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Centene Corporation CNC 12 November 2019 Equity Research Americas | United States Centene Corporation CNC Views on HIX, Medicaid Redeterminations, and 2020 Outlook Target price (12M, US$) 57.00 Managed Care | Earnings Neutral ■ Views on HIX Margin: We hosted CNC’s SVP of Finance and IR, Ed Kroll, for meetings Price (11 Nov 19, US$) 53.96 at the 2019 Credit Suisse Healthcare Conference in Arizona. In 2018, CNC was at the 52-week price range 73.42 - 42.73 high end of its 5-10% margin range for its HIX business, due to pricing. CNC consciously Market cap (US$ m) 22,328.44 brought that margin down in 2019. The company believes the midpoint of its 5-10% target Enterprise value (US$ m) 22,870 margin range (7.5%) is sustainable. Based on competitor filings, CNC believes it will be able to maintain its margin level and grow the top-line in 2020. In 2018, CNC’s HIX Research Analysts premium increases were 25%, on average, which baked in the dollars for the removal of A.J. Rice CSRs; in 2019, CNC’s HIX premium increases were in-line with cost inflation (3-4%) and 212 325 8134 in 2020, HIX premium increases were a bit lower (2-3%). CNC doesn’t believe the lower [email protected] level of premium increase for 2020 will put pressure on profitability – CNC’s goal is to maintain its margins at the midpoint of its target range. Eduardo Ron 212 325 7491 ■ Increased HIX Retention Could be Due to Redeterminations: CNC believes that [email protected] some of the increased retention on its HIX business has to do with the redeterminations on Jailendra Singh the Medicaid business. A certain number of individuals (e.g., seasonal workers) move back 212 325 8121 and forth during the course of the year and the scrutiny level amongst states is much [email protected] higher. When an individual is in Medicaid, a person has no premium; however in HIX, an individual has a premium; CNC believes some individuals were aggressive in determining Alexander Khan their household income and states denied applications for Medicaid coverage and therefore 212 325 7714 those individuals are maintaining their exchange coverage. [email protected] Caleb Harris, CPA ■ 2020 Outlook Didn’t Fully Reflect HIX Retention Experienced. Centene noted that 212 325 7458 the $4.79 estimate for 2020 that is in its S-4, which came out in May, was developed just [email protected] as the company was experiencing higher persistency on the exchanges and the company had only reported its 1Q19 earnings by that point so it likely doesn’t take into account the full level of persistency it has experienced ■ Update on WCG Deal. With respect to its WellCare deal, CNC is currently awaiting approvals from Illinois and New Jersey. CNC believes that if it needs to divest assets in Illinois that there is a buyer in the state. The company notes that it doesn’t have any business in New Jersey. In Georgia, CNC notes that the state may issue an extraordinary Share price performance interim RFP to add a fourth MCO once the WCG deal is complete to bring in a fourth plan. Financial and valuation metrics Year 12/18A 12/19E 12/20E 12/21E EPS (CS adj.) (US$) 3.53 4.35 4.80 5.40 Prev. EPS (US$) - - - - P/E (x) 15.3 12.4 11.2 10.0 Revenue (US$ m) 60,146.0 73,851.4 79,402.0 82,966.6 On 11-Nov-2019 the S&P 500 INDEX closed at 3087.01Daily Nov12, 2018 - Nov11, 2019, 11/12/18 = US$68.79 P/OCF (x) 18.6 9.5 7.8 7.5 ROIC (%) 10.53 12.05 13.57 15.23 Number of shares (m) 413.80 Dividend yield (%) - Quarterly EPS Q1 Q2 Q3 Q4 2018A 1.08 0.90 0.89 0.69 BV/share (12/18A, US$ m) 27.7 2019E 1.39 1.34 0.96 0.66 Source: Company data, Refinitiv, Credit Suisse estimates 2020E 1.56 1.33 1.14 0.78 DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, LEGAL ENTITY DISCLOSURE AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. 12 November 2019 Centene Corporation (CNC) Analyst: A.J. Rice Price (11 Nov 2019): US$53.96 Target Price: 57.00 Rating: Neutral Income Statement 12/18A 12/19E 12/20E 12/21E Company Background Revenue (US$ m) 60,146.0 73,851.4 79,402.0 82,966.6 PBT (US$) 1,820 2,177 2,882 3,170 Headquartered in St. Louis, MO, Centene is a diversified multi-national Income taxes (579) (553) (1,028) (1,037) Profit after tax 1,241 1,624 1,855 2,133 healthcare company that provides services to government-sponsored Minorities 6 5 (2) (2) healthcare programs. The company operates across two business Net profit (US$) 1,247 1,629 1,853 2,131 segments: Managed Care and Specialty Services. Reported net income (US$) 1,247 1,629 1,853 2,131 Other NPAT adjustments 0 0 0 0 Adjusted net income 1,247 1,629 1,853 2,131 Blue/Grey Sky Scenario Cash Flow 12/18A 12/19E 12/20E 12/21E Net interest (343) (399) (404) (396) Change in working capital (171) 691 464 312 Cash flow from operations 1,234 2,400 2,951 3,099 CAPEX (675) (739) (754) (747) Free cashflow to the firm 559 1,661 2,196 2,353 Acquisitions (2,055) 0 0 0 Divestments - - - - Cash flow from investments (4,585) (1,796) (1,404) (1,164) Net share issue(/repurchase) 2,708 0 0 0 Dividends paid 0 0 0 0 Changes in Net Cash/Debt (717) 802 2,125 2,307 Balance Sheet (US$) 12/18A 12/19E 12/20E 12/21E Assets Cash & cash equivalents 5,342 6,144 8,269 10,575 Account receivables 5,150 5,539 5,955 6,222 Other current assets 1,506 1,772 1,906 1,991 Total current assets 11,998 13,455 16,130 18,789 Total fixed assets 1,706 1,807 1,899 1,972 Investment securities 6,861 7,754 8,337 8,711 Total assets 30,901 34,117 37,605 40,800 Liabilities Total current liabilities 11,971 13,154 14,100 14,723 Total liabilities 19,878 21,279 22,336 23,030 Our Blue Sky Scenario (US$) 72.00 Shareholder equity 11,023 12,838 15,268 17,770 Total liabilities and equity 30,901 34,117 37,605 40,800 Our blue sky valuation of $72 equates to 15x our pro-forma 2020 EPS Per share 12/18A 12/19E 12/20E 12/21E estimates driven by incremental Medicaid contract, stable to positive No. of shares (wtd avg) 398 421 427 430 enrollment and margin trends in public exchanges and Medicare CS adj. EPS 3.53 4.35 4.80 5.40 Prev. EPS (US$) - - - - Advantage businesses. Dividend (US$) 0.00 0.00 0.00 0.00 Free cash flow per share 1.40 3.95 5.15 5.47 Our Grey Sky Scenario (US$) 43.00 Earnings 12/18A 12/19E 12/20E 12/21E Sales growth (%) 24.3 22.8 7.5 4.5 Our grey sky valuation of $43 equates to 9x our 2020 standalone EPS Net profit growth (%) 55.6 30.7 13.7 15.0 estimates, driven by a deal rejection scenario and loss of some major EPS growth (%) 38.7 23.1 10.4 12.4 Medicaid contracts, margin deterioration and/or earnings drag driven by Pretax margin (%) 3.0 2.9 3.6 3.8 Net margin (%) 2.1 2.2 2.3 2.6 public exchange business and Medicare Advantage expansions. Valuation 12/18A 12/19E 12/20E 12/21E P/E (x) 15.3 12.4 11.2 10.0 Share price performance Price to book (x) 2.0 1.8 1.5 1.3 Asset turnover 1.9 2.2 2.1 2.0 Returns 12/18A 12/19E 12/20E 12/21E ROE stated-return on (%) 13.9 13.7 13.2 12.9 ROIC (%) 10.5 12.0 13.6 15.2 Gearing 12/18A 12/19E 12/20E 12/21E Total Debt to Capital (%) 37.8 34.2 30.5 27.3 Interest coverage ratio (X) 5.6 5.4 7.1 7.9 Quarterly EPS Q1 Q2 Q3 Q4 2018A 1.08 0.90 0.89 0.69 2019E 1.39 1.34 0.96 0.66 2020E 1.56 1.33 1.14 0.78 On 11-Nov-2019 the S&P 500 INDEX closed at 3087.01 Daily Nov12, 2018 - Nov11, 2019, 11/12/18 = US$68.79 Source: Company data, Refinitiv, Credit Suisse estimates Centene Corporation 2 12 November 2019 Detailed Management Meeting Takeaways 2019 Results vs. Expectations Relative to expectations coming into 2019, CNC’s exchange enrollment came in better than expected. Specifically, CNC entered the year expecting revenues of $10 bln for its HIX business and now, due to the persistency of its membership base, now sees HIX revenues at roughly $11.5 bln for 2019.
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