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Aetna Shakes Off Cost Bug

It isn't laid low the way rival UnitedHealth was.



rose 5% after first-quarter numbers showed the big health insurer isn't being hit by the rising medical costs seen at rivals


(UNH) - Get UnitedHealth Group Incorporated Report





The Hartford, Conn., managed care giant on Thursday offered a bullish first-quarter update, reporting solid membership growth and stable medical cost trends. The company's net income rose 8.2% to $435 million, with earnings per share of 81 cents beating the consensus estimate by 4 cents.

Aetna's full-year outlook has improved as well. The company's new earnings guidance sits at $3.35 a share, comfortably ahead of the $3.29 consensus estimate.

"Our strong financial results in the first quarter demonstrate that our disciplined strategy of profitable growth is working," Aetna CEO Ronald Williams said. "Our customers and members clearly are responding to Aetna's value proposition of providing high-quality products and services and superior medical management capabilities that help manage costs.

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"Those factors, as well as the steps we have taken to diversify our revenue and earnings, led to a strong performance across all of our health care product lines."

Aetna's first-quarter revenue, up 7% to $6.7 billion, did fall a bit shy of analyst targets. But other key metrics looked strong. The company added 270,000 members in the first quarter, bringing its total membership base to 15.7 million. At the same time, the company managed to keep its medical costs under control, with its commercial medical benefit ratio coming in at 79.6% -- barely rising from a year ago. The company's total MBR of 80.7%, which includes government business lines, held relatively steady as well. The ratios reflect the proportion of premium dollars spent on patient care.

"Our disciplined pricing and medical management initiatives led to a very positive commercial medical benefit ratio," boasted Aetna CFO Joseph Zubretsky. "Aetna's continued growth in medical membership, revenue and earnings in the first quarter demonstrates our focus on delivering superior financial results."

Yet even some industry bulls felt cautious ahead of this season's reports, especially after UnitedHealth posted a troubling spike in its commercial medical loss ratio. They feared undue pressure on the stocks whether the companies enjoyed strong earnings growth or not.

"Managed care has had a big run this year, and this probably isn't the time to be chasing the stocks," CIBC World Markets analyst Carl McDonald warned on Tuesday. "Earnings haven't always been kind to the group, so we'd wait for a pullback to get more aggressive."

Moreover, McDonald added, "UNH has already missed its MLR projection -- and it probably won't be the only company to do so."

Still, McDonald singled out Aetna as the safest name to focus on this time around. He portrayed Aetna's own MLR projections as conservative and the market's expectations for the company as rather low. To illustrate his point, he noted that Aetna trades at a 10% discount to its peer group. He estimated the real value of Aetna's stock at $50 a share even after accounting for the company's cost trend problems last year.

Shares rose $2.26 Thursday to $47.26.

McDonald has an overweight rating on the managed sector as a whole. His firm seeks to do business with the companies it covers.

UBS analyst Justin Lake felt comfortable about Aetna's looming update as well. Lake assumed that investors would obsess over Aetna's commercial MLR -- and even predicted an uptick in that metric -- but looked for an "uneventful" report compared to last year's surprises.

Lake even felt that Aetna could enjoy a favorable prior-period development, avoiding the reserve problems experienced by UnitedHealth, as well. He estimated that positive reserve adjustments could add as much as a dime per share to Aetna's earnings over the course of the full year.

"With 2007 expectations somewhat dampened by concerns over membership and MLR, we expect the stock to climb a 'wall of worry' this year on in-line MLR and EPS results, buoyed by the added EPS 'cushion' of prior-period development and share repurchases," Lake wrote on Tuesday. Thus, "Aetna remains our top pick in the space from a risk/reward basis."

Lake values Aetna's stock at $56 a share. His firm has investment banking ties to the company.