Humana Inc. (HUM) Q4 2013 Earnings Report, Transcript and Summary

Regina Nethery - Vice President of Investor Relations Bruce D. Broussard - Chief Executive Officer, President and Director Steven E. McCulley - Interim Chief Financial Officer, Principal Accounting Officer, Vice President and Controller James E. Murray - Chief Operating Officer and Executive Vice President

Justin Lake - JP Morgan Chase & Co, Research Division Matthew Borsch - Goldman Sachs Group Inc., Research Division Joshua R. Raskin - Barclays Capital, Research Division Peter Heinz Costa - Wells Fargo Securities, LLC, Research Division Kevin M. Fischbeck - BofA Merrill Lynch, Research Division Ralph Giacobbe - Crédit Suisse AG, Research Division Carl R. McDonald - Citigroup Inc, Research Division Scott J. Fidel - Deutsche Bank AG, Research Division Christine Arnold - Cowen and Company, LLC, Research Division Andrew Schenker - Morgan Stanley, Research Division Sarah James - Wedbush Securities Inc., Research Division David A. Styblo - Jefferies LLC, Research Division Albert J. Rice - UBS Investment Bank, Research Division Ana Gupte - Leerink Swann LLC, Research Division

Good morning. My name is Dawn, and I will be your conference operator today. At this time, I would like to welcome everyone to the Fourth Quarter 2013 Earnings Conference Call. [Operator Instructions] Thank you. Ms. Regina Nethery, you may begin your conference.

Thank you, and good morning. In a moment, Humana's senior management team will discuss our fourth quarter and full year 2013 results and our updated earnings outlook for 2014. Participating in today's prepared remarks will be Bruce Broussard, Humana's President and Chief Executive Officer; and Steve McCulley, interim Chief Financial Officer. Following these prepared remarks, we will open up the lines for a question-and-answer session with industry analysts. Joining Bruce and Steve for the Q&A session will be Jim Murray, Executive Vice President and Chief Operating Officer; and Christopher Todoroff, Senior Vice President and General Counsel. We encourage the investing public and media to listen to both management's prepared remarks and the related Q&A with analysts. This call is being recorded for replay purposes. That replay will be available on the Investor Relations page of Humana's website, humana.com, later today. This call is also being simulcast via the Internet along with a virtual slide presentation. For those of you who have company firewall issues and cannot access the live presentation, an Adobe version of the slides has been posted to the Investor Relations section of Humana's website. Before we begin our discussion, I need to advise call participants of our cautionary statement. Certain of the matters discussed in this conference call are forward-looking and involve a number of risks and uncertainties. Actual results could differ materially. Investors are advised to read the detailed risk factors discussed in this morning's earnings press release, as well as in our filings with the Securities and Exchange Commission. Today's press release, our historical financial news releases and our filings with the SEC are all available on Humana's Investor Relations website. Finally, any references made to earnings per share or EPS in today's call refer to diluted earnings per common share. With that, I'll turn the call over to Bruce Broussard.

Good morning, everyone, and thank you for joining us. This morning, we reported fourth quarter and full year 2013 results for our business segments that were in line with or slightly better than our previous expectations. Although we continue to have confidence in our 2014 earnings projection given the strength of our integrated care delivery model and better-than-expected Medicare membership growth, continued growth in 2015 and beyond will be driven by the degree of headwinds presented by public policies surrounding government programs. The fourth quarter 2013 loss of $0.19 per share disclosed in this morning's press release was predominantly driven by a $0.99 per share expenses for reserve strengthening on our nonstrategic closed block of long-term care insurance policies. Steve McCulley will speak to this in his remarks. However, I would like to also note that this was primarily a noncash charge, which is expected to have little impact on our free cash flow expectations moving forward. Over the past year, we've been focused on optimizing our capital deployment around assets that are an integral part of our strategy. This has resulted in our exit of a number of nonmaterial, nonstrategic businesses and products. This closed block of long-term care insurance policies certainly has no correlation to our strategy. Thus, we are evaluating our strategic alternatives for this asset. This morning, we also reiterated our forecast for 2014 earnings per share of $7.25 to $7.75. As you will recall from last quarter's discussion, the breadth of that range is designed to incorporate flexibility, given the tumultuous environment in which we are operating this year. While we are comfortable with how the many variables are beginning to play out, we are only 36 days into the year, far too early to refine our guidance. My comments this morning will focus on some of the more significant variables impacting our environment, specifically our results from the Medicare Annual Election Period, what we are seeing thus far with our health care exchange offerings and our capacity to address the additional Medicare rate pressure we are expecting for 2015. Now let me begin with our results from the Medicare Annual Election Period. As we indicated in our recent public disclosure, gross sales were meaningfully higher than we had projected and terminations were lower than expected for our Medicare Advantage and standalone PDP offerings. We believe these better-than-anticipated results were primarily driven by the stability our members were able to see in our value proposition and provider networks from year-to-year. As a result, we now expect our combined individual and group Medicare Advantage business net growth to be in the range of 370,000 to 410,000 members during 2014. We've also revised our standalone PDP membership expectations to reflect projected net growth of 450,000 to 500,000 members. We feel confident in our ability to enroll these new members into the proper clinical programs more quickly and effectively than ever before. This is because of a favorable shift in the sources of our new Medicare Advantage members along with the increasing maturity of our clinical programs. Let me provide you details on each of these items. Approximately 54% of our new members were from Medicare Advantage competitors, up from 42% in the prior year and 39% in 2012. Members transferring from other MA plans are likely to already be enrolled in clinical programs, allowing for faster and more accurate coding of their clinical conditions. This is a significant advantage to our members as it expedites the identification, documentation and enrollment of our members into our clinical programs, reducing the time between enrollment and clinical management. In addition, approximately 64% of our net membership growth is in HMO plans and 33% of the new members are in risk relationships. Members in these relationships select a primary care physician during enrollment, ensuring the member receives timely preventative services, as well as chronic management identification, combined with proper documentation that facilitates clinical programs outside the physician office. As I've described in recent earnings calls, our process for identifying members in need of clinical intervention has progressed substantially over the past 2 years. Now we are more proactive and have substantially accelerated identification and outreach processes, as well as enhanced our predictive modeling capabilities. This slide indicates some of the more significant changes we have made to focus on wellness more broadly. The integrated delivery model helps ensure the trend vendor programs inherent in our 15% solution are implemented in a holistic fashion. Our strategic focus on helping providers increase their engagement through risk and path-to-risk arrangements also helps further our members' holistic consumer experience. We expect all of this will improve the related benefit to our members' wellness and further lower health care costs. As this next slide shows, the efforts have come together to produce a significant increase in the number of new members in the Humana Chronic Care Program, or HCCP. At the end of 2013, total HCCP membership was more than 280,000, up from 151,000 at the end of 2012. We believe we can further increase that number to approximately 350,000 by the end of this year. I share this background to support our belief that a higher-than-expected Medicare membership is an even more positive development than it would have been in the past few years. When our early identification and related chronic programs were less mature, it impacted fewer members than they do today. We believe it is prudent to watch and see how this continues to play out as the year progresses, but are cautiously optimistic about the uptake we are seeing thus far. Turning now to a discussion around our health care exchange offerings. The shifting rules and administrative process changes have made enrollment and earnings predictions all the more complex. We, and likely many of our competitors, are seeing much higher retention in our lower premium, non-ACA-compliant plans. This is due to the late-year announcement by HHS, which expanded participation in non-ACA-compliant plans to individuals across the country. We believe this change will result in an overall deterioration of the risk pool in ACA-compliant plans as more previously underwritten members have stayed with their current carriers rather than enter the exchanges. This slide shows the distribution of our membership by metal tier, as well as the composition of our weekly sales activity. As you all know, our metal tier membership continues to shift as the open enrollment period goes on. Although the percentage of enrollees selecting higher metal tier plans in the first month was greater than we anticipated with the 2 additional months of enrollment remaining, we estimate the final enrollment mix will more closely to what we anticipated in our pricing. While still early, as we analyze the demographics of our exchange membership, we are seeing enrollees skewing a bit more to the younger side. This is likely the result of premium-subsidized younger enrollees choosing the lower deductibles offered with the higher metal tier plans. Approximately 82% of our new members are receiving subsidies. This could potentially mitigate some of the adverse impact associated with the risk pool deterioration from our higher membership in non-ACA-compliant plans. We believe we will still be within the broad range for health care exchanges that we included in our 2014 guidance, even considering the impact of the developments I described a moment ago and taking into account our smaller scale and higher customer service costs. Nonetheless, we will be watching carefully during the remaining enrollment period and initial claims experience. The final topic I'd speak to this morning involves the challenges we are continuing to face in Washington regarding sustainable funding for the Medicare Advantage program. We anticipate an initial rate announcement on February 21, that would lower our funding by 6% to 7% in 2015. This incorporates the latest trend data from CMS, previously announced statutory and regulatory adjustments and the impact of the insurance industry fee. During the 2014 annual enrollment period, the industry experienced some disruptions as some of our competitors were forced to lower benefits, exit markets and adjust their provider networks. As a result of the success of our 15% solution, we were able to provide stability to the marketplace for 2014. However, the anticipated 2015 rate reduction, combined with the cumulative historical reductions, could potentially require us to follow our competitors' adverse actions of cutting benefits and exiting markets. This could be disruptive to the program, ultimately reversing some of the program's success in care management, improved outcomes and value-based payments leading to lower costs. In closing, our 2013 financial and operating results demonstrate the strength of our integrated care delivery model. We remain confident in this strategy as shown by reaffirming the 2014 EPS projections we shared with you today. We remain dedicated to continuing to improve the health outcomes for the millions of people we serve. With that, I'll turn the call over to Steve McCulley to review our financial results and capital positioning.

Thanks, Bruce. Looking first at our results for 2013 and excluding the reserve strengthening detailed in our press release and that I will discuss shortly, we are pleased with our solid underlying operating earnings, which were slightly above the midpoint of our previous 2013 earnings guidance range. As you can see from the slide, Employer Group and Healthcare Services pretax income slightly exceeded the top of our guidance ranges, while retail pretax was within its guidance range. Looking at the full year, we are very pleased that we achieved strong double-digit earnings growth across each of our business segments. Our retail segment benefited from membership growth of approximately 7% in both its individual Medicare Advantage and standalone PDP businesses, along with an improved operating cost ratio for the year. Improvement in our Employer Group segment also reflected higher group Medicare Advantage membership, along with full year improvements in both benefit and operating cost ratios. Finally, higher health care services earnings reflected continued growth in our pharmacy business, a full year of earnings contribution from the Metropolitan Health Networks acquisition on December 21, 2012, and our growing home care services business, which were partially offset by planned investment spending associated with our expanding of our primary care footprint. To summarize 2013, we are pleased with the strong underlying performance of our strategic businesses and believe that our progress in 2013 positions us well as we move into 2014 and beyond. Turning next to the strengthening of reserves on our closed block of long-term care insurance policies. We increased these reserves by $243 million, or $0.99 per share during the quarter. This amount is net of approximately $100 million of reinsurance on these policies. As indicated on the slide, the principal driver of the charge was increased longevity and persistency versus our previous assumptions, which totaled $127 million. Having first been sold in the mid-1990s, this closed block of long-term care policies is a relatively immature product and we have a very limited amount of data -- or a very limited amount of our own credible experience, so we use industry data and actuarial tables to set our reserve assumptions. After evaluating emerging industry data and performing a very detailed review of our own experience, we applied recently updated actuarial mortality tables to our current policyholder base, which produced a higher estimate of future expenses. This factor is essentially driven by the increased life expectancy in the United States, combined with the decline in health status of Americans as they age. Accordingly, the average number of years that a person is expected to live with at least one disability has increased markedly in the past 20 years. This specific issue impacts all issuers of long-term care insurance in the United States and is not unique to Humana. Additionally, we have observed an increase in the use of home health care benefits by our policyholders since we last reset our policy reserves in 2010. At that time, our home health care claim experience and the actuarial morbidity tables that we were using aligned well. During 2012, we began to experience a higher level of home health care utilization than before. As a result, we strengthened our claim reserves for policyholders on claim by $33 million at the end of 2012. Over the course of the 2013, we performed a very extensive analysis on our claims in connection with our annual fourth quarter reserve evaluation. This analysis was performed at a much more granular level as we reorganized our data to align with the implementation of new data modeling capabilities. As we modeled our higher level of home health care experience relative to the most current morbidity tables, we concluded that a subset of our policies were driving the majority of the variance, primarily as a result of a richer level of home health benefits than the industry norm. Accordingly, we were able to isolate this issue and quantify the expected impact over the life of these policies, which resulted in the $72 million of additional reserves for future policy benefits. The third factor and remaining $44 million is driven primarily by the lower interest rate environment as we lowered our outlook modestly versus our prior assumptions. It is important to note that this charge is expected to have no impact on run rate current cash due primarily to the utilization of tax loss carryforwards in this insurance subsidiary. IRS tax rules restricted us from deducting operating losses or capital losses from this subsidiary and our consolidated tax returns for 5 years from the date of acquisition. As a result, we were able to utilize cumulative carryforward tax losses for the first time in our 2013 tax return, which generated an additional $161 million of surplus in the insurance subsidiary. When combined with the existing level of capital in this entity, including a $40 million capital contribution we made during the fourth quarter, we believe that this subsidiary is positioned with a strong balance sheet heading into 2014 and beyond. So in summary, we believe the exhaustive evaluation of this closed block of policies that we performed as part of our year-end closing process, combined with the strength in statutory balance sheet, positions this asset favorable going forward. I will note that there has been some limited transaction interest and activity in this space in the past couple of years, and we're certainly evaluating strategic alternatives for this asset, as this business has no bearing on our core operations. That said, we are very comfortable with the valuation of this asset and how it is positioned going forward so we can be disciplined in these strategic evaluations. Turning to our expected 2014 quarterly earnings pattern. This slide shows the timing of the major items that we expect to impact our earnings from quarter-to-quarter. These items include the annually discussed seasonal factors. Most of you are familiar with these individual quarterly impacts. While we do not expect our quarterly earnings progression to be significantly different from recurring historical patterns, we do anticipate a slightly lower earnings run rate in the first half of 2014 due to the continuing ramp-up in our state-based contracts. Turning next to cash flow. We produced operating cash flow for the year of $1.7 billion compared to $1.9 billion in 2012, with the decline primarily reflecting the timing of working capital items, as highlighted in this morning's press release. For 2014, the effect of the 3Rs will impact the timing of our operating cash flows as we expect to build a receivable of $250 million to $450 million that will be collected in 2015. Accordingly, we have revised our 2014 operating cash flow guidance to a range of $1.4 billion to $1.7 billion to include this impact. Any receivable or payable amounts associated with the 3Rs should not have a significant impact on subsidiary surplus or subsidiary dividend capacity. With respect to 2014, we are reaffirming our full year earnings guidance, as well as our segment pretax guidance ranges. As you remember from our prior guidance, we included an EPS range of plus or minus $0.25, which approximates $125 million of pretax from top to bottom. This range is wider than normal to allow for some level of volatility in our planned investment spending, as well as any normal fluctuation that may occur in our core businesses. While we're very pleased with our strong enrollment growth during the recently completed Medicare Advantage annual enrollment season, we're still very comfortable with these wider ranges given that we're only 36 days into the year. Accordingly, for the full year 2014, we continue to see EPS within a range of $7.25 to $7.75 per share, including the previously disclosed $0.50 to $0.90 per share in investment spending for state-based contracts and the individual health care exchange business. As we've discussed before, we expect these investments to position us well competitively and further strengthen our long-term growth prospects. We look forward to updating you on our progress when we report our first quarter results in early May. With that, we will open the lines up for your questions. [Operator Instructions] Operator, please introduce the first caller.

Your first question comes from the line of Justin Lake with JPMorgan. Justin Lake - JP Morgan Chase & Co, Research Division: Questions on the new Medicare Advantage enrollment. Just looking for some color on what the typical margin profile here is of new members in year 1 and how that trends over time. And then I noticed you completed welcome calls with 40% of your new members thus far. Hoping you can share with us what you think the risk profile of these new members looks like versus the typical new members given all the disruption in the market for 2014.

This is Jim Murray, Justin. We've shared with you in the past some of what we've seen with these new members. I would have said that the typical profile is 400 to 500 basis points different than the overall block of business when we first get these folks. One of the things, though, that Bruce shared with you this morning was that many of these new members are coming from some of our competitors' plans, which accelerates the revenue that we get for accurate coding of those members. And so we'll have to see how that plays out over time. So 400 to 500 basis points is a number that I would suggest that we'd seen historically. We haven't seen anything -- we've done a lot of work in the last month or so to evaluate what's been happening during the month of January, and we haven't seen anything in terms of the individuals that we were getting that would suggest that their risk profile is anything different than we've experienced in the past. We are seeing the better revenue related to these members because they're coming from a competitor plan, but I wouldn't tell you that we're seeing anything that would suggest anything negative relative to the claims exposure that we have as an organization.

Your next question comes from the line of Matthew Borsch with Goldman Sachs.

Maybe I could just follow that questioning on the MA growth. Is there any breakout you can give us for where you saw more growth, and in particular, if you've been able to infer where the MA members were coming from in terms of competitors?

Sure, this is Jim again. Some of you have asked about Florida. We did receive a significant membership growth in Florida. It appears that one of our competitors significantly changed their benefit designs and premiums, as well as the network that they had in place prior to this year in the state of Florida. When we evaluate our benefit designs relative to theirs as we exist today, their benefit designs are still a little bit richer than ours. We felt very comfortable with the benefit designs that we had in place in Florida prior to this year. And I think we change benefits modestly because of a lot of the good work that we were doing around the integrated model and some of the other things that Bruce has talked with a lot of you about in the past. We're really excited about the fact that in Florida, 33% of the members that we grew are going into very effective risk relationships that we have with a number of solid risk partners in the state of Florida. And as with all of the membership that we've gotten in our MA block, we've done a lot of study around days per 1,000 pharmacy claims, clinical participation, the risk scores. And through the month of January, we feel very good about what we're seeing as respects not only the entire block, but in particular those related to the Florida growth that we saw.

Yes, Matt, one of the things that I think is interesting this AP is stability. We've seen -- even though we're not the lowest-priced plan in the marketplace, because of our brand and because of the stability of what we have provided that we would -- is really one of attributes of our growth this year. And so as we look at it, it's -- I think it's a good lesson for all of the industry is stability will help grow Medicare Advantage both individually from a customer -- I mean, a company point of view and from an industry overall.

Your next question comes from the line of Josh Raskin with Barclays.

Just want to follow up on Bruce's comments around 2015. I know the prelim rates are coming out a little over 2 weeks and I just wanted to understand your commentary. Were you insinuating that based on your best knowledge now, the down sort of 6% to 7%, is that going to require a change in strategy around your bidding for '15 relative to what you've done in the past? And I guess just looking at 2014 obviously, you had a similar impact in terms of rates but growing, I think, faster than anyone else in the industry. So are you saying the cumulative impact catches up in '15 and there's something different going on relative to what you've seen in the past? Or is it just we're going to continue to have to monitor and manage the business as we've done in the past?

Yes, I mean, first, we are early in the cycle here. So similar to last year when we were earlier in the cycle, we made some general comments and then -- of what our levers are and being able to transition into the -- from those rates. But as we look at what we've accomplished over the last number of years and the pressures on the rates has really been attributed to our clinical capabilities and the great success that our team has been able to provide there. We still have opportunities in those clinical capabilities so I don't want the investors to go away and say we don't have those capabilities. But at the same time, I don't -- those capabilities can't overcome all of the cumulative effect that has taken place along with the rates that are being proposed there. And so what that does is it leaves us with the other lever points that we have and that are around benefit changes and around exiting markets. And when we get into the bid process after the finalization of the rates, we will go through the same analysis we went through last year, what are our capable trend vendors, what are those going to have an effect on, what are the rates that are being proposed or finalized, and then we'll turn to how do we need to modify benefits and what markets do we need to exit. And so I don't want to get into which ones we are going to turn to. I think we have the same levers we had before. We still have capabilities in the trend vendors that we have. Just as we look at the rates and the cumulative effect of that, I don't know if those trend vendors can overcome what's being proposed today.

And is that different than what you said last year, Bruce, not being able to overcome?

At the level that was being proposed early on where they were -- where the rates were considerably -- prior to the fee schedule being included or the -- being included and then the physician fee schedule being included in that, you did hear our commentary around that we have these levers and we are concerned about the rate pressures. But again, we're talking in generalities. I mean, the letter hasn't come out, we still are studying 2014. After everything settles, we're going to begin to start focusing on what are the trend vendor capabilities, and in addition, what markets would we need to exit and what benefit changes we would need in light of whatever the finalized rates are.

Your next question comes from the line of Peter Costa with Wells Fargo.

You said your exchange mix is coming in more in line with what you thought it was going to be originally in terms of how you priced. You talked about the risk profile on your MA enrollment coming in about in line with what you were expecting and what you normally get, yet -- and you've pushed up membership guidance, but you haven't moved your EPS expectations. Can you tell us is that just extreme conservatism at this point or is that something else that you're seeing?

Peter, this is Steve. I think there's still time to play out. We're 5 weeks into the year. We gave some larger ranges knowing that there was going to be some uncertainty as we went into the first quarter around how the exchanges were going to play out, and ultimately, what the risk mix is going to be there. We're very pleased with the Medicare membership, but typically, the margins, as Jim just described, are a little bit lower in the first year. We haven't seen anything there that alarms us, but it's just that it's early in the year, Peter. I think, we've -- there's still -- we gave a wider range knowing that we had a lot of potential little positives and negatives that we had to let play out. So we do feel, like I said, we don't -- we haven't said -- we don't feel uncomfortable with anything that we've seen, so there's nothing negative that we've seen. We just aren't ready to, at this 5 weeks into the year, to give anything more certain.

So at this point, is the higher end of your range more likely than the lower end?

I don't think we're giving a point estimate today, Peter.

Just -- the one thing that I would just throw out there, these investments that we're making are a cumulative run rate of revenue of, I don't know, $5 billion. We're hiring 1,500 people to build up those businesses. Some of them are in areas that we're not as familiar with in terms of what we've done historically. And so I just think we're being prudent with staying where we're at right now.

Your next question comes from the line of Kevin Fischbeck with Bank of America.

I just wanted to go back to Slide 6 and understand this slide a little bit more. I understand the concept of members coming from other plans having better risk coding. But I mean, you could also envision getting a lot of members from other plans being because those plans exited high-cost patients or geographies or you potentially underpriced your business. I mean, are you saying that back in 2012 when this chart kind of looks that much different that most of the high-cost patients were in the other category? And why aren't you worried about the other potential reasons for getting membership from competitors?

Let me start by saying your comment about underpricing our business in Florida in particular. Prior to the growth that we enjoyed this past year, we had a fairly healthy block of business in Florida. And when I say healthy, I meant a very solid, strong, large block of business in all of the different products. We had HMO, we had local PPO and then we had regional PPO. And we evaluated where we wanted our benefit designs and premiums to be based upon a history that was developed from that large block of business in each of those products, and that's what we put out on the streets. And fortunately, for us, we got a lot of new members that shouldn't be significantly different than the block of business that we had in place because I believe we had upwards of 50,000 regional PPO members prior to the growth that we enjoyed, a significant block of local PPO members and hundreds of thousands of HMO members. And so we felt very comfortable with our understanding of the Florida marketplace. And so I just wanted to address your comment about the underpricing our products in the state of Florida.

Well, I guess, were you able to get the cost breakout between other? Is that where the issue in 2012 was? It was mostly high cost in the other category, and that's why you feel like when that gets smaller, that's why?

When we look at some competitor actions, one of our competitors changed their benefits and premiums, their overall economic value that they provided to the members in the state of Florida by over nearly $50 per member per month. And they came very close to what our benefit design was before the start of this year. And so I just throw that out as -- for all of you to evaluate.

I think what the question is highlighting is what's -- in 2012, we had large growth and we -- the clinical utilization was higher than what was expected, and what makes 2014 any different. And I would probably turn to -- our benefits are in line with the marketplace or slightly, I would say, less favorable than the marketplace, and our brand is able to really push the growth to a higher level, I guess, back to the stability side. Second thing is, is that I would say that our relationship with the providers in our marketplace over the last few years has greatly improved too as a result of our path to risk and our shared risk program that we continue to focus on. And so as we see our membership growth, the stability has really allowed the growth to accelerate this year in a very, very uncertain environment. But then on top of that, I would say that our clinical programs that we have as an organization have matured in such a great way. And as you look at our performance in the latter half of 2012 and in 2013, those clinical programs and the success of those clinical programs have expressed themselves in really overachievement of our financial results. And as you look at that, those clinical programs, they position us well to deal with the growth that we're dealing with in 2014. Complementing those clinical growth, the -- I mean, the clinical capabilities is the source of the membership and in really 2 parts: The clinical programs that were from other competitors that have provided the documentation for the members coming in from their plans, it facilitates the coding that usually takes 6 months or so to address; and then secondarily, being in HMO and risk -- shared risk relationships facilitates the clinical aspects to this. So when we look at this book of business, both from the ability of where it's coming from, where it is located within our plan selection and in addition the maturity of our clinical programs, we feel comfortable with the block that's come in and the cohort when compared to 2012.

Your next question comes from the line of Ralph Giacobbe with Crédit Suisse. Ralph Giacobbe - Crédit Suisse AG, Research Division: Can you maybe help us or walk through the assumptions on the 3Rs included in that cash flow guidance? I think you said that you set up what looks like a $250 million receivable for 2015. I guess if you could help sort of walk through kind of the visibility and, I guess, the ability to sort of predict that number at this stage, just some of the dynamics around that would be helpful.

Sure. Thanks, Ralph. This is Steve. We've made our best estimate at that number to be a range of $250 million to $450 million, which is still a fairly wide range because it's very early in the process. The largest component of that is the reinsurance reimbursement, so that is more than half of the number. And then the remainder would be what we might see with the risk corridors and ultimately what risk adjustment is. Of the 3, the risk adjustment is the hardest one to estimate. We do feel like we'll be able to make a reasonable estimate of that at the end of the first quarter and the second quarter based on the data that's available. Those -- the 3Rs tend to work together in that if we, for example, make an estimate for the risk adjustment. And if that estimate then flows into the risk corridor calculation, where if you're outside of the band, there's an 80% reimbursement there. So if you ultimately change your estimate of risk adjustment, then there tends to be an offsetting effect in the risk corridor. So they're not -- they're kind of interrelated to a degree. So ultimately, we've kind of modeled -- we've modeled the different scenarios and that gave us the range of $250 million to $450 million, ultimately, that we think we'll have a receivable on our books by the end of the year. Again, the largest amount of that being the reinsurance reimbursement. The one thing that we point -- that I pointed out on my script to make sure that I'm clear about it is that we have -- as we build receivables for those items, they'll be in our statutory entities, our legal entities, as admitted assets. So they generally don't really impact our cash flow that we'll get from the subsidiaries to the parent. So although they are a reduction of our consolidated operating cash flow, there's not always a lot of connectivity between that operating cash flow and what the parent cash flow is if we end up with receivables that are assets in our subsidiaries that we collect the following year. And that's very similar to what happened when we -- when Part D ramped up back in 2006, we had some fairly hefty risk corridor receivables in the first couple of years of that as well. Does that make sense? Ralph Giacobbe - Crédit Suisse AG, Research Division: Yes, that's helpful.

Your next question comes from the line of Carl McDonald of Citigroup.

Can you talk about your care management capacity? Just making the assumption that you staffed care management broadly to 210,000 lives. And now that the enrollment is going to be 50% higher than that, does the existing capacity able to handle all that new enrollment? Or are you guys out there hiring, getting people trained in sort of on an ongoing basis to handle the new membership?

We've been hiring folks over the last year and have been pretty successful identifying nurse practitioners throughout all of the markets that we operate in, not only for the telephonic chronic management programs, but also the nurses that go into the home, and we also use a lot of agencies as a part of our network. And we've been fairly successful with ramping up. I think Bruce referenced earlier, we have a target of having 350,000 folks as a part of our SeniorBridge/Humana Cares program by the end of the year. And that includes all of the growth that we've just talked about, and we don't feel uncomfortable with our ability to do that.

Your next question comes from the line of Scott Fidel with Deutsche Bank.

Just hoping you can reconcile the change in the cash flow in terms of increasing the assumptions on the 3Rs relative to some of the commentary that you've talked about in terms of the risk indicators that you provided. Is the risk mix -- sort of where do you stand right now in terms of that assumption of where the risk mix is relative to the initial pricing? Do you still view that as more adverse than initially expected and that's why you increased the 3Rs? Or is there another factor driving that increased assumption around the 3Rs and the change to the cash flows?

So this is Jim, and I'll start off and maybe Steve will finish up. I would tell you that because of some of the changes that happened, through no fault of anybody's, but some of the issues that happened with the website initially and then some of the changes that occurred with the transitions -- or the transitional program, we do believe that there was a bit of deterioration in the risk mix that we are going to get as an organization. But as many of you have pointed out in some of your write-ups, the 3Rs give you a significant amount of protection around that. So although there's a deterioration, we believe, in the overall risk mix, which will correct itself in theory over the next several years, and so it's a timing item, that has negatively impacted us to some extent. The other thing that Bruce pointed out that we want to make sure everybody is clear about is that when the size of the exchange marketplace is shrinking and because of the transitional policy, the premiums that we would get on a per-member, per-month basis, our overall revenue assumptions that we started the year with are down. And so we have a bit of a scale issue. We don't have the benefit of some of the size or might of some of the competitors that are in this space. And so when we don't get the revenue that we anticipated and we've built the administrative infrastructure to support that, we have a scale issue, that also is a part of the range that we've put out there with this particular business. And then the other thing that we've learned in the last month or so is that this group of people is very different in terms of service than our existing blocks of business. And it's taken a significant increase in the number of service representatives that we've had to get the folks the answers that they're looking for. And so for all of those reasons, it's -- there has been a bit of a deterioration in risk profile, which will correct itself over time, and then the scale and the administrative issue are some of the things that go into the financial projections that Steve talked about earlier.

Scott, the only thing I would add is that again, the reinsurance recoverable is the largest amount of that. And there's going to be a number there, where almost regardless of the risk selection, it maybe it will get a little larger with a little more adverse risk, but that's just a calculation of the claims that are over a certain specific limit.

Right. And that was a part of our pricing from the very beginning.

Right. There is a -- the limit in the law was, I believe, $60,000. It's been proposed to lower that to $45,000. We've -- and that's part of the reason, again, we have a range of $250 million to $450 million is it encompasses both outcomes.

Okay. So it sounds like there's a pretty significant SG&A component to the revised 3R assumptions, as well as some of the MLR influences?

That's correct. But again, remember, this is 3% of our total revenue. And so we're just dealing and talking about this from that particular aspect.

Your next question comes from the line of Christine Arnold with Cowen.

I'm trying to understand the protection you have with your provider arrangements and your risk arrangements and your path to risk, particularly if the rates in kind of 2015 don't turn out as we hope they will, and if they turn out kind of negative as they were this year. How much protection does your risk membership and the path to risk expected next year protect you? What portion of costs are capitated versus -- these are providers that you own, so the problem kind of flows from the managed care entity to the provider entity but stays with you. How much is independent versus with you?

Christine, you're talking about 2015 now?

Yes, but you can use current number for X percent capitated and we expect to be Y or however you want to express it.

I don't have it offhand. I think it may be in the press release pages, the amount of capitation that we have as an organization. Obviously, when our funding levels are reduced, that flows through to the risk takers that do business with us, as well as to our own owned entities, again, I don't have the percentages. I can tell you that we've had conversations and dialogues with our risk-takers about things that we could do together to help them and us control costs, not only for some of the things that we're dealing with, but also the unit costs that we share together for some of the hospitals that are part of our networks, the specialists that are a part of our network. It's a pretty detailed effort that we go through to help those risk-takers because we don't want to just pass the costs or the funding reductions through to them because that's not being a good partner. And so there's a lot of work that we're doing as we speak, working with those risk-takers on how we can rethink the cost structure that they have and address some of these issues that we face. Again, I don't have the percentages in front of me. Perhaps, the...

Christine, this is Steve, and I know -- I think we've talked about this a little bit in the past. I want to say the risk is around 30%, but we'll look that number up. The one thing I would add to what Jim said is that also in our HMO that's on a path to risk but is still HMO versus PPO, there is a percentage of that cost, the primary care reimbursement, for example, is a capitated reimbursement, as well as the specialty network that most of those -- a lot of the specialty networks that those PCPs operating in is capitated as well, even though the PCP may not be in a full-risk arrangement yet. So there is a -- so we do get a beneficial effect from having just regular HMO even though it's not full risk. So it's hard. I think what you're trying to do is quantify the net impact of all that and maybe we can go offline or go out and try to make an estimate of that. But it's -- but hope that helps.

This is Regina, Christine. Just so you're aware on page, I don't have the numbers directly in front of me, but on Page S-13, it shows the provider counts in the press release, that page is S-13. I believe it's S-19 at the bottom gives the Medicare membership that is covered in risk arrangements.

Right, right. But I was looking more for percent of the cost as opposed to just the membership...

I apologize. Okay.

That's okay. We'll follow up offline, but that's really helpful. I'm kind of estimating about 45% of costs are kind of capitated. But I just kind of -- we can follow up offline.

Your next question comes from the line of Andrew Schenker with Morgan Stanley.

So operating costs in the quarter were higher than I expected. Can you kind of discuss what investments and start-up costs were in the 4Q numbers? And how does that compare to what's assumed for 2014? What should we think as onetime versus run rate?

Andrew, this is Steve. So we did have a number of things in the quarter that were maybe higher than normal. But typically, our fourth quarter operating costs are the highest quarter for us because we have -- it's the selling season for Medicare. So in the Retail segment, if you look at that -- in our Retail segment, our operating cost ratio increases in the fourth quarter as a result of the marketing cost, distribution cost. Because we had such a successful open enrollment season for 2014, there was more distribution cost than normal, more commissions, for example. We also had investments in exchange readiness, both technology and operating expenses in the fourth quarter, the ramp-up, to get ready for the health care exchanges. Also in the Retail segment, we're investing in the duals expansion. As Jim mentioned earlier, there's a significant build-out that we're basically building a duals business that will be a $4 million -- $4 billion plus run rate business by 2015 that we're currently in the process of building, and some of that was in our fourth quarter of 2014 as well. We also, maybe over in the other segments, we had what I would say are some non-recurring type expenses. We did have some severance expenses as a result of some reorganizations that were done primarily in our Employer Group segment. We wrote off a few -- we had a few asset impairments. We wrote down some deferred acquisition costs in our -- in some voluntary -- group voluntary benefits businesses that we had, and maybe a few other smaller things, but nothing individually that was significant. But that's really the driver of why you see the higher operating cost in the fourth quarter.

Okay. Just a follow-up real quick. I mean, when I think about the exchange cost and the dual cost, I mean, are these essentially run-rate costs that you just don't have revenues to offset today? So the costs kind of stay the same, but as revenues ramp, the ratio declines or are these onetime start-up costs...

I think the duals is the former. The duals -- there might be a little bit of onetime cost in the duals, but ultimately, there's cost ahead of the revenue in the duals. In the exchanges, there's a little bit of that same thing, cost ahead of revenue, but I also think there's -- we're in a volatile period around phones ringing and a lot of questions about this new business. I don't know if, Jim, you want to elaborate on that any?

No, I think you said it very well.

Your next question comes from the line of Sarah James with Wedbush.

I'll continue on the duals topic. It's a relatively new area for you guys, and I was wondering if you could talk about what you've put in place to stay on top of the cost, maybe in the way of claims review, technology that looks at specifically high-cost items for the duals population that may not match up with your traditional Medicare book, or assumptions throughout the first year progression on MLR for the duals contract for you guys.

First thing, the duals for us as a company is very aligned with the Medicare Advantage population. I think as most of you guys know, that 25% or so of Medicare is in the duals population. So they're a little sicker, but I would say that they're probably aligned with our chronic program that we already have. So as we think about our capabilities as an organization, we will use the same capabilities that we're using in Medicare Advantage. And that's on the post-65. The one additional capability that we didn't need as an organization for the duals is around the long-term care area, which we both have a partnership with a very capable organization and, I think as everyone knows, we acquired an organization in Florida recently, American Eldercare, that has that capability. So we have added that, and that is -- the integration is going quite well. In regards to the Medicaid population pre-65, I think as the investors know, we have partnered with other firms to manage that population, and we really don't have a lot of active management in the pre-65 or the TANF population. And so as you think about our core capabilities, it's really not in the TANF population, it is in the post-65 population, and it aligns with our Medicare capabilities adding long-term care to that.

And the last part of the question was just the MLR assumptions built into your guidance on the duals.

The overall state-based programs, MLRs, are probably somewhere, when all up and running, somewhere in the 90% range. The admin on this business would probably be a lot lower because of the high revenue that you have on a per-member, per-month basis. I think the margins that we ultimately see ourselves achieving are very similar to some of the margins that you see from the public companies that are in this space.

And just to add to the question on the duals and being prepared for it, 3 of the large contracts will be coming up in the second quarter of this year, in the latter part of the second quarter of this year. And so we, today, are making a lot of investments. And as the point was made before, there's not much revenue coming in as a result of that. But we're preparing for those 3 large contracts during this quarter and in the early part of the second quarter.

Your next question comes from the line of Dave Windley with Jefferies.

It's actually Dave Styblo filling in for Windley. I had a question. I know we've talked a little bit about operating cash flow, but I'd be curious to hear your comments about the parent cash roll forward. I'm also thinking in the context here of seeing a pretty large buyback that you guys made in the fourth quarter, just especially when the stock was at its high. So I'm just curious to see what your thoughts are and strategy around buybacks, as well as how that would look forward into the parent cash roll forward between here and the end of the year?

Sure. This is Steve. Well, number one, our philosophy hasn't changed around capital deployment. We continue to fund our capital expenditures and invest in things that grow the business. And then as we have excess cash, we return it to the shareholders in terms of share repurchasing and dividends, and that philosophy remains intact. I think during the quarter, we repurchased about $200 million worth of shares with the excess cash we had, and we ended the year with parent cash of around $500 million. The -- what we'll do in the next call is update you on our dividends that we received from the subs and give you a more full year outlook on the parent cash and where we're at, at that time. We like to wait until we talk to the rating agencies and get through the -- get through all the statutory filings before we finalize kind of those look-forwards. We are growing the duals business, which does require some subsidiary capital, and we also grew our Medicare business quite nicely as well in 2014. So those 2 things do require capital as we grow those businesses. But I think what we'll do is give you a more fulsome update at the end of the quarter when we have our dividends finalized. Does that help?

Got it.

Your next question comes from the line of A.J. Rice with UBS.

Just maybe go back to the rate notice issue. You got out in front of it in saying the 6% to 7% down was a possibility. Is there anything we can read, either from industry discussions, your discussions with the administration, the fact that they did the December rate -- trend update and gave the industry a heads-up on that to suggest that maybe we'll get some mitigation on that? And to the extent we do, what would you guys look to last year by focusing on the doc [ph] fix? Where would be the obvious places for them to look, if you have any thoughts?

Yes, A.J., I think getting the trend out earlier is, I think, an effort for them to provide more transparency on the process. Last year, one of the areas that the industry worked with them on is how can we become more transparent. And, a, it's not a surprise; and, b, we can work on educating pre the announcement as opposed to doing it during the announcement. And I do have to commend the administration for helping us with that and getting it out earlier and it allows us to understand it. We still have some questions to understand it and in addition, to work with them on where those differences are. I really don't want to get into the speculation on what are the various different components that could be -- maybe alter the rate notice or the projections that we've put out there and let us -- I think the industry is going to begin to work with the administration on this and give us some time to work with the administration because I do think understanding where they're coming from is an important part of that process.

Your next question comes from the line of Ana Gupte with Leerink Partners.

Just following up on the rate again and not so much speculating, but I believe there was a proposal on not accepting just the health risk assessments as data to support risk adjustment. And how does that play into your 15% solution? You have a slide here, which shows that's gone from 20% to 40%. Do you think by 2015, if that went through, particularly for the agents, that it could materially impact your margins?

I'm not familiar with what it is you're pointing to, so we'd have to take that back and look through it and try to better understand it. So I apologize for not being as up to speed on that as I should be.

Okay. Then if you could get back to me on that, that'd be great. I saw this in the Medicare Advantage news, and I think there was a proposal in the December communication as well from CMS. And on the PDP, what gives you comfort now that your guidance has gone 4x compared to your preliminary guidance that there is no issue around your formulary design or something that you had in 2008?

Well, just like I talked -- this is Jim, again, Murray. We've looked at a lot of claims data since the beginning of the year. We understand the population. A lot of the growth was from our existing Walmart plan retention. We had, frankly, anticipated that a lot of the prior Walmart plan members would go to the new Walmart plan. That didn't happen, so we obviously have a good sense for the folks there. And then the new Walmart plan, we feel pretty good about how we're looking at the drug claims that we paid during the month of January. So we feel very good about the risk profile that exists with each of our 3 product offerings in the PDP space and wouldn't anticipate any kinds of issues developing there.

And there are no further questions at this time. I would now like to turn the call over to our presenters for any closing remarks.

Like every quarter, we really thank the investors for the support of the organization, especially in this time of change and complexity. And at the same time, we also understand that our success of the organization is dependent on our associates and all 51,000 that come in to work every day and with their best minds and helping our members succeed in their health journey. So I appreciate everyone's support, and have a wonderful day.

With that, this concludes today's conference call. You may now disconnect.