Strong Medicine for UnitedHealth

The health insurer announced huge reductions in reported earnings as it attempts to clean up options accounting problems

When UnitedHealth Group (UNH) warned last year that it would have "significantly greater" charges than $286 million related to its mis-accounting of stock options, the Minneapolis health insurer wasn't kidding.

On Mar. 6, the company said it had filed final financial results for 2006 and prior years with the Securities & Exchange Commission, and the numbers were eye-popping. The cumulative pre-tax effect of errors in stock-based compensation accounting was $502 million under its current method of accounting, FAS 123R, for the 12-year period ended December 31, 2005. The company had pegged the figure at between $400 million to $600 million back in December. Under historical accounting standard APB 25, the cumulative pre-tax effect of the errors was $1.526 billion, near the lower end of its December estimate of $1.5 billion to $1.7 billion. Plus there's a $100 million or so that the company must now pay in additional taxes.

But UnitedHealth has taken a major step toward cleaning up its accounting problems. The company has been sorting through the mess for months and even ousted its founder and former CEO, Dr. William McGuire, late last year. Now UnitedHealth says that under FAS 123R, it over-reported earnings of $313 million during the ten years ended December, 2003, $44 million in 2004, and $57 million in 2005. Under its historical accounting method those numbers come out to $738 million, $158 million, and $238 million, respectively.

UnitedHealth's corrected net earnings amounted to $4.16 billion during 2006, up 35% from 2005. Revenues of $71.542 billion increased 54% year over year. And the company had more than $1.9 billion in available cash as of Dec. 31. "Becoming current in our financial filings is a significant step forward for UnitedHealth Group," said CEO Stephen J. Hemsley in a press release March 6.

Investors bid up the company's stock by 1.3% to $53.66 per share in early afternoon trading Mar. 6 on the New York Stock Exchange.

Standard & Poor's equity analyst Phillip Seligman said in a Mar. 6 research note that he expects the filings to help put the accounting overhang behind the company. While he notes that probes by the Securities & Exchange Commission and other inquiries have not terminated, "we are encouraged by [the] progress we see." Seligman maintains a buy rating on the stock.

Hemsley, who previously served as COO and has been with the company since 1997, has been taking tough steps to adapt his company to the new regulatory environment on stock option accounting. For example, news hit in November that he agreed to have his options from 1997 and 2002 reset to the highest share price in the year in which they were granted. He also said he'd give up gains from options that were suspended in 1999 and reinstituted in August, 2000. The decision cuts the value of his options by $190 million (see, 1/18/07, "UnitedHealth Gets a Chilly Reception").

The options backdating scandal has snared more than 120 companies to date, many of which will need to restate results to account for the compensation expense and pay taxes for options that were mishandled. The practice of backdating, which is allowed under accounting rules as long as it's disclosed, allows the recipient of a stock option to snag an immediate paper gain, since the strike price is set below the current share price.

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