--Shortfall in reserves to cover prior claims sparks first-quarter loss
--Company blames delays caused by new government-required claims-processing system
--Company expects predictable health-cost trends going forward
(Updates throughout with details on results, company and analyst comments.)
By Jon Kamp
Health Net Inc. (>> Health Net, Inc.) posted an unexpected first-quarter loss after miscalculating how much money it needed to set aside to cover medical claims, sending its shares into a sharp dive Thursday.
Shares of the Los Angeles-based insurer, which also cut its full-year guidance Thursday, plunged 25% to $27.26, losing about $750 million of its market value. The news also weighed on other managed-care stocks, as Health Net's troubles highlighted long-standing investor concerns about insurers' ability to predict future costs and charge the right prices.
In this case, Health Net said it was tripped up by a government-mandated changeover to a new coding system that caused "significant delays" in incoming claims late last year. The company was also prepared based on early-year trends for weakening health costs in its commercial business, but instead there was an "unanticipated flattening," Chief Executive Jay Gellert said on a conference call.
Health Net is "deeply disappointed in the first-quarter results," he told analysts. "All of us know that we now have to execute consistently through '12 to regain your trust."
Insurers set aside money for expected health-care costs, and then figure out later on--once claims filed by doctors arrive--whether their reserves were adequate, too low or too high. While excess reserves can pad earnings, a shortfall can sting.
In this case, Health Net said it recorded a $67 million hit to cover the shortfall in the first quarter, when it sorted out what happened with claims late last year. Gellert suggested Health Net has particular vulnerability here because it doesn't get claims directly, but rather entirely through outside clearing houses, obscuring the company's view.
Health Net indicated this problem--though expensive in the short term--is in the rear-view mirror. The company said health-care cost trends should be predictable through the rest of this year. CEO Gellert said the company remains confident that its pricing adequately reflects medical claims trends.
He even said Health Net was willing to shed some commercial customers to avoid setting prices too low. He cited some "aggressive pricing" in the market, but said Health Net will remain conservative.
Still, the company's rocky quarter generated plenty of questions. "The surprisingly poor performance in Q1 leaves us little choice but to step aside until we see evidence of an improvement, all else being equal," Wells Fargo analyst Peter Costa said in a research note. He downgraded Health Net to market perform from outperform.
The company reported a first-quarter loss of $26.6 million, or 32 cents a share. The loss narrowed from last year, when the company was hit by a big litigation charge, but analysts were expecting a much better quarter.
The company's key Western Region and Government Contracts businesses--which represent the vast bulk of overall sales--produced earnings of 10 cents a share in the recent quarter, down from 77 cents a share a year ago.
Health Net recently sold a Medicare prescription drug-plan business to CVS Caremark Corp. (CVS), and counts it as a discontinued operation. The recent quarter also included expenses pegged to that transition and the company's previously sold Northeast operations.
Revenue sank 16% to $2.83 billion, mainly because of a change in Health Net's contract with the government that went into effect last year.
Health Net's lowered guidance now calls for earnings of $2.35 to $2.50 a share for the Western Region and Government Contracts businesses, down from the $3.30 to $3.40 per share target set in February.
-By Jon Kamp, Dow Jones Newswires; 617-654-6728; [email protected]