PacifiCare HMO to Acquire FHP for $2.1 Billion
In a move that creates a national giant in the highly competitive battle for federal Medicare dollars, PacifiCare Health Systems Inc. said Monday it plans to buy its longtime Orange County rival, FHP International Corp., in a $2.1-billion stock and cash deal.
The merged company, with revenues of more than $8.6 billion, would become the nation’s fifth-largest health maintenance organization, with 1.4 million members in Southern California among a total of nearly 4 million in 15 states and Guam.
And though Medicare clients will account for less than a quarter of the new firm’s membership, it would be clearly the nation’s largest HMO contractor with Medicare.
The deal, if approved by regulators and stockholders, would give the new company a whopping 25% share of the national Medicare HMO market, which is growing dramatically as the federal government pushes Medicare recipients into HMOs in a bid to control costs.
The Medicare business is particularly appealing to HMOs because elderly patients, who usually need more care, generate four times as much revenue as the average private patient. And the more efficient an HMO is at containing the cost of providing that care, the higher the profits.
The two firms promised benefits to consumers. But the consolidation in the Southern California market triggered protests from a consumer group that said it will ask the Justice Department to investigate the merger.
“Consumers don’t benefit from fewer choices,” said Jamie Court, director of Santa Monica-based Consumers for Quality Care. “And that’s the bag of goods that these two Goliaths want to sell to consumers. In the long term, we’ll see cost-cutting and the closure of more health care facilities. That’s not going to benefit consumers.”
The move is the latest in a wave of consolidation sweeping the HMO industry. The biggest deal to date is Aetna Life & Casualty Co.’s offer to pay $8.6 billion to buy U.S. Healthcare.
The deal-making has come at the urging of employers and government purchasers fed up with rising medical costs and demanding a more cost-efficient health care system. Also, many large national companies are urging HMOS to expand geographically, so workers around the country can be served by a single health plan.
Analysts noted that the consolidation will end the stiff competition between the two companies over price and benefits, especially for Medicare recipients.
For example, Lori Price, an analyst at Oppenheimer & Co., said FHP had increased the value of free drug benefits to Medicare recipients as much as $2,500 a year, forcing PacifiCare to widen its own drug-services benefits.
But several other large HMOs, such as Kaiser Permanente and Health Net, will compete with PacifiCare for Medicare members in California.
Alan Hoops, president and chief executive of Cypress-based PacifiCare, said the merger creates “extraordinary and unique opportunities to improve both the quality and cost of health care,” adding that consumers should have greater choice among doctors and hospitals once the companies are combined.
But he signaled that the merger wouldn’t mean lower premiums for commercial consumers.
“While we have done an excellent job in holding the costs of health care in check, we must also realize that adequate services must be provided. Now it looks like there’s a slight upward movement in premiums, in California anyway,” he said.
Officials indicated that PacifiCare’s top management would remain in place to run the combined company, the Fountain Valley-based FHP trade name would disappear, and the new company would expect profits to jump as it slashed duplicative operations.
Hoops said he expects to wring $140 million in savings from the combined firms, partly from layoffs of corporate and administrative personnel.
He told analysts there will be about 900 “redundant” employees, mostly in Southern California, in areas such as marketing, investor relations, accounting, claims processing and provider relations. But he said the number of layoffs would likely run shy of 900.
“We don’t want to be coy about this issue,” he said. “There is tremendous overlap.”
FHP shareholders cheered the deal, with FHP stock closing at $35.25 a share, up $7.38 for the day in heavy trading as more than 6 million shares changed hands. PacifiCare common shares ended the day at $71.75, up $3.
Analysts expressed little surprise that FHP was taken over. The slow-growing, barely profitable HMO has lagged its competitors in revenue and profit growth in recent years.
Said Edward Keaney, an analyst at Volpe, Welty & Co.: “The reality is [FHP was] everybody’s third choice for an HMO.”
The deal would give each FHP shareholder a package valued at about $35 a share, including $17.50 a share in cash. PacifiCare would also issue FHP stockholders 2.3 million shares of PacifiCare’s common stock, with the rest being paid in shares of nonvoting stock.
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