Humana Inc. (HUM) Earnings Call Transcript & Summary

Okay. I'm A.J. Rice, the health care services analyst at Credit Suisse. We're very pleased to have next up, Humana. We have today representing the company, Brian Kane, the Chief Financial Officer; and Amy Smith, Vice President of Investor Relations. So welcome. Thanks again for participating in our conference this year. Brian, I thought I'd just open it up -- just open any question about you guys having just reported third quarter results. What would you say were the couple of takeaways or messages that you would want people to be left with as they walk away from the third quarter and think about your comments around outlook and so forth?

Sure. Well, first of all, good morning. Thank you for hosting us virtually. I'm really hoping next year we can be in person. Look, I would say that the company is doing well. We feel good about how we're positioned in the marketplace, both from a top line perspective and growing our membership. We believe our products are resonating. I think people saw we took up our membership guidance on 2020. I think we're in a good starting point for 2021. I think financially, things are really performing as expected. And so we feel good about how we're going to finish the year in 2020 and going into the 2021. Obviously, there are uncertainties on the horizon with respect to COVID and the vaccine and how everything is going to ultimately play out, but we try to incorporate everything we know into the message that we conveyed the other day. So all in all, I think the company is strong. I think our strategy is succeeding, and we're looking forward to getting back to normal.

Yes, yes, as we all are. One of the things you did do is take, at least at a high level, make some comments about next year's outlook. I think the exact wording was grow modestly above the long-term EPS growth range of 13% to 15%. That's got a lot of puts and takes. As you mentioned, the health insurer fee going away, et cetera, and just the COVID pandemic. I think estimates before you made those comments for next year, we're in the 22, 14 range. I think they've come down to about 21, 90. That would still represent about 18.5%. I guess my perception was in your ideal world that might still be a little more modest above the top end of your range. But is there any thought about that in the conversations you've had? Do you think people are understanding what you're trying to say?

Yes. I think there's still a disparity out there with respect to the analysts on 2021. So I think there are some who were still above 22 that's driving some of the disconnect. I think 22 and above is -- we don't believe is modest. That's beyond modest. So I think some of the analysts are still too high. And I think we should get more into a modest range as we outlined it. So I would -- by the way, the -- I'd also comment on 2020 and that some of the analysts still haven't updated their loss numbers. Again, I think you were pretty direct about what we expect to do. We committed to the world that we would stay within our guidance range. We now are at 1815 to 1875, but there are also analysts still above that. So again, I would just reiterate that I think the 240 loss we put out there for 2020 is also something more -- we think is a good number.

Right. Right. And I think when you look at that, obviously, there's an element of investment of giving back some of the over -- the benefit, I guess, from the underutilization you saw earlier in the year. Maybe walkthrough because I know fourth quarter tends to be the lowest earnings quarter for the company generally, but you don't typically post a loss of that order of magnitude. So why is that happening for somebody that may be a little newer to the Humana story?

Sure. And then that's right. I mean the fourth quarter seasonally is lower, and that's really a function of a few things. One is just the marketing spend in Medicare Advantage. The fourth quarter, we ramp up for AEP. So that's always a big marketing spend quarter, so it depresses earnings. Also on the commercial side, just the way the benefit works, you're going to have a lower seasonally fourth quarter than sort of earlier in the year. But this year is extraordinary. We don't normally have a loss. I can't remember when we've had a loss, certainly that we've guided to and certainly my tenure. And so this really relates to all the investments we're doing, as you said. I mean, we're putting a lot of money to work for our various constituents, a number of which really hit in the fourth quarter, so whether it's around the things we're doing for our members as they get back into the medical system, all the cost-sharing and cost waivers they hit hard in the fourth quarter. Some of the provider things that we're doing for them in terms of getting them dollars and working with them to ensure they have what they need. A lot of those are heading in the fourth quarter. There's other investment spend at the company. Our in-home assessments ramp-up in the fourth quarter, and these are basically our clinicians going into people's homes, so making sure that we're able to document their clinical conditions as well as capture the requisite documentation from a risk cutting perspective, which impacts our revenue for 2021. So there are a host of things that are happening in the fourth quarter, which are not typical and that are driving that loss.

Yes. And when you think about -- I understand the notion of giving back to customers and some of the age providers. When you think about your comments around investments, you're doing things like long-term investments in your physician collaboration and arrangements. You're doing long-term investments in -- from data analytics and home health and a variety of things. Has this environment, where you've had above-average results allowed you to maybe pull forward some of those investments that you might have otherwise seen in '21 and '22? And sort of so it gives you a chance to position for the growth, which I know you guys are focused on making sure not just in 1 year, but in multiple years, you can deliver that 10% to 15% earnings growth?

Yes. No, I think that's right. We certainly have accelerated a number of our strategic priorities into 2020. That's been part of the spend. So whether it's accelerating our migration to the cloud or building out our clinical model, these are costly. And we have a multiyear plan for that. This allows us to bring it forward a bit, which we have done. I don't think it necessarily changes too much the '21 investment spend but allows us to accelerate the time when some of this stuff will be completed. So that's how I would describe it.

And then when you think about your comments around 2021, one of the biggest changes, I mean, obviously, we have to talk about COVID crisis and where that lands. But axing that out is the health insurer fee, which for a large Medicare Advantage provider, is significant because you might -- for somebody who's new, give them -- make sure they understand why it's so significant that the rates never got adjusted for it. But how do we think about how much of that might fall through to the bottom line in your original -- in your initial comments? Are you being a little bit careful as to how much and there may be depending on how the prices plays out, there may be more that can fall through the bottom line. But how should we think about that? Because it's a big number of overall exposure.

It is. It's well, we know it's well over $1 billion, and it's nondeductible. And so that's a big number. And so our tax rate could be 1,000 basis points, 700, 800 basis points anyway on just the tax rate alone. And then there's the pretax amount that we have to price for so what we've said is it's about when all said and done, when you roll forward from '20 to '21, it's about a $2 HIF or I should say, pick up in this case because the HIF is going away, just on the tax line. Again, the pretax generally flows through to the customer, whether on the good -- when it goes away, customer gets more benefits. When it comes back, generally, we've had impact benefits, although we try to make up for it in other ways. But just the tax impact alone is north of $2. And so we haven't said precisely how we divvy that up between EPS and sort of customer benefits and membership growth. But I would just say we've taken a balanced approach. You can see that because we've guided to modestly above our 11% to 15% range, we have given back some of the HIF to our shareholders, and we think that's a prudent thing to do. And again, we try to take the right balance there.

When you think about the other major puts and takes and formulate that 2021 guidance, what would you highlight are the biggest variables in your mind?

Yes. Clearly, the biggest question mark right now is around COVID. And what does the utilization impact, both in terms of COVID treatment costs. And I would say sort of what we call non-COVID utilization. I think that's still out there. I think there's questions around our revenue still and just where we end the year on 2020 from a risk perspective because that impacts 2021. And so people understand we get paid effectively based on risk we took last year. Our members what conditions they had in the prior year. And so when people aren't going to the doctor this year, we're less likely to capture their codes and their risk because they're not in the medical system. Now we've tried and we've been -- made a major effort to go out and meet with those members, as I mentioned, we're going into their homes. We're capturing those clinical conditions, but still a portion -- a good portion of our documentation comes through the organic process where people just go to the doctor, the doctor codes it and we get paid for it. And so that's still an uncertainty. We baked in, obviously, a number into our guidance to reflect that. We had a perspective on pricing at the time of pricing, what that would be back in June. And so -- but that's still very much a variable out there as to how it ultimately finishes in the year. And then always -- there's always -- where do our term rates end up versus our sales, that's always a question that when we have a lower term rate, that's a good thing generally for our financials, we have a higher term rate. That's a bad thing and because our longer-tenured members are more profitable. So we make an assumption around sales and terms to get to our growth numbers to the extent that's off. That can have an impact. But I would say those are really the major items that are out there beyond the normal things around trend and other things that have nothing to do with COVID, just the normal pricing process that we go through.

Right. And particularly in the individual and group MA book, I would think that your members will be right at the front of the line for the vaccine. If that -- if we do get that to market, what are you doing in preparation for that? And how do you think about that, the direct cost impacting the results? And then think about any follow-on in terms of utilization as a result of that?

Yes. Obviously, we're excited for everyone to have a vaccine. And so we're encouraging Pfizer, actually the -- Frank D'Amelio is on our Board, and he's been working really hard, and it's great. So we're thrilled that, that seems to be moving forward. We'll see how the government prioritizes who gets the vaccine first. But I think you're right, that clearly, the most vulnerable, which tend to be seniors and our members would likely be in the front of the line. And I think that the logistics behind that are still to be worked through. I do think that, to the extent that happens earlier rather than later, that would result in more regular utilization, albeit there should be many fewer treatment costs. And so there's a natural hedge there between utilization and treatment costs that we'll have to work through. I think there's also a question, frankly, of does utilization go back to the baseline? Or has there been sort of a permanent shift? I think that's something -- we certainly haven't planned for that. But I think that's an open question. We have to see whether, in fact, as people are less desirous of being in the institutional setting and being in their home, which, by the way, puts right to our strategy, which we're excited about. That's a lower-cost setting. And so do we see some shift out of the institution, out of the skilled nursing facilities, et cetera, we'll have to see. But that's DBD. But we planned for, I would say, a range of scenarios. We're very mindful about how this can evolve. And because they are naturally offsetting forces, that definitely helps so.

As you think about exiting the third quarter heading into the fourth quarter, where you've got, obviously, 2 major lines of business, the MA book and then some commercial. Where are you -- where do you think those are relative to pre-COVID levels in terms of utilization?

Yes. I would say, on the third quarter call, we said that our utilization overall is about 95%. And we said that -- and this is pre-COVID utilization, by the way. So if you exclude treatment costs. Commercial is a little bit above that. Medicare is probably at or a little bit below that today. I think when you add in treatment costs for commercial, you probably get at or a little bit above, and Medicare is still a bit below. That's the way I would describe it.

Okay. Okay. And is there any reason to think that there's pent-up demand of some sort that you may have to take on in the first half of the year if -- unless we have another big surge or?

It's possible. Again, I think it will be relatively modest. If there is -- I mean, first of all I think you have to assume there's going to be a vaccine before there are any -- you have a real big influx into the system. But I don't necessarily see it having a massive spike. I think there are constraints in the supply of the health care system just the ability to handle this. I think we've tried -- for our members who really -- we've really tried to get them to care that they need. So I think -- I don't expect a major surge, but it's something that we're certainly mindful of and watching, particularly if a vaccine is effective.

One of the things this year, almost every quarter, you've sort of upped your membership expectation. And that's not unusual for you to have some increase over the course of the year, but it's been much more consistent this year and a step up. Maybe talk a little bit about why -- if you have a good sense of why that's happening. And when you've talked about fairly good, actually above-market growth again next year with the 350,000 to 400,000 incremental lives you're talking about taking on. Do you think that you might see the same phenomena next year?

I don't think -- I think this year was unique. I mean, first of all, when you start the year before AEP, which is effective when we first gave guidance, it is really hard to estimate where we're going to be. We have some sales data. We have some term data, but it's very, very incomplete. And it's almost nothing. And so I think that's part of the challenge when you do initial guidance. And so it's not uncommon for us to update that sort of in January again or even December, but generally January where we will comment. I think this year, after that, what happened was with COVID, it just created a whole different dynamic that was really hard to forecast what would happen. And what we saw was a little bit lower terminations, which obviously is a good thing. And the sales were a little bit lower, but didn't quite offset the lower turns. And so that caused us to increase it. And then as we got towards the back half of the year, the sales really picked up. The terms didn't pick up as much. And so it was just hard to predict this year. There's a lot of unpredictability because of COVID. I would not expect this in '21. I mean, we put out the guidance that we did, really our best estimate. We'll see what happens through AEP and then into what we call the OEP and then the ROY, the rest of the year. But I don't expect that kind of increase like we had in 2020.

It's hard as an outside observer to really completely assess the competitive landscape in MA, but we do see some of the players that had a footprint in MA. Now we're actually showing pretty good growth at Anthem, Cigna. We hear some of the Blue plans are making a little push there. Would you say that the competitive -- you're still forecasting that you'll be above growth? I always get asked the question, how can everybody be above the market -- at or above the market, but how do you answer to that question and assess the competitive landscape?

Well, it is certainly competitive. There's no doubt about it. And I think in the last few years, we've seen these same players really working to grow their presence. I think you're going to continue to see it. It's a very attractive place to be in health care. It's arguably the most attractive sort of subsector in health care, just given the demographics of the population. And frankly, these are lives we can really make an impact on. We think there's a real opportunity in managed care to improve people's lives and reduce medical costs on account of that. And so I think people do see that opportunity. I think we just got to stay a step ahead of our competition. We really work to do that. I think this is our focus. This is our bread and butter. This is what we go to bed thinking about at night and wake up in the morning again, very focused on. I think that helps us. I think it gives us an advantage with our branding, with our provider relationships. I think some of our clinical programs that we've spent a lot of time talking about with you guys on, I think is something that also differentiates us. And so I think we're well positioned to grow at or above the market in the years to come, and that's certainly what we hope to do, notwithstanding that there is a lot more competition. But that's why we got to invest in the business. It's why we continually -- when we talk about sort of that balance, it's 3 elements: it's member benefits, it's EPS for shareholders and its long-term sustainability from an investment perspective and investing in our model. And that's why we have to balance those 3 to make sure we create that sustainable growth trajectory that you guys obviously want. So...

There still is about 30% to 35%, maybe a little more of the MA market in the hands of the small and regional plans. And it seems like if I look at the statistics out of the government, that they're sort of continuing to see share is the dynamics with Star ratings and some of the stuff you're doing around physician collaboration, just such an investment demand that it makes it hard for those small guys, and they will, in your mind, continue to seed share over long periods of time, probably?

I think it is hard for the small folks who aren't fully invested in wanting to grow this business, and this is their core thing and what they do. For all the reasons you said, there's the Stars, there's a Medicare risk adjustment. There's the clinical evolution. There's the technology stack. I mean, there's a lot of things that we're focused on that. I think it's hard for a smaller player to really keep up. And so I think there will be some who'll be successful. There are some startups, for example, that are Medicare-focused that try to create new experience through technology that we're always watching. And I think, to date, they've competed on benefits. They have not competed on experience, which is interesting. I think they're trying to get lives and then they can grow off that base. But yes, I think it is harder for the smaller players to compete. I think you've seen a separation, the bigger players continuing to take share. And I would just remind everyone that as we grow, when you have a large installed book, it's even harder to grow above the market because obviously, there are people who -- there's a lot of debts in the book. I mean, it's not immaterial. And so you multiply by millions of lives and even a small percentage, that's a big number you need to overcome. And then there's voluntary terminations. And so just a sheer number of sales we have to generate every year to get the growth we're talking about is staggering. And it requires a major effort with the brokers, with marketing, with product design, with brand that it's hard for others to compete there, though, that is our biggest disadvantage ironically is our large size. But I think we're -- as you've seen, with our results, we are overcoming that, but that is something that I think investors should understand that it does require a lot of new sales every year, just to shred water.

That's true.

As the natural terminations.

There's been this back and forth with the top line growth, the membership growth and the concept of target margin of 4.5% to 5%. And maybe just talk for a minute about how the company thinks of that. Is there a bit of a trade-off of margin versus growth? And what -- how do you balance that?

Well, it's obviously a question that comes often, and it's a fair question. And we do have our margin targets of 4.5% to 5%, our pretax margin targets for individual MA. It is something that we're focused on. We are below that today, and we'll be below that next year. It goes back to the conversation we had around the HIF and also corporate tax reform, where we've had massive changes in our tax rate. And so we're focused on generating 11% to 15% EPS growth. You've heard us say that continually while growing at or above the market top line. Margin, as you've heard me say, is an important input, it's not an output. But it's an important input that provides discipline to our teams, our operators, our whole organization to make sure we're growing profitably. And so every year, it's a debate that we have internally. We are able to grow, obviously, EPS at our range without necessarily getting back immediately to that margin, though we're going to have to march back, I think, to generate those EPS growth rates, and we intend to. People ask us, have you been above target margin? The reality is end of 2017, we were above 5%. Then 2018 tax reform happened. Then 2019, the HIF went away. Then 2020, we marched our way back. We made a lot of -- took a lot of ground. And now '21, the tax rate is going down again. So we're -- a lot of this is geography of where the earnings shows up, candidly. But it's an important focus, and it will continue to be.

Okay. I did get an e-mail question here. Can you ask about Medicare Direct contracting? What are the pluses and negatives? How many Medicare fee-for-service members are in the Conviva practices?