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Nov
16

More questions about Coventry-First Health deal

The analysts continue to question the acquisition of First Health by Coventry Healthcare.
Wachovia analysts are among those who appear to be reserving judgement in their latest pronouncements (as noted in Maryland’s “Business Gazette”):
“The deal “marks a turning point in Coventry’s evolution,” the Wachovia report said. Coventry has historically been a regional managed care company operating locally concentrated health plans in several markets, and its customers have largely been small employers with some municipalities and local divisions of larger employers.
“With the acquisition of First Health, Coventry will change the profile of the company dramatically,” the report said. “For investors, the combined company will look like another multimarket managed care company trying to compete.”
First Health has a national preferred provider organization and a workers’ compensation business and does some pharmacy benefit manager services, areas that require different management skills than Coventry is accustomed to, according to Wachovia. In addition, First Health has had difficulty competing with the largest managed care companies such as UnitedHealth, Aetna and BlueCross BlueShield plans. ”
The challenge of integration will be met by one of the stronger management teams in the industry. The Gazette’s article goes on to note:
“We have always been impressed by Coventry’s management and are confident that the company’s internal candidates will be strong,” according to the Wachovia report. The analysts cited McDonough’s previous stint as CEO of a division of UnitedHealth, which has similar products to First Health.
Thomas A. Carroll, an analyst with Legg Mason in Baltimore, called Coventry’s leadership “one of the best management teams in the business.”
So what are the issues facing Coventry?
— Coventry is a regional HMO firm, with particular strength in small group fully insured business; FH is a national firm with a very large customer (MailHandler’s program as well as other large self-insured customers, and is also a major player ($194 million in 2003) in a business (Workers Compensation) that is foriegn to Coventry.
–Further, FH deals primarily with large-self insured group health customers, a market segment that Coventry has not pursued aggressively.
–Weak management at FH. Statements in the analyst’s reports as well as by Coventry management during the investor telecon on the day the acquisition was announced lead me to believe Coventry does not view FH management as up to the task. This, coupled with the large payday for 16 FH executives (splitting over $20 million between them) leads me to speculate the senior level at FH will not be around much longer.
–There were also rumblings in the market that FH was looking for an acquirer for some time; the Gazette goes on to quote Wachovia’s report; “Even without the acquisition, we have doubts about First Health’s ability to grow or even maintain recent results,” the analysts wrote. While Coventry “has bought ‘fixer-upper’ plans in the past, the repair of [First Health] will require a different set of tools.”
Coventry’s management takes a markedly different view from these reports, a view that is best summarized as “the acquisition of First Health by Coventry = the whole is greater than the sum of the parts.” After the hit the stock has taken, Coventry responded with a detailed explanation/defense of the deal at an analysts’ meeting in early November. Again, the main point appears to be that the new markets and national scope will enhance Coventry’s future earnings potential.


Joe Paduda is the principal of Health Strategy Associates

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