Market Mad House

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Long Ideas

Is Humana a Value Investment in Health Insurance?

Many will wonder is Humana a value investment, because health insurance companies are unpopular. A classic value investing strategy is to buy unpopular but profitable companies that are cheap.

Mr. Market; however, grossly overprices this health insurers’ stock. Humana (NYSE: HUM) shares were trading at $296.07 on 14 August 2019.

The value investment case for health insurers is easy to make. Humana sells a product, most Americans use. Moreover, it is a product that most employers and the government are willing to finance.

Is Health Insurance a Value Investment?

In fact, the Affordable Care Act; Obamcare, requires organizations that employ over 50 people to provide health insurance. Furthermore, Obamacare underwrites private health insurance for some Americans.

Finally, people must send the insurance company cash (a premium) each month, year, or quarter to keep insurance. Therefore, insurance companies generate one of Warren Buffett’s favorite things: float. To explain, float is a constant stream of cash, a company can tap for a wide variety of purposes.

To elaborate, Buffett owns lots of insurance companies because they generate float. However, as far as I know; Berkshire Hathaway (NYSE: BRK.B) owns no health insurance companies. Conversely, Buffett and his friends; Jeff Bezos of Amazon (NASDAQ: AMZN) and Jamie Dimon of JPMorgan Chase (NYSE: JPM), are trying to create their own nonprofit healthcare or health insurance company they call Haven, CNBC reports.

What is Humana Inc.?

Humana Inc. (NYSE: HUM) is America’s fifth largest health insurance company with 14 million policyholders, Forbes estimates.

Additionally, Humana operates America’s seventh largest pharmacy with 1.5% of the American prescription drug market in 2018, Drug Channels estimates. To elaborate, Humana Pharmacy Solutions is a mail order only pharmacy. Drug Channels estimates Humana Pharmacy Solutions generated $6.3 billion in revenues in 2018.

Thus, Humana is a major player in health insurance, but giants like CVS Corporation (NYSE: CVS) and UnitedHealth Group (NYSE: UHC) are far larger. Forbes estimates UnitedHealth Group had 49.5 million premium holders in 2018. Conversely, Drug Channels estimates Cigna/Express Scripts generated $46.5 billion in revenues from 11% of the US prescription drug market in 2018.

Is Humana Making Money?

Humana is a major player in health insurance, but it is making money? Currently, the answer is yes.

Specifically, Humana reported $2.927 billion in gross profit and $16.245 billion in revenues on 30 June 2019. Those numbers were up from $2.614 billion in gross profits and $16.107 billion in revenues on 31 March 2019. In fact, Stockrow estimates Humana’s revenues grew by 13.93% during the last quarter.

Importantly, Humana reported an operating income of $1.115 billion and a net income of $940 million on June 30, 2019. Those figures were up from $847 million and $566 million three months earlier.

How Much Cash Does Humana Have?

Plus, Humana reported a free cash flow of $1.277 billion and an operating cash flow of $1.434 billion in June 2019. Those numbers are a substantial increase over the $757 million and $896 million reported on 31 March 2019.

These numbers show Humana can generate large volumes of float. On the other hand, the financial numbers demonstrate Humana cannot generate constant float.

I think, the inability to generate constant float is why Warren Buffett stays out of health insurance. To explain, Buffett likes companies that generate a constant stream of cash rather than the occasional big payday. Hence, Uncle Warren stays away from tech and health insurance.

Humana has a Lot of Cash

However, Humana reported a negative free cash flow of -$509 million and a negative operating cash flow of -$333 million as recently as 31 December 2019. Thus, health insurance is a gamble in which you can generate or lose a lot of cash quickly.

Impressively, Humana had $4.778 billion in cash and $9.991 billion short-term investments on 30 June 2019. Therefore, Humana had $14.769 billion in cash assets at the end of June.

Conversely, Humana had $13.753 billion in cash and short-term investments on March 31, 2019. Humana’s cash stash is far lower than last year; however, Humana had $17.516 billion in cash and short-term investments on 30 June 2019.

Is Humana a Good Dividend Stock?

Humana paid a twice-a-year dividend of 55₵ on 26 July 2019. Notably, that dividend grew from 50₵ on 27 July 2018.

However, Humana’s dividend could be 27.5₵ if they paid it quarterly. Thus, Humana is using the twice-a-year payment trick to make its dividends look bigger.

On the other hand, credited Humana with eight years of dividend growth, a dividend yield of 0.74%, an annualized payment of $2.20, and a payout ratio of 15.5% on 14 August 2019.

I do not think Humana’s dividend justifies the stockprice. Plus, Mr. Market is grossly overpricing Humana so it is not a value investment.

Next-Generation Healthcare Organizations Threaten Humana

Humana faces several serious threats to its survival in today’s environment. Presently, the greatest of these threats is next-generation healthcare organizations.

The next-generation organizations combine a healthcare provider and a health-insurance company. This business model is hardly new, health maintenance organizations (HMOs) like Kaiser Permanente; and Britain’s National Health Service (NHS), have been around since World War II. The difference is taxes finance the National Health, while premiums fund Kaiser Permanente.

Today, however, some companies are trying to revive HMOs by disguising them as retail outlets. Another difference is that next-generation health organizations use convenience and low prices to market their services.

For example, Humana Pharmacy Solutions offers prescriptions through the mail and online ordering. Consequently, Pharmacy Solutions offers an easier, cheaper, and more convenient means of getting prescriptions. Its customers need not go to the pharmacy and stand in line to get a prescription.

Is Big Retail a Threat to Humana?

Companies like Kroger (NYSE: KR), Walgreens (NASDAQ: WBA), Walmart (NYSE: WMT), and CVS Health take this model to the next level by offering convenient low-cost clinics in their stores.

For example, CVS unveiled a new concept drugstore that devotes over 20% of the store space to healthcare, USA Today reports. Meanwhile, CVS bought Aetna; America’s third-largest health insurance company last year.

I think the next-logical step for next-generation healthcare providers is to buy surgery centers, hospitals, ambulance companies, and possibly nursing homes. For example, the National Health Service operates hospitals, clinics, and even ambulance services in the United Kingdom.

Furthermore, Amazon, Berkshire Hathaway, and JPMorgan Chase’s Haven Healthcare could pioneer a nonprofit variation on this model. However, Haven’s website provides few details of its plans.

Public opposition could derail the march to such combined healthcare operations. Notably, popular anger stopped American health insurers from moving to a mostly HMO system in the 1990s, The Atlantic notes. More recently grassroots political opposition hobbled Obamacare.

Is Medicare for All Coming?

A greater but potentially deadlier threat to Humana is the political movement for Medicare for All. To clarify, Medicare for All is a euphemism for government health insurance for all citizens financed by taxes.

Medicare for All is a serious possibility because it is popular. In fact, the July 2019 NPR/PBS News Hour/Marist Poll estimates 70% of Americans support Medicare for All. Additionally, 41% of Americans want to eliminate private health insurance, the same poll finds.

Predictably, politicians are paying attention to those numbers. Three of the top four Democratic presidential candidates say they support Medicare for All, Axios reports. In detail, US Senators Kamala Harris (D-California), Bernie Sanders (I-Vermont), and Elizabeth Warren (D-Massachusetts) publicly endorse Medicare for All.

Medicare for All is Coming Get Ready

The leading candidates in the July 27-29 2019 Emerson Poll were former Vice President Joe Biden (D-Delaware) with 33%, Sanders with 20%, Warren at 14%, and Harris at 11%. Thus, 45% of Democratic voters support candidates in favor of Medicare for All.

That number grows to 50% if you add three other candidates who claim to back Medicare for All, Andrew Yang (D-New York), Julian Castro (D-Texas) and US Representative Tulsi Gabbard (D-Hawaii). To clarify, Emerson gives Yang 2% of the likely Democratic primary vote, and Gabbard, and Castro 1%.

Given the numbers, I think some effort to create Medicare for All is inevitable. Moreover, I suspect Democrats will try to implement Medicare for All if they win control of Congress next year. Unfortunately, there is no indication how Medicare for All will work.

Consequently, Medicare for All is a threat all investors and speculators need to expect. I think the threats of Medicare for All and next generation healthcare make Humana a lousy long term investment with poor prospects.

Therefore, Humana is not a value investment because potential changes to the health insurance market could limit its growth prospects.

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