Good morning. I will be your conference operator today. Welcome to the UnitedHealth Group second quarter 2014 earnings conference call. A question and answer session will follow UnitedHealth Group's prepared remarks. As a reminder, this call is being recorded. Here are some important introductory information. This call contains forward-looking statements under U.S. federal securities laws. These statements are subject to risks and uncertainties that could cause actual results to differ materially from historical experience or present expectations. A description of some of the risks and uncertainties can be found in the reports that we file with the Securities and Exchange Commission, including the cautionary statements included in our current and periodic filings. Information presented on this call is contained in the earnings release we issued this morning and in our Form 8-K, dated July 17, 2014, which may be accessed from the investors page of the company's website.
At this time, all participants have been placed in a listen-only mode. The floor will be open for your questions following the presentation. I would now like to turn the conference over to the President and Chief Executive Officer of UnitedHealth Group, Stephen Hemsley.
Good morning. Thank you for joining us today. This morning, we will review our first half 2014 performance within the context of the goals we set for this year and the opportunities we see going forward. We see the next 18 months as important, given that by January 2016, the ACA will largely be in place. We will be entering an election cycle that will set the stage for shaping the next phases of health reform. For decades, the trend has been for greater private sector engagement in meeting ever-increasing national healthcare needs.
These include the foundation of what is today Medicare Advantage, the launch of Medicare Part D drug benefits, the formation of accountable care organizations, the steady migration of Medicaid to managed care, the expansion of benefit coverage to the uninsured under ACA exchanges and expanded Medicaid programs, and the improvements to the healthcare.gov and many state-based exchanges. UnitedHealth Group businesses have participated strongly in each of these developments. We remain focused on making these efforts successful and sustainable as they continue to evolve and settle into the fabric of our national healthcare system. We continue to execute steadily on that change agenda. We believe an improving environment in 2016 and beyond will support acceleration on our earnings growth rate. This morning, we're raising our 2014 revenue outlook to $130 billion from the previous forecast of $128 billion-$129 billion.
We are strengthening our 2014 earnings projection to a tighter range of $5.50 to $5.60 per share. The increasing earnings momentum we expect in the second half of 2014 should position us to grow both revenues and earnings per share in 2015. Advancing our performance in this 18-month timeframe will remain challenging but achievable, anchored by strong Medicaid growth, steadily strengthening Medicare and international performance, deeper entry into new, more established public exchange markets, and continuing strong growth in earnings momentum at Optum. These elements are visible as well in second quarter results reported today. In the second quarter of 2014, UnitedHealth Group grew revenues 7% to $32.6 billion and earned $1.42 per share. Optum contributed nearly 30% of our enterprise-wide operating earnings this quarter.
Solid cash flows from operations of $1 billion for the quarter and $2.4 billion for the first half of the year were approximately one times net income, in line with our 2013 patterns, as our strongest cash flows come in the back half of the year. We continue to project a range of $7.8 billion to $8.2 billion in cash flows for full year 2014. Reviewing our results in more detail, starting with UnitedHealthcare, second quarter revenues grew 6% year-over-year to $30.1 billion. The quarter featured earnings from operations of $1.8 billion, driven by a strong operating margin of 6.1%, even with the growing mix of public and senior sector business.
UnitedHealthcare seen significant and accelerating growth in Medicaid, 380,000 more people in the quarter and 635,000 through the first half of the year, coming from expanded access to Medicaid in about half the states we serve, the launch of Florida's planned Medicaid expansion, and core program growth from already established markets and programs. In Medicare, we grew to serve more than 400,000 more people across all products in the first half of 2014. A very solid and balanced performance considering the market actions we needed to take last year in response to reduced Medicare program funding from CMS. In the core senior medical products of Medicare Advantage and Medicare supplemental benefits, we have grown the number of seniors we serve each year for more than a decade, and this year should be no exception. There is no question the private sector provides significant value to Medicare beneficiaries.
Medicare has been and will continue to be a growth business at UnitedHealthcare. We're privileged to serve one out of every five American seniors. Today, we serve three million people in Medicare Advantage plans and 12 million across all product types. We expect to deliver overall Medicare growth for years to come, driven by favorable demographic trends and our strong local market cost and value positions, supported by deeply integrated Optum resources in pharmacy services, primary care delivery, house calls, data analytics, and compliance. Our Medicare Advantage business works with senior-focused care providers under rising levels of well-designed shared risk and performance-based payment arrangements to deliver more effective clinical management in concert with well-targeted and executed home visits. From the senior's perspective, we offer market-leading access to quality care across a broad spectrum of venues, combined with the attractive benefits under strong brands with convenient broad-based distribution.
Commercial membership continued to track with recent trends, pulling back in risk-based products as we remain focused on pricing discipline and endeavoring to strike the right balance in protecting margin and giving back some past growth. In self-funded products, our momentum is steadily strengthening. We are winning national account business and retaining key customers we are privileged to serve. We're pleased to return to serve as a core benefit option in the state of Georgia in 2015. Customers are still announcing final decisions, and our pipeline is much stronger than this time last year. We feel positive about our January 2015 position at this early stage. In the individual market, we plan to grow next year as we expand our offerings to as many as two dozen state exchanges.
This approach is consistent with our long-stated plan to take a prudent first-year position and then build and expand in 2015 and 2016 as these markets become more established. By participating moderately this year and then watching closely and listening, we've learned about pricing, networks, regulatory structures, distribution, and the consumer's mindset regarding public exchanges. These data points help inform our positioning for 2015, which should see a better risk vintage for the public exchanges. We believe public exchange markets must be sustainable on their own, so our participation will not overly rely on risk corridors or assumptions under risk-sharing provisions. The Congressional Budget Office estimates that more than 75% of the exchange market is yet to develop, and we believe there will likely be meaningful membership activity in the market after the initial experience of this year and as second-year pricing is presented.
We plan to grow steadily from this point forward, advancing our participation in a measured manner in public exchanges in 2015, 2016, and beyond. Bringing together this year's developments across these various product categories, our original forecast for U.S. consumers served is proving fairly accurate in total, with greater incremental losses in full risk commercial benefits, which we discussed last quarter, offset by exceptional growth in Medicaid, which should come in well in excess of 800,000 people this year. Turning to Brazil, Amil is seeing clear signs of steady recovery from a surge in utilization beginning in the last half of 2013 in response to aggressive new government-mandated access standards. Our premium rates are improving and are catching up to the increased levels of medical services.
We're deploying capital to building out Amil's franchises in the Rio, São Paulo, and northeastern Brazilian markets, which nicely benefited our membership numbers this quarter with 110,000 net growth. In our view, Brazil remains the most fertile market for health benefits and services outside the U.S., and we expect our focus and efforts in this large, high-potential market will reward our shareholders for years to come. At UnitedHealthcare, we continue to project a 6% commercial medical cost trend, plus or minus 50 basis points for 2014. Our medical costs remain in line with our plan and remain moderate. The consolidated medical care ratio for the second quarter was 81.6%, 10 basis points higher than last year, despite less reserve development and a shift in the mix of our business towards government programs, resulting in upward pressure in the ratio year-over-year.
These factors were mostly offset by a 100 basis point reduction from the implementation of billing of the ACA fees and taxes. Second quarter results were led by the public and senior sector, where revenues from federal and state-based programs continued to develop positively. Public and senior sector earnings are running slightly favorable to our original 2014 outlook. We are constructively supporting innovative ways to universally improve the quality and affordability of healthcare for consumers. In one example, we and several other healthcare companies are collaborating with the not-for-profit Health Care Cost Institute to develop and provide free access to online healthcare transparency tools that offer consumers the most comprehensive and accurate information about the price and quality of healthcare services so individuals can make more informed decisions about their health and healthcare.
HCCI's transparency tool will be available in January 2015. HCCI plans to advance more free services for consumers and other key healthcare stakeholders in the quarters and years to come. Last fall, we took a more intense focus on improving our Medicare stars performance for Medicare Advantage. We made changes in people, organizational alignment, business processes, and funding and resource allocation, which we believe are yielding positive results. We project our star performance for 2015 payment year will be better than expected and will steadily improve in 2016, over 2015, and even more meaningfully in 2017 and 2018, creating a steady multi-year upward progression. Our commitment is to maintain a baseline of no fewer than 80% of our seniors enrolled in Medicare Advantage plans rated 4 stars or higher every year.
At Optum, we are tracking to deliver record revenues and profits again this year, driven by market demand for our broad portfolio of capabilities and solutions. Second quarter results are on plan with Optum's margins on course to strengthen again in 2014. We expect margins will reach approximately 7% this year, even as our pharmacy services business grows at an accelerated pace. These advances are consistent with our original forecast last fall and Optum's 8% by 2016 commitment. We remain focused on building a scalable end-to-end services platform. Healthcare system participants are beset with more complex challenges than they have ever faced. Their needs have grown well beyond the standalone product offerings that are characteristic of this fragmented market.
Optum is integrating services and capabilities to better meet and anticipate the emerging needs of the market, whether around advanced analytics and population health, deeply integrating pharmacy and medical management, or more effectively delivering and documenting clinical care. These markets each represent multi-billion-dollar growth opportunities, unified for customers in a flexible, modern, comprehensive, and fully scaled services platform. The growth in revenue, backlog, and pipeline, and the increasing number of larger, deeper, and more sophisticated Optum relationships demonstrate steady progress in converting these opportunities into revenues and provide visibility in near-term growth and an indication of the strong long-term future we see for this business. At the same time, Optum continues to have opportunities to improve its basic operating performance.
We continue to better integrate and align internally, focusing on delivering higher value products and services with greater efficiency, better leveraging resources and competencies in information analytics, technology, and clinical care, and improving our cost structure and operational efficiency. These efforts are equally important to achieving our long-term earnings goals. Continued investment remains central to Optum's long-term growth. The quarter carried $80 million in investment costs as we deepen capabilities in areas such as consumer engagement tools and distribution services, next generation analytics that uniquely combine administrative and clinical data at scale, next generation medical care review and compliance analytics and services, and international versions of products and services that have become established here in the U.S. We will be investing startup costs in major Optum360 relationships and Optum technology outsourcing arrangements and moving forward on services focused to the needs of targeted international markets.
These investments continue throughout the year should have less noticeable effects on results in the fourth quarter of 2014 as Optum's overall growth and performance accelerate. We benefit from the impact of the more seasonal businesses. In the second quarter, Optum's revenues grew 28% to $11.7 billion. Earnings from operations grew 23% year-over-year to $728 million. Operating margins declined slightly to 6.2% due to the planned investments just discussed and the exceptional growth of the Optum Rx business. Optum Rx again led this quarter's performance. Revenues grew 42%. Earnings from operations doubled, while operating margins expanded a full percentage point to 3.6%. We processed more than 150 million adjusted scripts this quarter, up 30% year-over-year. Our cost to fill a mail order script decreased 30% over the past year, and we expect to drive increased consumer value through higher volumes of mail order business.
We have exceeded our goal of 1 million new consumers served from business awards across a spectrum of customers in 2014 and have some early awards in hand for 2015 with a good prospect pipeline. This group is additive to the natural organic growth led by the insourcing of UnitedHealthcare's pharmacy business over the past two years. Optum Insight's growth was again led by strong performance in government-sponsored services. Optum Insight is providing services to five separate state exchanges, in addition to its continuing role with the federal exchange. By the midyear point, computer-assisted coding offerings from our Optum360 revenue management organization were installed in more than 50 customers who operate more than 220 facilities. The pipeline continues to grow. On the downside, the regulatory pullback in hospital clinical compliance services continues and has pressured revenues and earnings for that product offering.
At Optum Health, we are continuing to build out our local care delivery organization. Today, our physicians and clinical professionals touch 2 million consumers with high levels of clinical quality through our local clinics, which are prominent leaders in their markets. All in, Optum delivered an exceptional second quarter and first half, with improved earnings and capital returns compared to a very strong prior year. We expect Optum's earnings to accelerate in the second half of 2014, especially in the fourth quarter, as they have in the past years, driven by strong revenue growth, achieving performance incentives from customers, the accumulating benefits of operational efficiencies and structural cost efforts, and favorable seasonal patterns at Optum Insight and Optum Health. Optum remains on pace to contribute roughly one-third of UnitedHealth Group's 2014 cash flows from operations, all while investing in future growth of its business.
To summarize, the first half of the year was strong, with revenues growing by $3.5 billion, or 6% year-over-year. First half earnings of $2.52 per share position us positively for the full year growth, with the strong second half growth performance from Optum and seasonal strength in UnitedHealthcare's second half operating margins expected to help accelerate our earnings and bring us through a strong close. We see 2014 revenues at about $130 billion and net earnings in the range of $5.50 to $5.60 per share, with cash flows from operations in a range of $7.8 billion to $8.2 billion. We are intensely focused on continuing to execute ever more sharply on the details and fundamentals in every aspect of our businesses and in everything we do for the people we serve.
We will provide a full view of our 2015 expectations at our annual investors conference in New York City on Tuesday, December 2nd. Thank you for your time this morning, and we will now take your questions.
The floor is now open for questions. At this time, if you have a question or comment, please press star one on your touch-tone phone. You may remove yourself from the queue by pressing the pound key. Please do not utilize a speakerphone or headset when asking a question. We ask you to limit to one question per person so we can get to as many participants as possible. Our first question is coming from Justin Lake of J.P. Morgan.
Thanks. Good morning. Questions on medical cost trends. I know you indicated trends in line overall, but given the recent data points out there, I was hoping you might have some color to share in terms of real-time Rx trends, hospital discharge planners, et cetera. Just a quick follow-up on your Medicare Advantage comments in the prepared remarks. Is it reasonable to expect you're in a position to grow membership here for 2015? Thanks.
Yes, Dan Schumacher, you want to comment? I don't know if we'll get into that level of detail, but I think we can add some color.
Sure. Morning, Justin. This is Dan. With respect to the cost, obviously in the quarter, we were very pleased with our medical cost performance. As Steve mentioned, our underlying cost trends remain very well controlled. We continue to make improvements in our medical cost management, a lot of that, honestly, is in strong partnership with Optum, whether it be payment integrity, local care delivery, our partnership with Optum Rx, and so forth. So as Steve mentioned, on the full year, we still expect our cost trend to be in the 6% ±50 basis points range. We'd likely expect that to be closer to the lower end of that range. With regard to what's happening in the quarter and our early data, nothing would suggest that we're seeing any kind of surge.
As we look at daily hospital census data, as we look at prior authorization for outpatient and inpatient procedures, pharmacy fulfillment, all of those things wouldn't point to any sort of surge in the quarter.
Gail or Steve Nelson, you want to talk about MA?
Sure. Good morning, Justin. This is Gail Boudreaux. To answer your question on Medicare Advantage, first of all, we really like our position around Medicare and feel that the work that we've done over the past year has put us in a good position. Overall, we are looking to grow. We'll provide you a lot more detail, obviously, at our Investor Day, but we do feel that the work around network product positioning value has put us in a good place and feel positive about Medicare.
Steve, you want to add anything?
No, I think you said it well.
Okay. Next question, please.
Our next question comes from Matthew Borsch of Goldman Sachs.
Yes. Hi, good morning. I was hoping maybe you could talk about what you're seeing in the pricing environment as an update from last quarter in the traditional commercial risk business and maybe that relative to the $280,000 commercial risk lives that lapsed during the quarter.
Sure. Jeff?
Morning, Matt. It's Jeff Alter. Really nothing has changed in that pricing environment that we discussed in the first quarter. The pressure remains in mainly New York and a couple other small group markets. I'd just remind you that a large part of that $280,000 member loss was related to our individual footprint. We had mentioned in our investor conference that we were going to lose individual business throughout the year because of our pullback in a lot of markets. I think we are beginning to see changes and some good momentum in other parts of our business other than those few pressured markets. As Steve mentioned in his prepared remarks, we're really encouraged by the national account season and then our win-back of the state of Georgia and a couple other larger public sector accounts, so.
Has your view changed at all with respect to you're looking at 2015 being a quiet year for contract changes?
Matt, could you clarify what type of contracts? I'm not following this, Dan.
I think, the question earlier in the year had been, with 2015, are you going to see significant carrier switching, particularly for the large accounts that renew on a calendar year basis? I think you had said you thought it was going to be a relatively quiet year for that. Now with your backlog increasing, has that view changed at all?
This is Gail. In terms of your question, a couple things. Steve mentioned in the comments, and I think Jeff reiterated, in the large case market, we feel pretty positive about what we're seeing in that marketplace and the momentum we have. You saw we just won the state of Georgia back, which I think is another positive. In terms of in-year switching, we're very pleased with the cases that we locked in as part of last year, and that provides us a nice long-term run rate. Overall, we see that some positives emerging in the dynamics. Again, we're early into the cycle right now, so I don't want to comment fully on next year, but I think it's pretty consistent with what we've said on the last call.
Next question, please.
Our next question comes from Peter Costa of Wells Fargo.
Hi, guys. Your guidance for commercial loss ratio back in December was 79.2% ± 50 basis points. You noted on the first quarter call that the pressure from SOVALDI and the N.Y. pricing market was pressuring the overall consolidated loss ratio towards the higher end of the 80.5% ± 50 basis points. Never, I think, specifically noted what the impact was on the commercial loss ratio. It's hard to tell right now whether the commercial loss ratio is trending about where you expected it to be, or is it a little worse than you expected it to be, especially since it looks like there was some gains from favorable revenue adjustments on the government business. Can you talk to sort of the puts and takes relative to the Medicare business, the Medicaid business, and the commercial loss ratio relative to your expectations?
I'll have Dan answer that, but that's quite a question, so we'll kind of do it in a summarized form.
Sure. Thanks, Peter. Obviously in the first quarter, we talked about both our consolidated loss ratio and the implication underneath that our commercial loss ratio would be near the higher end of the range that we had provided at Investor Day. As we look at the second quarter, in light of that revised expectation, we see things tracking well. Our commercial business is tracking in line with those expectations coming out of the first quarter, and we're doing a little bit better in the government business on the care ratio.
Can you specifically say what the revenue impacts were from the favorable true-ups in the revenue development in the government business?
I'm not going to share specifically the revenue developments, just to provide a little bit more color on the revenue developments, they're not uncommon for us, particularly in the second quarter. What you're seeing is a combination of finalization of our 2013 Medicare revenue that has pulled through to our 2014 estimates, we also have true-ups in our state-based programs. We've got true-ups obviously related to the industry fee as we get that, as well as normal retroactive rate adjustments. All of those things are represented inside there.
Okay, thanks.
See that.
Next, please.
Our next question comes from Josh Raskin of Barclays.
Hi. Thanks. Good morning. Just getting back on Medicare Advantage, I appreciate the comment that Gail made around you guys will look to grow in 2015, and you like your positioning. Is that indicative, I guess this is sort of a two-parter, so I'll admit I'm cheating up front. Are you done with the provider renegotiations and network work? And then I guess more importantly, is Medicare Advantage a growth business from an operating earnings perspective next year?
Steve Nelson, why don't you respond to that?
Okay. Sure. First, in terms of just the overall positioning, our Medicare Advantage business, as Gail mentioned, we really like the performance so far. We've made a lot of investment in Stars in our clinical programs and network. These things have to work together in order for this to continue to be a growth business for us. In terms of network specifically, we've done a lot of the heavy lifting in terms of shaping our network and concentrating our members with high quality and highly engaged providers. That work will continue, but I would say in a kind of more of a different format.
We're going to be working more with providers inside our network to further concentrate that membership and expand our ACO footprint, engage more heavily in capitation and other kinds of value-based contracting within our existing network, as opposed to actually reducing the number of providers. It's a little bit of a shift towards working with providers already in our network, but working closely with our network and shaping it and focusing it in this way is going to be part of an ongoing process and really important too, as we continue to improve our Stars, our clinical performance, and our member satisfaction.
Yeah, I think we're very positive on this. We have taken the steps that were necessary, they were the most disruptive, I think at this point forward, we're now positioning this business in a way for good long-term sustainable growth, Star compliance. While we have continued to be working on this, we're very positive about where this space will go.
To recap, all of the heavy lifting and the big changes around providers and things that really impact the member, that's kind of behind us. The rest of it's going to be kind of behind the scenes, more capitation, et cetera. That's what gives you comfort on the member side. Is it also fair to say that, okay, from that perspective, it sounds like you're getting a more efficient network and that earnings growth should be, and you've sort of reset margins over the last couple of years that's more conceivable to see earnings contributions from that segment as well?
I think you're fine on all those levels. I do think that we have to be attentive to Medicare Advantage funding levels because that has been a pressure point and so forth. In terms of the things that would be disruptive to the business fee, I think those are on the course.
Yeah. I think you summarized it well. We think the earnings range for government business, we've talked about before, is between 3% and 5%, and we're in that range this year, and we'll continue to be in that range. That's our view. Obviously, not giving specific guidance for next year, but more to come. That's how we think about it. Really great performance and excited about the competitive positioning looking forward.
Perfect. Thank you. Next question, please.
Our next question comes from Sarah James of Wedbush Securities.
Thank you. I was hoping you could provide some color on utilization levels of the newly insured. It would be really helpful if you could break that out to the newly insured on the Medicaid side, so woodwork or expansion members, versus the commercial side, the exchange members that were previously uninsured.
We will. Keep in mind, we have a very low profile in exchange. Gail and team, you want to respond?
Sure. Good morning, Sarah. Steve, first let me reiterate what Steve said around the public exchange membership. We had a very modest footprint there. I wouldn't draw any conclusions from our early experience in that sector. On the Medicaid side, as you've seen, we've gotten tremendous growth. We're really pleased with it. We did expect to see increases in utilization. We also got higher rate sales for that. It's tracking very much in line with the expectations we had. Overall, I think very much in line. We're again, extremely pleased by the growth that we're seeing, not just across expansion, new state wins, as well as expansion of our current existing membership footprint.
All right. Can you just clarify, I think you guys mentioned you're not relying on 3Rs for 2015. Does that also mean your guidance assumes no receivables for 2014 for the 3Rs?
Sarah, it's Dan. On the 3Rs, we have nothing on corridors and risk adjustment, and we have a very modest reinsurance that's assumed recovery that's immaterial.
Thank you.
Next question please.
Our next question comes from Kevin Fischbeck of Bank of America.
Yes, thanks. One quick clarification before I get into my main question. Did you say, Steve, that you've expected 2015 Stars to be better than expected? I didn't quite understand that comment.
Yeah. We're expecting to track progress in 2015 and build progress from that in 2016, 2017, 2018. We are committed to see a forward progress in Stars.
You don't mean what we know of already. You don't mean the 14 out of 415, you mean 15 for 2016 to be better than expected?
Gail, you want to respond to this?
Yeah. When the stars were published last year, you had a sense of where our membership was.
We've made significant improvements in our group business, which will help improve our actual 2015 results.
Oh, okay. All right. It's a membership growth within the high Star Rating plans.
That's right.
The main question is, on the exchanges, you mentioned that your year one was about kind of watching and learning, year two was more about growth. Can you just give us a sense of some of the things that you learned? Because you're making a really big move. You're going to do a couple dozen states. You've really moved in. What's given you the comfort and the confidence that this business, since we are still relatively new around the claims development, that it is going to be stable into next year and that this was the year to move in rather than waiting another year to get even more information?
This will be a team response, but again, this was consistent with how we positioned this right from the beginning, that we would observe the first year for the most part endeavor to participate. We will see how we ultimately participate as we go through the balance of this year and get ready for the next year's selling season. The size of the, and response to the exchange, the expected growth in it, and so forth, plays into that thinking. The recognition that this is going to be an established sector in the healthcare benefits marketplace, and that we have to choose to participate at some point in time and kind of want to make sure that we don't go in too late. I think we're thinking this is about the right time.
This is Gail Boudreaux again. The only thing I'd add is, getting back to Steve's comments, we've always felt it was a good long-term market. What we've been able to observe and learn over the course of the market is we know the existing pricing, we know the network constructs, we know the consumer behavior on what they picked in these different markets. We have a better understanding of the regulatory structure and the distribution patterns. From those factors, we're looking at the market as an opportunity, again, more than 75% of that market is going to emerge, and we feel that the markets that we're looking at now are much more established. That's the background around our thinking on exchanges. Again, we've always felt that it was part of our strategy and plan, that this is a good long-term market.
Great. Thanks.
Shanker of Morgan Stanley.
Hi. Good morning. I was over at the operating costs. They were actually meaningfully below our expectations and down year-over-year, I think once you accounted for the charitable donation, despite the pressures from the industry fee. Could you perhaps discuss the level of investments in the quarter and what other savings may have drove down that ratio? Thanks.
Dave?
Sure. Yeah, we're quite pleased, Ravi, with the operating cost ratio for the quarter. Obviously, it's got a lot of pressure because of the implementation of the insurer's fee in the second quarter, which, of course, wasn't in place last year. Where we're really seeing the advances is in our contributions from our PBM business, which is benefiting not only from scale efficiencies, but also significant productivity advances, both around just regular process management as well as the implementation of technology. Dirk and team have done an excellent job there. Otherwise, as we indicated in the investor conference, we were pursuing somewhere around 70-80 basis points of annual productivity improvements, and we in fact achieved those in this quarter. Really what you're seeing is just raw productivity and scale advantages coming through our businesses as we projected.
In terms of investments, I think we outlined those in the script with respect to the types of things that Optum is investing in. It's really investing in growth, and I think that growth is really manifesting in terms of its pipeline expansion year-over-year. Done a very nice job there, and as indicated, those investments were about $80 million in the quarter. On top of that, as you might suspect, there are significant investments going in across the business to respond to the implementation of the ACA provisions, as well as growth more broadly or are preparing for growth more broadly, both in the exchange marketplace, as well as in Medicaid.
Next question, please.
Our next question comes from Chris Rigg of Susquehanna. Your line is open.
Morning. Thanks for taking my questions. Can you give us a sense for how the expenditures sort of tracked from Q1 to Q2 and sort of the pace of expenditures you're expecting in the back half of the year, given the potential for some new drugs coming to the market? Thanks.
Sure. Dan?
Morning, Chris. Our Q2 spend for hepatitis C was in line with our revised expectations coming out of the first quarter. I will tell you that in the first quarter, our new patient volume peaked in all of our benefits businesses, and I think we've got strong controls over the appropriate use. As we think about the cost related to hepatitis C and its treatment, we have that accounted for and accommodated within our full-year trend outlook as well as in our care ratio guidance.
Okay. If I could, how are discussions going with the state Medicaid partners with regard to the drug? Thanks.
Austin?
Sure. This is Austin Pittman. First of all, again, this is a cost of the program. We expect it to be fully reimbursed. We're very pleased in making strong progress in our discussions with our state partners in securing that reimbursement.
Next question.
Our next question comes from A.J. Rice of UBS.
Thanks. Maybe a two-part thing on Optum. First of all, I know you talked around the investment spending and said that it was $80 million in the second quarter, but that by the fourth quarter, it should have less impact. Is that because that $80 million run rate goes down, or is that because of the leverage of spending? More broadly, just on Optum Rx, you mentioned some positive related to the 2015 selling season. I wondered if you could expand more on, is Optum out there actively pursuing business across the board? Do you have your sort of integrated model fully in place now where you can talk to people about total cost, or is that still something that'll come in future selling seasons?
We will be anxious to answer that question. Larry, you want to take it?
A.J., it's Larry Renfro. I'll start with the question on the planned investments, and then I'll ask Dirk to pick up the PBM question in terms of the sales. When we began the year and had our plan put together, we expected to spend about $200 million in what I'll call planned investments for the future. A very, very similar model to what we've actually done with the PBM, and I think you know, over the past few years, we've spent some dollars in order to get the platforms up to speed, and we're kind of using that same playbook. For the year, it's $200 million. We have spent year to date about $140 million. Obviously, we're overweight in the first half of the year, and you'll start to see that go down as we head into the fourth quarter.
Yeah, financial targets and so forth, this was all planned. There's nothing out of the ordinary. We're online or in line with everything that we're doing. Again, let me say that again. It's $140 million year to date that was planned year to date out of a total of $200 million.
Okay.
Dirk?
Yeah. A.J., thanks. A couple of things. First, Steve mentioned that we had a nice year in 2014 with respect to our growth. As we look at our pipeline for 2015, our pipeline is up double digits compared to the same time last year. Not a ton of business is changing hands, but if you look at what we've closed this year versus the same time last year, we're certainly ahead. We do feel that our synchronization message is resonating in the market as we go in and we talk to our prospects. It's all about bringing together the medical, the lab, the pharmacy data, and trying to optimize outcomes and lower costs. We think we also have a good service offering, and I think we do a pretty good job managing specialty. All of those are contributing to our success.
Okay. All right. Thanks a lot.
Thank you. Next?
Our next question comes from Scott Fidel of Deutsche Bank.
Thanks. Just wondering, given the broader entry into the public exchanges in 2015, what your strategy is for surmounting the auto-enrollment policy that would seem to give an advantage to incumbents. Is it more that you just expect so much more growth in the exchange market that that's not really an issue? Just wondering whether you think that policy is a bit anti-competitive for new market entrants, or that it just benefits the market in terms of reducing likely the overall amount of churn in the market.
Sure. Jeff?
Morning, Scott. It is Jeff Alter. On the first part, there is going to be, as Gail and Steve mentioned earlier, still a large amount of the population that we expect to be in those exchanges, we will call it, at the end of the cycle. We expect to take a large part of that new business. Just on the existing population, there is a lot of leverage around the subsidy and price changes. As competitors change prices, it does tend to move the subsidy dollars around pretty strongly. We believe there will also be shopping, even though people do not have to shop. I think just the natural consumer play of an exchange is going to cause a shopping experience, and we feel we will get some part of that membership shift as it goes along.
We are obviously not going to comment on the anti-competitive part of anything.
Just as you see some of the initial rate filings now coming out for the exchanges in the individual market, how would you say that those are coming out so far relative to your expectations in terms of the competitor filings?
I think they are within our range of expectations. You are seeing competitors who might have relied a little bit on the 3R protection, and as that protection goes away, they have to adjust their pricing. We are seeing that. Nothing that we have seen to date surprises us or changes the approach that we have taken with our own pricing. We are very comfortable with our pricing. Just to keep in mind that pricing is driven not only by our forward view of costs, but also, as we have mentioned, we have observed the marketplace in 2014. We are bringing different product to market in some of these exchanges than we would have traditionally brought, so more HMO. Much tighter alignment with Optum and some of their programs to help us manage the diseases and the health of those members. Creating, in some cases, a different dynamic with the network.
Okay, thanks.
Next, please.
Our next question comes from Christine Arnold of Cowen.
Good morning. Thank you. Could you paint us a picture around Optum360? What kind of investments are you making specifically there this year versus next year? What's the potential? What does this look like a couple of years from now? I'm having a hard time visualizing the benefit to the financials and precisely what the model looks like.
Yeah, Larry, you want to start?
Sure. Christine, I'm going to hand this off to Bill Miller, who is the executive that runs the Optum Insight and the core Optum360 sets. As we will not specifically talk about our customers, maybe I can frame kind of some of the size of our potential accounts and where we're headed, and I'll let Bill then talk specifically about Optum360. I think you know that when we set priorities for 2014, we talked about, really one of the priorities going after, and I think Steve mentioned it earlier, sort of larger, deeper relationships and more complex relationships. Last year, we aligned with an organization on the West Coast to do revenue cycle management, and we're starting to build that.
I'm going to give you four areas that I would say that will kind of depict what we're trying to do and the size of that. Our external backlog right now is up 20%, and that's up to $7.5 billion. Our pipeline is up 122% and continuing to grow. I will say that the government business is in that, and if you looked at that as a standalone, that's about $1 billion of probably about $6.6 billion in that total pipeline. If you looked at our top 25 accounts, and the revenues that we've had over the past, well, since 2011, our revenues are up two and a half times. Our accounts that had values of over $100 million are also up 20% year-over-year in the number of accounts that we have.
Obviously, Optum360, we have a strategy that we are not going to get into detail about because it is an extremely competitive strategy that we are deploying. That's why the amount of investment that we are actually putting in in the first quarter, and we'll start to see in the fourth quarter, I should say the first half of the year, and you'll start to see the benefits of that in the fourth quarter as we talked a few minutes ago with AJ.
You'll also be able to note that we are over-weighted in our spend during the first six months of the year. Let me let Bill talk specifically about Optum360 and some of the things going on there.
Yeah, Christine, good question, and thank you. As far as painting that picture, I think the picture is, it's a very big market, a fragmented market, and we see ourselves, I think, very well-positioned to drive a lot of efficiencies for health systems that are struggling with that fragmentation. We also bring, I think, a very strong attitude, not only from a technology standpoint, which we have served the market with for years, but all the services and processes needed to take out costs and operate a revenue cycle with far more efficiency that's going to be required in an environment where hospitals are continued pressured on their margins. I think the other thing that we keep top of mind in terms of that vision of the future is we feel uniquely positioned to help drive out the friction between payers and providers.
We also do understand that in the future, the role of the consumer and the patient experience associated with their care, their billing, is something that's very critical and I think is part of the mission of Optum360. The investments associated with that are, I think, being able to strengthen our technology portfolio along with onboarding our largest clients, and as Larry said, these relationships are growing in size, and we really like the trajectory and the backlog that we've built and the pipeline growth that we've seen, particularly over the last, I'd say, seven, eight months.
Jeff, you want to?
No, I think just the added, Christine, you talked about. That's obviously, you talked about the scope of those investments. That's clearly encompassed in the $200 million that Larry's been talking about for full year.
Right. A lot of it is basically implementation on a much more comprehensive revenue cycle, population health, analytics paradigm to change the dynamics in large systems, right? Next question, please.
Our next question comes from Ralph Jacoby of Credit Suisse.
Thanks. Good morning. I wanted to go back to the MLR point. Can you maybe talk about seasonality in the business and sort of your thoughts there with sort of the continuation of, and high penetration of high deductible plans, whether there's a potential that sort of magnifies the cost picture, I guess, in the second half of the year? Then along those lines, MLR guidance, I guess, is still close to that 81% level. You did 82% in the first half. Obviously, that implies 80% in the second half. Is that kind of still a fair way to think about it? Thanks.
Sure. Hi, Ralph. This is Dan Schumacher. On the seasonality related to high deductible, I mean, we continue to make inroads in high deductible offerings. I mean, it's an attractive offering within our portfolio. I wouldn't say that there's any dramatic shift. I think the normal seasonal progression is what you should expect with regard to commercial and how deductibles play out. With regard to the consolidated loss ratio, our full year guidance was 80.5% plus or minus 50 basis points, and we suggested that that could be near the high end of the range, and I think that's exactly how you should think about it.
Yeah. No change, Ralph.
Thank you.
Next question.
Our next question comes from Ana Gupte of Leerink. Your line is open.
Yeah, thanks. Good morning. Appreciate you taking the question. I wanted to get some color on the outlook for the small group market in 2015 now that there's proof of concept for public exchanges. Might your competitors and you be more incented to price down because you would still make a margin higher than now, potentially a public exchange margin as they start to adjust their offerings of benefits to their workers?
I'm not sure we got clear on the last part of your question. You want to reframe that, Ana?
Yeah. I guess what I'm trying to understand is, I'm hearing generally the buzz is that small group employers are more likely to dump or reduce their offer rates for 2015. Would that potentially put more pressure on the pricing as well as the size of the market for 2015?
Okay. Jeff?
Morning, Ana. It's Jeff Alter. We continue to believe that the employer dumping will be somewhat moderate. It was moderate this year. We're not sure next year is any year that would be much different than this year as these exchanges establish, and I would say as you're seeing some of the pricing normalize, which might take another year or so for that to happen. Just on the sort of pricing interplay between the two markets, they are different markets. We look at them around the population that we're serving in each one of those when we think about pricing. Right now, in our thinking, there is an arbitrage between those two marketplaces.
They're different consumers served in those marketplaces, and our pricing for small group is really predicated on what we believe that risk looks like, what that membership looks like, and then our responses to that risk, and that would be the same for the exchanges as well.
This would include your self-insured competition as well? Is the propensity to self-insure continuing where it has been historically?
Ana, I don't know what kind of phone you're on, but it's not coming through clearly at all. You want to try that one more time?
Yeah. Sorry about that. Is this better?
Yes, it is.
Okay. Sorry. I was just asking if that is also.
Consistent on the self-insured small and mid-market competition. Is there more movement to self-insured that could create pricing pressure again in fully insured?
I don't think any different than what has been going on steadily for maybe the last decade. Jeff, Gail, any response?
This is Gail. No, we haven't seen any acceleration. There's been a, as Steve said, historical trend to self-insure. There was some early discussion around that moving down market, but we haven't seen an acceleration in that.
Thank you.
Next question, please.
Our next question comes from Tom Carroll of Stifel.
Hey, good morning. Question on your Medicaid performance. You are showing very strong results. I wonder if you could remind us just what you expect into next year. Do you expect outsized enrollment growth to continue into 2015? Additionally, where do you expect pre-tax margins in this business to settle out given a larger population driven by the Affordable Care Act as well as new groups like dual eligibles? Thanks.
Sure. Austin?
Sure. Thanks for the question. We're excited about the growth as well. It's been an outstanding year, as Steve highlighted in his opening comments. We now expect that growth to be over 800,000 on the year. I'll tell you, the thing that is great about it is if you look at this quarter's growth, the 380,000 that we grew this year, it's really evenly split between expansion populations as well as what I'd call core growth. That's winning procurements, executing those procurements, implementing new programs within states that were already in that state and have a relationship. Good, strong organic growth. I think as far as the prospects for continued growth, we feel very strong about this business, particularly if you look at the combined strength of Optum and UnitedHealthcare, our ability to really address state partners' needs to deliver value in complex populations.
I think the outlook is strong.
Margins?
As we've talked about before, we expect this business to continue to perform at the 3%-5% range.
Yeah. That the scale will pull you to the stronger side of that?
Absolutely.
That's no different than where we've been for the last couple of years.
Thanks.
Next question, please.
The next question comes from David Windley of Jefferies.
Thanks for taking the question. Wanted to get a little more framing around your SG&A expectations as the year progresses. There's been a fair amount of conversation about investments. Your first half is well below, I think, your full-year guidance. I guess I'm trying to get at could we expect that the full year will trend toward the lower end of that based on where you are looking so far this year? Are there discrete investments that are layering on there in a fairly significant way to drive that up? Thank you.
I guess two things come to mind is that we're clearly focused on continuing to be focused and efficient in this. There's the selling season in the second half of the year is a big factor. Dave?
David, it's Dave Wichmann again. As Steve outlined, it's both the selling season in the back half of the year, which affects Q3, kind of preparatory work in advance of OEP, and then Q4, the actual payment of commissions and otherwise associated with that business. Also the significant work we do to prepare for January 1st and the incremental volumes from growth in our business. We always see the back half of any given year as having a higher operating cost ratio than the first half of the year. With respect to where we're at on overall guidance, we said it'd be 16.7% plus or minus 30. We're still squarely within that range for the full year.
Are there, perhaps around Exchange, your significant increase in participation in Exchange that you anticipate for 2015, is that in line with what you would have anticipated when you gave guidance originally, or is there perhaps more investment to prepare for that for 2015?
David, it's in line with what we had planned all along. We always anticipated a more modest participation this year and then ramping in the 2015-2016 time period, and that's exactly how this is playing out.
Okay. Thank you.
Thank you.
Next, please.
Next question comes from Brian Wright of Sterne Agee.
Thanks. Good morning. Could you tell us how much of the sequential revenue growth at Optum Rx this quarter was internal versus external?
I don't know if we can. Obviously just given the size of UnitedHealthcare, that's a meaningful, and the insourcing is a meaningful element of it. Dirk, maybe you could comment on generally on your balance for the year. I think you may have that available.
Well, I guess what I would say is we've continued to have a pretty good year as we sit and look at it. Some of the efficiencies that Dave pointed out, we'll continue to leverage those as well as additional purchasing efficiencies that we have specifically in the generic area should continue to make us expand margins a little bit as we proceed through the year.
If I could just. I'm sorry.
Please, go ahead.
If I could just follow up on just kind of EPS progression. Does the commentary about the acceleration in Optum in the fourth quarter and then the getting the Medicare Advantage true-ups in second quarter versus third quarter, does that change the back half seasonality versus more recent years like last year?
I think in general, the pattern is consistent year to year. The relative 40-60 in terms of the first half to the second half, and then the fourth quarter should be stronger than the third. That pattern holds up.
Okay, thank you.
Next question.
The next question comes from Carl McDonald of Citigroup.
Great. Thank you. Six months ago, you talked about growing earnings in 2015, but not at the long-term target rate. The earnings growth you talked about this morning, is that still the right context to think about? Related to that, if there's any major shifts in the moving pieces that you've highlighted previously in terms of another year of reform implementation, Medicare rate cuts, that would also be interesting.
No, we wouldn't expect at our targeted growth rate, which is 13%-16%, that 2015 would be in that zone, just given the continued adjustments. Moving 2016, 2017, and beyond, we clearly are focused on getting back to that zone and see a path to that. The timing in terms of stepping through 2015, 2016, that's what we're navigating right now.
Sorry, the second half of the question was just if there was any change to some of the bigger moving pieces you talked about previously for 2015 in terms of Medicare rate cuts, as well as another year of reform implementation being the biggest headwinds to getting to that long-term growth rate.
I wouldn't say there are new headwinds, which is a very positive thing to be. I actually think that we are making real progress on this quarter's performance and our outlook. We're making steady progress on the challenges that are in the marketplace for us and everyone else. I don't think there are any dynamic elements of that one. If I go back to the things that I parsed through in thinking about that, I'd say the Medicaid performance and growth is a nice upside. I think our positioning on Medicare, I see us having made a nice adjustment here, and are focused on making sure that we are attuned to the next era of Medicare Advantage and Medicare product progression. We see a nice potential in terms of the international marketplace and good work that has been done in Amil.
We're going to keep a very positive posture towards the exchange marketplace and see that in the same margin range as our, let's say, our Medicaid business at a 3%-5% range. When you look at Optum and its potential and the opportunity for the collaborative care and local care delivery businesses, the potential of the major relationships, anchoring relationships for Optum Insight and Optum360 and the ability to diversify and take a new, maybe broader, more progressive approach on the PBM that really does start to tie in medical costs, diagnostic testing, specialty pharma, and so forth. I think that provides a lot of potential to work with against the challenges that the ACA set in front of all of us, and that we are working through right now.
That's what gives us a view that we have a lot of work to do, but there is a lot to work with. Next question.
There are no further questions at this time.
With that, we appreciate very much your attention to today. UnitedHealth Group, Optum, and UnitedHealthcare delivered, I think, a very solid second quarter, growing both revenues and earnings per share. We remain focused on consistent fundamental execution, innovation, service. We believe we're positively positioned for the full year and a strong close in 2014, as well as continuing growth in 2015 and beyond. Thank you, and we'll see you next quarter.
This does conclude today's UnitedHealth Group second quarter 2014 earnings conference call. You may now disconnect your lines, and everyone, have a great day.