Big Insurers Disappoint in Q3, Brace for Obamacare

Third-quarter results are now in for all three of the biggest health insurers in the country. And, for the third time, disappointment carried the day.

Aetna (NYSE: AET  ) reported its financial results for the third quarter prior to the market open on Tuesday. Shares fell around 2% in early trading after the company's adjusted earnings of $1.50 per share missed the average analysts' estimate of $1.53 per share. 

Source: Aetna. 

Common themes
In some ways, Aetna's earnings announcement echoed what UnitedHealth Group (NYSE: UNH  ) and WellPoint (NYSE: WLP  ) had to say with their third-quarter results. For example, like the other two big insurers, Aetna reported a jump in revenue. In Aetna's case, the 46% year-over-year increase to $12.99 billion came largely from the company's acquisition of Coventry. 

Also like UnitedHealth and WellPoint, though, Aetna's profit from core insurance products didn't fare as well. Aetna's net income did grow by 4% year over year to $518.6 million as operating earnings increased 7%. But the company noted that essentially all of the operating earnings growth stemmed from the buyout of Coventry. On a per-share basis, both net income and operating income fell compared to the third quarter of last year because of dilution of shares.

One of the biggest drags on earnings came from Medicare. Aetna's Medicare medical benefits ratio, a measure of an insurer's health-care costs as a percentage of premiums received, soared from 82.5% in the third quarter last year to 87.8% this year. Part of the issue was due to a really good experience in 2012, but federal Medicare cuts were cited as a significant issue along with a couple of underperforming Medicare products. UnitedHealth also specifically mentioned that increased Medicare costs negatively affected earnings. 

Here comes Obamacare
The Patient Protection and Affordable Care Act, commonly known as Obamacare, looms large for all of the major health insurers. For Aetna, the opportunity with Obamacare appears to be more with Medicaid expansion. As of the end of third quarter, around 11% of the company's medical membership came from Medicaid. 

Several of the more populous states where Aetna already offers Medicaid plans are expanding coverage to more individuals as promoted under Obamacare. Management indicated that they hoped to benefit from higher numbers of Medicaid enrollees that some states are reporting with their health insurance exchange statistics. But the company said it hasn't yet seen higher Medicaid enrollment "come downstream" in states where they operate.

Aetna's approach with individual insurance plans on the Obamacare exchanges matches that of UnitedHealth more closely than it does WellPoint. Both Aetna and UnitedHealth have taken relatively cautious stances -- declining to participate in every state exchange where the companies operate.

Comments from Aetna about the Obamacare exchanges during the earnings conference call were much more measured than statements made by CEO Mark Bertolini recently. In a CNBC interview two weeks ago, Bertolini said, "There's so much wrong, you just don't know what's broken until you get a lot more of it fixed." He added that development of the exchanges has been "all on the fly."

During the call, though, Bertolini stated only that "there are widely publicized challenges" relating to the exchanges and that "Aetna has maintained an active dialogue with members of all levels of the administration." He went on to add that "success of the program remains to be seen."

The reality is that Aetna's exposure to potential issues with the exchanges is quite limited despite its participation in several states. Individual insurance makes up a small part of the company's business. In the state exchanges where Aetna is involved, the company focused primarily on catastrophic and low-cost bronze plans that don't provide as much coverage. 

Looking ahead
Aetna mentioned considerable uncertainty going into 2014. The Medicare cost challenges will continue to play an important factor in the company's success. Obamacare's impact will certainly be felt.

The primary issue I see for Aetna and the other major insurers is that so much is out of their control. A delay in the individual mandate, for example, could be in the works if the Obamacare exchanges continue to experience major issues. Such a move would likely hurt the stocks of all of the companies, even though Aetna shouldn't feel the sting as much as some would.

But Aetna has good opportunities -- particularly with its acquisition of Coventry. Over the long term, the company should do well. Aetna's performance over the next year, though, like Mark Bertolini's comment about success for the Obamacare exchanges, remains to be seen.

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