WLP - Wellpoint

[Drokos]

Hi Folks,

 

I've been reading the forum for a while now, so I figured it was time for me to contribute. Here is my largest position right now:

 

I am bullish on the whole managed care industry, but I think Wellpoint is uniquely positioned to be one of the best investments in the space. Healthcare reform has created uncertainty in the industry and scared away a lot investors, which is understandable. It's much easier for investors to just avoid the industry as it goes through reform, but I believe it has presented a compelling opportunity.

 

Industry Overview: Managed care is a different beast than most traditional types of insurance. Traditional insurance is designed to reduce financial uncertainty for consumers. Managed care firms do that too, but there is an additional component in that they add value by reducing costs. They are more informed buyers and have negotiating power with hospitals.

 

One way I look at it is, if you had $1 billion in the bank, you would have no reason to buy life/car/home insurance, since the expected value of purchasing those products would be a negative return(unless of course you are gaming the system and know you are a high risk and can be subsidized by those that never have claims). However, there would still be reason to buy health insurance.  As uninformed buyers, an individual would have no idea if the $35k they were charged for a hip replacement was price gouging and you should push back, or whether they charged you for unnecessary test that you should challenge, and of course you have no bargaining power. By going through a managed care organization, your amount paid will be reduced.

 

Managed care firms do not experience wild swings in underwriting, and they consistently pay out 80-85% of premiums as medical costs.  On an oversimplied view, I just look at it as MCOs collecting 15% of healthcare spending, as HC spending continues to grow so will their cut.

 

That value-add process of managing healthcare creates significant barriers to entry. The existing firms have relationships and contracts in place with hospitals. If a new comer was even able to get a hospital to talk to them, they would not be able to negotiate nearly as attractive prices as the large established players.

 

Why WLP specifically:

1. One of cheapest – The stock trades at less than 8x earnings. The firm has historically been poorly managed(from an execution standpoint, not capital allocation), which I believe has caused it to trade at a discount to its peers. However, its CEO was fired late last year and a new one has just taken over.

2. Scale – As the second largest firm by # of members, Wellpoint has advantages over the competition. Scale benefits allow MCOs to leverage administrative and back office costs across a larger membership base, but you also want to be the leader within specific regions/states because it gives you more negotiating power over local healthcare providers. Having a few customers in 50 different states is not as advantageous as having the same number of members concentrated in just one or two states. Wellpoint holds leading positions in the states it has a presence in.

3. Well positioned for Obamacare implementation - The newly insured Americans are largely going to be entering the individual market and the Medicaid market. Wellpoint licenses the highly respected and well known Blue Cross Blue Shield name in a dozen states, which should give it a leg up on the competition when going after individuals. It also recently acquired Amerigroup to give it a strong presence in the Medicaid market.

4. Cannibal – Since I believe shares are significantly undervalued, I have been pleased to see the board aggressively repurchasing shares over the past few years. Share count has fallen from ~550m to ~300m from 2007 until now. The initiated a dividend in 2010 and has raised it, which I do not love, but it still has been able to very aggressively buyback stock.

 

[Palantir]

Fascinating idea! I don't have anything to add, but will have to munch on this between CFA studying.

[no_free_lunch]

I like the idea.  I got a decent chunk in Aetna myself.  It is another cannibal with low PE.  When I was looking it seemed that it was more efficiently run than wellpoint with higher margins.

 

The one thing that people keep talking about with the health insurers is these insurance exchanges.  To me it is not clear that these will be so destructive and they will only be implemented in select states.  Either way I figure people are competing for insurers.  The one with the biggest scale should win.

[no_free_lunch]

There was also some talk about the health insurers getting penalties if they don't pay out 80-85% to actual insurance (I don't recall the exact number).  I was never able to figure out enough details to do the math, but my impression was that it wouldn't affect Aetna very much (perhaps 5-10% of profits), I never considered the effect on wellpoint.  Sorry for the somewhat random thoughts, just wanted to put out some of the issues if other people are researching this.

[compoundinglife]

Looks like AET, WLP, HUM all are currently around 8-9 times earnings. Maybe a basket approach would be good here? Will have to look into the buyback histories for the others.

[no_free_lunch]

A really good and succinct summary of the health insurers can be found here:

 

http://www.stockbloghub.com/2013/03/23/unh-health-insurance-stock-outlook-march-2013-zacks-analyst-interviews/131202

 

The article has some figures on the potential costs the health insurers face.  I think they will partially pass these costs on to their customers but it is worth knowing their values:

 

Moreover, the annual insurance industry assessment ($8 billion to be levied on the insurance industry in 2014 and it will increase to $14.3 billion by 2018 with increasing annual amounts thereafter) will increase premium cost. Also the temporary reinsurer’s fee ($25 billion to be levied on all commercial lines of business including insured and self-funded arrangements, over a three-year period starting 2014) will increase insurers’ operating costs.

 

[compoundinglife]

Thanks for the feedback, guys.

 

Compounding: Yes, I would agree that a basket approach would probably be a good play. As I mentioned, I am bullish on the whole industry, but if I had to pick a specific horse to bet on, I would take WLP.

 

Lunch: Yes, you are correct that WLP has been less efficient and earned lower margins than AET. There may be some variability due to product mix, but I mostly blame it on poor execution out of the previous management team. As I mentioned, WLP has a larger membership base, so it should be able to earn equal, if not better margins. Since it has been poorly run and margins have trailed the industry, it has the best potential to increase earnings, IMO.

 

I briefly pulled up a few on Value Line and WLP looked the best with regards to buybacks.

[randomep]

WLP is not a stock you can analyze with a spreadsheet and accounting metrics. WLP is the biggest MCO player in Obamacare. It trades at 10 times earnings.

 

With WLP you must decide if Obamacare is going to enrich WLP or if Obamacare will suffocate WLP. I believe the

former. Besides the market is very pessimistic so WLP has a built-in margin of safety going into the main Obamacare rollout.

 

WLP is my largest holding. I wrote about it in my blog:

 

http://bovinebear.blogspot.com/2013/07/wellpoint-and-obamacare-today.html

 

This kind of cloudiness is an equalizer for amateur investors. There is no available inside information, no expert analysis needed. You just need to watch the news, and read the ACA legislation (if you wish), then you just make a call about the future of US healthcare.

 

As I have said before, it reminds me of 2000, when Philip Morris was on the ropes. It was anyone's guess whether MO would survive. And it was a great time to make a contrarian bet which, in hindsight, pays off huge.

 

 

[randomep]

 

Wellpoint was up 5% on earnings news. They increased more than a million members. Earnings were $2.40 / shr, for the whole year they project $8.40. It now trades at $101

 

I am still absorbing the financials and the transcript.

 

I don't know why the 5% jump, but overall I am sensing that the market is reducing the Obamacare discount on MCO companies.....