WellPoint Inc. (WLP:US)’s $4.9 billion deal for Amerigroup Corp. is a bet that health insurers can profit from Medicaid coverage for the poor even after the U.S. Supreme Court put the program’s future growth up in the air.
WellPoint, the second-largest U.S. plan, said yesterday it would buy the rival carrier for $92 a share in cash, a 43 percent premium to Amerigroup’s closing price July 6. Investors responded by sending Medicaid insurers WellCare Health Plans Inc. (WCG:US) and Centene Corp. (CNC:US) to their biggest gains in years.
WellPoint Chief Executive Officer Angela Braly’s sees “unprecedented growth” for Medicaid plans, even as Republican governors vow to resist an expansion pushed by President Barack Obama that would add as many as 17 million new members. If Obama’s plan isn’t implemented fully, the industry still may gain tens of billions of dollars in business as cash-strapped states turn to insurers to manage their programs, company executives said.
“This deal is all about future revenue growth,” Carl McDonald, a Citigroup analyst in New York, said of the Amerigroup acquisition in a note to clients. “The Medicaid expansion in 2014 is the smallest of the growth opportunities the industry has.”
The Affordable Care Act, passed in 2010, would expand the joint state-federal health program for the poor by raising the amount of income people can make and qualify for coverage. While that may add $80 billion in new revenue by 2016, insurers will gain $150 billion more in expanding services to existing members, said Jesse Hunter, an executive vice-president at St. Louis-based Centene, at a June 14 conference.
“We have an expectation and a belief that the opportunities in Medicaid are going to continue no matter what,” Braly told reporters yesterday. “We’re creating value for the states and beneficiaries and that is a compelling story no matter what happens.”
Insurers’ shares yesterday reflected that potential. WellCare, based in Tampa, Florida, jumped 18 percent in New York trading for its biggest one-day advance since July 2008. Centene rose 20 percent in its biggest increase since October 2006. Long Beach, California-based Molina (MOH:US) Healthcare Inc., which also specializes in Medicaid, increased 18 percent.
WellCare rose 1.1 percent to $63.24 at the close of trading today in New York, Centene declined 1 percent to $34.41, and Molina dropped 3.3 percent to $26.22. WellPoint, based in Indianapolis, fell 1.3 percent to $61.14.
Industry predictions aside, the Supreme Court threw a wild card onto the table with its June 28 ruling. In an opinion that upheld most of the law, the justices said the administration can’t strip current Medicaid funding from states that don’t want to comply with the expansion.
Republican governors in Florida, South Carolina, Louisiana, Iowa and Mississippi have said they’ll opt out, and others have expressed skepticism with Obama’s prescription. In Texas, Governor Rick Perry called the court’s approval of the law “a stomach punch to the American economy” and said yesterday he’d decline to expand Medicaid.
While the law requires the federal government to pay at least 90 percent of the added costs, the governors said they don’t trust Congress to maintain that funding, or don’t want to extend a system that already eats up too much of their budgets.
“If you were looking for certainty, you didn’t get it” from the court ruling, said Chris Rigg, an analyst at Susquehanna Financial Group in New York, in a telephone interview. “If you get a grass roots movement by Tea Party types telling a conservative governor, ‘you’re not doing the Medicaid expansion or we’ll run you out of office,’ he may not do it. There’s no way to say for sure.”
Mitt Romney, the presumptive Republican presidential nominee, has vowed to repeal the entire health law if elected, as have the party’s leaders in Congress.
Florida and Texas were projected to add 3 million people to Medicaid, said Vern Smith, managing principal at Health Management Associates, a Lansing, Michigan, consultant to states and health plans.
Almost all of the added members would be on plans managed by insurers, he said.
“There are many states where it is automatic, they will do it without question,” Smith said. “There are some others where the politics might trump the economics and the health policy objective of universal coverage.”
Molina, which operates Medicaid plans in nine states including California, Texas and Florida, was “looking at probably tripling” its enrollment before the court ruling, Chief Financial Officer John Molina said.
Now, “it’s probably going to be less,” he said in a telephone interview. One caveat, he said, is if governors who say they won’t expand the program change their minds after the November elections.
“Part of me says it’s really hard for states to turn down those kinds of federal dollars, because states and counties still have responsibility for health care for these folks,” said Molina, whose father founded the company in 1980.
For WellPoint, the agreement to buy Amerigroup would have happened no matter how the Supreme Court ruled on the 2010 health-care law that includes the Medicaid expansion, Braly said yesterday on a conference call with analysts.
That provision, set to take effect in 2014, “is only one element here,” she said.
WellPoint approached Amerigroup about the acquisition (WLP:US) and made a high offer to pre-empt any other bidders, a person familiar with the deal said in a telephone interview. Amerigroup, based in Virginia Beach, Virginia, wasn’t for sale or running an auction, said the person, who asked not to be identified because the discussions were private.
WellPoint may receive a termination fee of $73 million if Amerigroup finds another acquirer, according to a regulatory filing today. Amerigroup may be required to pay $146 million if the company breaks off the deal for other reasons, the WellPoint filing said.
It’s a deal that “makes sense,” wrote Jason Gurda, a Leerink Swann & Co. analyst in New York, in a note to investors yesterday. It “diversifies WellPoint’s revenue away from its commercial business while expanding the company’s participation in the substantial Medicaid growth opportunity.”
WellPoint currently gets about a quarter of its operating income from plans sold to small businesses and individuals, markets where profit margins are likely to suffer under new regulations from Obama’s health-care law, Gurda said. The trade- off in the deal may be less opportunity for share buybacks and dividends, he wrote.
For WellPoint and its rivals, the biggest prize may be the so-called dual eligibles, people covered by Medicaid and Medicare, the U.S. program for the elderly and disabled. They tend to be the oldest and sickest patients and governments are desperate for a solution to control their costs, said WellPoint’s Braly.
About 9 million people fall into the category, accounting for $300 million in health-care spending a year.
“What we’re seeing at the state level is we’re reaching a tipping point where they recognize the value of private-sector involvement,” said James Carlson, Amerigroup’s (AGP:US) CEO, on a call with reporters. “Regardless of whatever happens with the elections, those facts remain,”
Analysts still expect Medicaid insurers to thrive under the health law. Amerigroup may see last year’s revenue double to $12.4 billion in 2014, when the additional coverage is due to kick in, according to estimates (AGP:US) compiled by Bloomberg before yesterday’s deal. Centene’s sales may double to $11.5 billion while Molina is expected to boost revenue by 65 percent to $7.87 billion, analysts estimate.
The law, passed by Democrats over united Republican opposition, ordered states to open the program to people making as much as 133 percent of the federal poverty limit, or about $30,657 for a family of four this year.
Based on current contracts, Amerigroup may have the most to lose if states stay on the sidelines, said Rigg, the Susquehanna analyst. Eighty-five percent of its enrollment in is Republican- led states, with 47 percent in Texas, Louisiana and Florida, Rigg said. For Centene, the figures are 91 percent and 49 percent, he said.
Incumbent contractors usually do well at winning new business in a state, so existing business is a good proxy for where the companies are most likely to expand, Rigg said.
Eventually, Medicaid expansion will probably go forward everywhere, Rigg said. Health plans, hospitals and doctors will lobby hard to persuade state officials to participate. For now, the analyst said, investors will have to deal with some uncertainty.
“At this point, the consensus is probably correct that one way or another the Medicaid expansion will happen,” he said. “It’s just at what political costs, and when?”
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