Investment into ourselves as professionals, expertise as a differentiator, and the priorities at Cigna Corporation

I have been making efforts to periodically, throughout the week, choose an occasion to listen to a webcast on a topic different from my day to day business. This week, Penn State’s Smeal College of Business’ Institute for Real Estate Studies hosted a panel discussion on capital markets in the real estate business with some highly successful alumni: Ira Lubert of Lubert-Adler, Simon Ziff of Ackman-Ziff, David Welsh of Senlac Ridge Partners, Jonathan Kipe of Silverstein Properties, and Diane Wade of CBRE Clarion Securities.

There were a handful of interesting thoughts that jumped out at me during the talk; Ziff contrasted 2020 to 2009 and, particularly, the differences in liquidity and general interest in distressed properties (arguably ex retail and hospitality), Welsh shared expectations on increased NPL sales as an aspect of a strategy for certain buyers to pursue accessing assets, and Lubert discussed his strategy to support developers with unexpected capital needs (i.e. resulting from the coronavirus slowdown, diminished reserves, and disparate sources of capital for existing projects) with bespoke infusions of mezzanine financing via a recently capitalized fund.

More than these insights, I was struck by Simon Ziff’s response to a question about advice for young Penn Staters curious about building a career in real estate. His answer was, essentially, “commit to becoming expert, work very hard, and learn your craft.” He shared complements of Lubert’s expertise and his own efforts to be expert.

Yea, I think the feedback to new professionals, and to established professionals, about the value found in first committing, and then regularly “doubling down,” on being expert in your chosen field is so important.

Drug Channels BLOG with Adam Fein, Ph.D.

A few weeks ago, I invested some time on a Sunday to consider the implications of Optum on United HealthCare’s operation. I have been curious to learn more about the interesting role of pharmacy benefit managers (PBM) within the value chain of American prescription drugs, as well as, from a business perspective, the influence of owned PBM operations on overall firm performance. I ended up “virtually introduced” to Adam Fein, and have spent some time on his blog.

https://t.co/dfW1FMMOmp

Full (and more current 2019) details in my latest report: https://t.co/0yeVpzo4qT

— Adam J. Fein (@DrugChannels) June 1, 2020

Dr. Fein’s blog has a wealth of information on this very large and complicated area of American healthcare. In this recent article, Fein provides some analysis of a recent deal between Cigna’s PBM operation, Express Scripts, to partner with Prime Therapeutics. He identifies four primary implications to the deal:

1. There will be increased market power in the hands of ESI-Prime, to the detriment of manufacturers and pharmacies,
2. There will be increased optionality and decreased transparency based on the use of Ascent, ESI’s Switzerland-based GPO, as rebate reform continues to (potentially) play out in the US market,
3. There will be increased challenges to the partnership (in its current form) of Prime with Walgreens Boots Alliance, and
4. There are unlikely to be meaningful obstacles presented by the FTC in this venture.

I intend to invest more time reading Dr. Fein’s blog. It seems like a great place to invest, personally, into my own expertise in the business.

Priorities at Cigna Corporation

As one of the largest health insurers in the USA, and the “C” in BUCA (i.e. Blue Cross, United, Cigna, and Aetna), it is interesting to understand more about the makeup of its business and its current priorities and outlook. To investigate this, I reviewed the current 10Q, last 10K, two most recent investors conference call transcripts, as well as Clearbit Report.

Background and segments

Cigna’s April 30, 2020 Investor Presentation indicates that its purpose is to be “a global health service company dedicated to improving the health, well-being, and peace of mind of those we serve.” Its mission and strategy are reflected as follows.

Cigna reports results in the following segments, per its most recent 10Q (pages 9 and 10):

• Health Services – including pharmacy benefit management services, specialty pharmacy services, clinical solutions, home delivery, and health management services
• Integrated Medical – offers solutions to employers and individuals:
  • Commercial includes employers (“clients”) and their employees (“customers”) and other groups. This includes medical, rx, dental, behavioral health, vision, health advocacy, and other products and services to insured and self-insured clients
  • Government includes MA, Medicare Supplement, Medicare Part D, Medicaid, and individual health insurance (on and off public hix.)
• International – includes supplemental health, life, and accident insurance products and health care coverage in international markets, as well as health care benefits to globally mobile employees of multinational organizations
• Group Disability and Other – includes the following:
  • Group Disability and Life – “On December 19, Cigna entered into a definitive agreement to sell the domestic U.S. Group Disability and Life insurance business to New York Life Insurance Company.”
  • Corporate-Owned Life Insurance (“COLI”) – permanent insurance contracts sold to business for future employee benefit obligations
  • Run-off businesses:
    • Reinsurance – GMDB and GMIB exited in 2013
    • Settlement Annuity
    • Individual Life Insurance and Annuiyt and Retirement Benefits Businesses – deferred gains
• Corporate – “reflects amounts not allocated to operating segments, including interest expense, net investment income on investments not supporting segment and other operations, interest on uncertain tax positions, certain litigation matters, expense associated with our frozen pension plans, severance, certain enterprise-wide projects and intersegment eliminations for products and services sold between segments.”

In terms of Cigna’s priority to be a global firm, the following chart demonstrates three years of revenue distribution. This output shows, at least over the past three years, the growth in revenue from ~ USD $41B to ~ USD $152B has been concentrated in the US market.

The following two charts demonstrates three years of breakdown of the four segments for revenue and earnings, respectively. This includes the December 20, 2018 closing of the acquisition of Express Scripts by Cigna, which is included in the Health Service segment.

The following calculation of profitability, as a percentage of revenue, by these segments is included below for 2019. Also, some feedback provided by Cigna on forward looking growth and profitability measures, is also snipped from a recent investor presentation.

Segment	EBT	Revenue	EBT as % of Revenue
Health Services	$‎ 3,983	$‎ 107,354	3.71%
Integrated Medical	$‎ 3,904	$‎ 34,861	11.20%
International Markets	$‎ 785	$‎ 5,500	14.27%
Group Disability & Other	$‎ 562	$‎ 4,461	12.60%
Total	$‎ 9,234	$‎ 152,176	6.07%

Comments on ESI, including Prime and Ascent

Clearly, the acquisition of ESI by Cigna for $67 billion signaled a commitment to a strategy including pharmacy benefit management services for the foreseeable future. I was curious to see, per Adam Fein’s reference to Prime/Ascent earlier, how many times the terms “Express Scripts,” “Prime,” and “Ascent” appeared in the most recent earnings call. (3x, 0x, and 0x, respectively.) On the previous quarter’s call, the frequency was 8x, 14x, and 0x, respectively.

I am curious to learn more about the role of Ascent in the future strategy of ESI.

Comments on sale of certain business to New York Life

The sale of group disability and life insurance business by Cigna to New York Life is anticipated to close during Q3 2020. This transaction apparently exits Cigna from these services. This sale will, net of taxes, create USD $5.3B of cash for redeployment at Cigna.

Comments on partnership with Oscar

Cigna and a small but well funded health insurer startup, Oscar, have chosen to partner on selling health insurance to small business. A question was posed on the Q4 earnings call by Stephen Vartan Tanal of Goldman Sachs about, “trying to understand what elements of their business are difficult or costly for Cigna to build or offer independently.” In response, David Michael Cordani, Cigna’s president and CEO, responded with the following (on page 10):

[First], at a philosophical level, we view that the notion of partnering and beyond partnering, striving to be the undisputed partner of choice, it’s a competitive advantage and something we want to build on. Why? It accelerates pace of innovation… And if you take it up to the macro level, you’ll recall that Cigna’s historically not participated in the smallest end of the employer marketplace, be it under 50 or under 100 depending on where the regulatory lines are drawn from that standpoint. Two, we believe it’s an underserved marketplace with less choice and less leverage of some of the most innovative solutions. Now to the core of your question, when you’re open-minded to partnering, you could have both focus and acceleration, in this case, by leveraging Oscar’s phenomenal, technological infrastructure, digital-first infrastructure and information flow infrastructure… [This] is a case where we’re philosophically aligned, but the durable infrastructure is there to serve the unique needs of the small employers, and then we’re able to pour [Cigna’s resources] to make 1 plus 1 equal a lot more than 2… [We’re] staged to open up 4 markets towards the latter part of this year and then fuel some growth.

Q4 earnings call, Page 10

It seems likely to me that Cigna is interested in considering buying Oscar as a solution for certain geography and the micro- commercial market.

Comments on target capital structure

Total long-term debt on 3/31/2020 was USD $32.147B. CFO for the same quarter was USD $1.887B. Eric Palmer stated the following on 2/6/2020:

We ended 2019 with a debt-to-capitalization ratio of 45.2%, an improvement of 570 basis points over year-end 2018. For 2020, we expect greater than $7.5 billion of cash flow from operations, reflecting the strong capital efficiency of our well-performing businesses. As previously discussed, we have a near-term focus on accelerated debt repayment and remain on track to return our debt to capitalization ratio to the upper 30s by the end of 2020. In 2020, we expect to deploy $4.5 billion to $5 billion to debt repayment and $1 billion to capital expenditures.

Eric Palmer, Cigna Corp CFO, Q4 2019 earnings call which occurred on February 6, 2020

I grabbed the following numbers from the Clearbit output to look at most recent trends in leverage rates at Cigna:

Item	03/31/2020	12/31/2019	09/30/2019	12/31/2018
Total Debt to Equity	0.79	0.80	0.84	1.00
ROE % (Net)	10.48%	11.82%	12.11%	9.63%

It seems clear that Cigna leadership will continue to reduce leverage over the near term, seeking a Debt-to-Capital ratio less than .40. Eric Palmer shared that, “In 2019, we deployed $5.2 billion to repay debt, and we repurchased 11.8 million shares of stock for $2 billion.” He continued, “Year-to-date, as of February 5, 2020, we have repurchased 1.2 million shares for $245 million and we have $3.72 billion of remaining share repurchase authorization.” [Reference Page 7 of earnings call from 2/6/20.]

Some concluding thoughts

It seems to me that, despite messaging about being global and deepening client relationships, Cigna has invested thoroughly into being a premier provider of services for health care with increasing focus on certain services (i.e. not life and disability) within the USA.

I think I’ll conclude my blog entry today with my primary takeaways from earlier topics:

• From Simon Ziff – “Commit to becoming expert, work very hard, and learn your craft.”
• From Adam Fein – Where we can take steps to increase influence through cooperation (e.g. ESI partnership with Prime), we should be willing to consider it. Also, it is good risk management to create real options (e.g. ESI model with Ascent GPO).

I was hoping I might conclude that Cigna is a good (or bad stock) to buy at current prices. For now, I will punt on that judgement. There is more work to do!