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Bailing Out Failed Management: Health Insurance Company Edition
We have been using the term “bailout” to describe health care reforms that require citizens to buy health insurance from existing companies without a robust public option. Ordinarily people use the term bailout to describe saving a company from bankruptcy by giving it taxpayer money. Health insurance companies don’t seem to need that right now, and will just do much better with the mandate. But there are a couple of really big companies for which the term is pretty close. Take a look at this chart.
| Company | Goodwill and Intangibles as % ofShareholders Equity |
|---|---|
| UnitedHealth Group | 106% |
| Wellpoint | 99% |
| Cigna | 78% |
| Aetna | 64% |
This table tells us that if the companies were liquidated at prices equal to the book value of the assets, UnitedHealth and Wellpoint would have little or nothing for shareholders, and Cigna and Aetna would have little. This is actually a serious risk. Here’s why.
Goodwill and intangible assets are accounting terms. Goodwill equals the excess of the purchase price of a business over the book value of the assets and liabilities purchased. Intangible assets are also things that can’t be sold easily, like proprietary software, franchises and trademarks.
How does an insurance company get goodwill on the books? The same way other companies do, they buy other companies for amounts greater than the book values of those companies. For example, UnitedHealth bought the Lumenos, Inc., a “market leader in consumer-driven health programs” in 2005, for $185mn. Here is the explanation for the accounting treatment from the 2005 10-K (p 99):
… the purchase price was allocated to the fair value of Lumenos assets acquired and liabilities assumed, including identifiable intangible assets, and the excess of purchase price over the fair value of net assets acquired resulted in $119.3 of non-tax deductible goodwill,…
This is a relatively small acquisition, which may have been financed internally. Larger acquisitions are financed with borrowed money, creating large debt obligations.
The problem is that goodwill and intangibles aren’t like furniture, which can be sold at auction. Goodwill can be thought of as an estimate of future profits which is put on the books today. Intangible assets are at least useful in the existing business, but they only have cash value if some other company can figure out how to use them. That’s why accounting standards require regular reviews of goodwill and intangibles to make sure the value is there. If there is a perception that the business will suffer in the future, the company has to write them off, reducing both its income and its net worth.
Wellpoint has some concerns about its net worth. In its 2008 10-K, under the caption “The value of our intangible assets may become impaired”, it points out (p. 32) that
Goodwill and other intangible assets were approximately $22.3 billion as of December 31, 2008, representing approximately 46% of our total assets and 104% of our consolidated shareholders’ equity at December 31, 2008….
In 2008, Wellpoint wrote off $141.4mn in goodwill, on top of normal amortization.
UnitedHealth Group also expresses concerns in its 2008 10-K under the caption "If the value of our intangible assets is materially impaired, our results of operations, shareholders’ equity and debt ratings could be materially adversely affected" :
A material decrease in shareholders’ equity could, in turn, negatively impact our debt ratings or potentially impact our compliance with existing debt covenants.
Indeed it could. Single payer will slash their business. Even a robust public option will cause damage. Either way there is a real chance of seriously reducing shareholders equity and the value of their stock and debt securities.
The good news is that a mandate for purchase of insurance policies from these behemoths is going to solve any possible problem. In this post I estimated that by the fourth year of operations under the new system, without a public option, the assets of the health care companies would swell by $459.4bn in real money.
That’ll sure clean up the old balance sheet. It’s just like a bailout, paid for by government mandate of the Bad Max Tax payers.
Tags: health insurance
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In my world, it appears awfully ballsy for ANY health insurance company to be bragging about “goodwill”.
But that’s just me.
I remember a time when the “goodwill” of a business was the reputation it had established as a productive member of the community and its business practices. Using those metrics insurance companies of any ilk are a monstrous fail.
Very often:
Goodwill and intangible assets = Hot Air = Bullshit.
Particularly in a down economy. On the other hand, if some of these companies are benefactors of the Baucus plan (or something like it), the bullshit might eventually amount to something…probably not face value, but not total hot air, either. And guess whose backs such appreciation will ultimately rest upon?
Was that cynical?
In my world, goodwill is a thrift store.
Exactly (as to the post). Not being an accountant but a small business owner with few liabilities (because for some reason bubble mania never made sense) I am of the opinion that “big shitpile” is a cancer that runs through our entire economy. The Best and Brightest are in deep denial and like any addict feed themselves with huge perks and payoffs…”all’s well in my world”…Obama knows this having found out in September ‘08 and has been elected to captain a sinking ship…doing anything now to keep morale up including the magic show we’re entertained with called “the fight for the public option.”
We.Are.So.Screwed.
Digby asks what do we do if what we know as free market capitalism fails? I have no faith in our being able to find anyone, much less give our support to them, who can lead us out of this mess.
I simply do not understand how banks or tax men, or investors would allow goodwill to mean anything at such large percentages of a companies value.
Hey demi, Goodwill has long been Goodwill Industries… very much a for profit entity.
I think it’s fair to say that a lot of the goodwill on the books of companies today is questionable. The Tribune Company, for example, had shareholder’s equity of $4.3bn at 12/31/06, while it’s total goodwill and intangible assets was $8.7bn. Shareholders won’t get anything out the bankruptcy.
Ah, ha! I actually go to a mom and pop one in my neighborhood. If it’s for profit, it can’t be much, I’m telling ya.
So… why not nationalize only the marginal ones… and then use them (freed of the profit maximization concerns that lead to exclusions, excessive denials, recision, etc.,) to implement the Public Option coverage nationally? Unlike with the auto bailouts, these corporations are in a business that can be converted into a needed public utility.
Of course these companies are worthless! They don’t add any value to anything. They simply suck overhead and profits off whatever payments need to be made to health care providers, after the deductable, naturally.
Why would anyone be shocked to know that their stock is worthless??!!
Thank you, masaccio.
I think my heartbeat went up significantly by the fourth sentence from pure aggravation.
The shareholders have no equity, but the CEO of UnitedHealthCare made over $25,000,000 in ‘compensation’ in 2007.
Systemic risk by another name; some might call it thuggery.
I wonder how these people live with themselves.
The don’t have anything to add value to. Strictly middlemen who take a large cut out of the money they collect to pay others. They’re no different than the mob guys who specialize in the protection racket.
AND THE KILLIN’ GOEZ ON AND ON AND…
Citizen masaccio and the Firepup Freedom Fighters:
Now that everyone in the country has been educated about the healthcare crisis and its causes and solutions and polling on the public option reflects that education, how does ObamaRahma expect to get away with anything less than full public participation? Obama, no matter how conservative in his heart, is not stupid in his head. And he knows that the dynamics of the ClintonRhama triangulation on NAFTA is not possible on this issue today even if the fascist Republican Party played ball, which they won’t. So what does Obama gain if he torpedoes his own bill and gets less than what will work to solve the problem?………………………
That silence is deafening.
If Obama sabotoges his own bill, his majorities in both houses will shrink and he will be a one term President but the Democratic Party will come out the otherside of this leaner and much meaner while Obama slinks off to retirement beholdin’ to the generosity of the health insurance industry.
We are facin’ the threat of a militarization of the 2012 Presidential race and unless Obama gets public healthcare he might as well retire right now. So I don’t think he’s gunna listen to Rahm when it’s time to throw in on this.
KEEP THE FAITH AND PASS THE AMMUNITION, THE STRUGGLE GOEZ ON AND ON AND…
It’s like musical chairs. The shares are repeatedly traded amongst a select group of individuals/organizations until the company goes bust and whoever is holding the shares at the time is screwed.
I do believe you’re right about this. I am not liking what I’m seeing within the military hierarchy. This is not Honduras, motherfuckers.
Posssibly another too big to fail situation. Some interesting mergers found when I googled. Some folks were warning against mergers.
http://www.redorbit.com/news/h…..index.html
The best known merger bust was probably AOL/Time Warner. AOL used projected advertsing revenues to buy much larger Time Warner during internet bubble. When ad revenue did not materialize some people lost big – Ted Turner $1 billion less wealthy.
The executive compensation package is no doubt tied the increased profits and stock price from the merged companies; big conflict of interest in may opinion. Would be interesting to know how much lobby money went to politicans to look the other way.
Those are impressive numbers. I took a look at the crisis in the newspaper business, which is supposedly being destroyed by the internet, and found that the actual Godzilla was the collapse of newspaper goodwill evaluations. Basically, the newspapers leveraged their great cash flow into empire building, and when profits dropped a bit, they had to write down the value, the goodwill, of all the newspapers they had bought. This, not the internet, has destroyed their profitability.
If the health insurers have those high levels of goodwill, they could collapse at the slightest sign of pressure on earnings. It wouldn’t even take a public option. All it would take is the continuing seep, seep, seep of individuals losing their jobs and companies dropping or cutting back their insurance plans. They can hold off for a while, but with rising health care prices and a collapsing economy they will eventually have to re-evaluate their goodwill and face the music.
The only thing that might save them would be a health care mandate with no cost controls, but this is a long shot. With health care prices what they are, an awful lot of people and businesses are just going to opt for paying the fines, and if enough people are paying the fines, that provides a back door for a public option.
It sounds like a Ponzi scheme or selling real estate on the moon. What I would like to know is what the other 54% of equity is in. Thanks for this post. I didn’t realize how structurally unsound the big insurance companies are.
That’s a nice picture, you might like this description of the failure of Simmons company, and the fortunes that the financial elites made off of the failure.
I read that yesterday after a commenter posted a link to it. I keep thinking “Soylent Green.”
Hugh, one issue for these guys is the amount of write-offs coming on mortgage-backed securities. Wellpoint has about $4.1bn in these at 12.31/2008, showing about $136mn write-downs. It’s hard to guess what the real exposure might be.
On the too big to fail. In Canada there are a half dozen big banks, four truly big ones and two sort of big relative to the size of the economy. So they are ‘too big to fail.’ But because they are too big, the government keeps an eye on them, and so do the public. When theyi wanted to merge to be even too bigger to fail, the public rose up against the proposition (not for what we would consider sensible reasons, but because it would have closed local branches in small towns) and the mergers, which the banks said were needed to compete with Citibank (quaint idea), died. There is a lot of luck in this, but the point is that concentration creates risks for the bigies as well as profits. The risk is people are watching.
Nice comment. Something seems lost in translation from Canadian to American English.
Inside the Beltway, it seems, more careful observation or outright regulation of an actor so big that its dysfunction or bankruptcy could imperil the economy is deemed naughty. Americans respond to the need for regulation and consequences only when it comes to sex.
When a wealthy Democratic governor pays for prime Washington satisfaction, he’s encouraged to step into the political wilderness, lest the feds federalize prostitution and indict him for, well, they’ll think of something. Even about sex, the Village can’t make up its mind. When a Southern Republican Senator has sex with prostitutes while wearing diapers filled with his own excrement, the press and his Congressional peers declaim that there’s “nothing to see here, move along”.
The latter seems to be the route both Democrats and Republicans are taking when it comes to regulating banks and health insurers: “Nothing to see here, move along. But pay the ticket taker on the way out or we’ll nail your ass.”
Offhand I would say the exposure is in the neighborhood of $2.5 billion using a 60% write off. We have seen figures similar to this in some bank failures. It could be higher if Wellpoint got into fancier instruments.
As Yves Smith at Naked Capitalism likes to point out, efficiency in banking gets lost above a medium sized bank. Beyond that, managers don’t know their communities, their book, or their operations. So as banks increase in size beyond this point they are more likely to pose systemic risk. Regulation can help but the real size related problems remain.
Assets = Liabilities + Shareholders Equity
Good will is an intangible asset. LBO anyone?
Liquidate the shareholders’ equity and capital gains for the masters accrue.
Wow — good catch!
So, these things constitute something that needs bailing out, as much as investment banks and automotive business needed bailing out. That’s the underlying motive for the so-called reform effort.
Was any of it necessary? Are there firms too big to fail. Apparently there are as far as Bush and Obama are concerned.
Serf’s up!
I’m late in responding to your comment but I concur with you 100%. I’ve seen intangibles up close and personal, and I can tell you that most of the time the various line items have turned out to be crap. First off, idiots with overstuffed egos made decisions to purchase companies for way more than they were worth. Subsequently, the accountants were led away (by any means available) from making fair valuations of those items. Further, given the accounting firm’s motivation to hold onto the client, the partners too often grease the skids, look the other way. It’s a vicious cycle. Dissolution of these companies would get really ugly, lemme tell ya…
I think this illustrates why we have not seen any major prosecutions related to the banking crisis last year. The entire American economy is one giant scam. I would speculate that most of the major corporations’ books could not stand up to a true audit. A good indication on how “cooked” the books are is to look at the size of the CEO’s financial “rewards”. Since the late 1970s these MBA frauds have treated the corporations they are supposed to be stewards of as their own personal piggy banks. They suck out as much money as they can as quick as they can and to hell with the future of the corporation. The whole mantra of “maximizing shareholders wealth” is a sham. As long as they keep the top 10 – 20% of the shareholders happy (usually through insider information) they can plunder the corporation with impunity.
Ask any small business owner what would happen if they tried to keep their books the same way and the answer would be “prison”.
This is not Capitalism – I call it Fraudualism. Profit before God, Profit before country, profit before family!
Eureka,
Your kidding right? “Hey demi, Goodwill has long been Goodwill Industries… very much a for profit entity.”
If you can’t even figure out that Goodwill Industries is a not-for-profit then, please don’t post. It shows your lack of knowledge.