Centene: FY24 Uncertainties Overshadow Better Than Expected FY23

Description

I think the positive outlook for 2023 EPS is more than offset by the more difficult outlook for 2024 after the Medicare Advantage (MA) advance rate notice. With membership expected to drop even further in 2024 and rates already being cut, Centene Corp. (NYSE:CNC) has to price for negative MA margins to keep providing benefits at the same level. Despite CNC’s recommitment to an adjusted EPS floor of $7.15 in 2024, I expect that this goal will be difficult to meet due to the aforementioned factors. Management did provide some good news, noting rising Marketplace enrollment and margin improvement within its target range, with further opportunity in 2024.

Overall, while the stock seems to trade relatively cheaper to its 10-year average, I see several possible headwinds ahead. As such, my recommendation is to stay neutral in light of all the uncertainties.

4Q22 Review

Adjusted EPS for FY22 came in at $5.78, slightly above the $5.65 to $5.75 range that CNC had guided. Additionally, CNC upped its premium and services revenue range by $2 billion while reiterating its FY23 earnings guidance of $6.25-6.40. Importantly, management stated that while it is not revising its guidance range, it believes CNC may achieve the upper half of the range based on recent developments.

Medicare Advantage

It appears that MA will come under increasing pressure in 2024, as management’s MA update for both 2023 and 2024 was worse than expected at Investor Day. This is largely due to the CY24 MA rate announced in the CMS Advance Notice and RADV announcement, which is unfavorable.

For rates, management at CNC noted that the current update implies a -1% headwind, whereas internal expectations were for low-single-digit growth. This was due to the unfavorable CMS 2024 advance rate notice. For perspective, a rate reduction of 100bps relative to expectations equates to $200 million in premium revenue. Good news is that industry players are working together to push for a final rate update.

In terms of enrollment, it is guided to fall by the high-single digit, instead of the mid-single digit mentioned in previous guidance, which will result in a $500 million headwind. Management believes the enrollment headwind will last through 2024, and as a result, they are planning to price at a negative margin.

Guidance

Management anticipates that FY23 EPS will be closer to the upper end of their projected range of $6.25 to $6.40, but they recognize that it will be difficult to reach their goal of $7.15 in adjusted EPS for FY24 due to negative MA rates and a decline in MA enrolments. Importantly, management expects the MA membership to decrease further and the MA rate to worsen for a second year running.

I think what is notable here is that management has indicated that CNC is poised to meet or exceed its guidance for FY23 (despite what the mixed updates/messaging indicate), driven by a stronger OEP and an extended redeterminations timeline. Specifically, for HIX, the management projects $3 billion more revenue than initially forecasted while still maintaining margins within its target range of 5.0%-7.5%. However, on the other hand concerning Medicaid, the increased premiums in 2023 have resulted in an additional $1 billion in revenue pressure from redeterminations. This would translate to a loss of 2.2 million members, which is a substantial portion of the members gained since the start of the pandemic.

The shift in tone regarding guidance has left me with mixed feelings, though it is not entirely CNC’s fault because rates were changed by regulators. CNC was set to reap several tailwinds such as the benefits from a new PBM contract and enjoy years of pricing tailwind in MA and HIX, making the equity story very appealing in CY22. Fast-forward to the present day, with all the mix changes and uncertainties, FY23 somehow appears to be better than expected, but the FY24 numbers have become more foggy.

Summary

In summary, my position is to stay neutral on the stock until uncertainties are cleared. While FY23 EPS is expected to be better, the headwinds in FY24 are just too much to stomach at this point.