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HMO takes turn for worse
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August 6, 1998: 3:53 p.m. ET
United HealthCare 2Q charge prompts stock's retreat, puts merger in doubt
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NEW YORK (CNNfn) - Shares of United HealthCare Corp. took a dramatic turn for the worse Thursday after the managed health-care company surprised Wall Street with a $900 million earnings charge.
The news, which cast renewed doubts on the company's pending $5.5 billion merger with Humana Inc., sent shares of United HealthCare (UNH) plunging 19-3/4, or more than 37 percent, to 33-1/8 in afternoon trading on the New York Stock Exchange.
The negative second-quarter earnings report dragged Humana (HUM) down with it. Shares of the Louisville, Ky.-based health maintenance organization plummeted 9, or nearly 35 percent, to 16-3/4 at midday on the Big Board.
"The timing and magnitude of this ($900 million) charge was a surprise," said Morgan Stanley Dean Witter analyst Todd Richter. "The fact that they are taking the charge now makes you wonder how far they would have (missed their mark) for the quarter. It really calls the quality of the earnings into question."
More importantly, he said, it calls into question the pending merger of United HealthCare and Humana.
"This really increases the chances that United's merger (with Humana) doesn't happen," he said.
United announced its intent to merge with Humana in May. With Humana's 6 million managed care customers, the deal would give the company a competitive edge against such industry giants as Aetna Inc.(AET).
Earnings
United HealthCare, of Minneapolis, lost $565 million, or $2.96 a share, in the second quarter, reflecting a $900 million "operating realignment" charge.
According to the company, the charge will cover the costs of shedding non-core business units and product lines, the termination of some contracts, and workforce reductions. The company did not disclose the number of jobs it will eliminate.
United did say it expects the restructuring to yield cost savings of up to $150 million next year and up to $300 million by the year 2000.
The company's president, chairman and chief executive officer, William W. McGuire, said second-quarter results reflect "reasonable performance from continuing operations in all our business segments offset by negative results in a number of our Medicare initiatives."
"We are taking action to resolve these issues at this time," he said.
Excluding the charges, United HealthCare earned 66 cents a share for the quarter, in line with analysts' expectations.
Analysts, however, say the company's terse explanation of its restructuring charge did nothing to clarify its financial situation.
"We were expecting closer to a $400 million or $500 million charge, so when you have that kind of divergence, Wall Street wonders if there aren't some things they threw in there that are operational in nature," said Bear, Stearns analyst Gary Frazier. "There is a sneaky cynicism in wondering what is really in there? What are they masking?"
Moreover, Frazier said, the company's medical loss ratio came in at a 91 percent, significantly higher than analysts' predictions of 85 percent.
"That was significantly worse than anticipated and it was largely driven by higher-than- expected medical costs in their start-up Medicare markets and lower-than-expected premium yields," he said. "They made the earnings per share consensus, but people are looking ahead."
The unexpected charge means analysts will have to lower their estimates going forward. If the Humana deal falls through, he said, they'll have to dramatically revise their estimate "models."
Health care
Like most health care stocks, Richter said, he has not recommended United HealthCare shares for some time.
"I have not been a fan (of the stock)," he said. "They are in a tough business and people believed they were somehow Superman. They traded at a premium valuation to other companies in the business and I don't believe it's been deserved."
Health care stocks, which surged during the economic recession in the early 1990s, have suffered debilitating blows ever since.
"Managed care has not been the magic bullet that everyone had hoped for," said Michael LeConey, health-care analyst for Dirks & Co. "People have gotten catatonic about health care stocks and news like this doesn't help."
Some, though, say that may be about to change.
"There have been a lot of surprises lately from HMOs and none of them have been good.," LeConey said. "But I think we are at the end of a long, difficult cycle for HMO stocks."
United's unexpected realignment charge, he said, was likely designed to clean up the company's books in preparation for the merger.
"When the smoke clears, it'll be something that needed to be done that will set the stage for moving ahead with the Humana deal," he said, noting the merger is still far from complete.
"I'd say that deal is probably still in the cards," he said.
Richter, of Morgan Stanley Dean Witter, said rising health-care costs have been the root cause behind the underperforming health care sector.
"Every company in this business has the same problem and it's very worrisome," he said. "I believe these rising (health-care) cost trends will continue to accelerate and until these (HMO) companies start raising their prices dramatically there is no light at the end of the tunnel."
The Viagra hit list
Separately, Humana Thursday joined the hit list of health insurance providers being sued for refusing coverage of Viagra, the male impotence drug.
A Spring Hill, Fla., man filed suit against the company seeking declaratory relief and damages resulting from the denial of coverage.
Similar suits have been filed against Aetna Inc.'s Aetna/U.S. Healthcare and Prudential Insurance Co. of America. 
-- from staff and wire reports
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