What's Behind UnitedHealth Group's Q3 Earnings Success

UnitedHealth Group (NYSE: UNH) is a healthcare giant that generates tens of billions of dollars in sales every quarter from health insurance products and health analytics services. In the third quarter, growing demand for these products and services allowed it to outpace industry-watchers' estimates. Can UnitedHealth's success continue?

In this clip from The Motley Fool's Industry Focus: Healthcare, analyst Shannon Jones and Motley Fool contributor Todd Campbell discuss how Medicare and Medicare are moving the needle for investors, and whether this company will be able to return more money to its investors through dividends and share buybacks.

A full transcript follows the video.

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This video was recorded on Oct. 17, 2018.

Shannon Jones: Let's turn our attention to another behemoth, another healthcare giant, and that's UnitedHealth Group, ticker UNH. Todd, this is the largest health insurer overall. They reported earnings on Tuesday, hitting near record highs, above $272 a share. This stock has been on an absolute tear this year and over the past few years. This quarter was another quarter to again be impressed.

Todd Campbell: If you thought J&J was big, wait until you hear these numbers. Right, Shannon?

Jones: [laughs] Yes!

Campbell: Last quarter, UnitedHealthcare, as you mentioned, biggest insurer. $56.56 billion in revenue last quarter. Well over a $200 billion annualized run rate. That was up 12.4% year over year. Most people think of UnitedHealth, they think of the health insurance business. Certainly, that gives them most of their sales. They also operate a data analytics business and a pharmacy benefit management business. That's under their Optum brand. When we're looking at sales and considering investment in UnitedHealthcare, you want to not only consider the health insurance market, but you want to consider how people are going to be using data in designing treatment programs, how intervention by health insurance may help people stick to their courses of therapy and stay on their medication, avoid hospitalizations, all that kind of stuff.

Jones: I think it's the data and the analytics side with that Optum brand that really has me intrigued, as someone who's in the healthcare space. When you can leverage artificial intelligence, machine learning, now into these insights that physicians and patients can use to really tailor and personalize care, you're really talking about a whole new revolutionary way to tackle many of healthcare's biggest problems. I love their Optum brand. That will be a key area to watch.

For UnitedHealth, it really comes down, their biggest revenue drivers, you've got the Optum brand, but you've also got the employer-sponsored plans and also Medicare Advantage, as well. This quarter showed some really impressive growth in those areas on a numbers basis. They served 2.8 million more consumers in the third quarter. That's pretty impressive.

Campbell: Yeah, and a lot of that is obviously Medicare and Medicaid, which I think are probably the two most important pieces of the health insurance business to track at UnitedHealthcare going forward. One of the things that, when you're looking at insurance, you always want to keep an eye on the medical cost ratio, which is the MCR.

Sometimes different insurers will call it something slightly different, but it's essentially how much of the premiums that they're collecting are spent back out on patient care. You hear those huge revenue numbers, that's the gross premiums that they're collecting plus, in the case of UnitedHealthcare, Optum. Then, of course, you've got to consider that they're putting out a lot of that money in premiums back into patient care. Last quarter, that improved to 81%. It was down 40 basis points year over year. That makes the company more profitable. They reported $3.41 in earnings per share. That was $0.12 better than the Street was looking for. That was up 28% year over year, which was more than twice the rate of growth of its sales. Again, a big reason for that is the success that they're having in Medicare and Medicaid. Medicare sales were up 15.2% to $18.8 billion. That was because they added 525,000 new Medicare Advantage members. The Medicaid business grew about 18% to $11.1 billion, because they added about 255,000 people to their roles over the past year.

Jones: On the Optum side of the table, you had revenue of $25.4 billion. That was up 11%. Also, just thinking about outside of the company, there's some really strong growth drivers, especially on the Medicare side. No. 1, you've got an aging baby boomer population that will continue to drive people to many of those Medicaid and Medicare plans. Also, on the employer-sponsored side, you've got really low unemployment. I think we're right at about 3.9% unemployment. That will continue to be a strong driver for the company and the health insurance industry in general, as well.

Where is the company looking, in terms of full-year guidance right now?

Campbell: They've been very actively buying back shares. That helps the bottom line results. You're going to want to see if they're going to be able to continue that pace. I think they will. They generate tons of free cash flow. They bought back $15.7 million shares this year alone, spent about $3.6 billion on that. Now, they're looking for EPS of $12.80 this year. That's up from $12.50 to $12.75 previously. Again, this is a very profitable company. They have very small margins because, again, they plow a lot of those premiums back into patient health, yet they benefit from scale. They do so much business that they're still able to generate so much money for the bottom line. They actually increased their dividend by about 20% this year because they're generating so much cash flow.

Jones: That dividend hike certainly does not hurt. You've got two really strong healthcare behemoths reporting strong earnings. Hopefully this is a great prelude to a good earnings season across the entire segment.

Shannon Jones has no position in any of the stocks mentioned. Todd Campbell has no position in any of the stocks mentioned. The Motley Fool owns shares of Johnson & Johnson. The Motley Fool recommends UnitedHealth Group. The Motley Fool has a disclosure policy.