Moody's Jumps into Action as Aetna-Humana Deal Fails

After the merger deal between Aetna Inc. AET and Humana Inc. HUM fell apart, rating agency Moody's Investors Service jumped into action. Moody's affirmed the Baa2 senior unsecured debt rating of Aetna and confirmed the Baa3 senior debt rating of Humana.

Moreover, the operating subsidiaries of Aetna and Humana also saw their insurance financial strength (IFS) being affirmed at A2 and A3 respectively.

The outlook on Aetna's ratings remains stable and Humana's ratings have been removed from review and assigned a stable outlook.

Since the announcement of the merger, shares of both Aetna and Humana have underperformed the Zacks categorized Health Maintenance Organization industry. Aetna and Humana have returned of 0.27% and 9.82% respectively, while the sector has gained 21.68%.

The rating action on Aetna takes into account the fact that the company's leverage will decrease as it is now supposed to repay the $10 billion of the $13 billion debt taken to fund the merger. The increase in debt pushed up the company's debt ratio beyond favorable limits.

The company ended the year 2016 with a dent ratio of 54.4%. Now, since the company will pay back the debt, the leverage ratio is expected to come down to 35-40% over the long term. The rating agency views the expected decline in dent ratio as credit positive.

Nevertheless, Moody's is bothered by the likely reduced flexibility, due to the resumption of share buyback which was suspended since the merger announcement. The rating agency is concerned that the resumption of share buyback might lead to an increase in debt ratio. Then again, since the company has traditionally used more than half of its net income to buy back shares, its efforts toward paying back the debt should help in keeping leverage ratio comfortably below 40%.

The rating agency also acknowledges the superior performance of the company favored by a benign medical cost ratio and low utilization levels. Nevertheless, membership may suffer due to its exit from the public exchange business as the company is exiting from a number of exchanges. Its commercial membership will also feel the stress as employers prefer self-insurance.

Regarding Humana, the rating agency is concerned about the business that the company would have gained had the merger materialized. Also, its huge Medicare Advantage business exposes it to concentration risk.

Both Aetna and Humana carry a Zacks Rank #3 (Hold).

Some better-ranked stock from the same space include HCA Holdings Inc. HCA and Universal Health Services, Inc. UHS , both carrying a Zacks Rank #2 (Buy). You can see the complete list of today's Zacks #1 Rank stocks here .

HCA Holdings delivered positive surprises in the last four quarters with an average beat of 10.16%.

Universal Health, on the other hand, surpassed expectations in two of the last four quarters with an average beat of 0.28%.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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