in some cases, but all of that is work we are doing. We are preparing for it. We fully anticipate participating in the dual eligibles to the extent we can. And I think that is probably going to be a state-by-state sort of decision as we get into it, which would lead us away from a large-scale Medicaid acquisition basically.

Has your Company been working with the CBO or others on the Hill to try to come up with a reasonable score for the savings from moving duals into some sort of managed product?

Well, let's just say we are on the Hill all the time trying to drive the right agenda. So just leave it at that.

All right, great. Thanks.

Kevin Fischbeck, Bank of America.

Okay, thank you. I appreciate the comments about the initial view of 2012 Medicare margins. Do you have a number for the 2011 Medicare margins, where they have been trending so far maybe ex-development?

Well, we have signaled for the year that we are expecting, like in the overall Retail segment, to have about a 7% pretax margin.

Okay. So when we think about that business -- I guess coming back to one of the comments you made earlier -- the Retail margin is the way to think about -- it is pretty close to whatever the Medicare margin is going to be?

Yes. I mean I think, generally speaking, they would be very close.

Okay. And then can you talk a little bit about the leverage at the Company? It seems to be getting incredibly low given the free cash flow that you expect to generate again next year. Just want to hear your thoughts about how you think about that leverage number. I know you are well below your targets. How would you envision using that capital if -- it doesn't sound like a Medicaid deal is in the pipeline. Is there enough on the Medicare side of things? What else are you looking at?

Well, as I sort of said in my closing, we look at everything, we look at the acquisitions, as you mentioned and again we have announced a couple of those this quarter and feel good about that. There is lots of stuff and we look -- there are lots of properties out there. We are always looking at everything. So there is that.

In terms of releveraging the Company, putting more leverage back on the Company right now, if you don't have an asset to really look at in the strategic sense, it is very hard to justify just borrowing money for the sake of borrowing money because the reinvestment rates are very low and the carry is very high relative to that. The difference between those numbers is historically wide. So basically we tell you what the debt to capital is and you can figure it out yourself. The idea is saying that we have lots of dry powder to be able to execute on this strategy that Mike described in his remarks. So that is generally speaking why we do what we do right now.

Then if we have any extra, we look at continuing to look at share repurchase, which we have done. We've done 4% of the Company so far this year, the $500 million that Mike mentioned and of course, we initiated the cash dividend.

So again, looking at things in a totality on a year-over-year basis as we do after the year has closed, we will continue to update these numbers, but we think we are having a very good balance between acquisitions, CapEx and returns to shareholders via share repurchases and a cash dividend.

This is Mike. I would guide you back to the horn of plenty, as we call it, chart. I mean we are all over all of those things and so we intend to keep ourselves in a position to execute on opportunities as we find them. And the good news, we can afford to do everything we need to do. We said that at the time we upped our stock buyback, as well as our dividend. The good news is we are in a position to do all of it, which is great for us and we will get back to you as things develop. But don't look past that horn of plenty quickly because we have a very straightforward strategy, which is built off of that picture.

So that comment about using the balance sheet maybe for larger deals, is that meant to mean that the two ones you have in the pipeline might be financed with debt leaving the free cash flow available or are those smaller and you are leaving the leverage availability for larger transactions?

Well, yes and as I mentioned before, we expect the closing to be after the regulatory approvals and we are now saying it could well spill into 2012. So then we will have all the other information to put together to make that decision. But we generally make that decision after closing of each acquisition.

Okay, thanks.

Christine Arnold, Cowen and Company.

Hi there. Two quick questions here. As we think about the Medicare trend, it looks like you said it came down to a low end of the 4% to 5% you have had historically. How are you thinking about leading indicators there? Do you think that a rise in interest rate could spur more utilization as you look kind of historically at Medicare trends which we have a tougher time seeing? Or do you think we are just in a point now where we have eliminated unnecessary care and we are at a new low. Then I have a quick follow-up.

Well, in terms of the interest rate, the Medicare trend probably interest rate is probably the least sensitive to that change because, again, seniors with chronic conditions continue to have their treatments and get their treatments. So I would say that part of it is not there, in terms of being that large of a factor like it might be on the commercial side if that signaled a change in the economy there.

But on the 15 Percent Solution, I think that is the big driver of why trend is at the lower end of that range that you mentioned, the 4% to 5%.

Christine, that question is really big because it really is at the core of what we try to do every day, and just trying to figure out exactly what drives trend, what part of our 15 Percent Solution is doing it, versus some sort of macroeconomic implications. And the good news is at least on the 15 Percent Solution side, we can actually look at actions and results that are relatively closely tied together with chronic illnesses and this sort of thing.

So I think broadly we have seen less economic impact on the Medicare population and our population than you would on the commercial side of the business.

Okay, I'm sorry. I misunderstood when you said secular 4% to 5%. I thought secular was excluding 15%. Thanks for clarifying.

And then I have a math question. If I think about $24 billion in Medicare Advantage revenue next year and I think about a 7% margin going to 5.5%, that is 150 basis points, I get kind of like $1.50 and yet you are getting $0.35. So I am sure I am missing something really basic. Can you just walk me through how you get to your $0.35?

Well, the principal difference between that would be the favorable development that we've had this year that goes into that 7%. That is not assumed in the part going -- that is not assumed in '12.

Okay, but that is -- refresh my memory. Is that like $0.13?

In this quarter, it was $0.13, but so far this year, it has been $0.57.

Okay, but I am still not -- I mean $0.57 plus $0.35 still doesn't get me to $1.50. Is PDP going to improve in profitability, deteriorate, how are you thinking about that?

Again the way we normally say is we give our overall viewpoint at this point in the year -- again we are still two months from the beginning of '12 -- to say how we are going to do for all of '12. So what we have said is we didn't go all the way back to 5%. Could it be higher? Yes, perhaps it could be higher. We work hard every day with the 15 Percent Solution to continue to make these numbers better. But as they sit now, we are basically telling you what has changed from our assumptions in June that we filed to what we know right now before the year starts.

Okay, it feels to me like there is still some conservatism in there and I think that is probably the conclusion.

Christine, this is Jim. Are you including the growth in our membership as an offset to that? The $0.35 is net of growth in membership.

Yes. I thought I was in that math, but I may not have been fully accounting for the new membership profitability.

Okay, the principal -- the favorable development is a big part of it, that you get the favorable development, but it is not -- it is up above in that little chart that is in the press release and it's in my slide.

Okay. All right, thank you.

Sarah James, Wedbush.

Thank you. Looking at the big picture, there was an interesting study out of Emory University showing about 55% of Medicare spending is on the last two years of life. And with the bolus of Medicare-eligible population aging and medical advancements, it is easy to see how end-of-life care is driving significant growth in Medicare spending. On the other hand, it is a highly politically charged issue.

So I am wondering if in your discussions on the Hill, what sort of appetite you may be seeing from legislators around addressing specifically end-of-life care, if we could get some sort of addressing in the intermediate term here, maybe next five years or so and what type of plans may be being discussed.

People don't focus on it directly. I can tell you that both sides of the aisle, and everyone up there really understands the implications of it economically. I think right now there is a group of 12 in a room trying to figure out what to do with the entitlement program called Medicare. I don't think this is top of mind. It is a known issue. The way we look at it as a company and the way we build our business is basically to take on all chronically ill and -- basically what you are trying to do is keep people as well as you can as long as you can and that is what this whole coordination of care and management of chronic illnesses is all about. I think the better we get at that, the more impact we are going to have at some of the issues you have raised. But I would say it is not -- it is not the top headline. People are uncomfortable with what to do about it. But I think it just falls into the bigger bucket of overall medical management and management of illness and financing of it and it is a data point that is concerning, but I don't know that it is materially different in terms of how we think about it in the midterm at least in terms of managing the business.

Okay. Thank you. And my second question is I know it is early on yet in the selling season, but has there been any indication of the impact of the new Walmart cobranded MA product? And if you could just remind us again if the margin profile in that business is the same as your overall book or if we should be factoring in some sort of additional fees or profit share.

This is Jim Murray. I think you are referring to the ability for us to talk to seniors that have a prescription drug plan about the additional benefits that they might enjoy with the Medicare Advantage and we haven't been focused on trying to identify those, what are referred to as conversions from PDP to an MA. We will probably report out on that after the selling season is completed.

We would anticipate, with the additional Walmart membership, that the numbers that we have seen over the past couple of years, which have averaged around 25,000, would go up, but we will report on that I think probably next quarter. Was there another question in there that I am --?

And we are satisfied with sort of the sales we have seen to date.

Correct.

Thank you very much.

Carl McDonald, Citigroup.

Great, thanks. So the last couple of years, your actual Medicare enrollment growth has been significantly higher than what you have initially guided to and I think that has been driven primarily by a better rate of attrition than what you first assumed. So it would be helpful if you could just walk through what you saw for 2011 in terms of gross sales and attrition and then sort of if you can give a sense of what you are assuming for 2012, if that attrition number has moved around or not.

For 2011, for the entire year, we are anticipating that we are going to sell 439,000 units and we are anticipating about 293,000 terminations or disenrollments. Obviously we anticipate that we are going to sell more than that this coming year as we see probably a stabilization in the terminations that we have seen over the last several years. We embarked in 2010 and 2011 on trying to stabilize the membership. That was a part of our roles and we were pretty successful in 2010 and '11 to do that. So for 2012, we think we will probably see an uptick in sales with probably a stable termination with 2011's figures that I've just reported.

Okay, and then secondly, we have seen a fair number of acquisitions in the Medicare Advantage market the last few months. I would be interested in what you see in terms of the pipeline going forward. As well if there is anything you have seen in terms of willingness to sell. Sort of what has changed in the last few months versus six months or a year ago?

This is Mike. There has been no major shift in the last few months. I mean I think the big picture has remained the same. I think in order to be successful in Medicare Advantage longer term, scale is going to be required. There is going to be ongoing IT investments needed. The spending there is the same whether you are small or big. And with an 85% MLR on the horizon as a requirement, then I think ultimately you better have your administration very low and I think scale is one of the key components of that. That is how we think about that inside of our 15 Percent Solution.

So longer term, the smaller players I think will find a home somewhere else. We hope to be a part of that as it occurs and you can see that we are a participant in these opportunities as they pop up. But I don't think anything has shifted in the short term here.

Okay, thank you.

Scott Fidel, Deutsche Bank.

Thanks. I just had a first question just on some of the assumptions on margins in the Employer segment and it looks like you are clearly expecting a pretty significant deterioration, around 50% in the margins there. But maybe just walk us through sort of what you are assuming on the commercial group side relative to the group Medicare margins for '12.

Well, what we had said in the Employer Group is basically today we had raised our MER, if you will, or our benefit ratio by about 125 basis points for this year and then next year, we took it back 225. So the difference is really only about 1% and the difference is really what I mentioned before about the commercial trend. Rather than make an assumption that the commercial trend was going to go all the way back as we have in the past, we have sort of taken it half the distance back. And so that basically to me explains in the Employer Group segment sort of where we are.

Now you are right to point out that in group Medicare, we have, over last year, said that we expect 55,000 to 75,000 more members are up, up 65, when this past year, the year we are in now, we only had 15. But again in pricing Medicare, we look at things for that overall 5%.

In the guidance pages, you can see that the Employer Group overall is shown as a 1% to 1.5% margin. The under 65 part of that was probably on the lower end of that range while the group Medicare is probably on the higher end of that range.

Got it. So maybe group Medicare sort of implying like 1.5%, 2% and employer side of that maybe around the 1% area?

That is a fair estimate.

Okay. Then just a second question, just it would be helpful maybe to get some revenue assumptions just in the other business segment. And also would be helpful to understand sort of same-store growth trends because clearly you have got a pretty big drop in TRICARE revenues as you move to the new contract. So maybe, first, if you could just sort of walk us through what sort of the 2011 TRICARE revs were and what you are assuming for '12. And then separately just some indications on sort of what type of growth you are expecting on the Medicaid business, if any, next year.

In 2011, TRICARE is approximately about $3.5 billion and then this year, we are going to take that down, looking at it from a segment basis, down to about -- down about $2.4 billion. And that $2.4 billion reduction is because of how we are going to account for the new TRICARE contract. It is going to be -- before we always had the gross revenue and then we had the expenses with that and we came up with a margin. The old numbers were sort of like $3.5 billion, 3%, $110 million of profit.

The new way it works is, again on an ASO basis, so we report net revenues, that is the net of the costs that we incur and the revenues we recognize. The reason that is happening is because the rules of revenue recognition when compared to the provisions of the new contract require that accounting.

So again, economically, we are off about $50 million because we are starting off a new contract. Our consolidated revenues only show to be up 5% because we are having that maybe 45%, 50% reduction in the others, which is the revenue that was moving from gross to net.

So again I would like to just keep the economics kind of the same saying we are starting a new contract and our excellent team of associates and leadership in TRICARE will continue to manage that in a way that improves its profitability over time. And we are showing you what the first year looks like here.

Got it. And then just on the Medicaid side?

This is Jim. Medicaid, for us, as you know, probably 80% of that is located in the Commonwealth of Puerto Rico. And we have three regions that we serve on the island and anticipate increases of perhaps 5% to 6% increase as a result of renegotiation of those three regions going forward, so nothing significant. There hasn't been any inclusion in our Medicaid estimates of any of the things that Mike talked about earlier with our evaluation of Medicaid opportunities going forward.

Got it. And Jim, just quickly, the rest or a lot of the rest of your Medicaid business is in Florida and there was some pretty nice rate increases for a number of the plans down there in Florida Medicaid. Do you expect there could be any benefit to your Medicaid margins in Florida as a result of that?

There will probably be a tad, but nothing real significant. We are in the Medicaid business in Florida because the providers ask us to be in that business. It is a good offset for -- it balances out their portfolio of patients that they serve. It is not really strategic for us.

Okay, thank you.

Peter Costa, Wells Fargo Securities.

Hi. On the 40 to 60 bps of improvement in your reset for your Medicare margin, how much of that is -- all I heard really was risk -- was your cost -- all I really heard was the cost and utilization issue. Would you say there is an improvement in risk scores or sort of your audit settlement assumptions or perhaps on mix?

This is Jim Murray. We have talked a lot about improving trends and what we do around the 15 Percent Solution. We also proactively are trying to make sure that we are paid for the amount of risk that we assume from the seniors and their conditions as it relates to the chronic illnesses that they have. So there is some element in our yearly bid estimates and our margin rollforwards that represents the impact of us doing a better or worse job with our risk profile work. So that is buried in there, but it is not a significant piece of our margin reset. Most of the margin reset is related to the trends and our anticipation that they are going to be at the 5% that I talked about earlier. And our margins go down from the number that we talked about to the 5%.

Okay. And then a second question, when I look at the $0.40 from the Health and Well-Being and other businesses, that sort of almost implies a 30% improvement in earnings from that business by my math. I am not sure that is exactly right, but about that and that compares to last quarter where it was about half that in terms of the improvement year-over-year. What is causing the acceleration? And you talked about mostly about pharmacy volume. What would be in there besides -- how are you getting that pharmacy volume improvement and then what is Concentra's contribution to the $0.40?

This is Jim Murray again. We want to grow our Medicare business and our commercial businesses because of the mail-order operations and our other pharmacy operations because it is a wonderful opportunity for us to not only create a differentiated value proposition for the members that we serve, but also it results in a favorable impact to our bottom line. So the more we grow our Medicare and commercial membership, the better our pharmacy operations do and you are seeing the beneficial effect of that in that $0.40 number.

Well, that is not growing at 30%, so what is the offset that causes it to grow so much faster on the Health and Well-Being side? And what is the acceleration from (multiple speakers)?

In addition to the membership growth, we are also seeing a nice pickup in the number of members that have chosen to use the mail-order operations. That number has grown from as low as 5% when we first started, somewhere near 20% to 25% of the membership that we serve today. So that is picking up as well as the membership that we just reported.

Okay, thank you.

Chris Rigg, Susquehanna Financial.

Hi, good morning, guys. Thanks for taking my question. Could you just -- given the Cigna HealthSpring deal, can you remind us some of the key terms of that alliance? And probably more importantly, I think it is about a year and a half old, that alliance, have you guys seen any enrollment benefits on the group Medicare side thus far from the deal you guys have with Cigna?

This is Mike. It has been actually a slow startup and we don't have any businesses coming out of that alliance yet. There is a little bit, but not enough to really pay much attention to. And so it was always a longer-term effort for us to figure out how to get two companies to work together in some of the large group space. So in the short and midterm and long term, I don't know that it makes a whole lot of difference. We are sort of evaluating where we are with this relationship to see if it has any future. And we will report back once those sort of decisions are made.

But I mean I think the message from that particular transaction is that there is an opportunity in the retirees for big companies and there are a number of ways to get at that and we are pretty optimistic about what that looks like in the future. So we will be back once we know exactly what we are going to do with that relationship.

Okay. But there is nothing that prevents either side from walking at anytime, correct?

Well, I am not going to get into the contract terms. I mean obviously going in, you always keep these things under consideration as you reach an agreement because when you're going in, you better know what your exit strategy is. So yes, all those things were considered as we got into it and again I am not going to talk about it this morning, but we have every ability to protect ourselves.

Okay, thanks a lot.

Doug Simpson, Morgan Stanley.

Hey, good morning, everyone. I just want to make sure we are thinking about the comments around commercial pricing correctly. And correct me if I am wrong in the way I am describing this, but it sounded like you were saying the trend is coming in light this year. I think you said order of magnitude a couple hundred basis points. And then it sounded like you were pricing to sort of a move higher. I think you were pricing to 7% and you expect the trend to kind of move up and close the gap. By our math, if we take that $0.35, if we are thinking about this the right way, that would imply something like a 180 basis point lift from the commercial MLR and we are just trying to understand if you are -- it seems like you are trying to price at or a little bit above trend, so what would drive that ax in the year to sort of pop up by 180 basis points because this would obviously exclude development? Is there a risk pool shift, is there a product mix change or is it potentially some conservatism built into the way you are thinking about that?

Certainly it is conservatism. I mean I have said it call after call after call. I mean those of us in the space that are in commercial are looking in the future trying to figure out what is going to happen with trend. There's offsetting things going on. There are several things going on. The macroeconomic situation has implications. We are trying to manage to get better value for money in terms of what we do every day. So Doug, historically, this industry has missed the uptick in trend. That has been ugly and I've been through it several times having been here for 38 years. We would be irresponsible I think to go all the way down to what could be a real unusual low trend that is driven by things that we do not control. So perhaps we could grow more if we lowered our prices to reflect all that. We probably could. I think you have to be cautious here because I believe trends are going to tick back up and no one really knows when that's going to happen.

That is a fair point. Maybe just to shift gears a little bit, if we think about the Part B premium coming in a little bit, at this early stage, anyway to think about what we may be looking at for 2013 rates? Is that any kind of a readthrough in your mind? And then just how do you think about the impact and timing of any doc fix on '13 rates and benefit design? Just love to get your updates thoughts on that.

Well, on the first one, it's way too early to really get too focused on that. I'll go back and I'll take it up to 20,000 feet again. We are in a good position based on everything we do around here, whether it is efficiency around medical spend and/or administrative spend to basically offer a great value proposition for seniors, which has a lot of room in it. So I don't really -- I have said it many times. I don't get too caught up in year-to-year changes because we are allowed to adjust our product offering on the street to reflect the reality of wherever we are. What was the second piece?

Well, the Part B and then coupled with the physician rate fix and then any timing issues around that, how you think about that.

Well, our bids for '12 assumed there would be a fix. So we never assume that they are actually going to take those cuts. It is getting close to the end of the year here, so any number of things could happen. They have fixed that retroactively a few times. I don't think there is anything magical about the end of the year because I think Congress can do it sometime into '12 and then make it retroactive. We have to run our business based on reality and I think reality says that sometime they are going to fix the doctor. They may kick it down the field for another six months or three months or something again, but in any case, because of the way we bid and the way our business operates, we basically have to assume it gets fixed because I think that is the right thing to do.

Right, right. Okay, thank you.

Ana Gupte, Sanford Bernstein.

Yes, thanks, good morning. My question is about the deficit deal, which they are expected to report out on November 23 and while the consensus view is the rule likely -- it is unlikely we have a bipartisan compromise. There is a possibility they come up with a partway savings with the deal and then still do a 2% across-the-board reduction. I think you guys have mentioned that the 2%, you can do a lot of it pass-through given your contracts are back to fee-for-service rates. My question is also about the likelihood that they do some provider-specific reductions for hospitals on health or others with the Part D and what does that mean for your contracts? Can you also change your payments to providers accordingly?

Our contracts in Medicare generally reflect that we will pay providers what Medicare pays them. So right out of the box, we would be heading in whatever direction the federal government does. But I would caution you that I have a long list of rumors as well and I think until we see something more definitive out of that group, I think speculating about implications is probably not good. But from a business perspective, our attitude has been and always has been that we are basically on our way to parity relative to payment rates with the old program. So as long as they kind of keep everything level then we will be fine because we are operating more effectively than the old program does. So relative to provider payments and all that sort of thing, our contracts give us the ability to change to reflect whatever the federal government does. As a matter of fact, it happens automatically, but we will just have to deal with the specifics once we know them.

Okay. So my understanding, it doesn't matter either way, you can expect fee for service. Another question again about deficits and I understand we are sort of speculating at this point, but certainly there were a lot of MedSup proposals on the table and how do you think about those in terms of the volumes value you could potentially get with MedSup? But then on the other hand, if they do do MedSup reform and there is a lower utilization across Medicare as a whole, what that might do to your rate outlook.

Well, that second part is really long term. I won't go there. I do think, from a policy perspective, making changes to the Medigap world is the right thing to do. The induced demand that is a part of that has been well documented. So I mean we sell Medigap coverage ourselves, but I think from a policy perspective, if I was in Washington trying to solve my Medicare problem, I would be looking really hard at the implications of Medigap coverage.

So to the extent that that occurs, again we will be back where we have always been. That is comparing the value proposition of Medicare Advantage versus Medigap versus traditional Medicare standalone and I think at the end of the day, we win those comparisons even today with where we are quite effectively. That is why there are 12 million people in Medicare Advantage. So I am not concerned about changes as long as they are fair and reasonable in terms of application because at the end of the day, it is all about executing on what we do and when we do that, we do fine.

And then finally the questions around star and the impact on margins. I am understanding the 5% that you project sustainably does not include it. Having gone through this exercise once now, how feasible do you think it could be to ramp it up to four star plus by 2014 I think you need?

This is Jim Murray. The entire Company is focused on improving our stars force. I sat on a call, I don't recall which quarter it was, that our goal was to get five stars everywhere. Obviously it is going to be difficult to do that in some of our product designs like a private fee for service or some of the local PPOs, but there are a lot of people at Humana who are focused on improving our star scores. We are very pleased with what happened here in this last accounting. Our star score targets were achieved and we see a lot of progress. We do a lot of things, including incentivize providers to deliver good quality and work on some of the HEDIS measures. Our service organization is focused on changing its business model to address the stars quality scores. A lot of messaging to the members who most need some of the preventative measures, so there is a lot of things going on. We feel very, very good about our ability to execute and again the goal is five stars and I think you're going to see a lot of nice improvement over the next several years from us in that regard.

David Windley, Jefferies.

Thanks. As you look into 2012, are there factors that would affect your ability to leverage your MA margins to the same degree as you have in 2011 and 2010, thinking also if you could characterize kind of where you are in the maturation of the 15 Percent Solution?

When we do our bids for 2012, we did, as we have talked about quite a bit today -- when we look back over the last four or so years, we have been very successful with our ability to drive costs below -- we call the things that we do trend benders and those are an integral part of our bids and we have been very good in our ability to deliver on the 15 Percent Solution. As we look at where we are at on the 15 Percent Solution and frankly that number has to be 20% in some locations, we feel very good about where we are positioned and the glide path to 2014. So tentatively looking very solidly at our ability to continue to deliver very good value propositions to the seniors we serve. We feel good about our ability to execute next year.

Okay, super. Thanks, Jim. So then also on the -- it sounds like a good portion, a large portion of the $0.40 pickup in the Health and Well-Being is coming from pharmacy. Is that largely leveraged on the MA side or are you also -- or the Medicare business in general I should say or are you getting a lot of cross-selling benefit from the commercial part of the business? I wanted to try to parse that out a little further.

It's doing well, but when you think about who takes drugs, it is the seniors and the more seniors that we have, the more our Health and Well-Being segment is going to grow in the short term because a lot of it is comprised of our pharmacy business. So Medicare growth and convincing the Medicare seniors that getting their drugs through the mail is a good thing. We will continue to drive those kinds of results that we are seeing today.

And how are you viewing the competition from the Aetna and the Coventry offerings in the PDP space?

We have evaluated some of what they have done. We have looked at the websites and we feel very good about where we are positioned.

Okay, great. Thank you.

[Jerry Kamatos], [Triton].

Jerry? Okay. Jerry? I think we've lost him. Let's go on.

Hello, can you hear me?

Yes, Jerry.

Yes, hi. Thanks for taking the question. I had a quick question about the hospital admission rates that you have been seeing. It has been a while now. Do you have any ideas about how to categorize the different reasons that it is happening and their relative importance and how you see that going forward? Thank you.

Well, as we mentioned before when we talked about our trends, basically if you look at inpatient, inpatient utilization is really the main thing that has been reduced. The other things continue to remain in the sort of mid-single digit range. So there is more outpatient, but inpatient is the one that is flat to negative.

Yes, I think the answer differs depending upon whether you are talking about commercial or Medicare.

Absolutely.

Clearly the economy has had some impact on commercial inpatient utilization and we are trying to figure out if there is a rollover effect to the Medicare population as well.

Okay, well, thanks for joining us this morning. I think what you have seen here is a solid quarter from our Company, great progress on all things Medicare and in the commercial business as well. I am really comfortable with where we are going into '12 and we will be guiding you to where we are going to end up in all these lines of business much more closely as we get further into the year.

With that, I want to thank all the Humana associates that are on this call who have made this performance possible and our value proposition remains strong and we are very optimistic about the future. Thank you for joining us.

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.